HQ 557830 - Eligibility of fuel grade anhydrous ethyl alcohol produced in Israel for duty-free treatment under the U.S.-Israel FTA - United States International Trade Commision Rulings

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HQ 557830

August 19, 1994

CLA-2 CO:R:C:S 557830 WAS

CATEGORY: CLASSIFICATION

Andrew L. Siegel, Esq.
Jenkens & Gilchrist
1445 Ross Avenue
Suite 3200
Dallas, TX 75202-2799

RE: Eligibility of fuel grade anhydrous ethyl alcohol produced in Israel for duty-free treatment under the U.S.-Israel FTA

Dear Mr. Siegel:

This is in response to your letter dated February 17, 1994, on behalf of Frost Fuels Corporation, in association with Dor Chemicals, Ltd., and MMM Alcools ("the Company"), concerning the eligibility of fuel grade anhydrous ethyl alcohol produced in Israel for duty-free treatment under the U.S.-Israel Free Trade Implementation Act ("FTA") See General Note 8, Harmonized Tariff Schedule of the United States (HTSUS). On January 27, 1994, Mr. John Simpson, Deputy Assistant Secretary, met with you and your clients, Henry Frost, Bernard Meeus, Shlomo Inbar and Joseph Antverg in connection with this matter. In addition, on January 28, and April 28, 1994, representatives from the Office of Regulations and Rulings (ORR) met with you and representatives from the Company to further discuss the ruling request. A meeting also took place on May 5, 1994, with representatives from ORR, the Office of Laboratory and Scientific Services and Mr. Joseph Dimaria, representing Frost Fuels. On June 1, 1994, you and representatives from the Company had a meeting with Mr. Simpson, George J. Weise, Commissioner of Customs, and representatives from ORR in connection with this matter. Customs received representative samples of the product which you state will be imported into Israel and used in the production of anhydrous ethyl alcohol which you plan to import into the U.S. All of the information and samples that you submitted subsequent to the meeting were also considered in rendering our decision. As you are aware, interested domestic and Caribbean producers of ethyl alcohol have provided comments to Customs in connection with your February 17, 1994, request, a redacted copy of which was released to them under the Freedom of Information Act. FACTS:

You state that the Company proposes to import into Israel, from Europe and other foreign sources, feedstocks which consist of highly acidic raw ethyl alcohols in aqueous solution. You state that these feedstocks are comprised of a diverse mixture of raw alcohols, having distinctly different chemical and physical characteristics and properties. You also submit that because of their varied chemical compositions, extreme acidity and high concentration of contaminants, the raw alcohols possess their own specialized commercial uses and constitute separate articles of commerce from any of the products which the Company will produce from the feedstocks.

During the May 5th meeting with Mr. Dimaria and a representative from ORR and the Office of Laboratories and Scientific Services, Mr. Dimaria stated that the raw material which will be shipped into Israel does not consist wholly of wine waste, but rather, consists either of vinous or wine alcohol, or a mixture of wine alcohol and wine waste. Furthermore, Mr. Dimaria stated that the raw material which will be imported into Israel is at most 182 proof ethyl alcohol (91 percent by weight alcohol), although some of the raw ethyl alcohol may be of a lower proof. Mr. Dimaria also stated that the raw ethyl alcohols feedstocks are not potable in their exported condition.

Based on the information you have submitted, you claim that the Company proposes initially to produce from the distillation of the raw ethyl alcohols feedstocks three separate chemical products: fusel oils, methanol, and the azeotropic distillate - hydrous ethyl alcohol. It is your further claim that thereafter, the Company proposes to transform the hydrous ethyl alcohol, by yet another significant complex manufacturing process utilizing molecular sieve technology, into a new and different article of commerce - anhydrous ethyl alcohol.

You claim that in order to accomplish the first substantial transformation of the raw ethyl alcohols feedstocks into three distinct chemical products, the Company proposes to process the feedstocks by mechanical filtration, chemical treatment, and azeotropic distillation technologies. The proposed facility in Israel will first subject the feedstocks to mechanical filtration and chemical treatment, which you claim is intended to remove suspended solids, neutralize acidity, break emulsions and inhibit foaming. The raw ethyl alcohols feedstocks next will be thermally treated, chemically isolated and separated into its constituent compounds, and finally, rectified and refined by means of extractive and binary azeotropic distillation, which you claim will produce the fusel oils, methanol and hydrous ethyl alcohol.
You further state that after the initial mechanical filtration and chemical treatment, the raw ethyl alcohols are preheated and fed into the distillation system. According to the information you have submitted, the feedstocks are first processed through the "stripping column," where the raw ethyl alcohols are vaporized with steam. Also during this process, methanol is extracted from the overhead outflow of this column and condensed into liquid form, while the remainder of the feedstocks are drawn off through the bottom of the column and fed into the "extractive/binary azeotropic distillation column" for further isolation and separation through refluxing, rectification, and extractive distillation.

You submit that in the extractive/binary azeotropic distillation column, the raw ethyl alcohols are again vaporized using steam, and fusel oils are drawn off by extractive distillation, while distillable water and contaminants such as precipitated metals and solid organic compounds separated from the raw ethyl alcohols solution, are drawn off through the bottom of the column for treatment and disposal. Furthermore, you state that ethyl alcohol vapors rise to the top of the column, where they are successively concentrated, rectified, condensed, and revaporized to form an azeotropic mixture before extraction from the distillation system. You claim that upon extraction from the distillation system, the azeotropic hydrous ethyl alcohol vapors are either condensed as hydrous ethyl alcohol, or fed into the Company's proposed molecular sieve system.

You claim that the second substantial transformation of the raw ethyl alcohols feedstocks occurs when the hydrous ethyl alcohol is used to produce the anhydrous ethyl alcohol. You state that hydrous ethyl alcohol is an azeotrope, which means that it consists of a mixture of two completely miscible chemical compounds, comprised of 95.5 percent absolute ethyl alcohol and 4.5 percent water, which boils at a constant temperature below that of either of its constituent components. Consequently, you submit that the hydrous ethyl alcohol azeotrope cannot be separated into its two constituent compounds by further distillation, except by introducing a ternary chemical entraining compound, which itself must be distilled from solution with the ethyl alcohol in a process known as ternary azeotropic distillation. However, in the instant case, the Company proposes to separate the hydrous ethyl alcohol azeotrope by using a zeolite based molecular sieve technology.

The molecular sieve processing system which you propose to utilize uses both thermal and chemical means to separate the hydrous ethyl alcohol azeotrope into its constituent components of 95.5 percent ethyl alcohol and 4.5 percent water. You submit that when the hydrous ethyl alcohol is fed to the molecular sieve processing system, it is first superheated to vapor phase and directed to the top of the then actively "adsorbing" sieve bed unit and drawn through the desiccant materials in the sieve bed. The anhydrous ethyl alcohol vapor which emerges from the bottom of the sieve unit vessel is then condensed into liquid form, resulting in the final end product - 99.95+ percent anhydrous ethyl alcohol.

You claim that the production of hydrous ethyl alcohol, fusel oils, and methanol by means of various mechanical, chemical and both extractive and binary azeotropic distillation from raw ethyl alcohols feedstocks results in the first substantial transformation. Additionally, you submit that the second substantial transformation results from the production of the anhydrous ethyl alcohol from the hydrous ethyl alcohol by means of the molecular sieve process.

You state that the Company's proposed processing operations in Israel will require significant investment and will result in the creation of a substantial industrial facility. You have also asked us to confirm whether the following costs may be counted towards the direct costs of processing of the raw ethyl alcohols feedstocks in Israel:

A. Costs of production line employees, quality control, operational and production supervisory personnel, first-line production foremen, laboratory and maintenance workers, process and industrial engineers, shipping and receiving employees handling the raw feedstocks, and all actual labor costs incurred in Israel in the product's production, including but not limited to:

1. fringe benefits, on-the-job training, group insurance provided to production employees, workers' salaries and salaries for production, laboratory, quality control, maintenance, shipping and receiving, and processing and engineering personnel, and first-line foremen and plant supervisors; and

2. payroll and other unemployment, social security and social insurance taxes for direct production labor, first-line production, supervision, inspection and inspection supervision costs.

B. Costs of depreciation on machinery and equipment used in the production of the product.

C. Costs of utilities, including electricity, fuel, water and water cooling, to the extent actually used in the production process and climate control of the production facility.

D. Costs of property insurance covering machinery and equipment used in the production process.

E. Cost of the Israeli-produced chemicals, catalysts and zeolites used in the production process.

F. Telecommunication costs incurred to facilitate the direct production, inspection and first-line supervision of the production process.

G. The Israeli research and development costs directly related to developing and adapting the processing operations, in order to modify the technologies, plant and equipment to fit the Company's proposed facility and, including the costs necessary to adapt hardware and software, thereby enabling operation, quality control, inspection and processing of the product.

H. Inventory financing expense directly attributable to processing.

I. Inland European freight to seaport and storage, including cost of lifting, collecting, storing and transporting the raw ethyl alcohols feedstocks for shipment to Israel.

J. Sea transport and shipping costs of collecting and transporting the raw ethyl alcohols feedstocks to Israel.

K. Israeli inland freight and transportation costs and associated transportation, shipping, receiving and labor costs attributable to the offloading, transport and receipt by the Company in Israel of the raw ethyl alcohols feedstocks.

L. Financing costs of EC performance bond expense allocable to processing costs.

M. Israeli or U.S. material costs of unleaded gasoline and, Israeli or U.S. manpower directly attributable to the denaturing and processing of the product either in Israel or in Customs' tankage, prior to entry into the Customs' territory of the U.S.

Pursuant to Customs' request for samples of the raw ethyl alcohols feedstocks to be processed in Israel, you obtained four samples which you state were drawn from European distilleries located in Italy and France. Accompanying the samples were submitted copies of laboratory analyses performed by a French laboratory. The laboratory analysis submitted for the two samples from the Italian distillery revealed that the first sample contained 93.55 percent ethyl alcohol by volume, and the second sample contained 93.90 percent ethyl alcohol by volume. The laboratory analysis submitted for the two samples from the French distillery revealed that the first sample contained 93.25 percent ethyl alcohol by volume, and the second sample contained 92.15 percent ethyl alcohol by volume. The four samples of the raw ethyl alcohols feedstocks were delivered to the Office of Laboratories and Scientific Services in Washington, D.C., for examination, and Customs thereafter forwarded the samples to its laboratory in New York for a chemical analysis. You noted that these samples, which were drawn from EEC inventories by the product manufacturers themselves and which were distributed to you for marketing purposes, are presumed to consist of a higher grade of ethyl alcohol than the material that you actually expect to be able to consistently purchase from these same suppliers in ship-load quantities.

ISSUES:

(1) Whether the processing of the imported raw ethyl alcohols feedstocks into anhydrous ethyl alcohol results in a substantial transformation of the imported product into a "product of" Israel.

(2) If the response to Issue #1 is in the affirmative, whether the processing of the imported raw ethyl alcohols feedstocks into anhydrous ethyl alcohol results in a double substantial transformation of the imported product, thereby enabling the cost or value of this product to be counted toward the 35% value-content requirement for purposes of the Israel FTA.

LAW AND ANALYSIS:

Under the Israel FTA, eligible articles the growth, product, or manufacture of Israel which are imported directly to the U.S. from Israel qualify for duty-free treatment, provided the sum of 1) the cost or value of materials produced in Israel, plus 2) the direct costs of processing operations performed in Israel is not less than 35 percent of the appraised value of the article at the time it is entered. See General Note 8(b), HTSUS.

Where an article is produced from materials imported into Israel, as in this case, the article is considered to be a "product of" Israel for purposes of the FTA only if those materials are "substantially transformed into a new and different article of commerce, having a new name, character or use, distinct from the article or material from which it was so transformed." Annex 3 of the Agreement on the Establishment of a Free Trade Area Between the Government of the United States of America and the Government of Israel. The Agreement was approved by Congress in the United States-Israel Free Trade Area Implementation Act of 1985, Public Law 99-47. The basic rules of origin set forth in Annex 3 of the Israel FTA (which are derived from section 402 of the Trade and Tariff Act of 1984) are based on section 213(a) of the Caribbean Basin Economic Recovery Act, as amended (19 U.S.C. 2703(a)), which contains the origin rules governing duty-free treatment under the Caribbean Basin Initiative (CBI).
Applicable Court Decisions

With regard to the question of whether the raw ethyl alcohols feedstocks undergoes a substantial transformation when it is processed into anhydrous ethyl alcohol, we find relevant the decision in Uniroyal, Inc. v. United States, 3 CIT 220, 542 F. Supp. 1026 (1982), a country of origin marking case involving imported shoe uppers. In Uniroyal, the court considered whether the addition of an outsole in the U.S. to imported uppers lasted in Indonesia effected a substantial transformation of the uppers. In Uniroyal, the court described the imported upper, which resembled a moccasin, and the process of attaching the outsole to the upper. The court concluded that a substantial transformation of the upper had not occurred since the attachment of the outsole to the upper was a minor manufacturing or combining process which left the identity of the upper intact. The upper was described as a substantially complete shoe and the manufacturing process taking place in the U.S. required only a small fraction of the time and cost involved in producing the upper. Furthermore, in Uniroyal, the court examined the facts presented and determined that the completed upper was the very essence of the completed shoe.

The concept of the "very essence" of a product was again applied by the court in National Juice Products v. United States, 628 F. Supp. 978, 10 CIT 48 (CIT 1986), where the court determined that imported frozen concentrated orange juice was not substantially transformed in the U.S. when it was domestically processed into retail orange juice products. In National Juice Products, the first level of production, which was performed abroad, involved reducing fresh oranges to manufacturing concentrate. The oranges were first tested for solid content and then run through an extractor and transferred to an evaporator, where the juice was reduced to approximately fourteen percent of its original volume and cooled. During this process, the essential oils and flavoring ingredients present in the juice also evaporated. The end result was a viscous substance with a brix level of approximately 65 degrees. As the oils and flavoring ingredients were lost during this process, the manufacturing concentrate did not have the characteristic flavor of oranges. The second level of production, which was performed in the U.S., involved blending the manufacturing concentrate with other ingredients (primarily water) to create an end product of either frozen concentrated orange juice or reconstituted orange juice. This process involved mixing the manufacturing concentrate with purified and dechlorinated water, orange essences, orange oil, and, in some instances, fresh juice.

In National Juice Products, the court addressed each of the factors -- name, character and use -- in finding that no substantial transformation occurred in the production of retail orange juice products from manufacturing concentrate. The court found that the change in name from "concentrated orange juice for manufacturing" to "frozen concentrated orange juice" and "orange juice from concentrate" is not significant to a finding of substantial transformation. Instead, the court stated that these names "merely refer to the same product, orange juice, at different stages of production." Id. at 989.

The court agreed with Customs that the imported manufacturing concentrate "imparts the essential character to the juice and makes it orange juice. . . [and thus], as in Uniroyal, the imported product is the very essence of the retail product." The court found that the retail product in this case was essentially the juice concentrate derived in substantial part from foreign grown, harvested, and processed oranges. Although the addition of the water, orange essences, and oils to the orange juice concentrate made it suitable for retail sale, according to the court, this did not change the fundamental character or use of the product, it was still essentially the product of the juice of oranges.

Purification Rulings

It is a well-settled principle of Customs law that the mere refining or purification of a crude substance does not result in a substantial transformation of the substance into a new and different article of commerce with a new name, character or use. In Headquarters Ruling Letter (HRL) 556143 dated March 2, 1992, Customs held that the purification of Crude Octamine (85-87 percent purity) into Octamine R (97 percent purity) does not result in a substantial transformation. In this case we held that:

"while it is clear that the processing of the Crude Octamine into a refined product described as Octamine R, results in a refined, higher grade aviation lubricant, the essential character is not altered and the resulting product does not become a new and different article of commerce. The resulting product has the same chemical structure as the material from which it is made, the same Chemical Abstract Service Number, and the same tariff heading."

In another case involving the refinement of a crude substance, HRL 554644 dated October 29, 1987, we held that the processing of crude linseed oil into a fully refined oil did not result in a substantial transformation. The refining process in this case involved the dry caustic neutralization of the fatty acids which was achieved through heating and mixing the oil with sodium hydroxide. The fatty acids were dispersed converting the acids and oil into water and soapy matter. The oil was moved to centrifugal washers and separators, removing the soaps. After centrifuging, all of the remaining water was removed from the oil by vacuum drying. We held in HRL 554644 that:

"While it is clear that the processing of the crude linseed oil into a refined product results in a purified, higher grade oil with less contaminants and odor, the essential character is not altered and it does not become a new and different article of commerce. The removal of impurities and ultimate refinement is not sufficient to effect any major change in the product."

See also HRL 554637 dated July 13, 1987 (processing of raw sugar into a refined product results in purified sugar with less contaminants, which is not a new and different article of commerce; HRL 082033 dated September 5, 1989 (refining cane sugar upgrades and purifies the sugar, but it does not change the essential character of the product); C.S.D. 84-112 dated July 2, 1984 (HRL 724640) (imported honey which was purified by heating and filtering did not undergo a substantial transformation); HRL 555982 dated August 2, 1991 (evaporation of water from orange juice and subsequent freezing in a CBERA BC does not change the fundamental character of the imported juice).

Petroleum Rulings

Customs, however, has recognized that the processing of certain crude petroleum products may result in new and different articles of commerce having a new name, character or use. In HRL 555032 dated September 23, 1988, we ruled that the distillation of crude petroleum in the Virgin Islands results in a substantial transformation for purposes of General Headnote 3(a)(iv), HTSUS. In HRL 555032, we concluded that the separation of crude petroleum into "primary cuts" or "fractions" such as naphthas, kerosene, gas oils and residuum, by means of a distillation process resulted in a substantial transformation of the crude petroleum into new and different articles of commerce with different chemical and physical characteristics as well as different uses. The distillation process in HRL 555032 did not merely involve refining crude oil into a more pure form, but resulted in the production of entirely new products different in name, character and use from the originating crude petroleum. Additionally, we held that converting the primary distillation products into the final imported products, such as motor fuel, jet fuel, heating oil, catfeed, etc., resulted in a second substantial transformation of the imported crude petroleum.

Customs recently affirmed the position in HRL 555032 in HRL 557180, dated December 23, 1993. In 557180, we held that the production of light straight run naphtha (LSR) (among other products) from the distillation of imported crude petroleum resulted in a substantial transformation of the crude petroleum. Furthermore, we stated that the distillation of the LSR resulted in a second substantial transformation of the imported crude petroleum into two new articles of commerce, deisopentanizer overhead and deisopentanizer bottoms. We also found that the production of naphtha from imported crude petroleum resulted in a single substantial transformation and the subsequent desulfurization of the naphtha into desulfurized naphtha and hydrogen sulfide constituted a second substantial transformation of the imported crude petroleum. Furthermore, we concluded that the production of platformate through a process of hydrocracking, isomerization, dehydrogenation, dehydrocyclization and hydrodealkylation, from the desulfurized naphtha constituted a substantial transformation; and the subsequent production of benzene, toluene, xylene, heavy aromatics and raffinate from the platformate by means of an aromatics extraction process, resulted in a further substantial transformation of the platformate into new and different articles of commerce. The conclusion reached in HRL's 555032 and 557180, however, was not based upon the complexity of the distillation process to which the crude petroleum was subjected, but rather, upon the change of the crude petroleum into new articles having different names, characters, and uses as a result of such processing.

The Present Case

As in the foregoing cases, Customs in this case must decide whether the processing to be performed in Israel on the imported ethyl alcohols feedstocks will result in fundamental changes in name, character and use, similar to those changes involved in the petroleum rulings, or whether the processing is more closely analogous to the purification rulings where we found that the processing did not result in a change in the fundamental character of the article.

In this regard, the Customs New York Laboratory conducted an analysis of samples of raw ethyl alcohol which you stated were drawn from the tankers of the foreign supplier. Accompanying these samples was a laboratory analysis. A visual inspection of the samples as reported by the Office of Laboratories and Scientific Services, revealed that the products were water white in color and free flowing liquids. The Customs laboratory reported that one of the samples consisted by weight of 90.91 percent ethyl alcohol by volume and 2.50 percent methyl alcohol by volume. According to the laboratory report, the remainder of the sample consisted of a mixture of water and fusel oils. The Customs laboratory further noted that the high methyl alcohol content of the product would make it non-potable without further processing or significant dilution. According to the Customs laboratory report, the second sample consisted by volume of 92.73 percent ethyl alcohol and 1.30 percent methyl alcohol by volume. The Customs laboratory further reported that the remainder of the sample also consisted of a mixture of water and fusel oils. Additionally, the Customs laboratory reported that the presence of high methyl alcohol content in this sample would also make it non-potable without further processing or significant dilution. Although our laboratory reported that the ethyl alcohol content was 92.73 and 90.91 percent by volume for these samples, the report that you submitted showed the same samples to contain 93.55 and 93.90 percent ethyl alcohol by volume.

Customs also received two additional samples, along with a chemical analysis report, from the tankage of the foreign supplier. These samples also were subjected to a chemical analysis by the Customs New York Laboratory. According to the Customs laboratory, the chemical composition of the first sample consisted of 91.9 percent ethyl alcohol by volume and 0.5 percent methanol by volume. The Customs laboratory further reported that the remainder of the sample consisted of a mixture of water and fusel oils. Additionally, the Customs laboratory reported that the second sample consisted of 78.7 percent ethyl alcohol by volume and 6.3 percent methanol. The remainder of the sample was reported to contain a mixture of water and fusel oils. Although our laboratory reported that the ethyl alcohol content was 91.9 and 78.7 percent for these samples, the report that you submitted showed the same samples to contain 93.25 and 92.15 percent ethyl alcohol by volume.

Based upon our review of the information submitted by the Company and the Customs' laboratory report, it appears that the raw ethyl alcohols feedstocks which are imported into Israel from the European distilleries constitute essentially a vinous or wine alcohol product. We believe that the initial product, which is fermented and distilled in Europe to produce what is referred to as the raw ethyl alcohols feedstocks, contains wine wastes from wine production. However, we further believe that the raw ethyl alcohols feedstocks which are produced from the wastes after they have been fermented and distilled, do not contain any wine wastes. Rather, the raw ethyl alcohols feedstocks is the product which results from the wine wastes after the wastes have undergone the initial fermentation and distillation process in Europe. The Customs laboratory reported that the crude distillation of the fermented wine wastes also produces fusel oils in very small amounts in the raw ethyl alcohols feedstocks.

We note that you have stated that the product which you intend to ship to Israel may contain a maximum of 182 proof alcohol (91 percent alcohol by volume). In fact, the samples of the EEC stocks of raw ethyl alcohol that you have submitted for our review, appear to contain between 156 - 186 proof ethyl alcohol (78 - 93 percent ethyl alcohol by volume). A product containing 156 proof ethyl alcohol (78 percent alcohol by volume) or more, in our opinion must be considered a distilled alcohol product (wine alcohol) and not a mixture of wine wastes or a mixture of alcohol and wine wastes. Although the amount of ethyl alcohol and methanol in the samples appears to vary, in general, a wine alcohol product can consist of between 78-94 percent ethyl alcohol and contain varying amounts of methanol and fusel oils.

The first process which you claim results in a substantial transformation involves the distillation of the imported ethyl alcohols feedstocks (wine alcohol), which involves removing the impurities and concentrating the ethyl alcohol, to produce a product which is 190 proof hydrous ethyl alcohol. In our opinion, the distillation process in the instant case simply involves upgrading a cruder form of ethyl alcohol to a more pure form of ethyl alcohol. Since the distillation process involves only an upgrade of the wine alcohol, it is our opinion that 190 proof hydrous ethyl alcohol is not a new and different article of commerce when compared to the wine alcohol from which it originates. Upgrading the raw ethyl alcohol (156 - 182 proof) to produce hydrous ethyl alcohol of 190 proof is analogous to the purification of Crude Octamine into Octamine R (HRL 556143) or crude linseed oil into fully refined oil (HRL 554644), which we have held does not result in a new and different article of commerce. Unlike the distillation of the crude petroleum in HRL 555032, the azeotropic distillation of the raw ethyl alcohols feedstocks does not result in new or different articles of commerce. Rather, based on the samples you have submitted, the product which will be imported into Israel is a wine alcohol which contains between 78-93 percent ethyl alcohol content, with small amounts of fusel oils and methanol. After this product is distilled, the resulting product is essentially the same product with a higher percentage of ethyl alcohol content (95 percent alcohol by volume). Therefore, we are of the opinion that the first stage of the processing performed in Israel, the production of hydrous ethyl alcohol from the imported raw ethyl alcohols feedstocks, does not result in a substantial transformation of the raw ethyl alcohols feedstocks into a "product of" Israel.

Furthermore, you claim that a second substantial transformation of the imported raw ethyl alcohol occurs when the hydrous ethyl alcohol is passed through a molecular sieve process to separate the hydrous ethyl alcohol azeotrope into its constituent components (95.5 percent ethyl alcohol and 4.5 percent water) to produce anhydrous ethyl alcohol. Since, however, we do not find that the first processing operation results in a substantial transformation of the raw ethyl alcohols feedstocks into a "product of" Israel, our analysis with regard to the molecular sieve processing is necessarily limited to the question of whether this process, coupled with the previous distillation, results in a substantial transformation of the imported feedstocks into a "product of" Israel.

In addition to the samples, we submitted all of the technical data that we received in connection with your ruling request to the Customs Service Office of Laboratory and Scientific Services for their analysis and comments. With regard to the dehydration of the hydrous ethyl alcohol into anhydrous ethyl alcohol by means of molecular sieve processing, the Customs laboratory report indicated that hydrous ethyl alcohol does not undergo any chemical reactions during the process of dehydrating the ethyl alcohol into the final product - anhydrous ethyl alcohol. Rather, according to the laboratory report, the molecular sieve process results in a simple physical separation of the water molecule from the ethyl alcohol. You submit that the separation of the water molecule from the ethyl alcohol represents a "chemical separation." Customs, however, believes that the attraction between the two liquids is typical of the attraction between two miscible solvents, as the attraction is a result of hydrogen bonding between the hydrogen atoms of the ethyl alcohol molecule and oxygen atoms of the water molecule, and the fact that the two liquids have a high degree of "likeness." Hydrogen bonding is a simple electrostatic attraction (positive-negative attraction), which in no way can be considered a chemical bond. Moreover, the Office of Laboratories and Scientific Services report indicated that the difficulty in separating water from ethyl alcohol lies, not in the fact that they are chemically similar or have electrostatic attractions, but in the fact that the boiling points of the ethyl alcohol and water, individually, are more than the boiling point of the mixture (azeotropic mixture); therefore, simple distillation will not separate them. Thus, physical separation by molecular sieve (or ternary separation by the introduction of a third solvent) is required to dehydrate the ethyl alcohol.

We recognize the fact that hydrated ethyl alcohol cannot be used for motor fuels, as the small amount of water present in the hydrated ethyl alcohol is immiscible in the motor fuel mixture, and it also may cause the fuel to fail to meet the standard specifications for motor fuel. We note, however, that "dry" ethyl alcohol (anhydrous ethyl alcohol) produced by molecular sieve technology may be used for the same major application for which hydrated or "wet" ethyl alcohol is used: potable blends, i.e. alcoholic beverages, beverage bases, although it may not be economically practical to do so. This conclusion is based upon the Company's description that no harmful substances have been introduced into processing the hydrous ethyl alcohol into anhydrous ethyl alcohol. We also note that, in addition to being used as potable blends, both forms of ethyl alcohol may be used as industrial solvents, although not always interchangeably.

In the instant case, both the hydrous ethyl alcohol and anhydrous ethyl alcohol are considered "ethanol" in the chemical and commercial sense. In fact, as indicated in the Encyclopedia of Chemical Technology, Kirk-Othmer, both products are referred to as "ethanol" with the only difference being their proof content. Other than the hydrous ethyl alcohol product being mixed with approximately 5 percent water, the resulting anhydrous ethyl alcohol has the same chemical and molecular structure as the material from which it is made, as well as the same Chemical Abstract Service Number, and the same tariff heading. In our opinion, the removal of the water from the hydrous ethyl alcohol is not sufficient to effect a substantial change in the chemical composition or "essence" of the product. Although the resulting anhydrous ethyl alcohol may be suitable for use as motor fuel for automobiles, unlike the products made from crude petroleum in HRL's 555032 and 557180, this product still possesses the identifying characteristics of the material from which it was derived - raw ethyl alcohols feedstocks. Therefore, after careful consideration of all the information and samples presented in this case, we are of the opinion that the additional process of removing the water from the hydrous ethyl alcohol to produce anhydrous ethyl alcohol by means of molecular sieve process still does not result in a substantial transformation of the raw ethyl alcohols feedstocks.

While it is clear that the processing of the raw ethyl alcohols feedstocks into anhydrous ethyl alcohol results in a dehydrated product, we are of the opinion that the essential character of the product which is imported into Israel - raw ethyl alcohols feedstocks - is not altered and the resulting product does not become a "new and different article of commerce." Instead, the distillation of the raw ethyl alcohols feedstocks into hydrous ethyl alcohol and the molecular sieve processing of the hydrous ethyl alcohol into anhydrous ethyl alcohol merely represent a continuation of the manufacturing process and are different stages in the production of the finished product. See Azteca Milling Co. v. United States, 703 F. Supp. 949 (CIT 1988), aff'd, 890 F.2d 1150 (Fed. Cir. 1989) (The court stated that the production of prepared corn flour products in Mexico from corn grown in the U.S. did not constitute a double substantial transformation; an essentially continuous process was involved, so that the goods resulting at certain steps, i.e., nixtamal and masa, were "not articles of commerce but rather materials in process, advancing toward the finished product." Additionally, the court stated that although the products resulting at certain steps in the production process may be more refined than the constituent material of corn, they are, nevertheless, clearly recognizable as processed corn.); See also F.F. Zuniga a/c Refractarios Monterrey, S.A. v. United States, Slip Op. 92-89 (CIT June 12, 1992) (The court stated that the production of kiln furniture in Mexico from several dry ingredients of U.S. origin through a multiple step processing operation did not constitute a double substantial transformation; none of the products resulting from those steps, i.e., castables, casting slip, or greenware, was considered a new and different intermediate article of commerce which lost the "identifying characteristics" of its constituent components. The court, citing Azteca Milling, stated that, in regard to the casting slip produced by plaintiffs, "the casting slip was only a 'transitional stage' of a 'material [ ] in process, advancing toward the finished product' of the imported kiln furniture)."

Section 423 of the Tax Reform Act of 1986, as amended by section 7 of the Steel Trade Liberalization Program Implementation Act of 1989 (Public Law 101-221) sets forth certain requirements for the duty-free entry of non-beverage grade ethyl alcohol imported after 1989 from U.S. insular possessions and designated beneficiary countries (BC's) under the Caribbean Basin Economic Recovery Act (CBERA) (19 U.S.C. 2701-2706). Pursuant to section 423, ethyl alcohol from an insular possession or a BC is entitled to duty-free treatment only if it is deemed to be an "indigenous product" of the insular possession or CBERA BC. Section 423(c) provides that ethyl alcohol will be treated as "indigenous" (1) if it is produced by a process of full fermentation in an insular possession or CBERA BC, or (2) where the ethyl alcohol is only dehydrated in an insular possession or CBERA BC, if it meets the applicable local feedstock requirement.

In Headquarters Ruling Letter (HRL) 084850, dated September 15, 1989, the question presented was whether Russian ethanol of 92 percent volume strength (containing one percent impurities) which was processed in the United Kingdom to 200 proof, using solvent azeotropic extraction, would be considered a product of the United Kingdom. In this ruling, we stated that

Although Customs has ruled that hydrous ethanol from one country processed by means of azeotropic distillation to anhydrous ethanol in another country is a product of the second country, Congress, in the Tax Reform Act of 1986, Pub. L. No. 99-514, 99th Cong., 2d Sess. (1986), reversed this position. Consequently, Customs opinion now is that azeotropic distillation no longer effects a substantial transformation.

Therefore, we held in HRL 084850 that the Russian hydrous ethanol which was processed in the United Kingdom by means of azeotropic distillation into anhydrous ethanol was not a "product of" the United Kingdom. While we acknowledge that the Tax Reform Act of 1986 applied only to ethanol from the Caribbean Basin Economic Recovery Act beneficiary countries, we find that the holding of this ruling accurately reflects Customs position on this issue.

You also claim that prior rulings issued by the Customs Service regarding ethanol production operations which take place in the Caribbean Basin countries support a finding that the production of anhydrous ethyl alcohol results in a double substantial transformation of the imported raw ethyl alcohols feedstocks. In support of this position, you cite HRL 557008 dated March 9, 1993. In HRL 557008, ethyl alcohol produced in a third country which was not a CBERA BC, was imported into Jamaica. In Jamaica, the importer rectified and dehydrated the alcohol under contract with another company. Next, the importer exported the alcohol to the United States, where it was used exclusively for motor fuel purposes. We held in HRL 557008 that the ethyl alcohol which was dehydrated in a CBERA BC and which meets the "indigenous product" requirement established in section 423 of the Tax Reform Act of 1986, as amended, is normally presumed to meet the 35% value-content requirement, and will receive duty-free treatment, assuming it is "imported directly" from the BC to the U.S. We stated in this ruling that in regard to dehydrated ethyl alcohol which meets the statutory "indigenous product" requirement (and, therefore, is considered to be "wholly the growth, product, or manufacture of a" BC), all of the feedstock included in the ethyl alcohol, even feedstock imported into a BC from a non-BC, may be counted toward the 35% requirement as "materials produced" in a BC.

You are of the opinion that the anhydrous ethyl alcohol imported from Israel should be accorded the same duty-free and value-content treatment as under the CBERA when imported into the U.S. We believe that the underlying law in HRL 557008 is clearly distinguishable from the applicable law in this case. In amending 19 U.S.C. 2703(a)(1) to be "subject to section 423 of the Tax Reform Act of 1986," as amended, Congress prescribed a unified scheme for tariff treatment of ethyl alcohol under the CBERA. See National Corngrowers Ass'n v. Von Raab, 650 F. Supp. 1007 (CIT 1986), aff'd, 814 F.2d 651 (Fed. Cir. 1987). As previously stated, in essence, section 423 of the Tax Reform Act of 1986 imposed a new standard, that of "indigenous product," for duty-free treatment, which replaced the traditional substantial transformation test for determining the origin of ethyl alcohol from CBERA BC's. We are of the opinion that this standard created by Congress applies only to ethyl alcohol from CBERA BC's or from U.S. insular possessions, and does not govern Customs' interpretation of the "growth, product, or manufacture" provisions contained in the U.S.-Israel FTA or in any other preference program (e.g., GSP). Therefore, HRL 557008 cannot be relied upon to support the position that the production of anhydrous ethyl alcohol results in a substantial transformation of the imported raw ethyl alcohols feedstocks.

You also state that both the Government of Israel and the Joint Venture have relied on the Customs Rulings and analyses that comprised the then prevailing U.S. Customs trade practices incorporated into the FTA. In this regard, you claim that since Customs already was on record in 1985 (T.D. 86-8, 51 Fed. Reg. 14 (January 22, 1986), in ruling that the processing of hydrous ethyl alcohol to anhydrous ethyl alcohol constitutes a "substantial transformation," Customs must find that the proposed operations in the instant case constitute at least one substantial transformation of the imported ethyl alcohols feedstocks.

T.D. 86-8 represented a decision on a domestic party petition which was filed with Customs under section 516, Tariff Act of 1930, as amended (19 U.S.C. 1516), on behalf of several domestic interested parties who were dissatisfied with Customs determination that certain fuel grade ethanol imported from the Caribbean Basin countries qualified for duty-free entry under the Caribbean Basin Economic Recovery Act (CBERA) (19 U.S.C. 2701-2706). In this decision, Customs held that azeotropic distillation of 190 proof ethanol to 199+ proof ethanol in a CBERA BC constituted a substantial transformation. In making this determination, Customs primarily focused on the complexity of the processing operations, rather than on the nature of the article. However, in decisions which have been issued since the date of T.D. 86-8, the Court of International Trade has focused primarily on whether the article which emerges from a manufacturing process, has a new name, character, or use, rather than on the substantiality of the processing operations.

In addition to the National Juice Products, Azteca Milling, and F.F. Zuniga, cases previously discussed herein, the CIT recently addressed whether an article was substantially transformed in a country of origin marking case, National Hand Tool Corp. v. United States, Slip Op. 92-61 (CIT April 27, 1992), aff'd, No. 92-1407 (CAFC February 3, 1993). At issue in National Hand Tool, was whether certain imported hand tool components processed in the U.S. underwent a substantial transformation. The plaintiff in this case imported hand tool components, which were used to produce flex sockets, speeder handles, and flex handles. The components were either cold-formed or hot-forged into their final shape in Taiwan before importation into the U.S., while others underwent heat treatment in Taiwan. The heat treatment in Taiwan consisted of a multi-stage operation in which the articles were heat treated, oil-quenched and tempered, and the steel was strengthened by carburization to increase the carbon content of the steel's surface. After heat treatment, in Taiwan or the U.S., the components were cleaned by sand-blasting, tumbling and/or chemical vibration to prepare their surfaces for electroplating.

Subsequent to the post-importation processing, the components in National Hand Tool were assembled to produce the various tools. The assembly operations were manual and required some skill and dexterity. The court held that the name of each article as imported was the same as that of the completed tool. The court also found that the character of the articles remained unchanged after the heat treatment operations, the electroplating, and the assembly operation, and noted that, except for the speeder handle bars, and throughout the processing, the components retained their final shape which had been formed in Taiwan. Additionally, the court noted that the use of the imported articles was predetermined at the time of importation. Accordingly, the court held that the imported articles did not undergo changes in name, character or use, and therefore, no substantial transformation occurred.

In National Hand Tool, the court did not focus on the complexity of the processing operations or on the value added to the article, but rather, on whether the processing resulted in a change in name, character or use of the article. Similarly, in making our determination as to whether the azeotropic distillation and molecular sieve process which you propose to utilize constitute a substantial transformation, we do not focus on the complexity of the distillation or molecular sieve processing systems, but rather, on whether the resulting product which emerges from the processing is a new and different article, having a new name, character or use, different from that possessed by the article prior to the processing.

Thus, in reevaluating T.D. 86-8 based on the present standard used by the court and more recent rulings on similar production, we affirm the 1989 ruling (HRL 084850) which effectively revoked the conclusion in T.D. 86-8 that azeotropic distillation of 190 proof ethanol to 199+ proof constitutes a substantial transformation. Accordingly, as the imported raw ethyl alcohols feedstocks do not undergo a single substantial transformation in Israel, the "product of" requirement under the U.S.-Israel FTA is not satisfied. Therefore, the second question raised in the ruling request concerning whether a double substantial transformation has taken place and whether certain costs can be claimed as direct processing costs for purposes of the 35% value-content requirement, is moot.

HOLDING:

Based on the information and samples provided, we are of the opinion that the processing of the imported raw ethyl alcohols feedstocks in Israel does not result in a substantial transformation of the imported materials into a "product of" Israel. Therefore, the resulting product - anhydrous ethyl alcohol - will not be eligible for duty-free treatment under the Israel FTA when imported into the U.S.

Sincerely,

Harvey B. Fox, Director

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