June, 2017
Generalized System of Preference (GSP)
Mark K. Neville, Jr.
Among the many planning opportunities that are available to importers the best are those that allow for duty-free entry into the United States. Free trade agreements (FTAs) confer that benefit to eligible merchandise. But so, too, does the Generalized System of Preferences (GSP), 19 U.S.C. §§ 2461-2467, 19 CFR §§ 10.171-178a.
The GSP is a unilateral tariff preference program for qualifying articles imported from eligible developing countries. First introduced in 1975, the GSP has been re-issued several times, with Congress allowing for retroactive effect to cover entries made while the program was in lapse. The US version of the GSP finds its counterpart in most other developed trade, such as the EU, Canada and Japan, although the criteria and other details vary greatly from one program to another.1
General Note 3(c)(i), Harmonized Tariff Schedule of the United States (HTSUS), provides, in part, that special tariff treatment under the GSP is indicated in the “Special” subcolumn in the tariff by the symbols “A”, “A*,” or “A+”.
In the case of the imported products, then, there are two possible routes to eligibility. The first is if the product can be claimed to be wholly the growth, product or manufacture of the BDC (“wholly the growth”). This will be the case if they have been made with exclusively BDC-origin components. If that is not the case, and there are parts or components of various origin that have been imported into the BDC, the importer must ascertain if they undergo a change in name, character and use. This would signify that they have been “substantially transformed” in the BDC. It must be clear that they are new and different articles of commerce.
If that is the case, the imported products will satisfy the “product of” requirement. This route is discussed further below.
Title 19 U.S.C. § 2463(a)(2)(A) states that “the duty-free treatment provided under this sub-chapter shall apply to any eligible article which is the growth, product, or manufacture of a beneficiary developing country if— that article is imported directly from a beneficiary developing country into the customs territory of the United States; and (ii) the sum of (I) the cost or value of the materials produced in the beneficiary developing country …plus (II) the direct costs of processing operations performed in such beneficiary developing country or such member countries, is not less than 35 percent of the appraised value of such article at the time it is entered.” (Emphasis added).
If an article consists of materials that are imported into a BDC, the cost or value of these otherwise-non-qualifying materials may be counted toward the 35% value-content requirement only if they undergo a double substantial transformation in the BDC. See 19 CFR § 10.177(a)(2). Materials imported into the BDC must first be substantially transformed into a new and different article of commerce which becomes “material produced” and these materials produced in the BDC must then be substantially transformed again into a new and different article of commerce (the final article). This intermediate product must be a distinct article of commerce. An article of commerce is commercially recognizable as an article which is readily susceptible of trade and one that persons might well wish to buy and acquire for their own purposes of consumption or production.4 To be clear, the “dual (or double) substantial transformation” rule is not a pre-requisite or condition of the GSP program. Instead, its two-step process is an exceptional means of treating as local content qualifying for the 35% threshold what would otherwise be the value of non-qualifying parts that had been imported into the BDC.
The regulatory language set forth in 19 CFR § 10.176( c), which is titled “Country of origin criteria” states that “merchandise which is wholly the growth, product, or manufacture of a BDC…shall normally be presumed to meet the requirements set forth in this section.” Then, 19 CFR § 10.177, which addresses the topic of “Cost or value of materials produced in the beneficiary developing country”, states that both materials “wholly produced” in the BDC and materials substantially transformed in the BDC must satisfy the “produced in the BDC” requirement. Therefore, this regulatory language mirrors the statutory requirement that all imported goods must satisfy the 35% value-content requirement, whether the materials are “wholly produced” in the BDC or substantially transformed in the BDC.
We are mindful of two important dimensions of the task to satisfy this 35% value test. The first is that the importer has the option of meeting the threshold by counting the cost or value of the materials alone or by the costs of direct production alone or by a combination of both. In this connection, we note the following treatment from a CBP ruling
In this connection, we note the point that costs or value of the intermediate articles produced by subcontractors might capture the cost of the components as well as the assembly costs of those subassemblies. This approach is sanctioned by the customs regulations, and more specifically 19 CFR § 10.177 (c) (2), which anticipates the valuing of the materials used to make the finished articles when the components have been provided to the manufacturer of those materials without charge. Thus, when a third party manufacturer has produced a subassembly, the importer should be entitled to use as the cost or value of that subassembly the full amount represented by the components provided for free as well as the fully loaded assembly charge paid to the third party for producing the subassembly which is a material used to produce the finished goods (the open relay). This rule for the cost or value of these intermediate articles that are in the nature of materials to make the finished articles is in direct contrast to the rule set forth in 19 CFR §§ 10.178 (a) and (b).that applies to the DCP of the producer of the finished article (the “specific merchandise under consideration”). For those purposes, the producer’s profit and general expenses and any other costs either not directly attributable to the finished goods, i.e., the merchandise or are not “costs of manufacturing the product” must be excluded.
The differentiation between counting the fully loaded costs of a subcontractor’s producing a material, at least when the material has been produced with parts or components vs. a subcontractor producing a finished good, where profit and other elements of cost must be netted out, is clearly made in a 2011 Headquarters ruling.
In ruling no. H115766 (12/23/11), CBP (at p. 8) directed that the profit and general expenses of the subcontractor would have to be subtracted out of the fee that the subcontractor (Maesot) charged to the contractor (Chengteh) only because the subcontractor made the imported finished good. The implication is that, if the subcontractor had produced a material that was provided to the company that made the finished article, then the subcontractor’s actual assembly charges would be counted in their entirety. Per 19 CFR §§ 10.177 (c) (1) (i) and (2).
The second important point to recognize is that if there is a qualifying substantial transformation and an intermediate article is produced, the entire cost or value of that intermediate product (and not just the local BDC components) will qualify as “materials produced” in India and be counted toward the 35% value test. An illustration of this “dual (or double) substantial transformation” rule
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The GSP is a unilateral tariff preference program for qualifying articles imported from eligible developing countries. First introduced in 1975, the GSP has been re-issued several times, with Congress allowing for retroactive effect to cover entries made while the program was in lapse. The US version of the GSP finds its counterpart in most other developed trade, such as the EU, Canada and Japan, although the criteria and other details vary greatly from one program to another.1
Applicable Legal Standards
Under the GSP, eligible articles the growth, product or manufacture of a designated beneficiary developing country (BDC) which are imported directly into the customs territory of the U.S. from a BDC may receive duty-free treatment if the sum of (1) the cost or value of materials produced in the BDC, plus (2) the direct costs of the processing operations performed in the BDC, is equivalent to at least 35 percent of the appraised value of the article at the time of entry into the U.S. See 19 U.S.C. § 2463(a)(2)(A).General Note 3(c)(i), Harmonized Tariff Schedule of the United States (HTSUS), provides, in part, that special tariff treatment under the GSP is indicated in the “Special” subcolumn in the tariff by the symbols “A”, “A*,” or “A+”.
Eligible Product/ BDC
The importer must determine that the product to be imported is classifiable in a GSP-eligible tariff provision. Then the importer must conform that the country where the processing occurred is designated as a “beneficiary developing country” (BDC) for GSP purposes under General Note 4(a), HTSUS. There are three specific requirements for GSP status for any given article which meets these initial qualifications, each of which is discussed below.“Product Of”
The “product of” requirement means that to receive duty-free treatment, an article either must be made of materials “wholly the growth, product or manufacture of” the BDC, or if made of materials imported into the BDC, those materials must be substantially transformed in the BDC into a new and different article of commerce. See 19 CFR §10.176(a). A substantial transformation occurs “when an article emerges from a manufacturing process with a name, character, or use which differs from those of the original material subjected to the process.”2In the case of the imported products, then, there are two possible routes to eligibility. The first is if the product can be claimed to be wholly the growth, product or manufacture of the BDC (“wholly the growth”). This will be the case if they have been made with exclusively BDC-origin components. If that is not the case, and there are parts or components of various origin that have been imported into the BDC, the importer must ascertain if they undergo a change in name, character and use. This would signify that they have been “substantially transformed” in the BDC. It must be clear that they are new and different articles of commerce.
If that is the case, the imported products will satisfy the “product of” requirement. This route is discussed further below.
Imported Directly
A feature of the GSP program, as with FTAs, is that the products must be “imported directly” into the US.3 In every instance, the open relays have been shipped via airfreight directly from Bangalore, India to the US.35% Value-Content Test
To be eligible for duty-free treatment under the GSP statute, merchandise must also satisfy the 35% value-content requirement. The policy behind this requirement is to prevent mere “screw driver” assembly operations from gaining the benefits of the program.Title 19 U.S.C. § 2463(a)(2)(A) states that “the duty-free treatment provided under this sub-chapter shall apply to any eligible article which is the growth, product, or manufacture of a beneficiary developing country if— that article is imported directly from a beneficiary developing country into the customs territory of the United States; and (ii) the sum of (I) the cost or value of the materials produced in the beneficiary developing country …plus (II) the direct costs of processing operations performed in such beneficiary developing country or such member countries, is not less than 35 percent of the appraised value of such article at the time it is entered.” (Emphasis added).
If an article consists of materials that are imported into a BDC, the cost or value of these otherwise-non-qualifying materials may be counted toward the 35% value-content requirement only if they undergo a double substantial transformation in the BDC. See 19 CFR § 10.177(a)(2). Materials imported into the BDC must first be substantially transformed into a new and different article of commerce which becomes “material produced” and these materials produced in the BDC must then be substantially transformed again into a new and different article of commerce (the final article). This intermediate product must be a distinct article of commerce. An article of commerce is commercially recognizable as an article which is readily susceptible of trade and one that persons might well wish to buy and acquire for their own purposes of consumption or production.4 To be clear, the “dual (or double) substantial transformation” rule is not a pre-requisite or condition of the GSP program. Instead, its two-step process is an exceptional means of treating as local content qualifying for the 35% threshold what would otherwise be the value of non-qualifying parts that had been imported into the BDC.
The regulatory language set forth in 19 CFR § 10.176( c), which is titled “Country of origin criteria” states that “merchandise which is wholly the growth, product, or manufacture of a BDC…shall normally be presumed to meet the requirements set forth in this section.” Then, 19 CFR § 10.177, which addresses the topic of “Cost or value of materials produced in the beneficiary developing country”, states that both materials “wholly produced” in the BDC and materials substantially transformed in the BDC must satisfy the “produced in the BDC” requirement. Therefore, this regulatory language mirrors the statutory requirement that all imported goods must satisfy the 35% value-content requirement, whether the materials are “wholly produced” in the BDC or substantially transformed in the BDC.
We are mindful of two important dimensions of the task to satisfy this 35% value test. The first is that the importer has the option of meeting the threshold by counting the cost or value of the materials alone or by the costs of direct production alone or by a combination of both. In this connection, we note the following treatment from a CBP ruling
Counsel argued that if material costs alone satisfy the 35% value-content requirement, the auditors need look no further. CBP stated in Treasury Decision (“T.D.”) 76-100, dated March 30, 1976, that “the 35 percent criterion can be satisfied entirely by the cost or value of materials produced in the beneficiary developing country, the direct costs of processing operations, or any combination of the two.” We concur with counsel on this point.5
In this regard, the importer could elect to meet the 35% test by the cost of materials (COM) alone. That might be an attractive strategy since it would allow the importer to avoid getting tangled up in cost accounting for production costs.In this connection, we note the point that costs or value of the intermediate articles produced by subcontractors might capture the cost of the components as well as the assembly costs of those subassemblies. This approach is sanctioned by the customs regulations, and more specifically 19 CFR § 10.177 (c) (2), which anticipates the valuing of the materials used to make the finished articles when the components have been provided to the manufacturer of those materials without charge. Thus, when a third party manufacturer has produced a subassembly, the importer should be entitled to use as the cost or value of that subassembly the full amount represented by the components provided for free as well as the fully loaded assembly charge paid to the third party for producing the subassembly which is a material used to produce the finished goods (the open relay). This rule for the cost or value of these intermediate articles that are in the nature of materials to make the finished articles is in direct contrast to the rule set forth in 19 CFR §§ 10.178 (a) and (b).that applies to the DCP of the producer of the finished article (the “specific merchandise under consideration”). For those purposes, the producer’s profit and general expenses and any other costs either not directly attributable to the finished goods, i.e., the merchandise or are not “costs of manufacturing the product” must be excluded.
The differentiation between counting the fully loaded costs of a subcontractor’s producing a material, at least when the material has been produced with parts or components vs. a subcontractor producing a finished good, where profit and other elements of cost must be netted out, is clearly made in a 2011 Headquarters ruling.
In ruling no. H115766 (12/23/11), CBP (at p. 8) directed that the profit and general expenses of the subcontractor would have to be subtracted out of the fee that the subcontractor (Maesot) charged to the contractor (Chengteh) only because the subcontractor made the imported finished good. The implication is that, if the subcontractor had produced a material that was provided to the company that made the finished article, then the subcontractor’s actual assembly charges would be counted in their entirety. Per 19 CFR §§ 10.177 (c) (1) (i) and (2).
The second important point to recognize is that if there is a qualifying substantial transformation and an intermediate article is produced, the entire cost or value of that intermediate product (and not just the local BDC components) will qualify as “materials produced” in India and be counted toward the 35% value test. An illustration of this “dual (or double) substantial transformation” rule
at work is found in ruling no. 556673 (7/24/92), where Headquarters concluded that the production of the mother PCBA [the subassembly there] and the final assembly of the mother PCBA with the microprocessor PCBA and other components to create the [finished product] AS-UNT units constitutes a double substantial transformation. Therefore, the cost or value of the imported materials used to produce the mother PCBA may be counted toward the GSP 35% value-content requirement.6
The effect is to be able to “roll up” and count the full cost or value of each of the subassemblies toward the 35% of customs value of the finished product.Conclusion
With the new administration of President Trump charting new trade policy directions the future of GSP is a bit in doubt. Still, the GSP offers a customs planning option to importers for the time being. Importers and their advisors would be prudent to closely monitor the status of GSP until there is more clarity about its continued vitality........................................................................................................................................
1. For more on the GSP, see Neville (ed.), International Trade Laws of the United States: Statutes and Strategies, ¶ 7.08.
2. Texas Instruments Inc. v. United States, 681 F.2d 778 (1982).
3. 19 CFR §§ 10.174 and .175. See ruling nos. H055447 (7/14/09) and 562999 (4/23/04).
4. See Azteca Mill Co. v. U.S., 703 F. Supp. 949 (CIT 1988), and F.F. Zuniga a/c Refractarios Monterrey, S.A. v. United States, 996 F.2d 1203 (Fed. Cir. 1993).
5. Ruling no. W563490 (5/18/07).
6. See also ruling nos. H041939 (3/10/11), H003844 (12/3/07) and 563086 (11/22/04).
2. Texas Instruments Inc. v. United States, 681 F.2d 778 (1982).
3. 19 CFR §§ 10.174 and .175. See ruling nos. H055447 (7/14/09) and 562999 (4/23/04).
4. See Azteca Mill Co. v. U.S., 703 F. Supp. 949 (CIT 1988), and F.F. Zuniga a/c Refractarios Monterrey, S.A. v. United States, 996 F.2d 1203 (Fed. Cir. 1993).
5. Ruling no. W563490 (5/18/07).
6. See also ruling nos. H041939 (3/10/11), H003844 (12/3/07) and 563086 (11/22/04).
Mark K. Neville, Jr., LL.M. (International Legal Studies), NYU, is a long-time member of the Board of Advisors. He is Principal of International Trade Counsellors and may be reached at mkneville@itctradelaw.com. He has served as an adjunct professor at The University of California, Berkeley’s Haas School of Business and NYU’s Stern School. He is The Journal’s Customs & Trade correspondent.