DUTY DRAWBACK 101

What Is Duty Drawback?

Originally enacted in 1789 as part of the Original Tariff Act, duty drawback is the refund of duties, taxes, and fees paid on imported merchandise that is subsequently exported or destroyed.

For example: A company imports sunglasses from its factories in China into its US North America distribution facility and pays a 2.1% duty on the imported value. 70% of the frames are sold at its domestic retail stores, while 30% of the sunglass frames are exported to stores in Canada and the Caribbean. The Company is eligible for a 99% refund of the duties it paid when the imported frames are exported to Canada and the Caribbean.

Import and Export Matching

Direct Identification Method: Using lot number and serial number tracking to match an exported product with its exact importation. In the absence of lot numbers and serial number tracing, a claimant can instead utilize one of the acceptable accounting methods as a way of complying with the requirements.

Substitution Method: Instead of requiring direct tracing from import to export, the substitution method allows claimants to match “similar” merchandise within very broad time frames. The definition of “similar” products has evolved over the years with the amendment of the law. The most recent change to the law via the Trade Facilitation and Enforcement Act (TFTEA) defines like merchandise as products that fall within the same 8 digit Harmonized Tariff Schedule Number.

Note: The ability to use the substitution methods applies to both manufacturing as well as unused, but the rules vary for each.

Filing Provisions

Unused Merchandise
1313(j)(1) – Direct ID
1313(j)(2) – Substitution
Imported duty paid materials or finished exported product in essentially the same condition. This provision allows for an extensive list of incidental operations, such as testing, cleaning, and painting. Essentially any value-added process short of a manufacturer, as defined above, is allowable under unused merchandise. However, the merchandise cannot be used in the United States for its intended purpose prior to exportation.

Manufacturing
1313(a) – Direct ID
1313(b) – Substitution
Raw materials and component parts used to make a new and different article of commerce. The production process must result in a product with either a new name, character, or use.

Petrochemical
1313(p) – Substitution
Allows for the refund of duties on the export of domestically produced petrochemicals in exchange (substituted) for chemicals imported into the United States, so long as they both fall within the same 8-digit HTSUS classification.

Rejected Merchandise
1313(c)
Imported materials that do not meet specifications at the time of importation or are shipped without the consent of the consignee. The tax paid imported merchandise can be either returned to the vendor or destroyed under Customs supervision and qualify. This provision does allow for the use of the merchandise in the US. For example, imported shoes are sold at the retail and returned by the consumer due to a defect.

Types of Duty Drawback

NAFTA
Unfortunately, the NAFTA (North America Free Trade Agreement), now USMCA (United States, Mexico, Canada Agreement), was not friendly to drawback, as it placed a variety of restrictions on claimants filing on US exports to Canada and exports to Mexico. Many claimants became discouraged by the additional regulatory burden of the process and simply abandoned filing on exports to these destinations. Given that Canada represents one of the primary destinations for US exports, many claimants forfeited significant recovery.

While the NAFTA eliminated 1313(j)(2) substituted merchandise, it does allow for unused merchandise under the 1313(j)(1) direct identification approach; However, what if a claimant cannot trace an export back through inventory using a lot number or serial number? Most types of merchandise lose its identity once it entered inventory. The alternative to actual direct tracing is to use one of the accounting methods allowable under the provisions of direct identification.

While not as flexible as substitution, these methods allow a claimant to bypass the more onerous task of specifically tracing merchandise. The simplest of the accounting methods is “low to high.” Low to high requires a claimant to designate imports (choosing an import for a claim) according to the one with the lowest amount of duty on a per unit basis. If duty rates and values are relatively constant over time, most claimants will give up a slight amount of recovery in exchange for a significant reduction in the amount of administrative effort.

TFTEA
The drawback statute has been the subject of numerous amendments since 1789, the most recent of which occurred as part of the Trade Facilitation and Enforcement Act or Trade Enforcement Act of 2015 (know by its acronym of TFTEA). The TFTEA amendments took effect Feb. 24, 2018 and allowed a one-year transition period where claimants could file either under the old or the new rules. This transition period ended on February 24, 2019.

Currently, claimants can only file under the new TFTEA rules. The TFTEA changed the industry in certain key areas:

• Liberalized the substitution standards
• Changed record keeping time parameters
• Extended and standardized timelines for filing claims so that a company can claim on import activity up to 5 years old, as long as they took place before the date of export
• Made the electronic filing of claims a requirement

Third Party
The regulations (found in 19 CFR 190) allow for the transfer of claimant rights when the importer and exporter of record are not the same company.

Example: Company A imports orange juice from Brazil and pays the duty to Customs before selling the juice. While either entity can submit the claim to Customs, (referred to as the drawback claimant) the regulations grant the exporter the first right to submit the claim to Customs and Border Protection (CBP).

Specifically, the importer can transfer the duty paid imports to the exporter with any record that provides the necessary data elements for the exporter to prepare and submit a claim for duty refund. Required fields and data elements include the Customs Entry Number, the date of importation, duty paid, and HTS number, among others.

Conversely, if the importer wants to retain the claimant rights, and thus control the preparation and submission of the claim, the importer needs to secure a waiver of drawback rights from the exporter. Additionally, the importer should also establish a procedure that provides them with a copy of the export bill of lading and commercial invoice for each export transaction included in the entry. Both the importer and the part who completed the exportation or destruction must cooperate in order to compliantly submit a claim.

Petrochemical
(19 USC 1313P): A commodity specific provision for petroleum products or derivatives was added to the law in 1990. The statute was subsequently amended again in 1999 to further liberalize substitution rules for claiming refunds on products deemed “qualified articles” under 19 USC 1313(p). Notably, subsection (p) allows for drawback on the export of domestically produced petrochemicals in exchange (substituted) for imported chemicals, so long as they both fall within the same 8-digit HTSUS classification.

For example, a company imports a duty-paid PVC compound classified under 3904.22.0000 in the tariff schedule. It also procures domestically produced PVC compounds from a US supplier. The domestic PVC compounds, if theoretically imported, would fall under the same 8-digit classification. The company then exports the domestically produced compounds to an oversees customer and uses these exports to secure a refund on the duty assessed on the imported chemicals.

Section 301 Refunds

Under Section 301 of the Trade Act of 1974, the US Trade Representative’s Office, under the direction of the Trump Administration, initiated an investigation to determine whether China’s acts, policies, and practices related to technology transfer, intellectual property, and innovation are unreasonable, unjustifiable, or discriminatory and burden or restrict U.S. commerce. The resulting Section 301 action places a 25% punitive duty on approximately $250 billion collected upon the importation of goods from China.

Operationally, filing on duties levied under Section 301 is no different than filing on the regular rate of duty. The same laws and regulatory structure applies. A company should first assess its drawback recovery potential on both Section 301 as well as regular duties.

  1. The first step in the assessment process is to establish a Customs ACE (Automated Commercial Environment) account in order to access automated import data and generate reporting.
  2. A “look up” function can then be used to assign a 25% rate of duty to the HTS numbers on list 1 and 2 and 10% for HTS numbers on proposed list 3 in order to estimate the increase in Customs duties due to Section 310 tariffs.
  3. Next, pull export data for the same time period (TFTEA allows for 5 years from the date of importation) from your Enterprise Resources Planning software.
  4. The last step in the process requires drawback specific software to run preliminary “test” claims to ascertain total potential recovery for “internal” drawback based on a company’s own import and export activity.
Duty Drawback Diagram
Duty Drawback Diagram