Renewed strife in the Middle East highlights Hong Kong’s role in Iran sanctions busting efforts

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Situated in the middle of Hong Kong’s busy Yau Ma Tei neighbourhood, the Ho King Commercial Centre is a 31-storey warren of tiny offices, some less than 10-metres-square, for everything from app developers and plastic mould manufacturers to shops selling jewelry, meat thermometers and boxing equipment.

On the 23rd floor, next to a tattoo parlour, is the registered address of Dirac Technology, an electronics company that was one of 10 entities sanctioned by the United States last month for alleged ties to Iran’s military drone program, which Washington says supplies “deadly UAVs to [Tehran’s] terrorist proxies in the Middle East.”

Dirac Technology did not respond to a request for comment. No one answered at the company’s registered address, outside of which was a large, unopened stack of letters from the Hong Kong tax authorities to dozens of different businesses.

According to the U.S., Dirac is part of a network of front companies used by Iranian businessman Hossein Hatefi Ardakani to procure unmanned aerial vehicle (UAV) components from around the world. In a recently unsealed indictment filed against Mr. Ardakani and Gary Lam, a Chinese businessman, U.S. prosecutors allege they used a web of American, Canadian and Hong Kong companies to acquire sensitive technology and export it to Iran “by deceit, craft, trickery, and dishonest means.”

Both men “remain at large and are believed to reside abroad,” the U.S. Justice Department said in a statement. Neither man could be reached for comment.

In the past two years alone, the U.S. has sanctioned more than 50 Hong Kong companies and individuals, many for allegedly working with the Quds Force, the overseas arm of the Iranian Revolutionary Guard Corps, responsible for funding and training militant groups in Iraq, Yemen, Lebanon and the Palestinian Territories.

The effect of such sanctions can be limited, however. Hong Kong’s Financial Services Bureau declined to comment for this article. Hong Kong does not enforce unilateral measures, only sanctions imposed by the United Nations, and the U.S. has been targeting Iran-linked entities in the Chinese territory for more than a decade now. Hong Kong’s openness as a financial centre and the ease of setting up businesses here has long made it a hub for front companies and money laundering, according to anti-corruption activists.

“Going after front companies is not a very effective way of going after these networks,” said Saeed Ghasseminejad, an expert on Iran at the Washington-based Foundation for Defense of Democracies. “They can be replaced easily.” Often this involves simply registering a new company with a different director, to throw U.S. investigators off the scent.

Gabriel Noronha, a former State Department official during the Donald Trump administration, said Washington’s current approach amounts to “playing whack-a-mole.”

“The critical thing about sanctions enforcement is that a lot of companies can call our bluff – you say you can either be part of the U.S. financial system or do business with Iran, and they say fine, we’ll do business with Iran,” said Mr. Noronha, now a director at Polaris National Security.

The U.S. Treasury’s Office of Foreign Assets Control (OFAC), which oversees sanctions enforcement, did not respond to a request for an interview.

In the wake of the Israel-Hamas war, Mr. Noronha and others have been calling for Washington to do more to limit Iran’s ability to keep funding proxies in the region, something that would require tightening sanctions and closing loopholes in places like Hong Kong.

Since October, the U.S. has dispatched two aircraft carriers to the Middle East to “bolster regional deterrence efforts,” and warned both Tehran and its Lebanon-based ally Hezbollah not to intervene. While so far a second front has not opened up, recent weeks have seen attacks against ships in the Red Sea by Yemen’s Houthi rebels, in retaliation for Israel’s brutal campaign in Gaza, disrupting shipping through one of the world’s busiest maritime trade routes.

The Houthis, a Shia group who have been fighting a civil war in Yemen for nearly a decade, are backed by Iran and have reportedly received funding, equipment and training from the Quds Force. They form part of Iran’s so-called Axis of Resistance, a coalition of regional militias that also includes Hamas, Hezbollah and several smaller groups linked to attacks against U.S. forces in Iraq.

According to the FBI, Iran “uses front and shell companies to exploit financial systems around the world to generate revenue and transfer funds in support of terrorist groups.”

Often this involves oil sales, said Mr. Ghasseminejad, with Tehran sometimes providing oil directly to its proxies to sell for themselves and keep the profits, provided, of course, they can bypass sanctions designed to stop this.

Transporting oil is far more laborious than moving money around the world or setting up front companies, however, and tankers are also easier to track. In June, 2020, the U.S. sanctioned four Hong Kong-flagged vessels linked to Iran’s national shipping company – the Goodreach, Fanreach, Tenreach and Canreach – as well as front companies it said had been used to conceal the ultimate ownership of the tankers.

But while the Hong Kong Trade Development Council issued an alert warning “firms seeking to do business with U.S. entities … to be cognizant of these possible sanctions,” the tankers continue to operate. According to publicly available shipping data, the Canreach, now renamed Hamouna and sailing under an Iranian flag, recently travelled from Bandar Abbas, a city near the Strait of Hormuz, to Zhuhai, in southern China.

Sayari Labs, a commercial risk intelligence company that has investigated Iranian shipping, said in a report “changes in the vessel name and flag state are both common techniques employed by illicit shipping networks to evade sanctions and obscure ownership.” In 2018, the ultimate beneficial ownership of the Reach fleet “shifted multiple times via Cyprus and Hong Kong-based shell companies,” according to Sayari.

The proceeds from oil sales are also often laundered through Hong Kong, OFAC says. Between 2021 and 2022, front companies in Hong Kong “transferred tens of millions of dollars related to petrochemical sales to China,” including by disguising oil sales as trading in medical goods.

Testifying before the U.S. House Committee on Financial Services in October, Mr. Noronha said the “key facilitators of Iran’s sanctions evasion” were China and Hong Kong “through purchases of Iran’s oil and provision of proliferation-sensitive goods and equipment.”

He said Washington needed to target the end buyers if it wanted to tackle this issue.

“Without prolonged pressure on the international shipping industry, especially nodes in China, you’re really not likely to change behaviour,” Mr. Noronha told The Globe and Mail. “But the question is whether the U.S. will make this a key part of the broader bilateral U.S.-China relationship, in the way fentanyl has become an issue or climate change has become an issue. To my knowledge that hasn’t happened yet.”

Mr. Ghasseminejad agreed, saying that “on oil, Washington is mainly going after front companies, which is not effective and they know it.”

“They’re doing it to tell their critics they’re doing something,” he said. “If they really want to be effective, they need to go after end users in China, and the tankers and banks facilitating these trades, but that requires political will and raising tensions with China.”