The key findings of the report are as follows: (1) notwithstanding some noticeable impact of the USMCA on the U.S. economy and U.S. competitiveness, it is too early to understand the full extent of the effect of the agreement; (2) the automotive ROOs appear to have increased costs as well as the U.S. share of USMCA production; (3) there is a sharp increase in investment in electric vehicles (EVs) and the industry shift to EV production will likely require changes to, or the continued monitoring of, the USMCA automotive ROOs to ensure they remain relevant; and (4) additional technological changes may also impact the relevancy of the USMCA automotive ROOs.

Background

The USMCA entered into force on July 1, 2020, and replaced the North American Free Trade Agreement (NAFTA). Over the past three years, the agreement has presented some opportunities and challenges for the United States and its main trading partners. Some of the biggest challenges pertain to the treatment of automotive goods under the agreement.

Under the USMCA, an originating good is one that meets the rules of origin set forth in General Note 11 of the Harmonized Tariff Schedule of the United States (HTSUS) and all other requirements of the agreement. An additional set of rules applies to automotive goods (specifically, passenger motor vehicles, light and heavy trucks, and certain automotive parts). Specifically, automotive goods must meet four additional ROOs: (1) regional value content (RVC) requirements; (2) North American steel and aluminum procurement requirements; (3) labor value content requirements; and (4) core parts requirements.

Pursuant to section 202A(g)(2) of the USMCA Implementation Act, the ITC is required to provide five biennial reports to the President, the House Committee on Ways and Means, and the Senate Committee on Finance, regarding (1) the economic impact of the automotive ROOs; (2) the operation of the automotive ROOs and their effects on the competitiveness of the United States; (3) whether the automotive ROOs are relevant in light of technological changes in the United States; and (4) any other matters the ITC considers relevant to the economic impact of the rules.

This is the first of five biennial reports on the economic impact of the USMCA automotive ROOs. The next report, due in 2025, has the same reporting requirements but will present updated data and information about the industries through December 31, 2024. Each subsequent report will report on the same topics and two new years of data and information.

ITC Findings

Economic Impact of the USMCA Automotive ROOs and Their Effects on U.S. Competitiveness

While the full impact of the USMCA will not be apparent until the agreement is fully implemented, in 2027 or later, the ITC has found that the economy-wide effects of the ROOs were marginal in the first two and a half years after the USMCA entered into force. According to the report, vehicle manufacturers and suppliers explain that the ROOs have increased costs at multiple stages of the supply chain, but that they have also increased the U.S. share of USMCA vehicle and parts production. The COVID-19 pandemic and global supply chain disruptions had a major impact on U.S. automotive production and trade. Consequently, there is no clear picture of the effect of the USMCA’s entry into force on U.S. competitiveness.

One potential indication of increased U.S. competitiveness is that the United States’ share of USMCA light vehicle production, as well as light vehicle and parts exports as a share of global exports, increased slightly after the agreement’s entry into force. U.S. light vehicle production as a share of USMCA production increased from 64.8 percent in 2018 to 68.1 percent in 2022. U.S. light vehicle exports as a share of global light vehicle exports increased from 6.6 percent in 2018 to 7.7 percent in 2022. U.S. automotive parts exports as a share of global parts exports also increased from 8.1 percent of global exports in 2018 to 8.4 percent in 2022.

Employment and investment data also indicate some changes in competitiveness. Investments in Canada and the United States have reportedly increased sharply, with most of the new investments going into EVs and EV batteries. The surge in investment in EVs is thought be in response to an increase in consumer demand, therefore, the extent to which these changes can be attributed to the ROOs remains unclear.

Technological Changes Impacting the Relevance of the USMCA Automotive ROOs

Because the agreement is in its early years of implementation, the overall impact of any technological changes is limited. According to the report, two recent technological changes in the U.S. automotive industry have created divergences in the tariff treatment of similar goods in the USMCA automotive ROOs. The first change pertains to the growth in production of electric and hybrid pickup trucks. Currently, the USMCA automotive ROOs do not categorize EV and hybrid pickup trucks as light trucks. Unlike other trucks, EV and hybrid pickup trucks are classified under HTSUS subheading 8704.90, which covers all trucks not classified elsewhere in heading 8704. Vehicles under 8704.90 are categorized as “heavy trucks” under the USMCA automotive ROOs. This difference in classification means that a different set of product-specific ROOs applies to EV and hybrid trucks. Until recently, sales of EV and hybrid trucks were really low or nonexistent. However, the increasing demand for EV and hybrid trucks means that the disparate treatment of these vehicles will have important practical implications. The report addresses several other instances of classification divergence that do not result in different tariff treatment for similar goods to demonstrate where Harmonized System (HS) classifications have changed since the USMCA entered into force.

The second technological change involves a new production process for aluminum vehicle bodies. Currently, the USMCA automotive ROOs do not allow for cast aluminum bodies to qualify as originating via the same product-specific ROOs as stamped aluminum bodies. The difference in treatment between stamped and cast aluminum body parts is due to the tariff shift rules for aluminum components. Under the USMCA, non-originating aluminum may be considered originating if the aluminum is subjected to a manufacturing process in a USMCA country that results in certain tariff shifts. For example, an aluminum product, such as an ingot, may be deemed originating if it is subjected to a manufacturing process such that it transforms into another intermediary aluminum product (classified under a different HS heading from the original product). However, the process of casting aluminum products, unlike the stamping process, does not produce an intermediary aluminum product. This allows for stamped body parts to qualify as originating more easily than cast body parts.

In addition to tariff classifications, the report addresses input from various stakeholders on proposed changes to the automotive ROOs. According to the report, some stakeholders believe that the industry-wide shift to EVs and hybrid vehicles merits changes to, or the continued monitoring of, the USMCA automotive ROOs to ensure that they remain relevant. Some stakeholders have proposed additions to the ROOs parts lists that they believe would better account for the increasing share of EVs in the U.S. market. The International Union, United Automobile, and Aerospace and Agricultural Implement Workers of America (UAW) have proposed adding EV components and EV battery components to the core parts list of the USMCA automotive ROOs. The list proposed by the UAW includes automotive-grade semiconductors, electric motors and electric drivetrains, non-lithium-ion batteries, charge ports and charging stations, various battery components (cathodes, anodes, separators, casings), and various critical minerals (cobalt, nickel, manganese, graphite, silicone). Other stakeholders stated that EV technologies are already addressed by the ROOs and that because the technology is still evolving and industry investments and changes are ongoing, any proposed changes are premature.

Finally, the report addresses additional ongoing technological changes in the U.S. automotive industry that may impact the relevancy of the USMCA automotive ROOs. One such change is with respect to the increasing value of nontraditional automotive inputs relative to the value of the final vehicle and how this might impact the RVC calculations for the larger vehicle components being produced with a growing share of nontraditional parts. The value of nontraditional automotive inputs (i.e., semiconductors and sensors) is rising both in an absolute sense as well as relative to traditional automotive inputs. Some in the automotive industry believe the rising value of nontraditional automotive inputs merits changes to the ROOs because electronic components typically originate from Asia. One industry proposal addressing this issue involves adding certain electronic components, such as automotive-grade semiconductors and sensors, to the USMCA automotive core parts list to incentivize USMCA-originating electronic supply chains. Core parts must satisfy the higher 75 percent originating content requirement to qualify for preferential treatment.

Another technological change relates to the lack of recycling-specific automotive ROOs. According to the report, the “current treatment of recycled battery materials under the USMCA automotive ROOs may pose challenges to emerging supply chains because of a lack of recycling-specific provisions in the ROOs.” Currently, for example, the determination of whether a battery made using recycled materials qualifies as originating under the USMCA relies on the same ROOs applied to the original battery, i.e., whether the recycled cells were created within the USMCA region.

Tags: ITC, Rules of Origin, USMCA

The Inflation Reduction Act of 2022 (“IRA”) overhauled a tax credit for purchasing EVs and introduced certain sourcing requirements for EV components. The goal of the IRA is to encourage companies to develop new supply chains for critical minerals such as lithium, graphite, cobalt, and nickel outside of China. Currently, the majority of lithium is produced in China, Australia, and Chile. China is also the world’s largest producer of graphite.

Under the IRA, consumers can get a tax credit of up to $7,500 for qualifying vehicles. In order to qualify, a certain percentage of the EV battery needs to be built in North America, and much of the critical minerals in a vehicle’s battery must be sourced from the United States or a country that has a “free trade agreement” with the United States.

Because the United States does not have traditional free trade agreements with many of its allies, including Japan, the European Union, and the United Kingdom, the Biden Administration is pursuing limited trade deals such as the one signed with Japan. Among other things, the United States and Japan have agreed not to levy export duties on critical minerals and to coordinate labor standards in producing minerals. The United States is currently negotiating similar agreements with the European Union and the United Kingdom.

Efforts to reach these deals with U.S. allies has raised the question of whether such narrow agreements will meet the definition of “free trade agreement” under the IRA. While the provision of the IRA that requires vehicles to be assembled in North America went into effect immediately when the IRA was signed in August 2022, the battery sourcing provisions were left to be decided by the Treasury Department. On March 31, 2023,Treasury issued long-awaited proposed guidance on the critical mineral sourcing requirements for the EV tax credit under the IRA. According to the guidance, to meet the critical mineral requirement, the applicable percentage of the value of the critical minerals contained in the battery must be extracted or processed in the United States or with a country with which the United States has a “free trade agreement,” or be recycled in North America. The qualifying critical minerals sourcing requirement will increase from 40 percent in 2023 to 80 percent by 2027.

Importantly, the guidance includes a set of principles to identify countries with which the United States has a free trade agreement in place, since the term is not defined in statute. According to the Treasury Department’s proposed definition, “free trade agreement” as used in the IRA could include newly negotiated limited agreements, such as the deal reached with Japan, to ensure that minerals from these trading partners will meet the sourcing requirement for the tax credit. Treasury’s guidance also specifically lists the following countries as already having a free trade agreement with the United States: Australia, Bahrain, Canada, Chile, Colombia, Costa Rica, Dominican Republic, El Salvador, Guatemala, Honduras, Israel, Jordan, Korea, Mexico, Morocco, Nicaragua, Oman, Panama, Peru, and Singapore.

The guidance also sets forth applicable percentages for the value of the battery components that must be manufactured or assembled in North America for the vehicle to qualify for tax credits under the IRA, ranging from 50 percent in 2023 to 100 percent by 2029. The four-step process for determining the value of the battery components includes: (1) identifying the batter components that are manufactured or assembled in North America; (2) determining the incremental value of each battery component, including North American battery components; (3) determining the total incremental value of battery components; and (4) calculating the qualifying battery component content by dividing the total incremental value of North American battery components by the total incremental value of all battery components.

Further, beginning in 2024, an eligible vehicle may not contain battery components that are manufactured by a foreign entity of concern, and beginning in 2025, an eligible vehicle may not contain any critical minerals that were extracted, processed, or recycled by a foreign entity of concern. Treasury intends toprovide further guidance on this particular provision.

The guidance will be published in the Federal Register on April 17, 2023, and vehicles placed in service on or after April 18, 2023, will be subject to the critical mineral and battery component requirements in the rule. The Treasury Department and the Internal Revenue Service (“IRS”) will consider public comments, due by June 16, 2023, before issuing a final rule.

The CHIPS Act can be thought of as the “carrot” – designed to bolster American semiconductor manufacturing – to the “stick” of recent export controls that the United States (and the Netherlands and Japan) have implemented targeting China’s ability to both purchase and manufacture certain high-end chips used in military and AI applications. In particular, the strategic objectives of the CHIPS Act are to “(1) make the U.S. home to at least two, new large-scale clusters of leading-edge chip fabs, (2) make the U.S. home to multiple, high-volume advanced packaging facilities, (3) produce high-volume leading-edge memory chips, and (4) increase production capacity for current-generation and mature-node chips, especially for critical domestic industries” by the end of the decade.

The CHIPS Act provides “$50 billion to revitalize the U.S. semiconductor industry, including $39 billion in semiconductor incentives.” The funding provided will be distributed across several programs, each targeting a specific area of need. Eligible applicants for the first round of funding are those seeking funds to “construct, expand, or modernize commercial facilities for the production of leading-edge, current-generation, and mature-note semiconductors. This includes both front-end wafer fabrication and back-end packaging.”

The first round of funding will focus on how projects will advance U.S. economic and national security. Candidates will also “be evaluated for commercial viability, financial strength, technical feasibility and readiness, workforce development, and efforts to spur inclusive economic growth.”

Parties interested in applying must first submit a statement of interest to Commerce. Afterwards, applicants may submit a pre-application (recommended) before submitting a full application. Commerce began accepting pre-applications for leading-edge facilities on March 31, 2023, and will be accepting full applications for those facilities on a rolling basis. On May 1, 2023, Commerce will begin accepting pre-applications for current-generation, mature-node, and back-end production facilities on a rolling basis and full applications for these categories will be accepted on a rolling basis beginning June 26, 2023.

Recipients will receive funds in the form of direct funding, federal loans, and/or federal guarantees of third-party loans. For additional information on the application process, visit: CHIPS Act Fact Sheet.

The next round of funding will be announced in late spring for semiconductor materials and equipment facilities and Commerce will release one more round in the fall for research and development facilities.

Invoking the DPA, President Biden authorized the Department of Energy (“DOE”) to take action to accelerate domestic production of clean energy technologies. President Biden’s exercise of DPA authority includes five presidential determinations targeted toward key areas in the renewable energy industry:

• Solar panel inputs, including photovoltaic modules and components thereof;
• Building insulation, especially for older, less efficiently retrofitted buildings;
• Heat pumps used to efficiently heat and cool buildings;
• Equipment used to make and use clean electricity-generated fuels, such as electrolyzers, fuel cells, and related platinum group metals; and
• Transformers and other critical power grid infrastructure.

In five memoranda addressed to the Secretary of Energy issued on June 6, 2022, and published in the Federal Register on June 9, 2022, President Biden invoked Title III of the DPA, which authorizes the President to direct certain activities in order to “create, maintain, protect, expand, or restore” domestic industry capabilities essential to national defense. 50 U.S.C. § 4533(a)(1) (2022). To achieve this, Title III authorizes the President to order government purchases of or commitments to purchase critical resources or technology, subsidize domestically-produced materials to ensure its availability, or order installation and purchasing of supplies for government and privately owned industrial facilities to expand their production capacity in order to aid the national defense.^[2] In issuing each memorandum, President Biden waived certain DPA statutory requirements after determining that action is necessary to avoid a shortage in the subject critical resource or technology that would severely impair national defense capability. See 50 U.S.C. § 4533(7)(B) (2022). Nonetheless, each memorandum addresses the three-pronged determination required by section 303(a)(5) of the DPA and discussed further below.

The stated purpose in each memorandum is to ensure a “robust, resilient, and sustainable domestic industrial base” necessary for a clean energy economy, which President Biden determined is essential to “national security, a resilient energy sector, and the preservation of domestic critical infrastructure.”^[3] According to the DOE, this DPA action will advance the Administration’s goals to reduce U.S. reliance on foreign energy supply—specifically, imports from Russia and China—and promote energy independence, reduce energy use, lessen reliance on fossil fuels and address climate change, create jobs, and decrease energy costs for American families. The DOE also notes high levels of U.S. and global demand for renewable energy technology and the expectation that this demand will continue to increase. Without this DPA action, the DOE predicts domestic supply capabilities would be insufficient, vulnerable to supply chain disruptions, and overly reliant on imports. Consequently, per section 303(a)(5) of the DPA, each memorandum asserts President Biden’s determination with regard to each of the five targeted areas:

• (1) the stated sector of the domestic energy industry is essential to national defense;
• (2) President Biden’s exercise of section 303 authority is necessary to ensure that the domestic industry can timely supply and satisfy the domestic need for the stated technology; and
• (3) purchases, purchase commitments, or other action under section 303 of the DPA are the most cost effective, expedient, and practical means of achieving the stated purpose for each measure.

[1] In a separate section of the statute, the DPA notably excludes from the President’s scope of authority the ability to control employment contracts. See 50 U.S.C. § 4511(c)(1) (2022).

[2] For additional information on the DPA, please consult our advisory here.

[3] 87 Fed. Reg. 35,071; 87 Fed. Reg. 35,073; 87 Fed. Reg. 35,075; 87 Fed. Reg. 35,077; 87 Fed. Reg. 35,079.

Phase One: 100-Day Supply Chain Reviews

The 100-day report also provided recommendations ranging from investing or promoting investment in manufacturing and R&D, to deploying procurement, technical assistance, grants, and financing to support supplier diversification, to using market tools to support sustainability and workforce standards, to expanding multilateral engagement with global allies and strengthening international trade rules. For additional information and analysis on the Executive order and the administration’s 100-day report, please visit our blog here and here.

Phase Two: One-Year Sectoral Assessments

• Department of Defense: Securing Defense-Critical Supply Chains focuses on the following five areas: (1) Kinetic capabilities; (2) Energy Storage and Batteries; (3) Castings and Forgings (“C&F”); (4) Microelectronics; and (5) an update of the 100-day critical minerals and materials report.
• Department of Energy: America’s Strategy to Secure the Supply Chain for a Robust Clean Energy Transition focuses on the following technologies: (1) carbon capture materials; (2) electric grid; (3) energy storage; (4) fuel cells and electrolyzes; (5) hydropower including pumped storage hydropower; (6) neodymium magnets; (7) nuclear energy; (8) platinum group metals and other catalysts; (9) semiconductors; (10) solar photovoltaics; and (10) wind.
• Department of Commerce / Department of Homeland Security: Assessment of the Critical Supply Chains Supporting the U.S. Information and Communications Technology Industry focuses on (1) software, including risks associated with open-source; as well as manufacture of (2) printed circuit boards; (3) fiber optic cable; (4) printed circuit board assemblies and subassemblies; (5) routers, switches, and servers; and (6) LCDs/Displays.
• Health and Human Services: Public Health Supply Chain and Industrial Base focuses on (1) personal protective equipment; (2) durable medical equipment; (3) testing and diagnostics; and (4) pharmaceuticals.
• Department of Transportation: Transportation Industrial Base Freight and Logistics focuses on (1) physical infrastructure (including needed developments); (2) congestion and bottlenecks; (3) data availability and research gaps; (4) supply chain security; (5) freight and warehousing; and (6) rules and regulation.
• Department of Agriculture: Program and Policy Options for Strengthening Resilience focuses (1) consolidation within the industry; (2) labor; (3) ecological and climate risks; (4) transportation bottlenecks; and (5) international trade.

Key Takeaways

1. Like the 100-day reports, the one-year and capstone reports acknowledge the need to work with “allies and partners” in securing supply chains, in particular where domestic sources may not exist. The elevation of “near-shoring” or “ally-shoring” as reasonable alternatives to on-shoring or building up domestic production capacity is an acknowledgment by the Administration that not every link in every supply chain can be reasonably located in the United States. But the identification of global trusted partners as opposed to adversarial or unaligned nations is a critical element of the Administration’s approach to supply chain security.

2. Supply-chain policy is here to stay and U.S. industry has a critical role in the development and implementation of that policy. These sectoral assessments are the result of what the report’s describe as a “whole-of-government” effort that is supported, in turn, by U.S. industry. In addition to the headlined agencies, many other agencies and sub-agencies have been gathering data from industry over the past year. By participating in these supply chain analyses, industry has shaped these initial outcomes.

The EO also requires quadrennial reviews involving ongoing data gathering and supply chain monitoring, with the next set of reports to be released in 2025. In addition, many of the sectoral reports note the creation of new interdisciplinary task forces that will continue to grapple with supply chain policy issues. As a result, industry members should continue to remain engaged and look for opportunities to collaborate with the government.

3. A critical pathway toward more resilient supply chains is through promotion of targeted investment and market development, both domestically and abroad. The reports collectively identify several recent investments the government has undertaken to support increased domestic production. For example, the Department of Energy will invest $7 billion from Bipartisan Infrastructure Bill in large-capacity battery supply chain, including material refining and production, battery cell and pack manufacturing, and recycling. Additionally, the Department of Defense has invested to re-shore production of rare earth metals. Investments in U.S. production of semiconductors by leading foreign corporations in allied nations are also touted.

A Larger Framework to Promote Domestic Manufacturing

In July 2021, President Biden issued EO 14036 on Promoting Competition in the American Economy. The EO recognized the importance of robust and diverse agriculture, information technology, telecommunications, and healthcare sectors to the long-term resilience of competition, supply chains, U.S. workers, and consumers. Through EO 14036, President Biden pledged a whole-of-government approach to defending against “the monopolization of the American economy.”

President Biden has advocated for comprehensive competitiveness legislation, including the America Creating Opportunities for Manufacturing, Pre-Eminence in Technology, and Economic Strength (COMPETES) Act (which passed in the House of Representatives) and the United States Innovation and Competition Act (USICA) (which passed in the Senate). These legislative vehicles include numerous, wide-ranging provisions aimed at promoting investment in the domestic industrial base and domestic manufacturing (including to expand supply of semiconductors through the Creating Helpful Incentives for Production of Semiconductors (CHIPS) for America Act), shoring up supply chains, and combatting unfair trade practices.

And most recently, consistent with the policy of leveraging the government’s purchasing power to strengthen the resilience of supply chains, the Federal Acquisition Regulatory (FAR) Council published a final rule amending the Federal Acquisition Regulation (FAR) to strengthen Buy American Act (BAA) requirements in accordance with President Biden’s January 25, 2021 Executive Order (E.O.) 14005, Ensuring the Future is Made in All of America by All of America’s Workers. This new rule increases the BAA’s domestic content threshold for certain end products and construction materials.

As the Administration works toward institutionalizing domestic competitiveness and supply chain resilience, policy recommendations will translate into programs, guidance, and directives. This may create opportunities or areas of risk for U.S. companies, particularly domestic manufacturers, as the key agencies navigate the complexities of implementing proposals and distributing funds. We are available to help you understand and evaluate how your company’s business strategy and planning may interact with these broad-reaching, cross-government policies.

As previously reported, the Commerce Department’s Bureau of Industry and Security (“BIS”) published a federal register notice establishing a formal notice and comment period for industry participants to provide information on semiconductor manufacturing and advanced packaging supply chains. BIS has also now announced that it will conduct a virtual forum that will allow industry participants to provide their views orally. The forum will take place on Thursday, April 8, 2021 from 2:00 pm EST to 5:00 pm EST, but interested parties must submit a request to appear at the forum by Thursday, April 1, 2021 at 5:00 pm EST. The virtual forum is in addition to (not a substitution) for public comments.

The Department of Energy’s (“DOE”) Office of Energy Efficiency and Renewable Energy has also now published a federal register notice requesting information from industry participants on the high-capacity batteries (including electrical vehicle batteries) supply chain. Critical materials identified by the DOE include battery grade nickel, cobalt, and lithium. Industry participants throughout the supply chain should consider expressing their views to the DOE but the agency’s notice specifically calls out extraction of raw materials, refining, separators, collectors and recyclers, among other supply-chain participants. Responses to the agency’s request for information are due on April 14, 2021.

According to OFAC, the Cleveland, Ohio-based manufacturer of process control products made 21 shipments of airflow pressure switches with a total value of $687,189 to European trading partners that were ultimately reexported to Iran in violation of U.S. law. OFAC indicated that UniControl ignored or failed to respond to several red flags that its switches could be diverted to Iran by its European partners:

• Intermediaries conveyed interest from Iran: UniControl’s European trading partners inquired whether the company would supply products into the Iranian market, given the significant market opportunity there. Although UniControl declined the inquiry, the company did not later ensure that products sold to the European customers were not diverted to Iran.
• Sales agreement included Iran: Despite early warnings that its partners were interested in the Iranian market, UniControl and one of its European partners entered into a “Sales Representative Agreement” that listed Iran as a country where that trading partner could resell UniControl goods. (This is a reminder for all U.S. companies that distribution and sales agreements should exclude Iran and other sanctioned jurisdictions from the authorized sales territory specified in any agreement.)
• Obscured end user identity: A European trading partner rebuffed UniContol’s offer to drop ship products directly to a purported European end user when the trading partner was facing shipment delays. OFAC chided UniControl for failing to question the trading partner on its refusal to allow drop shipments or otherwise reach out directly to the end user, which presumably would have revealed that the end user was located in Iran, not Europe.
• Meeting with prospective Iranian customers at trade show: Between 2012 and 2017, UniControl management and employees attended trade shows in Europe. At a 2016 trade conference, UniControl managers met with Iranian visitors at a European trade partner’s booth. According to OFAC, UniControl did not question why Iranians were interested in the company’s products.
• Removal of a “Made in USA” label: In one instance, a European trade partner requested that UniControl remove its “Made in USA” label so that, as the European trade partner explained, an Iranian end user could avoid problems with the stated origin of the product. Although UniControl sought guidance from outside counsel, UniControl subsequently shipped switches to the same European trade partner that were ultimately re-exported to Iran.

This case is a reminder that U.S. companies need to be vigilant for red flags of possible diversion to Iran or other sanctioned territories by intermediary parties. Furthermore, once red flags are identified, U.S. companies must take action to investigate and remediate the issue through enhanced compliance checks and due diligence requirements on intermediary parties.

The First Sale Rule

The first sale rule permits importers to declare a lower customs value—and by extension, to lower the customs duty liability—for certain types of qualifying importations. To be eligible, an importation must involve a multi-tiered transaction (i.e., there must be three or more parties involved in the sequence of sales leading to the importer). Under U.S. law, the earliest sale in such a sequence of transactions may be declared as the customs value provided that the goods are clearly destined for the United States at the time of such sale and the first sale value otherwise satisfies the requirements applicable to any transaction value (i.e., it must be a bona fide sale that has been conducted at arm’s length).

First sale is thus commonly described as having “three elements”: the first sale in a multi-tiered transaction may be used as a customs value provided (1) it is a bona fide sale, (2) the goods are clearly destined for the United States at the time of the transaction, and (3) the value is an arm’s length price.

Meyer v. United States

The CIT’s decision in Meyer hinges on additional language from the seminal 30-year-old case that established first sale as a viable basis for customs valuation—language that has frequently been quoted, but seldom, if ever, scrutinized for meaning. The CIT interpreted that language to impose an overlooked requirement, namely that any legitimate first sale must be (4) absent any distortive non-market influences. While the first three requirements for the use of first sale are frequently assessed and litigated, the fourth requirement, the CIT notes, “has generally been neglected.”

In Meyer, the plaintiff failed to establish that it was entitled to use the “first sale” transaction value because it failed to produce sufficient evidence to satisfy both the (well-established) arm’s length and (newly in focus) distortive non-market influence requirements. The importer’s failure to produce sufficient information on these elements was decisive.

Significantly, the CIT also expressed doubt that the first sale rule was ever intended to be applied to transactions involving non-market economy participants and inputs, inviting the U.S. Court of Appeals for the Federal Circuit to provide further clarification.

Heightened Risk to First Sale Programs

While Meyer is not directly binding on other importers or fact patterns, and does not invalidate the use of first sale in all cases, the opinion does increase the risk associated with using first sale with suppliers in non-market economies (e.g., China and Vietnam). While it remains to be seen whether the importer in Meyer will appeal the final decision of the CIT, the Meyer decision creates a clear path for U.S. Customs and Border Protection to begin dismantling the use of first sale in transactions involving non-market economies, should it choose to do so.

Companies Should Reevaluate First Sale Programs

Any company currently relying on first sale to lower customs duty liability should evaluate its program to consider the ramifications of the Meyer decision, and to assess the overall health of the first sale program. Regardless of whether the Meyer decision is appealed, exercising reasonable care—and reducing the risk of customs penalties—requires importers to take account of court decisions relevant to customs value.

Even where all parties in a multi-tiered transaction are unaffiliated, and thus presumptively at arm’s length, companies may now have to establish the absence of any distortive non-market influences in order to maintain first sale programs. In light of the Meyer decision, companies should take affirmative steps to demonstrate the lack of non-market economy influence throughout these programs.

We are happy to help review your first sale program and to advise on strategies for preserving this important duty saving mechanism. Please contact us with any questions.

Effective April 21, 2020, the Department of Treasury’s Office of Foreign Assets Control (OFAC) issued General License (GL) 8F, which, significantly limits the activities in which Chevron and other covered entities are authorized to engage while winding down their operations through December 1, 2020.

Chevron is the only covered entity significantly impacted by the new GL 8F as it is the last major U.S. oil company permitted under an OFAC general license to do business in Venezuela. Companies that supply or otherwise do business with Chevron related to Venezuela should immediately review this significantly limited GL 8F carefully to determine whether their existing and planned business would be authorized pursuant to the new GL or whether they may need to alter their plans, review force majeure clauses, apply for a specific OFAC license or other authorization from OFAC, or take other steps.

Specifically, GL 8F authorizes Chevron, and other covered entities, to engage in certain transactions and activities, otherwise prohibited by the Venezuela Sanctions Regulations (VSR), that are ordinarily incident and necessary to the limited maintenance of essential operations, contracts, or other agreements. However, these wind-down transactions/activities must now be for the preservation of assets or safety in Venezuela, involve PdVSA or any entity in which they own 50% or greater interest, and have been in effect prior to July 26, 2019.

Additionally, regarding Chevron and the other covered entities, GL 8F no longer authorizes:

• The drilling, lifting, or processing of, purchase or sale of, or transport, or shipping of any Venezuelan-origin petroleum or petroleum products;
• The provision or receipt of insurance or reinsurance regarding the above activities;
• The design, construction, installation, improvement, or repair of any wells, facilities, or other infrastructure in Venezuela or the purchasing or provision of any goods or services, except as required for safety;
• Contracting for additional services or personnel, except as required for safety;
• The payment of any dividend, including in kind, to PdVSA, or any entity in which PdVSA owns, directly or indirectly, a 50% or greater interest; or
• Any loans to, accrual of additional debt by, or subsidization of PdVSA, or any entity in which PdVSA owns, directly or indirectly, a 50% or greater interest, including in kind, as prohibited by Venezuelan Sanctions Regulations.

Trade rules and surrounding circumstances are changing quickly. For example, the Administration very recently appeared to be seriously considering suspending or lowering certain import tariffs, but backed away from that approach given the complexity of administering a revised system on short notice, among other problems. You are likely also seeing reports about various countries’ restrictions on exports of medicine, medical equipment (including protective equipment and ventilators), and food, among other products. How do you keep up with what is actually happening that may affect your company and what is just rumor that you do not need to react to?

One step companies are taking is to include key personnel from their trade compliance and legal teams in the decision processes related to changing international transactions. You need to move quickly, but including a team member who knows trade rules can help keep things on track and help avoid clear compliance errors.

Here are four substantive areas of U.S. trade regulation that should continue to be part of international transaction diligence: U.S. anti-corruption, export controls, and sanctions laws (that permit most exports of medicines, medical devices, and food to sanctioned locations), and U.S. Customs rules on personal protective equipment and medical devices (among other imported items).

1. Foreign Corrupt Practices Act (FCPA):

2. Importation, Exportation or Re-exportation of Controlled Pathogens and Medical Equipment

Moreover, certain “equipment capable of use in handling biological materials” (e.g., those used for manufacturing vaccines) and “protective and detection equipment and components” related to biological threats may also require a license for export or re-export. [3] There are also potential licensing requirements for software specially designed or modified to enable such biological detection systems.

Next, companies should be aware of potential licensing requirements to export “technology” related to controlled items. Controlled technology includes information related to the production, development or use of controlled items, such as vaccines. For example, technology related to the production of certain protective gear to prevent against controlled pathogens or for manufacturing a vaccine might also require a license. Additionally, releasing controlled technology to a foreign person (e.g., foreign person working in a U.S. laboratory on a vaccine) would be considered a “deemed export” under the EAR and may require a license. There might be a license exception or license available, but, even in an emergency, it is necessary to check to ensure compliance with applicable laws.

Finally, many countries, like the European Union countries,[4] have imposed stringent export control restrictions on certain medical supplies due to COVID-19.[5] While the United States has not yet imposed similar measures on such items as respirators and face masks, they may do so in the future so it is necessary to monitor U.S. policy as the response to the pandemic evolves.

3. Office of Foreign Assets Control (OFAC) Sanctions Concerns, including humanitarian exports of food, medicine and medical devices

Note that there are certain medicines and medical devices that are not covered by the GLs, and would require a specific license.[7] Before exporting to a sanctioned country, companies need to evaluate whether a particular general license is applicable in its entirety or whether they need to request a specific license.

Finally, transactions with, including exports to, any individual or entity on OFAC’s Specially Designated National List remain generally prohibited, so it is important for companies to continue their general denied party screening processes.

4. Remote Work Arrangements

As companies are struggling to maintain normal business operations due to the numerous disruptions created by the COVID-19 pandemic, it is important to ensure that any necessary adjustments do not compound these difficulties by creating violations with strict liability U.S. international trade compliance laws and regulations. Because of the constantly changing circumstances, companies could very easily commit inadvertent violations in an attempt to solve business challenges as they arise. As companies develop strategies to cope with the disruptions caused by the pandemic, international trade compliance must be an element of those discussions. Should any of the above considerations apply to your company, we are happy to discuss.

[1] 15 U.S.C. §§ 78dd-1, et seq.

[2] https://www.bis.doc.gov/index.php/documents/pdfs/2532-severe-acute-respiratory-syndrome-coronavirus-2-sars-cov-2-faq/file

[3] Examples include fermenters, centrifugal separators, freeze-drying equipment, aerosol challenge chambers, cross-flow filtration equipment and components, among others. These items can be subject to very restrictive controls, such as “Chemical and Biological Weapons” (CB) controls, and require an authorization for export to most destinations. Note that some related items could be controlled for export under the International Traffic in Arms Regulations, see, e.g., Category XIV of the U.S. Munitions List at 22 C.F.R. § 121.1.

[4] https://eur-lex.europa.eu/legal-content/GA/TXT/?uri=CELEX:32020R0402

[5] https://www.marketplace.org/2020/03/30/countries-race-to-limit-ban-exports-of-masks-ventilators-other-gear/

[6] For example, see our March 11, 2020 post on Iran General License 8, which authorizes transactions involving the Central Bank of Iran where such transactions involve the authorized export of food, medicine, and medical devices to Iran.

[7] See, e.g. https://www.treasury.gov/resource-center/sanctions/programs/documents/iran_gl_med_supplies.pdf

Potential Changes by FAR Council

The new order directs the FAR Council to “consider proposing for notice and public comment” several changes to existing BAA standards:

• A higher domestic content threshold for federal agency procurements subject to the 1933 BAA. Currently under the BAA, an end product is considered domestic if: (1) it is mined, produced or manufactured in the United States; and (2) the cost of its components mined, produced or manufactured in the United States exceed 50 percent of the cost of all components. President Trump’s new order aims to increase the domestic component content threshold for American-made iron and steel from 50 to 95 percent and the threshold for all other products from 50 to 55 percent (and potentially to as high as 75 percent).
• A modification to the formula executive agencies must use when determining whether a bid or offered price of materials of domestic origin is unreasonable or inconsistent with the public interest. Currently under the BAA, a domestic bid will not be accepted if the lowest foreign bid is more than 6 percent less expensive than the domestic bid. The President’s order contemplates a differential formula based on 30 percent (for small businesses) or 20 percent (for other than small businesses).

The existing standards described above were applied to the terms of the BAA via a 1954 Executive Order issued by President Dwight D. Eisenhower and subsequently implemented through the federal acquisition regulations. While Monday's Executive Order does not immediately amend the domestic component content and unreasonable price differential of the Eisenhower-era executive order, E.O. 10582, it sets the stage for potentially doing so.

Timing for Reforms

The order directs the FAR Council to contemplate, within 180 days, whether to propose regulatory changes to implement the President's proposed modifications to the BAA standards through notice and comment rulemaking. But the order is deferential to the FAR Council, stopping short of mandating that it proceed with the rulemaking to modify existing Buy American Act regulations and contract clauses.

While the order prescribes the time period during which the FAR Council can contemplate whether to proceed with a rulemaking to implement the President's recommendations, it does not appear to set deadlines for the publication of a proposed rule or the promulgation of a final rule. If a new rule is adopted, executive agencies would then be responsible for issuing new regulations to ensure that their procurement practices conform to any new standards.

Finally, it should be observed that a number of other federal statutes impact the application of the BAA and the federal acquisition regulations that implement it. For example, certain of these laws currently waive the BAA's domestic component content requirement for procurements of certain commercially-available items and procurements subject to U.S. trade agreement obligations. Those statutes will remain unchanged in the absence of Congressional action to amend those laws.

Next Steps

Monday’s Executive Order reaffirms President Trump’s commitment to improving and expanding the Buy American rules applicable to taxpayer-financed government procurement. Should the FAR Council proceed with a rulemaking to modify the federal acquisition regulations in accordance with the President’s directives, it would portend the most far reaching changes to the 1933 BAA in its 86 year history.

Manufacturers, federal contractors, subcontractors, suppliers and other interested parties should pay careful consideration to the FAR Council’s deliberations over the next 180 days and be prepared to engage in a notice and comment rulemaking process in anticipation that regulatory changes will be proposed. In light of President Trump’s clear support for Buy American policies, market participants should be prepared for additional presidential actions that could have an impact on capital investment decisions, supply chain management and marketing operations.

Previous Buy America Executive Orders

Monday’s action follows two previous Buy America-specific Executive Orders from the Trump Administration. The President’s April 2017 “Buy American, Hire American” Executive Order (E.O. 13788) was aimed at reducing the use of Buy American waivers by federal agencies. A subsequent order issued in January of this year (E.O. 13858) aimed to encourage federal–assistance recipients (such as state transportation agencies) to apply Buy America requirements on the public works infrastructure projects funded and financed by their federal financial assistance awards.

[1] The FAR Council consists of the Administrator for Federal Procurement Policy as well as the Secretary of Defense, the Administrator of the National Aeronautics and Space Administration and the Administrator of the General Services Administration.

Specifically, the order directs the head of each executive department and agency administering a covered infrastructure program to “encourage recipients of new Federal financial assistance awards to use, to the greatest extent practicable, iron and aluminum as well as, steel, cement, and other manufactured products produced in the United States in every contract, subcontract, purchase order, or sub award that is chargeable against such Federal financial assistance award.” Covered programs include Federal financial assistance for a wide variety of U.S. infrastructure projects, from surface transportation and water infrastructure to broadband and cyber-security.

In addition to encouraging funding recipients to use domestic products in their projects, the new order also requires the head of each agency administering a covered program to identify in a report to the President opportunities to maximize the use of Buy American principles. The reports are due no later than May 31, 2019.

Thursday’s action is an attempt to close potential coverage gaps by extending Buy American principles to more taxpayer-financed federal infrastructure assistance programs. The executive order similarly seeks to expand the application of the Buy America procurement preferences to items not typically subject to existing Buy America laws, which are often limited to iron and steel products and materials. The "manufactured products" specifically identified in the executive order include non-ferrous metals, plastic and polymer materials like pipe, aggregates, glass and lumber.

The White House indicated this strengthened focus could result in billions of U.S. taxpayer dollars being redirected to American manufacturers.

The new Executive Order follows President Trump’s April 2017 “Buy American, Hire American” Executive Order. In touting the benefits of that Executive Order, the White House pointed to a 16 percent reduction in the use of Buy American waivers in 2018 as well as a $24 billion increase in government spending on U.S.-made products in the President’s first two years in office.

What Should Manufacturers and Suppliers Expect from EO 13858?

Although the Executive Order directs federal agencies to encourage federal assistance recipients to use – to the greatest extent possible – iron, steel and manufactured products in projects receiving the federal assistance, it does not mandate they do so. Agencies have been given 120 days to develop plans, strategies and programs to satisfy the President's goal of encouraging assistance recipients to buy American construction materials. Whether and to what extent agencies devise plans and strategies that do more than merely "encourage" assistance recipients to apply Buy America preferences on federally-aided infrastructure spending remains to be seen.

The changes to KORUS focus on the auto sector, customs procedures, and pharmaceutical reimbursement. With respect to autos, the largest change is a 20-year extended phase-out period for the current 25% U.S. tariff on imports of light trucks from Korea. That tariff will now expire in 2041, instead of 2021, which, according to the U.S. International Trade Commission, will delay the anticipated increase of 59,000 Korean truck imports. Korea has also agreed to increasing the quota of U.S.-origin autos that meet U.S. safety standards (but not Korean safety standard) from 25,000 to 50,000 per manufacturer, per year. Korea further agreed to recognizing U.S. standards for auto parts exports necessary to service U.S. vehicles in Korea and a harmonized testing system for emissions standards. With respect to improving customs procedures, Korea will address onerous and costly customs verification procedures for U.S. exports, which have been particularly taxing for U.S. agricultural exports. Finally, Korea has promised to address its pricing and reimbursement policy for pharmaceuticals to align with existing KORUS commitments and ensure fair treatment for U.S. exports.

For Korea, successful renegotiation has earned it a break from the United States’ Section 232 tariffs on steel imports. Instead of being subjected to a 25% tariff, steel imports from Korea are subject to an absolute quota based on 70% of the average annual import volume of such products during the 2015-2017 period. Korea had initially been exempt from the tariffs pending further KORUS discussions. The final quota-based exclusion was announced on April 30, 2018, and on August 29, 2018, President Trump announced a review process for individuals to request tariff exclusions for imports beyond the quota.

While the White House is touting the updated agreement as a major do-over, the changes are understood to be fairly moderate. Notably, the new pact does not include any provisions on currency manipulation and does not allow for increased U.S. rice exports, which was a U.S. priority during the original talks 12 years ago. The changes being made will, however, improve predictability without major disruption to existing trade flows between the two countries.

As it did during its recent 232 investigations concerning U.S. imports of steel and aluminum, the Commerce Department is seeking participation from the public in the form of written comments and public testimony. The following are the key dates for interested parties who would like to participate in the investigation:

• June 22, 2018 – Deadline to submit affirmative comments, request to appear at the public hearing, and submit a summary of expected testimony
• July 6, 2018 – Deadline to submit rebuttal comments
• July 19-20, 2018 – Public hearings held at 8:30 a.m. to 5:00 p.m. ET

In a decision that cited, among other sources, former President Harry Truman’s remark “{i}f you want a friend in Washington, get a dog,” the Court found that because pets are not clothing, the ability for the carriers to fall under the HTSUS heading 4202 rested on whether pets are “personal effects.” Relying on precedent from the U.S. Court of Appeals for the Federal Circuit in Avenues In Leather Inc. v. United States, 423 F.3d 1326, 1332 (Fed. Cir. 2005), which stated that “the common characteristic or unifying purposes of goods in heading 4202 consist{s} of organizing, storing, protecting, and carrying various items,” the Court determined that pets are not “personal effects” because “pets are living beings, and thus not things or items.” Further, that the distinction between animate and inanimate objects was critical to the classification of the pet carriers at issue, as all “goods listed in heading 4202 are designed to contain inanimate objects and not living beings.” Accordingly, the Court held that the pet carriers were excluded from heading 4202 as a matter of law, because the primary purpose of the pet carriers’ is to carry pets and not items.

The Court also refrained from ruling on the proper classification for the pet carriers, finding that the record was not sufficiently developed for such a determination. Reflecting this absence of evidence, the Court scheduled further proceedings to address the issue in the upcoming months.

The Department’s use of self-initiation authority has been judicious and rare. In an agency-issued press release Secretary Wilbur Ross stated, “{w}e are self-initiating the first trade case in over a quarter century, showing once again that we stand in constant vigilance in support of free, fair, and reciprocal trade.” The Department further noted that it last self-initiated a countervailing duty investigation in 1991 on softwood lumber from Canada, and last self-initiated an antidumping duty investigation in 1985 on semiconductors from Japan.

Use of U.S. AD/CVD laws have increased by 65 percent under the Trump Administration, according to the press release, and appear to be a key instrument of choice to combat unfairly traded exports and protect injured and vulnerable domestic industries. The agency notes, apart from the self-initiated cases, that it has initiated 77 combined AD and CVD cases in response to domestic industry petitions in 2017 – in contrast to 48 combined AD/CVD cases initiated in 2016. In addition to these self-initiated dumping and subsidy cases focusing on aluminum from China, the Commerce Department has also initiated a broader Section 232 investigation to determine whether aluminum imports overall threaten to impair the national security. If the Commerce Department issues an affirmative finding, the President has broad power to impose trade remedies – including tariffs and quotas – to “adjust” the imports so that they will not threaten to impair the national security. The Commerce Department’s Section 232 aluminum determination is due in January 2018.

In terms of next steps for the aluminum sheet AD and CVD cases, International Trade Commission preliminary determinations are due on or before January 16, 2018. If the ITC issues an affirmative preliminarily determination that there is injury or threat of injury, then the Commerce Department investigations will continue with deadlines of February 2018 to issue a preliminary CVD determination, and April 2018 to issues a preliminary AD determination. Affirmative preliminary Commerce determinations would allow Customs and Border Protection to begin collecting cash deposits from all U.S. companies importing the subject aluminum sheet from China. If the investigations proceed without any extensions in the preliminary phase, the Commerce Department’s final determinations would be due in April 2018 and July 2018 for the CVD and AD investigations, respectively.

The new MTB process and prospect for a bill received bipartisan support from members attending the hearing, where they discussed the potential economic benefits to U.S. manufacturers and consumers of providing temporary tariff relief on imported products not produced or available in the United States. Trade Subcommittee Chairman David Reichert (R-WA) stated that passing an MTB was a priority this year, and suggested the bill may be included in a trade package that also renews the Generalized System of Preferences program for developing countries, which expires on December 31.

If successful, this will be the first omnibus duty relief bill to pass Congress in seven years. The National Association for Manufacturers estimates beneficiary companies have faced an estimated annual $748 million in duty related costs since the expiration of the last MTB on December 31, 2012, which has also resulted in an overall $1.8 billion loss to the U.S. economy.

While it has been known that North Korea sends workers abroad, this report is the first time the supply chain has been documented to show North Korean forced labor products entering the U.S., which is a federal crime. It has been reported that North Korea sends tens of thousands abroad, bringing in revenue estimated at $200-$500 million per year as Kim Jong Un keeps a large percentage of the salaries. According to the AP, the North Korean workers in China remain under constant surveillance and live in forced labor conditions.

In August, 2017 President Trump signed legislation which makes it a crime to import products made by North Korean workers anywhere in the world and authorizes new economic sanctions against North Korea on goods produced by North Korean forced labor. The new U.S. law labels all North Korean workers, both in North Korea and abroad, as forced labor. Customs is reviewing the report and considering enforcement measures including prohibiting goods from entering the U.S. In addition, if Customs finds evidence of forced labor, the matter will be turned over to Immigration and Customs Enforcement (ICE) - Homeland Security for a criminal investigation. Importers are encouraged to review their supply chains to ensure that their goods are not manufactured by slave or forced labor.

Under the new process, the House Ways and Means and Senate Finance Committees may provide additional information to the ITC for purposes of moving petitions listed in Category VI of the preliminary report (petitions not recommended for inclusion) into another category in the final report, increasing chances of inclusion in final legislation. The trade committee Members did not comment on specific MTB petitions, but offered over-arching comments on how the ITC should address issues related to domestic availability – a key eligibility criterion. Take-away points included:

• Domestic Production Claims. Specific evidence is necessary to support claims that domestic production exists. “Blanket assertions” without supporting evidence demonstrating domestic production should be “deemed insufficient.”
• Imminent Production. Claims of “imminent production” must be based on more than a claim that “production is theoretically possible” and should include evidence that production is planned within three years of the petition filing.
• Inconsistent “Identical, Like or Directly Competitive” Determinations. The ITC, and not the Department of Commerce, has the final say in rendering “identical, like, or directly competitive” article determinations in the preliminary and final reports. Where the Department of Commerce reaches an inconsistent determination, the ITC must consider Commerce’s findings, but the ITC must also conduct its own analysis and “should not automatically substitute another agency’s conclusions for its own.”

The Congressional comments mark another important milestone in the first-go of the new MTB process. Once the ITC issues its final report next month, the new law provides that Congress should act within 90 days to consider a bill that would provide duty relief to qualifying petitions through 2019. This timing puts the MTB into the fall, where it appears Congress will be focused on much of its legislating for the year. Stay tuned for further developments.