DRA-1-06/DRA-2-02/DRA-4-RR:IT:EC 227272 PH
Ms. Jean M. Kidd
Duty Drawback Service
38345 Ten Mile Road, Suite 230
Farmington Hills, Michigan 48335
RE: NAFTA Implementation Act; Same Condition Drawback; Unused
Merchandise Drawback; Accounting Procedures; Average Method;
19 U.S.C. 1313(j); 19 U.S.C. 3333; 19 CFR 181.45(b)(2); 19
CFR Part 181, Appendix, Schedule X
Dear Ms. Kidd:
In your letter of October 7, 1996, on behalf of R. G. Barry
Corporation, you request a ruling on the use of an inventory
method, which you describe as an "Average Method", for drawback
under 19 U.S.C. 1313(j)(1) on shipments of slippers and various
footwear to Canada or Mexico. You enclosed a pair of slippers as
a sample. We have no need of a sample for our analysis of this
matter. Therefore, unless we hear from you to the contrary
within 30 days of the date of this ruling, we are destroying the
sample.
Our ruling follows.
FACTS:
You state that your client in this matter imports slippers and
various footwear from Mexico, and exports the merchandise to
Canada, Mexico, and overseas, and that all of the merchandise
currently qualifies as originating in Mexico under NAFTA Rules of
Origin. For export shipments as of January 1, 1994, to Canada
and Mexico, you propose to claim drawback under 19 U.S.C.
1313(j)(1), using "... the inventory management systems as
provided for in ... Schedule X, Part II, Section 11(d), average
method [i.e., Appendix to 19 CFR Part 181, Schedule X]."
You provide sample documents to show how the inventory method you
propose would work in practice. You describe the inventory
method you propose to use as follows:
1. We will divide the quantity of imported duty paid goods
by style number, size and color received into inventory over
a three month period preceding the month of [export] by the
total of goods by style number, size and color received into
inventory over the same three month period preceding the
month of export.
...
... Should we purchase any U.S. (domestic) or duty free
commercially interchangeable product from other sources our
factor will change accordingly.
2. The drawback amount claimed will be the lowest per unit
(pair) dutiable value received into inventory for a
particular style number and size within the above referenced
three month period. This lowest dutiable value will be
applied to the total qualified quantity exported of the
applicable style number and size. We will always claim the
lowest dutiable value within the three month period per
style number, size and color.
3. As some of our product line may be seasonal, the entries
on our claim will be identified in chronological sequence at
the beginning of the six month period immediately preceding
the period of export until the total qualified quantity as
calculated in number 1 above, is accounted for.
ISSUE:
May the "average" inventory method described in this ruling be
used for 19 U.S.C. 1313(j) drawback claims based on shipments to
Canada or Mexico?
LAW AND ANALYSIS:
Under 19 U.S.C. 1313(j)(1), drawback is authorized if imported
merchandise on which was paid any duty, tax, or fee imposed under
Federal law because of its importation is, within 3 years of the
date of importation, exported or destroyed under Customs
supervision and was not used in the United States before such
exportation or destruction. Substitution of commercially
interchangeable merchandise, subject to certain conditions, is
authorized under 19 U.S.C. 1313(j)(2) but, as explained below,
such substitution is unavailable in this case.
Under 19 U.S.C. 1313(j)(4):
Effective upon the entry into force of the [NAFTA], the
exportation to a NAFTA country ... of merchandise that is
fungible with and substituted for imported merchandise,
other than merchandise described in paragraphs (1) through
(8) of section 3333 of this title, shall not constitute an
exportation for purposes of [section 1313(j)(2)].
Under 19 U.S.C. 3333(a)(2)(B):
[E]xcept for a good referred to in paragraph 12 of section A
of Annex 703.2 of the Agreement that is exported to Mexico
[regarding certain agricultural goods], if a good described
in the first sentence of this paragraph [i.e., exported to a
NAFTA country in the same condition as imported into the
United States] is commingled with fungible goods and
exported in the same condition, the origin of the good may
be determined on the basis of the inventory methods provided
for in the regulations implementing this title.
The Customs Regulations implementing the NAFTA Implementation Act
are found in 19 CFR Part 181. Subpart E of Part 181 contains the
regulations providing restrictions on drawback and duty-deferral
programs. According to section 181.41, "[e]xcept in the case of
181.42(d), the provisions of this subpart apply to goods which
are imported into the United States and then subsequently
exported from the United States to Canada on or after January 1,
1996, or to Mexico on or after January 1, 2001" (see also the
comment and response on this provision in Treasury Decision
(T.D.) 95-68, the Final Rule promulgating Part 181, in which
"Customs agree[d] that the subpart covers all exports to Canada
or Mexico ..."). Section 181.42(d) implements 19 U.S.C.
1313(j)(4), and provides that "... [t]here shall be no payment of
[unused merchandise substitution drawback] under 19 U.S.C.
1313(j)(2) on goods exported to Canada or Mexico on or after
January 1, 1994." Section 181.45 provides for goods eligible for
full drawback (i.e., not subject to the calculations for NAFTA
drawback (see 19 CFR 181.44)), including (under subsection (b)),
"[a] good imported into the United States and subsequently
exported to Canada or Mexico in the same condition ...." Under
section 181.45(b)(2), "[c]ommingling of fungible goods [with an
exception for certain agricultural goods] in inventory, such as
parts, is permissible (see 191.141(e) of this chapter),
provided that the entries for designation for same condition
drawback are identified on the basis of an approved inventory
method set forth in the appendix to this part."
It is clear from the above provisions that, with the exceptions
specifically provided for in 19 U.S.C. 3333(a)(1) through (8)
(e.g., citrus products exported to Canada), substitution drawback
under 19 U.S.C. 1313(j)(2) no longer exists for shipments to
Canada or Mexico of merchandise imported into the United States.
That is, the only statutory provision providing for such
substitution before enactment of the NAFTA Implementation Act was
19 U.S.C. 1313(j)(2). Since 19 U.S.C. 1313(j)(4), enacted by
section 203(c) of that Act, now provides, basically, that
shipments of fungible merchandise substituted for imported
merchandise shall not constitute an exportation for purposes of
section 1313(j)(2), there is now no provision permitting
substitution for section 1313(j) drawback on shipments to Canada.
See House Report (Ways & Means Committee) No. 103-161(I), pp. 39-40, 103d Cong., 1st Sess. (1993) (reprinted at 1993 U.S.C.C.A.N.
2552, 2589-2590), in which it is stated:
Subsection (c) [of section 203 of the NAFTA Implementation
Act] eliminates, effective upon entry into force of the
Agreement, "same condition substitution drawback" by
amending [19 U.S.C. 1313(j)(2)], thereby eliminating the
right to a refund on the duties paid on a dutiable good upon
shipment to Canada or Mexico of a substitute good, except
for goods described in paragraphs one through eight of
section 203(a) [of the NAFTA Implementation Act].
It is just as clear from the foregoing provisions that, with the
specific exceptions provided in 19 U.S.C. 3333(a)(1) through (8)
(see above), when fungible goods are commingled in inventory, the
only way that entries for designation for same condition drawback
on shipments to Canada or Mexico may be identified is with the
use of an inventory method approved in the appendix to 19 CFR
Part 181, effective January 1, 1996, for exports to Canada and
January 1, 2001 for exports to Mexico. This is explicitly
provided by the regulations implementing the applicable statutory
provisions (see 19 CFR 181.45(b)(2), quoted above). Furthermore,
in T.D. 95-68, the Final rule promulgating Part 181, it is stated
about this issue: "[i]n order to avail oneself of full drawback
under direct identification, the Agreement and implementing
legislation permit identification of the exported good as the
imported good by means of a recordkeeping system only if the
goods are fungible and commingled."
Thus, to be eligible for identification by means of a
recordkeeping system for purposes of drawback under 19 U.S.C.
1313(j)(1), the merchandise to be identified must be commingled
and fungible. "Commingle" is defined as "to mix or mingle
together; combine" in The Random House Dictionary of the English
Language, (1973), p. 296 (see also, Webster's New World
Dictionary, Third College Edition (1988), p. 280). Fungible
merchandise is defined, for drawback purposes, as "merchandise
which for commercial purposes is identical and interchangeable in
all situations" (19 CFR 191.2(l); see also Guess? Inc. v. United
States, 14 CIT 770, 752 F. Supp. 463 (1990), vacated and
remanded, 9 Fed. Cir. (T) 111, 944 F. 2d 855 (1991), each of
which approved Customs definition of fungibility (14 CIT at 773,
9 Fed. Cir. (T) at 112, 113)). Because, as the following
analysis demonstrates, the inventory method you propose clearly
does not meet the regulatory requirements, we do not need to rule
on whether the merchandise in this matter is commingled and
fungible. However, we emphasize (in view of the possible
misunderstanding of the requirements for fungibility, as
illustrated by your statement that "[if] we purchase any U.S.
(domestic) or duty free commercially interchangeable product from
other sources our factor will change accordingly" (emphasis
added)) that fungibility (and not commercial interchangeability)
is required for use of one of the recordkeeping requirements
provided for in 19 CFR 181.45(b)(2) and that the standards for
fungibility and commercial interchangeability (see 19 U.S.C.
1313(j)(2)) are different. (See legislative history for the
amendments to 19 U.S.C. 1313 made by the NAFTA Implementation
Act, House Report 103-361, 103d Cong., 1st Sess. (1993), Part I,
page 131, and Senate Report 103-189, 103d Cong., 1st Sess.
(1993), page 83; compare the definition in 19 CFR 191.2(l)
(above), with the Congressional statement of intent regarding
Customs determination of whether merchandise is commercially
interchangeable.)
As stated above, 19 CFR 181.45(b)(2) permits commingling of
fungible goods, "provided that the entries for designation for
same condition drawback are identified on the basis of an
approved inventory method set forth in the appendix to [Part
181]". Therefore, we have no choice but to require that the
entries for designation for such drawback (based on exports to
Canada on or after January 1, 1996, and exports to Mexico on or
after January 1, 2001) be identified on the basis of an approved
inventory method set forth in that appendix. The only inventory
methods set forth in the Appendix to Part 181 are those in
Schedule X of the Appendix, i.e., the specific identification
method, FIFO method, LIFO method, and average method (Part II,
"Fungible Goods," of Schedule X of the Appendix would be
applicable in this case (see definition of "material" in Part I,
Section 2, Appendix to Part 181)). In this regard, we note that
the use of another inventory method was proposed in the comments
on the interim NAFTA regulations, published as T.D. 94-1, and
that in the comments and response section of T.D. 95-68, the
Final Rule promulgating Part 181, Customs clearly disagreed with
the use of other inventory methods (the commenter specifically
referred to the "lower to higher" method), stating "Customs
disagrees with these comments to the extent that they propose an
expansion of the allowable methods for determining which
commingled goods are eligible for full drawback under
181.45(b)."
The "average method" provided for in the Appendix to Part 181,
Schedule X, Part II, section 14, is as follows:
(1) Where the exporter or person [see section 12 of Schedule
X] chooses the average method, the origin of each shipment
of fungible goods withdrawn from finished goods inventory
during a month or three-month period, at the choice of the
exporter or person, is determined on the basis of the ratio
of originating goods and non-originating goods in finished
goods inventory for the preceding one-month or three-month
period that is calculated by dividing
(a) the sum of
(i) the total units of originating goods or non-originating goods that are fungible goods and that
were in finished goods inventory at the beginning of
the preceding one-month or three-month period, and
(ii) the total units of originating goods or non-originating goods that are fungible goods and that
were received in finished goods inventory during that
preceding one-month or three-month period,
by
(b) the sum of
(i) the total units of originating goods and non-originating goods that are fungible goods and that
were in finished goods inventory at the beginning of
the preceding one-month or three-month period, and
(ii) the total units of originating goods and non-originating goods that are fungible goods and that
were received in finished goods inventory during that
preceding one-month or three-month period.
(2) The calculation with respect to a preceding month or
three-month period under subsection (1) is applied to the
fungible goods remaining in finished goods inventory at the
end of the preceding month or three-month period.
To summarize, under this method, the sum of the total units of
originating and non-originating goods in the inventory at the
beginning of the preceding 1 or 3-month period and received into
the inventory during that period is divided into the sum of the
total units of originating or non-originating goods in the
inventory at the beginning of the preceding 1 or 3-month period
and received into the inventory during that period. The
resulting ratio is used to identify the origin of each shipment
during the period (i.e., the period following the period from
which the ratio was derived) and to calculate the ratio of
originating to non-originating goods in inventory at the end of
the period from which the ratio was derived.
Under 19 CFR 181.45(b)(2), the inventory method is required to be
used to identify the entries for designation and the above method
identifies originating versus non-originating goods.
Determination of originating or non-originating status by itself
does not identify the drawback available per unit of merchandise
in an inventory (e.g., the inventory could contain originating
merchandise and non-originating merchandise, among which could be
HTSUS column 2 merchandise, HTSUS column 1 merchandise, duty-free
merchandise (such as GSP merchandise or U.S.- Israel Free Trade
Area merchandise), and dutiable merchandise with different
amounts of duty per unit). Since each receipt into and
withdrawal from inventory could have a different drawback
attributability, an "average method" consistent with that in the
Appendix to Part 181, Schedule X, Part II, section 14 which is
used to identify entries for designation for drawback purposes
requires the calculation of a ratio of the drawback attributable
per unit for all units in the inventory to the drawback
attributable per unit for each receipt into inventory in the
period. Exports and all other withdrawals must be attributable
to each receipt into inventory, on the basis of that ratio, and
each receipt must be correspondingly reduced, so that the goods
in finished inventory at the end of the period are consistent
with the above ratio.
The method you propose does not meet the requirements in Schedule
X of the Appendix to 19 CFR Part 181 for the following reasons.
(1) Although, assuming that the merchandise involved is
actually commingled in inventory and that it is fungible
(see above), the part of the proposed method used to
establish a ratio of imported duty-paid goods in inventory
to the total inventory is generally consistent with the
first step of the methodology in section 14 of Schedule X,
no method of dealing with opening inventory is provided (see
section 15 of Schedule X).
(2) The exhibits enclosed with your letter, stated to
provide examples of "how [you] will determine the quantity
of the goods exported available to claim", show only average
value per shipment and ratio of non-originating to
originating goods when all goods are non-originating. To be
of any value at all in demonstrating the proposed method,
the exhibits should show how drawback will be determined and
how entries, and remaining inventory, will be designated or
identified and, since you indicate that domestic product may
in the future be placed in the inventory, the exhibits
should show these calculations when not all of the goods are
drawback-qualifying (see, e.g., the discussion in Example 3,
following the table, in Addendum B of Schedule X, Appendix,
19 CFR Part 181).
(3) The drawback amount to be claimed would be based on the
lowest value per unit, and this lowest dutiable value would
be applied to the total qualified quantity of units
exported. This method (basically "low-to-high", based on
value, for the period, rather than the "average method") is
not one of the methods authorized by 19 CFR 181.45(b)(2) and
Schedule X of the Appendix to Part 181.
(4) Import entries of merchandise would be designated in
chronological sequence at the beginning of the 6-month
period immediately preceding the period of export until the
total qualified quantity was accounted for. This procedure
(basically designating import entries on a FIFO basis from
the 6-month period preceding the 3-month period in which
value per unit was determined) is not authorized by 19 CFR
181.45(b)(2) and Schedule X of the Appendix to Part 181.
Further, this method could result in values being claimed
for import entries for drawback purposes that are different
from the dutiable values (see T.D. 95-61, discussed below,
in this regard; see also 26 U.S.C. 1059A).
As stated above, the provision in 19 CFR 181.45(b)(2) regarding
the use of the inventory methods in the Appendix to 19 CFR Part
191 for same condition drawback purposes is effective January 1,
1996, for exports to Canada and January 1, 2001, for exports to
Mexico. The inventory methods which may be used to identify
merchandise for same condition drawback purposes for shipments to
Canada or Mexico in the period between January 1, 1994, and these
dates are the inventory or accounting records authorized by
Customs to be used to identify merchandise or articles for
general drawback purposes. That is, under 19 CFR 191.22(c):
Manufacturers, producers, or claimants may identify for
drawback purposes commingled lots of fungible merchandise
and commingled lots of fungible products by applying first-in-first-out (FIFO) accounting principles or any other
accounting procedure approved by Customs.
In regard to "other accounting procedure[s] approved by Customs"
for general drawback purposes, in T.D. 95-61 (published in the
Federal Register of August 11, 1995 (60 FR 40995)) Customs set
forth its position in regard to approval of such procedures.
That position is:
... [U]nless substitution is specifically provided for in
the law, accounting methods used to identify merchandise or
articles for drawback purposes must be revenue neutral or
favorable to the Government. Other criteria for evaluating
such accounting methods include consistency with commercial
accounting procedures, consistency with the accounting
procedures generally used by the drawback claimant, and ease
of administration. [60 FR 40996]
The inventory method you propose fails to meet the above
criteria. It is not consistent with commercial accounting
procedures, in that all withdrawals from inventory would not
accounted for (see, e.g., Miller's Comprehensive GAAP Guide
(1985), particularly pages 24.05 through 24.23)). It does not
appear to be consistent with the accounting procedures generally
used by the drawback claimant (e.g., as stated above, the
proposed method could result in values being claimed for import
entries for drawback purposes which are different from the
dutiable values). The proposed method certainly does not meet
the criterion of ease of administration, as it appears to apply
both the "low-to-high" method (in regard to value) and "FIFO"
method (to designate entries) over different time periods of
different lengths. Thus, the proposed method may not be approved
under the criteria stated in T.D. 95-61.
Accounting procedures approved for drawback purposes prior to
T.D. 95-61 are described in the Notice of Proposed Change of
Position; solicitation of comments (published in the Federal
Register of June 28, 1994 (59 FR 33322)). We are aware of no
approval of a method such as that proposed prior to promulgation
of the NAFTA regulations and 19 CFR 181.45(b)(2) and Schedule X
of the Appendix to Part 181 (we are not even aware of approval of
an "average" method, see, e.g., Customs Service Decision (C.S.D.)
89-20).
HOLDINGS:
(1) The "average" inventory method proposed by the ruling
requester and described in the FACTS portion of this ruling may
NOT be used for 19 U.S.C. 1313(j)(1) drawback claims based on
shipments to Canada or Mexico on or after January 1, 1996, for
exports to Canada, and January 1, 2001, for exports to Mexico,
because the described inventory method is not one of the
inventory methods provided for in 19 CFR 181.45(b)(2) and the
appendix to 19 CFR Part 181.
(2) The "average" inventory method proposed by the ruling
requester and described in the FACTS portion of this ruling may
NOT be used for 19 U.S.C. 1313(j)(1) drawback claims based on
shipments to Canada or Mexico between January 1, 1994, and the
above dates because the described inventory method does not meet
the criteria in T.D. 95-61 for approval of such inventory methods
and such a method was not approved prior to the effective date of
T.D. 95-61.
[This ruling does not address whether the merchandise involved is
fungible and actually commingled (conditions precedent to the use
of an approved inventory method to identify merchandise in the
inventory for same condition drawback purposes; see 19 CFR
181.45(b)(2)(i)), since the ruling holds that the proposed
inventory method may not be used as proposed.]
Sincerely,
Director, International
Trade Compliance Division