On October 28, 2024, the US Treasury Department (“Treasury“) issued a long-anticipated final rule (“Final Rule“)—effective January 2, 2025—implementing a targeted outbound investment compliance regime called for by Executive Order (“EO“) 14105 issued by President Biden on August 9, 2023. The Final Rule applies to investments by, or in some circumstances directed by, US Persons in Chinese businesses involving specified categories of technologies — namely: semiconductors and microelectronics, quantum information technologies and artificial intelligence (AI). The Final Rule, associated Treasury press release, a White House Fact Sheet, and further information provided by Treasury are linked.
The Final Rule builds upon the August 2023 advanced notice of proposed rulemaking (“ANPRM“) and the June 2024 notice of proposed rulemaking (“NPRM“), which we covered here (along with EO 14105) and here. A brief overview of the key elements of the Final Rule is provided in Section I below. Some of the notable changes in the Final Rule as compared against the NPRM are highlighted in Section II.
- Overview
Key aspects of the Final Rule—scope of covered transactions, technologies, and geographies (i.e., China to include Hong Kong and Macau)—remain largely as contemplated in the NPRM:
- Key Categories of Covered Transactions: The Final Rule applies to a broad range of transactions, including acquisitions of equity, conversions of a contingent equity interest into an equity interest, joint ventures, certain acquisitions of interest by limited partners, certain debt financing transactions by US Persons, as well as certain greenfield and brownfield investments.
- Excepted Transactions: Transactions outside the scope of the Final Rule include, among others, investments in publicly traded securities, certain limited partners investments, and certain intracompany transactions that support ongoing operations.
- Notifiable and Prohibited Transactions: As set forth in the chart below, depending on the specifics of the technologies involved in a transaction, the Final Rule either imposes on US Persons a 30-day post-closing Treasury notification requirement or prohibits US Persons from engaging in the transaction.
| Category | Prohibited Transactions (§ 850.224), Where the Foreign Persons or Joint Ventures Are Entities That: | Notifiable Transactions (§ 850.217), Where the Foreign Persons or Joint Ventures Are Entities That: |
| Semiconductors and Microelectronics | Develop or produce any electronic design automated software for the design of integrated circuits (“ICs”) or advanced packaging (further defined under the Final Rule); Develop or produce (1) front-end semiconductor fabrication equipment designed for performing volume fabrication of ICs; (2) equipment for performing volume advanced packaging; or (3) commodity, material, software or technology designed exclusively for use in or with extreme ultraviolet lithography fabrication equipment; Design ICs that meet or exceed specified performance parameters or that are designed for operation at certain temperatures; Fabricate ICs that meet specified criteria; Package ICs using advanced packaging techniques; or Design, sell or produce supercomputers enabled by advanced ICs that can perform at certain thresholds. | Design, fabricate or package any IC that does not meet the prohibited transaction parameters. |
| Quantum Information Technologies | Develop quantum computers or the critical components required to produce quantum computers, such as dilution refrigerators or two-stage pulse tube cryocoolers; Develop or produce quantum sensing platforms designed for, or intended to be used for, military, government intelligence, or mass-surveillance end uses; or Develop or produce quantum networks or communication systems designed for, or intended to be used for, networking to scale up capabilities of quantum computers, secure communications, or any other application that has any military, government intelligence, or mass-surveillance end use. | None |
| Artificial Intelligence (“AI“) | Develop AI systems exclusively designed for, or intended to be used for, military, government intelligence, or mass surveillance end uses; or Develop AI systems trained using a specified quantity of computing (10^25 computational operations generally or 10^24 computational operations using primarily biological sequence data. | Develop AI systems that are designed for military, government intelligence, or mass surveillance end uses (but not exclusively); Develop AI systems intended to be used for cybersecurity applications, digital forensics tools, penetration testing tools, or the control of robotics systems; or Develop AI systems trained using a specified quantity of computing power (i.e., at a threshold lower than that for prohibited transactions). |
| Covered Foreign Person restricted parties | Whether the Covered Foreign Person or joint venture is also subject to certain sanctions and export controls restrictions—including but not limited to an Entity List party, persons subject to the Specially Designated Nationals and Blocked Persons List (whether the person is directly listed or not). (i.e., a transaction that is notifiable would be escalated to prohibited in the event that the Covered Foreign Person is one of the specified US restricted parties.) | N/A |
- Generally No Case-by-Case Review, But Note National Interest Exemption: Unlike the review process of the Committee on Foreign Investment in the United States (CFIUS), the Final Rule does not establish an outbound investment review regime principally designed around a case-by-case review and transactional clearance mechanism. However, the Final Rule does allow US Persons to seek a national interest exemption from the Final Rule’s notification requirement or prohibition. Treasury’s decision whether to grant a national interest exemption is based on a consideration of the totality of the circumstances and may be informed by, e.g., critical US supply chain needs, US domestic production needs for projected national defense requirements, etc.
- Compliance Obligations and Enforcement: The Final Rule requires US Persons to engage in “a reasonable and diligent inquiry” to ensure compliance with the Final Rule (i.e., to satisfy the requisite knowledge standard). It also provides an illustrative list of due diligence efforts evaluated by Treasury when assessing the compliance posture of a specific transaction, where a US Person determines that it is neither prohibited nor notifiable. Further, US Person parent companies must take “all reasonable steps” to prevent their Controlled Foreign Entities from engaging in a transaction that would be prohibited if undertaken by a US Person, and they must notify Treasury if a Controlled Foreign Entity engages in a transaction that would be notifiable if undertaken by a US Person. These provisions in the Final Rule are particularly notable for US investment advisors or US Person participants (such as a general partner, managing member or equivalent) in non-US funds, where the US Persons have the ability to “make or substantially participate in decisions” on behalf of that non-US fund. Violations may result in civil or criminal penalties available under the International Emergency Economic Powers Act (“IEEPA“)—i.e., civil fines not to exceed the greater of $250,000 adjusted annually for inflation or twice the value of the transaction; and criminal fines of up to $1 million and/or imprisonment for up to 20 years.
- Key Changes Between the Final Rule and NPRM
Key changes compared to the NPRM include:
- Modification of the Scope of AI: The Final Rule modified the definition of AI originally contemplated in the NPRM to harmonize with the definition of “AI system” in EO 14110, “Safe Secure, and Trustworthy Development and Use of Artificial Intelligence” issued on October 30, 2023, subsequent to EO 14105.
- Covered Foreign Person de minimis ($50,000) rule: The Final Rule has added a de minimis amount for the prong of the definition of Covered Foreign Person, specifically at § 850.209(a)(2), which pulls in a third-country person that is not itself a Person of a Country of Concern but still has meaningful interests in such Persons, where that third-country person derives 50 percent or more of its revenue, net income, or other financial metric from its interests in Persons of a Country of Concern, whether individually or in the aggregate. Such revenue, net income or other financial metric can be excluded from these calculations where they are less than $50,000 for each Person of Country of Concern.
- Additional Excepted Transactions: The Final Rule has expanded a universe of excepted transactions to include certain transactions involving derivative securities and equity-based compensation.
- Looking Ahead
While the Final Rule aims to narrowly target China-related transactions involving certain defined categories of national security-sensitive technologies, the resulting regime is quite layered and requires the implementation of appropriate due diligence and compliance measures in the context of M&A and joint venture transactions. As previewed by the ANPRM and NPRM, it is fundamentally a US Person-based compliance regime, akin to US sanctions regimes administered by the Treasury Department’s Office of Foreign Assets Control, and subject to the same IEEPA penalty provisions. Importantly, the outbound investment regime implemented by the Final Rule, which will become effective on January 2, 2025, may continue to evolve through the next presidential administration and Congressional term, whether via executive or legislative action.
