November, 2012
Prior Disclosure as Confession:
Good for the Soul…and the Pocketbook
Mark K. Neville, Jr.
For those familiar with the Christian tradition, the notion of confession, or reconciliation as it has come to be called, is a central feature of one’s maintenance of a spiritual life. By confessing one’s sins, or transgressions, the penitent is able to regain a state of grace. Many will recognize the old phrase, that “Confession is good for the soul” is based on this concept.
Leaving aside the catechetical aspects, the customs laws contain an element that is similar in some effects, the “prior disclosure” provisions. Set forth in Section 592 of the Tariff Act of 1930,1 Congress has long extended this measure which softens the impact of the enforcement that awaits an importer’s violation of the customs laws. I have written often2 of the obligation imposed on persons, primarily on importers of record but reaching others as well, to abide by the now well-established principle of “reasonable care,”3 first promulgated with the Customs Modernization Act of 1993. I have certainly included a discussion of prior disclosure in some of those earlier presentations, for to have omitted it altogether would have been a serious flaw. But I find that this is the first time that I have written principally about prior disclosure, in which the compliance laws provide the background context.4
After determining the sweep of the statute, essentially outlawing the use of false or misleading documents, the next salient feature is the three-tiered culpability structure. Clerical errors or mistakes of fact are an exception,6 but importers and others involved in the entry process may find their actions placed into one of the following categories:
Second, and related to the first point, the “voluntary” nature of a voluntary tender is just that. By making a payment in this manner, there may not be a charge or exaction. That means that the payment cannot mater be undone later by way of a protest.14 An importer must take great care here and not disclose as a violation some event or fact pattern that may later be determined not to be a violation at all. If there is any doubt at all, perhaps the importer should consider sending the issue to CBP Headquarters via an Internal Advice request before taking this step.
Third, the importer should be especially careful about discussing this matter with advisors where there is no confidentiality attaching. Discussions with customs brokers or with accounting firms are not privileged. The limited confidentiality under the income tax laws attaching to communications with accountants does not extend to customs law issues, where the accountants may be transacting customs business pursuant to a customhouse broker license. On the other hand, attorney/client communications are privileged.
Fourth, the importer may want to assess whether it had been misled or otherwise given erroneous information by its advisors. For example, the importer will often be in an actual conflict of interest in these matters with its customs broker, because the importer may have relied on the broker’s advice in making the entry. If that is the case, while the importer of record may argue that (1) there is no violation at all because it had shown reasonable care in seeking the advice of its broker or alternatively (2) the importer may remain primarily responsible but its seeking of advice is evidence of its compliance efforts and the importer’s effort should be given some mitigating effect.
Fifth, importers will normally recognize that the making of a prior disclosure may invite more scrutiny from CBP. The beneficial effect of a prior disclosure will only extend to the disclosed violations. As a result, this incentive to investigate the full extent of violations involves both a “drill down,” to find out both how far back the exposure goes, given the five year statute of limitations, as well as horizontally across, to include other possible violations.
If CBP were to later find other, undisclosed violations, then the full rigor of the penalty regime would be in force vis-a-vis those violations. As a result, many importers that are aware of specific violations will review all aspects of their customs process so as to include all violations in a single prior disclosure filing rather than either (1) making serial disclosures as violations are later unearthed, which will raise the importers’ profile with FP&F or (2) leave the other violations undisclosed, which will leave the importer exposed to penalties.
Sixth, if the decision has been taken to file a prior disclosure after careful deliberation, the actual composition of a prior disclosure and management of the process with CBP requires great skill. Actually more of an art rather than a science, the drafting should be such that the importer is putting forth its case in a manner that casts the most favorable light on its actions.
You should be mindful that almost anyone could look up the regulations, write a short, matter-of-fact statement, call it a “prior disclosure,” attach a check and send in the lot to CBP. There is virtually no skill in simply telling CBP that an importer violated the law. In my experience, such poor tactical draftsmanship may actually cause great harm, as it could lead to either to a higher assigned culpability level for the disclosed violation(s), with repercussions if there are later violations, or to prolonged “Tar Baby”15 contacts with CBP. The aim is to get CBP to accept the filing and then to have them wrap up the matter quickly.
The advocacy that marks virtually all well-crafted prior disclosures will demonstrate the highly technical nature of the issue and will emphasize all of the affirmative steps that had been undertaken by the importer. The submission must be made with the intention of having the FP&F officers conclude that all of the facts are disclosed. Because the importer has anticipated their follow up questions and has already included all such pertinent information in the initial submission, FP&F will (i) be able to conclude that there are no loose ends and (ii) not suspect that there are other undisclosed violations. The alternative is possibly an extended series of Tar Baby information exchanges between and among CBP, the advisor and the importer. determine that the importer has calculated the revenue loss in a conservative manner, so there is no possibility of an understatement of the loss of revenue. Seventh, and finally, the acceptance and closing out by FP&F of a prior disclosure often has the emotionally lifting effect of putting the violation in the past and wiping the slate clean for the importer. It would be a mistake to overlook or down play this effect, which echoes the initial reference to Confession.
.......................................................................................................................................
Leaving aside the catechetical aspects, the customs laws contain an element that is similar in some effects, the “prior disclosure” provisions. Set forth in Section 592 of the Tariff Act of 1930,1 Congress has long extended this measure which softens the impact of the enforcement that awaits an importer’s violation of the customs laws. I have written often2 of the obligation imposed on persons, primarily on importers of record but reaching others as well, to abide by the now well-established principle of “reasonable care,”3 first promulgated with the Customs Modernization Act of 1993. I have certainly included a discussion of prior disclosure in some of those earlier presentations, for to have omitted it altogether would have been a serious flaw. But I find that this is the first time that I have written principally about prior disclosure, in which the compliance laws provide the background context.4
Section 592 Standards
Leading off with prior disclosure, I find that we must begin a discussion with the workhorse compliance stature, section 592. In colloquial terms, Congress has relied on this statute which prohibits ant person from importing or attempting to import merchandise into the commerce of the United States by means of any document or electronically transmitted data or information which is material and false or by means of material omission. Those persons who aid and abet importers are also held to be in violation of the statute.5After determining the sweep of the statute, essentially outlawing the use of false or misleading documents, the next salient feature is the three-tiered culpability structure. Clerical errors or mistakes of fact are an exception,6 but importers and others involved in the entry process may find their actions placed into one of the following categories:
- Negligence
- Gross negligence
- Fraud
Five Years’ Exposure
To take an illustrative example, let us suppose that a company based in Ohio decided in at the beginning of 2007 to shift sourcing from other domestic companies to factories located in China, Viet Nam and Thailand. In order to ensure that the products delivered by the contract manufacturers meet its own high standards, the Ohio company furnishes the needed molds to the factories for no charge. Let us say that the cost of various molds plus the cost of transporting them to the factories are $20,000 for each of them and that five molds are sent to factories every year and that resulting products are dutiable at a rate of 10% ad valorem. The Ohio company acts as the importer of record, talking title to the goods at the foreign port of shipment. Without any need to explore the underlying customs value of the imported goods for the purposes of this discussion, we can establish that this Ohio company is in trouble. Unwittingly, the company has violated the customs laws because it has not declared any of the “dutiable assists” that were provided to the foreign sellers in the form of the molds.11 The underpaid duties are assigned against the value of the assists provided over the course of the past five years, here $500,000 and at the same duty rate as the finished goods that were produced with the molds, i.e., 10%. Thus, we are looking at a duty bill now of $50,000, plus interest. But the civil penalties for these unpaid duties would be either an additional $75,000-100,000 (if negligence alleged) or an additional $125,000-200,000 (if seen as gross negligence). Cue prior disclosures.Prior Disclosure Effect
This same Ohio company might file a prior disclosure. The company must (1) voluntarily disclose to CBP the fact that it had failed to declare the dutiable assists and include a discussion of the circumstances that led to the violation, (2) tender to CBP the duty owed plus and (3) show that it has taken remedial steps to prevent a recurrence of the violation. If so, then the likelihood is that CBP would accept the disclosure and the payment as a perfected prior disclosure and view it as a simple negligence or, what is less likely, a gross negligence violation. With such a level of culpability, the statute and the regulations prescribe a penalty of simple interest.12 The key point here is that the disclosure must be made by the importer before the commencement of an investigation by CBP or before the importer has knowledge of the investigation. Another point that is especially relevant here is that the customs statute and regulations make explicit the effect of a prior disclosure by setting forth the penalty levels associated with a perfected prior disclosure. This is unlike the provisions for making “voluntary disclosures” to other federal agencies, such as the Bureau of Industry and Security (BIS) of the Department of Commerce for export control violations, which simply provide that the self-disclosure will be accorded “great weight.”13 This higher degree of certainty imparts a much higher in the importer’s analysis and its run up to the decision whether to file a prior disclosure.Further Considerations
There are some final points to make. First, the prior disclosure mechanism, by definition, brings to CBP’s attention an importer’s violation of the customs laws. But the importer must be careful here. Just because the importer was wrong as to a matter of tariff classification, valuation or origin, for example, does not mean that the importer has violated the law. This is not a “zero tolerance” environment and the line is not drawn between the importer being right or being wrong. Instead, the line is crossed, and a violation of the law occurs, when the importer has failed to meet its “reasonable care” obligations. This is a point of paramount importance.Second, and related to the first point, the “voluntary” nature of a voluntary tender is just that. By making a payment in this manner, there may not be a charge or exaction. That means that the payment cannot mater be undone later by way of a protest.14 An importer must take great care here and not disclose as a violation some event or fact pattern that may later be determined not to be a violation at all. If there is any doubt at all, perhaps the importer should consider sending the issue to CBP Headquarters via an Internal Advice request before taking this step.
Third, the importer should be especially careful about discussing this matter with advisors where there is no confidentiality attaching. Discussions with customs brokers or with accounting firms are not privileged. The limited confidentiality under the income tax laws attaching to communications with accountants does not extend to customs law issues, where the accountants may be transacting customs business pursuant to a customhouse broker license. On the other hand, attorney/client communications are privileged.
Fourth, the importer may want to assess whether it had been misled or otherwise given erroneous information by its advisors. For example, the importer will often be in an actual conflict of interest in these matters with its customs broker, because the importer may have relied on the broker’s advice in making the entry. If that is the case, while the importer of record may argue that (1) there is no violation at all because it had shown reasonable care in seeking the advice of its broker or alternatively (2) the importer may remain primarily responsible but its seeking of advice is evidence of its compliance efforts and the importer’s effort should be given some mitigating effect.
Fifth, importers will normally recognize that the making of a prior disclosure may invite more scrutiny from CBP. The beneficial effect of a prior disclosure will only extend to the disclosed violations. As a result, this incentive to investigate the full extent of violations involves both a “drill down,” to find out both how far back the exposure goes, given the five year statute of limitations, as well as horizontally across, to include other possible violations.
If CBP were to later find other, undisclosed violations, then the full rigor of the penalty regime would be in force vis-a-vis those violations. As a result, many importers that are aware of specific violations will review all aspects of their customs process so as to include all violations in a single prior disclosure filing rather than either (1) making serial disclosures as violations are later unearthed, which will raise the importers’ profile with FP&F or (2) leave the other violations undisclosed, which will leave the importer exposed to penalties.
Sixth, if the decision has been taken to file a prior disclosure after careful deliberation, the actual composition of a prior disclosure and management of the process with CBP requires great skill. Actually more of an art rather than a science, the drafting should be such that the importer is putting forth its case in a manner that casts the most favorable light on its actions.
You should be mindful that almost anyone could look up the regulations, write a short, matter-of-fact statement, call it a “prior disclosure,” attach a check and send in the lot to CBP. There is virtually no skill in simply telling CBP that an importer violated the law. In my experience, such poor tactical draftsmanship may actually cause great harm, as it could lead to either to a higher assigned culpability level for the disclosed violation(s), with repercussions if there are later violations, or to prolonged “Tar Baby”15 contacts with CBP. The aim is to get CBP to accept the filing and then to have them wrap up the matter quickly.
The advocacy that marks virtually all well-crafted prior disclosures will demonstrate the highly technical nature of the issue and will emphasize all of the affirmative steps that had been undertaken by the importer. The submission must be made with the intention of having the FP&F officers conclude that all of the facts are disclosed. Because the importer has anticipated their follow up questions and has already included all such pertinent information in the initial submission, FP&F will (i) be able to conclude that there are no loose ends and (ii) not suspect that there are other undisclosed violations. The alternative is possibly an extended series of Tar Baby information exchanges between and among CBP, the advisor and the importer. determine that the importer has calculated the revenue loss in a conservative manner, so there is no possibility of an understatement of the loss of revenue. Seventh, and finally, the acceptance and closing out by FP&F of a prior disclosure often has the emotionally lifting effect of putting the violation in the past and wiping the slate clean for the importer. It would be a mistake to overlook or down play this effect, which echoes the initial reference to Confession.
Conclusion
An importer’s customs compliance strategies call for a system of internal controls that has been designed after careful analysis of the regulatory framework. The importer should be engaged in both ongoing and periodic reviews of its operations marked by a close scrutiny of the facts. When and if an error is discovered, the importer should determine whether it arises to the level of a violation of its “reasonable care” standard. After that determination and after the ensuing “drill down,” the importer may decide to include the filing of a prior disclosure as an element of its remedial action. I trust that the foregoing discussion may be of some use in deciding whether and how to file a prior disclosure........................................................................................................................................
1. Codified at 19 USC § 1592 (c) (4), 19 CFR § 162.74.
2. See, e.g., Neville, “CBP needs a partner: customs compliance,” 18 JOIT No. 7 (July 2007) at 16; Neville, “Customs compliance: the big picture,” 19 JOIT No. 3 (March 2008) at 20; Neville, “Customs switches principal/agent liability standard,” 20 JOIT No. 9 (September 2009) at 13.
3. This standard is set forth in 19 USC § 1484 (a). For its part in this “partnership,” U.S. Customs and Border Protection (CBP) publishes various statements of position—rulings, directives, alerts, and issue-specific “informed compliance publications—which allow the trade community a measure of “informed compliance.”
4. Note that this topic as well as the general procedures employed by the Fines, Penalties and Forfeitures (FP&F) offices of CBP in assessing customs penalties are treated at length in chapter 9 at ¶ 9.05 [1] [e] of the new trade law treatise, International Trade Laws of the United States: Statutes and Strategies, published by Thomson Reuters. You may find further information at HYPERLINK "http://ria.thomsonreuters.com/estore/detail.aspx?ID=CTITLP&SITE=/taxresearch/international" \t "_blank" http://ria.thomsonreuters.com/estore/detail.aspx?ID=CTITLP&SITE=/taxresearch/international
5. 19 USC § 1592 (a) (1).
6. 19 USC § 1592 (a) (2). Naturally, there is often an open question whether or not an act can fit within this exceptional category.
7. 19 USC § 1592 (c), 19 CFR § 162.73 (a).
8. Note that there is a further delineation of the separate penalty levels set forth, depending on whether there was a revenue loss (duties) or not. In an anomaly, the non-revenue loss penalties for negligence and gross negligence culpability, which are pegged to a percentage of the value of the imported goods, may actually be higher than for a revenue loss entry. For simplicity of this discussion, we focus only on revenue loss cases in this article.
9. 19 USC § 1592 (d). Unlike the Internal Revenue Service, which might compromise and accept a lesser amount in satisfaction of an income tax liability, there is no authority for CBP to accept any but the full amount of duties owed.
10. 19 USC § 1621.
11. See 19 USC §§ 1401a (b) and (h) (1). For an earlier discussion of dutiable assists, see Neville, “Dutiable Assists Can Lead to Dutiable Difficulties,” 18 JOIT No. 9 (September 2007) at 17.
12. 19 USC §1592 (c) (4), 19 CFR § 162.73 (b).
13. Export Administration Regulations (15 CFR Parts 730-774), EAR Part 766, Supplement No. 1, para. III (B) (1), Mitigating Factors.
14. 19 USC § 1514.
15. In the beloved Uncle Remus stories, Br’er Rabbit is trapped into making contact with a tar and turpentine doll, the Tar Baby. The more that Br'er Rabbit gets into contact with the Tar Baby, the more entangled Br’er Rabbit becomes. Wikipedia advises us that in modern American usage, "Tar Baby" refers to any "sticky situation" that is only aggravated by additional contact.
2. See, e.g., Neville, “CBP needs a partner: customs compliance,” 18 JOIT No. 7 (July 2007) at 16; Neville, “Customs compliance: the big picture,” 19 JOIT No. 3 (March 2008) at 20; Neville, “Customs switches principal/agent liability standard,” 20 JOIT No. 9 (September 2009) at 13.
3. This standard is set forth in 19 USC § 1484 (a). For its part in this “partnership,” U.S. Customs and Border Protection (CBP) publishes various statements of position—rulings, directives, alerts, and issue-specific “informed compliance publications—which allow the trade community a measure of “informed compliance.”
4. Note that this topic as well as the general procedures employed by the Fines, Penalties and Forfeitures (FP&F) offices of CBP in assessing customs penalties are treated at length in chapter 9 at ¶ 9.05 [1] [e] of the new trade law treatise, International Trade Laws of the United States: Statutes and Strategies, published by Thomson Reuters. You may find further information at HYPERLINK "http://ria.thomsonreuters.com/estore/detail.aspx?ID=CTITLP&SITE=/taxresearch/international" \t "_blank" http://ria.thomsonreuters.com/estore/detail.aspx?ID=CTITLP&SITE=/taxresearch/international
5. 19 USC § 1592 (a) (1).
6. 19 USC § 1592 (a) (2). Naturally, there is often an open question whether or not an act can fit within this exceptional category.
7. 19 USC § 1592 (c), 19 CFR § 162.73 (a).
8. Note that there is a further delineation of the separate penalty levels set forth, depending on whether there was a revenue loss (duties) or not. In an anomaly, the non-revenue loss penalties for negligence and gross negligence culpability, which are pegged to a percentage of the value of the imported goods, may actually be higher than for a revenue loss entry. For simplicity of this discussion, we focus only on revenue loss cases in this article.
9. 19 USC § 1592 (d). Unlike the Internal Revenue Service, which might compromise and accept a lesser amount in satisfaction of an income tax liability, there is no authority for CBP to accept any but the full amount of duties owed.
10. 19 USC § 1621.
11. See 19 USC §§ 1401a (b) and (h) (1). For an earlier discussion of dutiable assists, see Neville, “Dutiable Assists Can Lead to Dutiable Difficulties,” 18 JOIT No. 9 (September 2007) at 17.
12. 19 USC §1592 (c) (4), 19 CFR § 162.73 (b).
13. Export Administration Regulations (15 CFR Parts 730-774), EAR Part 766, Supplement No. 1, para. III (B) (1), Mitigating Factors.
14. 19 USC § 1514.
15. In the beloved Uncle Remus stories, Br’er Rabbit is trapped into making contact with a tar and turpentine doll, the Tar Baby. The more that Br'er Rabbit gets into contact with the Tar Baby, the more entangled Br’er Rabbit becomes. Wikipedia advises us that in modern American usage, "Tar Baby" refers to any "sticky situation" that is only aggravated by additional contact.
Mark K. Neville, Jr., LL.M. is a 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.