United States: U.S. International Trade Commission Conducts Public Hearing Regarding North American Foreign Trade Zone Practices

On May 17, 2022, the U.S International Trade Commission ("USITC") convened a public factfinding hearing as part of an investigation into the effects of Foreign Trade Zone ("FTZ") policies and practices on U.S. firms operating in domestic FTZs and under similar programs in Canada and Mexico.¹ The U.S. Trade Representative ("USTR") requested USITC conduct the investigation and prepare a report to determine how Mexico's and Canada's programs similar to FTZs impact employment and the competitiveness of goods produced in FTZs in the United States.

FTZs are secured areas located in or near U.S. Customs and Border Protection ("CBP" or "Customs") ports of entry, but merchandise in an FTZ is generally considered to be outside of U.S. Customs territory. Within an FTZ, the operator may conduct certain (CBP-supervised) domestic activity involving foreign items, including storage, exhibition, assembly, manufacturing, and processing, prior to formal Customs entry. Importantly, the U.S.-Mexico-Canada Agreement ("USMCA"), as implemented in the United States, continues certain North American Free Trade Agreement ("NAFTA") implementation provisions regarding the treatment of goods produced in U.S. FTZs, including to prohibit non-originating goods used in production processes within FTZs from qualifying as originating goods under the Agreement.

Benefits for FTZ operators broadly include duty-free treatment for items that are reexported; duty deferral for items imported to FTZs until they are entered into the U.S. market; and duty reduction, where the finished product has a lower duty rate than the rates on foreign inputs. The benefit for the United States is, presumably, enhanced competition for U.S. operations versus foreign production and warehousing alternatives. Additionally, employers using FTZs increase employment opportunities in the United States, as well as promoting growth in the regions surrounding FTZs. Further, with Customs supervision of FTZs, the United States and U.S. businesses alike can counteract the inflow of illicit or counterfeit goods.²

The Hearing

The public hearing featured testimony from eight representatives of various stakeholders, including trade coalitions, consulting firms, logistics companies, and manufacturers, followed by a question-and-answer session led by the commissioners. Testimony addressed both the benefits of FTZs and the challenges faced by FTZ operators. Despite the positives – including those listed above – the challenges facing FTZ operators are manifold, as argued during the hearing. First, there are costs associated with establishing FTZs. Application fees range from $3,200 to $6,500,³ and there are additional costs, in both time and money, associated with getting your business compliant with FTZ requirements, including receiving authority from the FTZ Board prior to production activity.⁴ Federal, State, or local laws and regulations may impose additional costly requirements. For example, CBP imposes strict recordkeeping and inventory control procedures,⁵ which can be costly to implement and maintain.⁶

Another refrain from the hearing was the disparate treatment faced by U.S. FTZ operators under the USMCA Implementation Act⁷ compared to companies in Mexico or Canada. In U.S. FTZs, non-originating goods cannot qualify as originating goods as a result of processing, even if all other relevant conditions are satisfied, when the goods are entered into U.S. Customs territory.⁸ Consequently, FTZ operators cannot take advantage of preferential treatment afforded originating goods when entered from FTZs to U.S. Customs territory. Conversely, non-originating goods processed in Mexico or Canada may be treated as originating goods and afforded preferential treatment under USMCA. For U.S. FTZ operators, these potentially unfavorable conditions created by U.S. legislation may be compounded when anti-dumping and countervailing duties ("AD/CVDs") are involved. Speakers discussed how Canadian and Mexican companies may not be required to pay the same AD/CVDs on foreign inputs as U.S. FTZ operators. This is because the Mexican and Canadian governments may not apply the same AD/CVDs as the U.S. government. These conditions, the speakers claimed, are causing companies to open manufacturing and distribution centers in Canada and Mexico, bypassing FTZs altogether and creating jobs abroad instead of in the United States.

One particular challenge that has arisen in recent years is the inability of operators of U.S. FTZs to take advantage of informal, duty-free entries under Section 321, so called "de minimis" imports. This is because of a distinction between "import" into the United States under Section 321 and "entry" or "withdrawal" from FTZs, and because goods imported to an FTZ are not shipped directly to the ultimate purchaser.⁹ This disparity is further contributing to companies leaving the United States to set up operations across the border. Currently, Section 321 is under consideration with respect to imports from China, with the House of Representatives and Senate working to reconcile the COMPETES Act and the United States Competition and Innovation Act ("USICA"), respectively. The COMPETES Act contains language that would eliminate the informal imports process under Section 321 for shipments from China to the United States.

The recurring theme and call to action from the speakers was that FTZs must have parity with companies exporting from Canada and Mexico. Otherwise, U.S. manufacturers cannot compete against foreign companies taking advantage of favorable trade conditions abroad. Some witnesses argued for larger tariff reform beyond FTZs, namely higher tariffs on finished goods, which would return FTZs to their original reexport and transshipment focus, but this argument took a secondary role compared to arguments for equal treatment between domestic FTZs and foreign exporters.

Programs in Canada

Canada does not have Foreign Trade Zones per se, at least as they function in the United States. The government of Canada treats the whole country as an FTZ.¹⁰ There are specific Foreign Trade Zone Points, which are locations where local point-of-contact organizations promote local trade and where foreign direct investment and regional governmental task forces facilitate the organization's operations. However, outside of these points, across Canada, manufacturers and distributors can take advantage of low corporate tax rates (relative to the United States), a Goods and Services Tax that does not apply to exports, and zero tariffs for manufacturing inputs.¹¹

Programs in Mexico

Like Canada, Mexico does not have an FTZ policy similar to that of the United States. However, Mexico does have some trade programs that are being carefully reviewed by the USITC, such as IMMEX,¹² PROSEC,¹³ and Rule Eight.¹⁴ These trade programs are available to the manufacturing sector, and they are widely used throughout the country, particularly, by foreign-owned manufacturing firms. The IMMEX program, for instance, is a duty deferral mechanism that allows authorized firms to import inputs, materials, and fixed assets under the temporal customs regime.¹⁵ But USMCA imposes limitations on deferring customs duties regarding non-originating materials if the processed good ends up being exported to another USMCA party.¹⁶ Mexican customs law and its regulations are USMCA-compliant in this regard.

The PROSEC program grants preferential tariffs to producers that fall in one of the more-than-twenty specified manufacturing sectors.¹⁷ PROSEC-certified producers, with proper authorization, may import raw materials, inputs, and machinery necessary for their production. These tariff preferences normally range between 3% duty and duty free. Unlike the IMMEX program, PROSEC firms are not deferring customs duties since they are importing the goods under the definitive customs regime. PROSEC beneficiaries can take advantage of these benefits regardless of whether the goods to be produced are for export or the domestic market.¹⁸

As for Rule Eight, a firm can only access this program if it is registered in PROSEC. In essence, Rule Eight allows for the importation of machinery, equipment, and inputs related to manufactured products to be imported under a single tariff code, depending on the PROSEC-industry (9802.00.01 to 9802.00.25¹⁹ under the Mexican Harmonized Commodity Description and Coding System,²⁰ the equivalent of the United States' Harmonized Tariff Schedule). Rule Eight grants further access to duty-free preferential tariffs in accordance with its authorized PROSEC program. For instance, if a raw material is subject to a 3% preferential tariff under the PROSEC program, a firm may benefit from duty-free import duty with Rule Eight. It is important to note that a firm may request Rule Eight benefits to its definitive (i.e., permanent) or temporal (i.e., temporary) imports and thus Rule Eight may ultimately serve to defer duties.²¹ However, if the processed good ends up being exported to another USMCA party, the duty deferral is subject to restrictions per USCMA and Mexican Customs regulations.

The U.S. Government's investigation of the U.S. FTZ program, vis-à-vis Mexican IMMEX, PROSEC and Rule Eight programs, and Canada's foreign-trade policies, and any future action with respect to FTZs, present potential issues for businesses in both the United States and Mexico. For reasons like this, Torres Trade Advisory and the Mexican law firm, Vazquez Tercero & Zepada, formed an alliance to better serve clients on both sides of the border. If you have any questions with respect to the content of the USITC's hearing regarding FTZs, general inquiries regarding USMCA compliance, or any other matter at the intersection of U.S. and Mexican cross-border trade, please contact us.

Footnotes

1 Investigation No. 332-588, "Foreign Trade Zones (FTZs): Effects of FTZ Policies and Practices on U.S. Firms Operating in U.S. FTZs and Under Similar Programs in Canada and Mexico."  https://www.usitc.gov/secretary/fed_reg_notices/332/332_588_notice01262022sgl.pdf.

2 See generally "FTZ Basics and Benefits," National Association of Foreign-Trade Zones (available at https://www.naftz.org/ftz-resources/ftz-basics-benefits/).

3 See  "U.S. Foreign Trade Zones, Frequently Asked Questions."

4 15 C.F.R. § 400.14. This Production Authority process includes a 120-day public comment period and a one-year application period. See also "U.S. Foreign Trade Zone (FTZ) Program," Congressional Research Service (Feb. 26, 2020) (available at https://crsreports.congress.gov/product/pdf/IF/IF11348).

5 See  19 C.F.R. § 146.21-26.

6 19 C.F.R. § 146.52.

7 19 U.S.C. § 4501  et sequitur.

8 19 U.S.C. § 4531(c)(3).

9 See HQ H275567 (May 8, 2018) and HQ H282601 (Sep. 18, 2018).

10 See "Foreign Trade Zone," Government of Canada (available at  https://www.canada.ca/en/department-finance/programs/international-trade-finance-policy/foreign-trade-zone.html#a4).

11 Id.

12 IMMEX stands for Industria Manufacturera, Maquiladora y de Servicios de Exportación  or Manufacuring, Maquila and Export Service Industry.

13 PROSEC stands for Programa Sectorial or Sectorial Program.

14 Rule Eight stands for Regla Octava, which is provided in Special Operation Chapter (98) of Mexico's Import and Export Tariffs Law.

15 See Secretaría de Economía, "IMMEX" (last accessed May 31, 2022) (available at  http://www.2006-2012.economia.gob.mx/industry/foreign-trade-instruments/immex).

16 The United States-Mexico-Canada Agreement ("USMCA") U.S.-Mex.-Can., art. 2.5, agreed to Oct. 1, 2018.

17 See  Secretaría de Economía, "Sectorial Promotion Programs" (last accessed May 31, 2022) (available at  http://www.2006-2012.economia.gob.mx/industry/foreign-trade-instruments/prosec).

18 Id.

19 See Sistema Integra de Información de Comercio Exterior (SIICEX), "Autorizaciones de Regla 8a – Información General" (last accessed May 31, 2022) (available at  http://www.siicex.gob.mx/portalSiicex/Transparencia/Permisos/infgeneral.htm).

20 Ley de Impuestos Generales de Importación y de Exportación

21 These temporary imports may take the form of finished goods, such as machinery or tools, or raw materials, such as steel, which may raise antidumping issues under Rule Eight or for IMMEX companies.

Co-Authored by Emilio Arteaga is a Jr. Partner at Vazquez Tercero & Zepeda law firm in Mexico City

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.