Final Rule From Commerce on National Security Guardrails for CHIPS Act Funding: Restrictions on China and Other Countries of Concern
What You Need to Know
Key takeaway #1
Specific Guardrails Subject to Negotiation: The Final Rule indicates that more of the national security guardrails will be negotiated with the recipient, creating the opportunity for project specific agreements.
Key takeaway #2
Broader than the EAR: The CHIPS Act national security guardrails have some overlap with U.S. export controls, but are still distinct and meant to be broader and more expansive. Compliance with both will be required.
Key takeaway #3
Final Rule Narrows Application to Fewer Affiliates Under Common Control: Commerce removed a prior requirement that these controls apply to all affiliates under common control with the funding recipient. The new Expansion Clawback standard is narrower, but still wide-ranging, while the Technology Clawback standard is amorphous. Parent entities should take stock to determine if any of their subsidiaries or branches are accepting funding and how it might impact sister companies.
Client Alert | 7 min read | 09.26.23
After publishing a proposed rule in March 2023 on how it will implement the national security guardrails for the CHIPS and Science Act of 2022 (“CHIPS Act”) (the “Proposed Rule”), which all funding recipients are required to follow, the U.S. Department of Commerce (“Commerce”) published the corresponding final rule, (the “Final Rule”). The Final Rule will come into effect on November 24, 2023.
Overview of the CHIPS Act
Background
The CHIPS Act authorizes the provision of nearly $39 billion in direct funding and $75 billion in loans and loan guarantees to (1) support the construction, expansion, or modernization of a domestic semiconductor manufacturing facility, or equipment for that facility; (2) support workforce development for a domestic semiconductor manufacturing facility; or (3) pay reasonable operating expenses for a domestic semiconductor manufacturing facility. Commerce began accepting applications on a rolling basis on March 31, 2023 for leading-edge manufacturing facilities, and on June 26, 2023 for current-generation, mature-node, or back-end manufacturing facilities. Commerce will begin to accept applications on a rolling basis, beginning October 23, 2023, for semiconductor materials and manufacturing equipment facilities.
The Clawbacks
The CHIPS Act imposes two main national security restrictions on any funding recipients: the “Expansion Clawback” and the “Technology Clawback.”
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- Expansion Clawback: Recipients are restricted from engaging in transactions involving the “material expansion” of “semiconductor manufacturing capacity” in a “foreign country of concern” (e.China, Russia, Iran, or North Korea) for 10 years, once the funding agreement is finalized, except for:
- “Existing facilities” for producing “legacy semiconductors”; and,
- Facilities for producing legacy semiconductors that “predominantly serve the domestic market” of the foreign country of concern.
- Technology Clawback: Recipients may not engage in “joint research” or “technology licensing” efforts with a “foreign entity of concern” related to a “technology or product that raises national security concerns.”
- Expansion Clawback: Recipients are restricted from engaging in transactions involving the “material expansion” of “semiconductor manufacturing capacity” in a “foreign country of concern” (e.China, Russia, Iran, or North Korea) for 10 years, once the funding agreement is finalized, except for:
If funding recipients violate either of these prohibitions, they are subject to a “clawback” of the full funding amount (plus interest).
Commerce issued the Proposed Rule in March 2023, which provided greater specificity on the details and key definitions for these national security guardrails, which were only outlined in the CHIPS Act. Commerce received 27 comments from industry in response. In addition to publishing the Final Rule, Commerce explains why it took (or decided not to take) these comments into account (some of which, we describe below).
Changes in the Final Rule
The Final Rule made a handful of notable changes to the Expansion and Technology Clawbacks, including:
Removal of the term “Affiliates”: Previously, the Expansion and Technology Clawbacks could apply if either an entity accepting funding (“covered entity”) or any “affiliate” (i.e., a parent, subsidiary, or an entity under common control based on a 50% voting ownership threshold) engaged in prohibited behavior. Commerce has now removed the reference to “affiliates.”
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- Expansion Clawback: The expansion clawback now applies to covered entities and any members of an “affiliated group” that engages in a prohibited activity. The term “affiliated group” still applies to parents, subsidiaries, and entities under a common parent, but the voting ownership threshold is now 80% and companies that are not “includible corporations” are exempt (g., certain non-profits, regulated investment companies).
- Joint Research and Technology: The technology clawback now only applies to covered entities engaging in a prohibited activity. However, Commerce explained it “may take appropriate remedial measures,” which includes imposing mitigation agreements or recovering the full amount back, if a “related entity” undertakes activity that the covered entity could not itself undertake.
Minor Changes to the List of Semiconductors Critical to National Security: The list of semiconductors “critical to national security” was modified to (i) remove the inclusion of any FD-SOI semiconductors, other than with regard to semiconductor packaging operations with respect to such semiconductors of a 28-nm generation or older; and (ii) allow the Secretary of Commerce to add additional semiconductors as deemed necessary. Semiconductors on this revised list are not considered “legacy semiconductors.”
Expansion Clawback-Specific Changes
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- Manufacturing Expansion Limitation Up to Negotiation: Previously, only “significant transactions” (e., any activity for $100,000 or more) were prohibited. That limit has been removed, and the limit for each agreement will be negotiated and included in the contract, where Commerce will consider the total funding size, among other factors.
- Legacy Semiconductors: Commerce added another “legacy semiconductor,” specifically a semiconductor that does not use advanced three-dimensional (3D) integration packaging (for the purposes of a semiconductor packaging facility), such as by directly attaching one or more die or wafer, through silicon vias, through mold vias, or other advanced methods.
- Material Expansion Clarification: Material expansions of semiconductor fabrication facilities can be prohibited under the expansion clawback. Commerce noted this term does not include equipment and efficiency upgrades in existing cleanrooms, only the addition of cleanroom space.
Technology Clawback-Specific Changes
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- Foreign Entity of Concern: Who is considered a foreign entity of concern was slightly modified to note that, with respect to entities that are caught due to ownership by a Chinese, Russian, Iranian, or North Korean national, that national must be located in one of those countries as well. For example, if a Chinese national located in Singapore owned an entity, that entity would not be considered a “foreign entity of concern” solely due to the Chinese national’s ownership (but it could be caught due to another provision, e.g., if the entity is incorporated or has a principle place of business in one of the aforementioned countries).
- Exemptions from Both Joint Research and Technology Licensing: The Final Rule allowed for exceptions to the definitions of “joint research” and “technology licensing,” even if it involves “technologies or products that raise national security concerns.” This includes any activities related to (i) “standards-related activities” (as defined in the EAR); (ii) research and development between employees of a funding recipient and any related entities; and (iii) any historic activities that occurred prior to publication of the Final Rule (though Commerce can require those activities are halted as a condition of funding).
- Exemptions from Only Technology Licensing: In addition to the above listed exceptions, the Final Rule excepted “published information” and patent agreements (where only published information, as opposed to proprietary information, is shared) from the definition of “technology licensing.” These exception mirror those in the EAR (and the International Traffic in Arms Regulations (“ITAR”). Neither of these exceptions apply for joint research, and so any joint research involving this type of information or agreement, would still be subject to the Technology Clawback.
What Commerce Decided Not to Change
Technology Clawback Applies to Items Not Subject to the U.S. Export Administration Regulations (“EAR”):
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- Items Not Subject to the EAR Still Caught: Commerce explained that it would not limit its scope to only items subject to the EAR and that these controls were intended to be broader than the jurisdiction of the EAR.
- Fundamental Research: Additionally, unlike in the EAR and the ITAR, Commerce determined that it would not provide any exception for fundamental research (for the definition of joint research) as Commerce has concerns that any additional advancements in the technology or its use may be made through such research efforts to the benefit of the foreign entity of concern. Interestingly, Commerce did not speak to whether fundamental research is or is not excepted under technology licensing.
Significant Renovations Prohibition in Expansion Clawback Remains: In the Proposed Rule, Commerce explained that if an entity were to engage in “significant renovations” of an “existing facility” for “legacy semiconductors” (i.e., the existing facilities are subject to certain exceptions) that the facility could no longer be considered an existing facility. Commerce declined to remove this prohibition.
No Mitigation Option for Technology Clawback: Commerce rejected a request to create a mitigation process for a potential violation of the joint research and technology licensing prohibition (in lieu of a complete clawback), explaining the statutory language compelled Commerce to engage in a full clawback. Yet, Commerce explained it could require mitigation measures at the outset of the agreement, if they determine a risk exists, but Commerce would still retain the authority to engage in the clawback.
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