/>iOn October 28, 2024, the U.S. Department of Treasury released a pre-publication version of its final rule containing the outbound investment regulations.
The rule arrives a little over a year after Executive Order 14105 “Addressing United States Investments in Certain National Security Technologies and Products in Countries of Concern”. As our regular readers will no doubt have intuited from numerous blogs we have posted over the years, the final rule on outbound investment regulations rule will have serious implications for U.S. and international investors, as well as a wide range of technology companies. The regulations will require businesses to reevaluate their international investment strategies and due diligence practices.
Broadly, the rule aims to balance investors’ interest in capitalizing (and capitalizing on) China’s technology sector against the preservation of U.S. technological advantages and concomitant national security interests, all without severing the lifelines of international economic cooperation. The final rule adopts much of the regulatory framework proposed by Treasury earlier this year. The rule bears a few key changes, a number of which we highlight below.
The regulations will prohibit or require notification for certain outbound investment to countries of concern (currently: China, including Hong Kong and Macau) in sectors related to semiconductors, quantum computing technology, and artificial intelligence (AI) systems. The regulations will go into effect on January 2, 2025.
We summarize key provisions on AI coverage, exceptions, the exemption, and penalties as follows:
1. AI Coverage
As in the proposed rule, the definition of a notifiable transaction involving an AI system in the final rule includes both end-use thresholds under sections and technical thresholds. Treasury sought to take into account comments on the broad proposed scope of requirements for approval and notification for investments in the AI sector, but the resulting rule may not be as narrow as industry sought. Treasury’s stated policy objective is to cover U.S. investment into entities that develop AI systems with applications that pose, or have the potential to pose, significant national security risks, without broadly capturing investments into entities that develop AI systems intended only for consumer applications or other civilian end uses with no potential national security consequences.
Commenters cited the recent practice among technology firms to leverage, rather than develop, AI by incorporating AI capability into existing systems as a reason to narrow the definition of an AI system. The final rule has minor clarifying edits to the definition of an AI system and emphasizes that the rule would only reach those who develop such AI systems. For example, the rule provides a carve-out for customizing, configuring, or fine-tuning a third-party AI model or machine-based system that is being used by a data system, software, hardware, application, tool, or utility to operate in whole or in part, where such customization, configuration, or fine-tuning of the third-party AI model or machine-based system is strictly for a person’s own internal, non-commercial use.
As for technical thresholds based on computing power of AI systems, Treasury opted for notification for the lowest proposed threshold where using a quantity of computing power greater than 10^23 computational operations. For prohibited transactions, Treasury opted for AI systems trained using a quantity of computing power greater than 10ˆ25 computational operations, or trained using primarily biological sequence data and a quantity of computing power greater than 10ˆ24 computational operations. These thresholds appear to align with the reporting requirements of the EU AI Act, though are broader reaching than anticipated.
2. Excepted Transactions
After reading through the broad sweep of notifiable and prohibited transactions, investors will be glad to see that Treasury did provide certain limitations and exceptions.
Notably, the rule will not be retroactive in any extent. That is, no covered transactions completed prior to January 2, 2025 are not prohibited or notifiable. Additionally, transactions occurring after January 2, 2025, but based on a binding, uncalled capital commitment established before January 2, 2025, are also excepted. So your old SAFE might be safe.
Further, U.S. persons are allowed to transact without any notifications to Treasury for the following scenarios:
| Type of Transaction | Description |
| Investment | May invest in any publicly traded security in any jurisdiction that trades on a securities exchange or “over-the-counter” |
| May invest in any security (e.g., index funds, mutual funds, etc.) issued by any investment company registered with the SEC | |
| May invest in any security issued by a company that has elected to be regulated or is regulated as a business development company pursuant to section 54 of the Investment Company Act | |
| May invest in pooled investment funds (e.g., venture capital fund, private equity fund, fund of funds) if made as a limited partner or equivalent where the committed capital is not more than $2,000,000 aggregated across or if there is a secured binding contractual assurance that the capital will not be used to engage in a prohibited or notifiable transaction if engaged in by a U.S. person | |
| May invest in any derivative, as long as the derivative does not confer the right to acquire equity, rights associated with equity, or assets of a covered foreign person (This varies from the proposed rule) | |
| Acquisition | May acquire an entity held by persons of a country of concern if the U.S. person is acquiring all equity or other interests in such entity and following acquisition, the entity does not constitute a covered foreign person |
| May acquire a voting interest in a covered foreign person through default or other condition related to a loan or similar financing arrangement with certain conditions | |
| Employment compensation | May receive employment compensation in the form of an award of equity or the grant of an option to purchase equity in a covered foreign person (This varies from the proposed rule) |
| Country where national security concerns are alleviated | May transact with a person outside the United States in a country where Treasury has determined that national security concerns are adequately addressed by the relevant country’s government. Treasury’s designation will be made available through public notice. |
However, in an exception to the exception, we note that, if an investment affords the U.S. person rights beyond minority shareholder protections with respect to the covered foreign person, then such transactions will no longer be considered to be excepted transactions!
3. Exempt Transactions
The national interest exemption also survived to the final rule. U.S. persons may request, on its own behalf or on behalf of its controlled foreign entity, that the covered transaction should not be prohibited because it is in the national interest of the United States. Treasury will be providing instructions on how U.S. persons may file their request on the Outbound Investment Security Program website.
With this potential carveout, Treasury is seeking to take into account U.S. supply chain and domestic production needs that may be affected by this rule.
4. Violations and Penalties
Failing to act within the rule’s specified timeframe, or misrepresenting and concealing facts to the Treasury, or attempting to evade or conspire against the prohibitions will constitute violations. Treasury specified that a violation includes “causing violations”, which sanctions practitioners would recognize. That means that it is not only important to avoid engaging in prohibited transactions yourself, but you must also ensure you do not cause another U.S. person to engage in such prohibited activities. Penalties will use civil and criminal amounts set forth under the International Emergency Economic Powers Act (IEEPA).
Should any party believe it may have violated this rule, Treasury has provided a voluntary self-disclosure mechanism so that less onerous penalties may be applied. Further, as with CFIUS, Treasury will be empowered under IEEPA to nullify or otherwise require divestment of any prohibited transaction.
