Tariff Engineering: Opportunities For Duty Mitigation

• Published date: 07 October 2021
• Subject Matter: Corporate/Commercial Law, International Law, Corporate and Company Law, International Trade & Investment
• Law Firm: Braumiller Law Group, PLLC
• Author: Mr Mike Smiszek

Tariffs are inherently controversial because of their financial consequences. An importer wants to pay as little duty as possible while Customs (CBP) wants to collect as much tariff revenue as possible. The one constant in this battle between industry and government is the Harmonized Tariff Schedule (HTS). Because the HTS classification assigned to an imported article or commodity determines the duty rate, the classification is the fulcrum of this financial seesaw.

A smart importer constantly looks for ways to minimize customs duties just as it would try to minimize any other cost of doing business. This proactive search for opportunities to legitimately reduce duty liability has a name: tariff engineering (or TE). Tinkering with the design, timing, content, and order of the steps in a manufacturing process describes the traditional concept of TE, which addresses questions like: How much manufacturing should be done before importation as opposed to after importation? What ingredients can we include in our witch's brew recipe, and in what quantities? What if we configure our product into a different shape or weight, or otherwise tweak its physical characteristics such that we change the essential character? How does principal use factor into our analysis (if at all)? These are the types of questions relevant to a traditional TE analysis. But since TE is a term of art that isn't limited by a statutory or regulatory definition, in this article we will expand TE to include pretty much any proactive business decision intended to legitimately reduce a duty liability. We will, for example, look at how we can tariff engineer a transaction rather than a physical product, or how TE can be used to inform significant strategic business decisions.

A company may require a lot of data and analysis before making strategic business decisions, but the impact of customs duties on those decisions is generally self-evident. For instance, it's easy to see that saving five percent on the price of a gizmo by outsourcing it from Country A may be a poor business decision if the duty rate turns out to be ten percent, but buying the same item from Country B'even without a price reduction'may be a smarter decision if the item qualifies for duty-free treatment under, let's say, a free trade agreement, or another preference program. These are the kinds of TE decisions in which a fully engaged trade compliance manager (TCM) can have a major positive impact on a company's bottom line. By making sure that his or her company accurately classifies its imported goods and that the applicable customs duties are incorporated into the supply chain "landed cost" structure, a TCM ensures that duty costs are looked at with a critical eye by the bean counters and the decision makers.

The Supreme Court established the legitimacy of tariff engineering

Tariff engineering was first deemed to be an acceptable practice in Merritt v. Welsh,¹ an 1882 decision by the Supreme Court that described how an importer can minimize duties by configuring a product so that its condition at the time of import allows it to be classified under a provision that offers a lower duty rate. In Merritt the court pondered whether it was acceptable to add molasses to sugar to satisfy a color-based tariff provision subject to a lower duty rate, ruling that "so long as no deception is practiced, so long as the goods are truly invoiced and freely and honestly exposed to the officers of customs for their examination, no fraud is committed, therefore no penalty is incurred."

Since then, the lower courts have consistently relied upon the Merritt precedent and its legacy of likeminded decisions to rule that tariff engineering a product to minimize duties is permissible, as long as all representations made to the government are accurate, transparent, and complete (to the extent required by law)'and no attempt is made to defraud the government by "artifice or deceit." An example of an illegal artifice would be the creation of an artificial product'a product that exists only as a fiction to influence the classification'like the sugar syrup at issue in the Heartland By-Products case discussed a bit later.

Two notable decisions issued in the wake of Merritt'namely Worthington v. Robbins and United States v. Citroen²'firmly established the tenet that a product is classifiable based on its condition at the time of import.³ This tenet remains crucial to modern customs administration. A sampling of the many court decisions relying on this tenet includes Carrington Co. v. United States,⁴ a 1974 TSUS-related case in which the Court of Customs and Patent Appeals (CCPA) said "it is a well-established principle that classification of an imported article must rest upon its condition as imported." In 1987's Bantam Travelware, Division of Peter's Bag Corp. v. United States⁵ the Court of International Trade (CIT) looked at whether the addition of braided material to luggage was commercially significant enough to influence the TSUS classification. CBP claimed that the braiding was an improper attempt to avoid a quota by adding material to the luggage that otherwise wouldn't have been added. Although the court's decision (in CBP's favor) was strictly classification-based, and therefore didn't offer an opinion on the importer's motive or TE per se, the court noted:

[CBP] suggests that [Bantam] began to construct certain importations with braid in an effort to avoid quota restraints, and to benefit from lower duty rates on luggage in part of braid. In this regard, [CBP] notes that the incorporation of braided materials into the subject merchandise roughly coincided with the...