The 66th Annual Report of the Foreign-Trade Zones Board to the Congress of the United States, published in December of 2005, shows the continued growth of the U.S. Foreign-Trade Zones program, especially in the manufacturing sector. The Report shows that the total value of shipments received at general-purpose zone and subzone facilities exceeded $300 billion, an increase of more than $50 billion from the previous year.
To the casual observer, this increase may seem paradoxical in light of the fact that the proliferation of free trade agreements would seem to reduce the costs of Customs duties that form the basis of Zone-related savings opportunities. However, when one digs a little deeper into some of the benefits that are offered by the use of U.S. Foreign-Trade Zone procedures – especially in light of today’s changing trade environment – the program’s continued growth comes as no surprise.
U.S. Foreign-Trade Zones save U.S.-based companies money in some ways that are different than so-called “Free Trade Zones” in other countries. In a number of “Free Trade Zones” the sole benefit is the avoidance of internal customs duties on products that are re-exported from the Zone. In a number of instances U.S. Foreign-Trade Zones enable companies to reduce or eliminate duties on products produced for domestic consumption. This “tariff rate rationalization” benefit is a key distinction between the U.S. Foreign-Trade Zones program and many other free zone or customs duty regimes. The Zones program provides tariff rate rationalization by eliminating so-called “inverted tariff” relationships. An inverted tariff relationship exists when the duty rate for an imported component or raw material is higher than that which would apply to an import of the finished product into which the component or raw material is incorporated.
For example, prior to implementation of the Uruguay Round tariff reductions, which commenced in 1995, domestic manufacturers of capacitors (a key component of many electronic devices) enjoyed a 10% rate of tariff protection versus capacitors produced overseas. Etched capacitor foil – a key component – could be imported at duty rate of 5.3%. The U.S. tariff structure of the day was biased in favor of manufacturing capacitors in the United States because the duty rate on the imported component (foil) was lower than the duty rate that would apply to the import of the manufactured product (capacitors). However, the Information Technology Agreement – which was implemented as part of the Uruguay Round regime – has made a dramatic change the tariff structure under which the U.S.-based capacitor manufacturer now operates. Under today’s U.S. tariff structure, foreign capacitors may be imported into the United States at a “free” rate of duty, while imported etched capacitor foil remains dutiable at a rate of 5.3%. The relative duty rates between capacitors and capacitor foil have become “inverted.”
For the U.S.-based manufacturer of capacitors there are only two solutions: Move the manufacturing operation offshore; or, obtain U.S. Foreign-Trade Zone status. For the capacitor manufacturer operating under Zone procedures, imported etched capacitor foil may be brought into its Foreign-Trade Zone facility without paying Customs duty. The foil may then used in the manufacture of capacitors. The capacitors may then leave the FTZ production facility and be entered into the U.S. commerce at the same tariff rate that would apply to them as if they had been manufactured overseas – that is, “Free.” This tariff rationalization feature of the U.S. Foreign-Trade Zones program enables the U.S.-based capacitor manufacturer to maintain the cost-of-production structure it needs in order to compete with its overseas counterparts, which, in some cases, may even be its own multinational sister plants. The key difference between U.S. Foreign-Trade Zone benefits and those offered by so-called “Free Trade Zones” in many other countries is that, in the case of the U.S.-based capacitor manufacturer, its effective duty rate on imported components is reduced to zero even if all of its production is for the domestic market.
For U.S.-based producers of finished products that are not subject to irrational duty rate relationships, a number of other benefits may be obtained. A short list follows:
Duty Exemption on Re-exports
When not utilizing a Zone, an importer is required to pay Customs duties at the time the imported merchandise enters U.S. commerce. For purposes of duty payment, merchandise in a Foreign-Trade Zone is considered to be outside the U.S. Customs territory. When foreign merchandise is brought into a Foreign-Trade Zone, no Customs duty is owed while the merchandise remains in the Zone. If the foreign merchandise is exported from the U.S., no Customs duty is ever due.
Cash Flow (Duty Deferral)
No duty payment is required on merchandise brought into a Foreign-Trade Zone unless and until the goods are imported (entered) into the United States. This allows these funds to be used as working capital to earn interest or be invested.
No Duty on Value Added
No duty is assessed on domestic parts or materials, OR on domestic labor, overhead, or profit.
A vendor located at one Foreign-Trade Zone may sell goods to a company in another Zone or subzone anywhere in the U.S. and transfer those goods to the purchasing company’s FTZ with no duty paid on the goods.
Damaged or Nonconforming Items
No duty payment is required if merchandise is not entered into the United States. If merchandise is defective or damaged; no duty payment is owed while it is being tested, repaired, or stored in the FTZ. (The actual importation does not occur until the merchandise leaves the Zone and enters the commerce of the United States). Merchandise may be altered, repackaged, and/or relabeled to meet various U.S. requirements. Zones are occasionally used for the purpose of properly marking the Country of Origin on goods prior to their entry into the United States.
Government and Military Sales
In a number of cases that do not involve Foreign-Trade Zones, sales of foreign merchandise may be entered into the United States duty free if the vendor has a government contract in place at the time the product is entered for U.S. consumption. Often, domestic manufacturers of products that may be destined for both commercial and military customers may not know which imported components may be incorporated into commercial versus military finished products until those components are actually used in the manufacturing process. If the manufacturer is in a Zone environment, it avoids paying duty on components incorporated into goods sold to government or military customers.
Zone Use Involves a Broad Spectrum of Manufacturers
Use of the U.S. Foreign-Trade Zones program has been approved for a wide variety of manufacturing industries. Product lines include: electronics, computers, video and telecommunications equipment, plastics, food products, power tools and lawn care products, electronic business equipment, industrial and agricultural machinery, construction equipment, large and small appliances, climate control equipment, medical equipment, chemicals and petrochemicals, automobiles and auto parts, pharmaceuticals, ships, and sporting goods.
In a number of cases, Zone status contributes a significant part of the answer to the question, “How do we keep our factory doors open?” The bottom line for the U.S. Foreign-Trade Zones program is that it enables U.S.-based businesses to enhance their bottom line, and, more importantly, maintain their value-added economic activity here in the United States.