HQ 224942 - Application for Further Review of Protest No. 1101-93-100330; Drawback; Denial of drawback under 19 U.S.C. 1313(a); No set time limit for corrective action on drawback proposal under 19 U.S.C. 1313(b); 19 CFR 191.10(e)(2); 19 U.S.C. 1313(b); 19 U.S.C. 1313(r)(2) - United States International Trade Commision Rulings

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HQ 224942

December 4, 1995

DRA-2-02-R:IT:EC 224942 JRS

CATEGORY: DRAWBACK

Port Director of Customs
ATTN: Drawback Office
10 Causeway Street
Boston, MA 02222-1056

RE: Application for Further Review of Protest No. 1101-93-100330; Drawback; Denial of drawback under 19 U.S.C. 1313(a); No set time limit for corrective action on drawback proposal under 19 U.S.C. 1313(b); 19 CFR 191.10(e)(2); 19 U.S.C. 1313(b); 19 U.S.C. 1313(r)(2)

Dear Sir:

This is in response to your request for further review of the above-referenced protest through the former Regional Commissioner, Northeast Region. We have considered the arguments presented by your office and have reviewed the information contained in the case file. Our decision follows.

FACTS:

On October 8, 1986, SmithKline Beecham applied to Customs' Northeast Region under Treasury Decision (T.D.) 81-234, the general drawback rate of 19 U.S.C. 1313(a), for drawback of duties paid on imported raw materials which it used in producing monocid brand of sterile cefonicid sodium, an antibiotic pharmaceutical, upon exportation. Customs approved the use of the general rate and an audit was requested on August 28, 1987, by the then Assistant District Director (Commercial Operations), Baltimore, Maryland, on the filed drawback entries.

The U.S. Customs Service, Northeast Region, Regulatory Audit Division in Boston, subsequently conducted a drawback audit on fourteen pending drawback claims filed under T.D. 81-234 and concluded in their report (Report 122-90-DRO-001) dated January 4, 1991, that SmithKline had overstated the amount of merchandise used to manufacture the claimed articles and that SmithKline was not entitled to direct identification manufacturing drawback under 19 U.S.C. 1313(a) because the company's records were insufficient to establish that the exported articles were manufactured with the use of the imported merchandise as required by statute. The audit report further stated that the records were adequate to support drawback under the provisions of the substitution manufacturing drawback of 19 U.S.C. 1313(b) if the company had an approved substitution drawback contract. Customs (Boston) notified SmithKline of its non-compliance under 19 U.S.C. 1313(a) and T.D. 81-234 on January 22, 1991, and suggested that SmithKline apply directly to Customs Headquarters for a specific substitution drawback contract under 19 U.S.C. 1313(b).

On April 30, 1991, Headquarters received SmithKline's drawback proposal dated April 16, 1991. By letter dated July 12, 1991(case number 223164), Customs stated that the proposal as submitted, was inadequate because it did not contain the necessary information, such as specifications for both the imported and domestic merchandise, to comply with the "same kind and quality" requirement, and it did not follow the standard sample 1313(b) format. Customs also stated that further consideration would be given upon receipt of an amended application.

On October 23, 1991, Boston Customs contacted Headquarters and found out that the company had not yet submitted an amended 1313(b) proposal. On October 9, 1992, Boston Customs requested a copy of the July 12, 1991 letter sent to SmithKline. On October 29, 1992, Headquarters, upon request of SmithKline's broker, Ms. Mary Lou Stohlein of Kurz-Allen, Inc., sent a copy of its July 12, 1991 letter and a copy of the April 16, 1991 drawback proposal.

On December 4, 1992, Boston Customs sent a notice to the protestant stating that if an amended drawback contact proposal was not forwarded to Headquarters within two weeks, the drawback claims filed under 19 U.S.C. 1313(a) would be denied in full. In a December 22, 1992 letter, SmithKline requested additional time due to a company reorganization; Boston Customs held off liquidating the claims.

On February 9, 1993, Boston Customs called Headquarters for the status of SmithKline's proposed drawback contract. Headquarters responded that, to date, it had not received an amended drawback proposal in response to its July 12, 1991 letter. On February 26, 1993, Boston Customs sent a notice on Customs Form 29 to SmithKline informing it that the pending drawback claims filed under 19 U.S.C. 1313(a) were going to be liquidated with "no drawback." On March 19, 1993, Customs denied drawback in full based on SmithKline's non-compliance with the general drawback rate, 19 U.S.C. 1313(a) and (i), and its inaction in getting an approved substitution contract despite Customs' numerous inquiries. Since the claims had been paid under the accelerated payment procedure, a bill for the repayment of the duties paid was issued to SmithKline upon liquidation. On June 6, 1993, the protestant filed a protest against the March 19, 1993 denial of its drawback claims.

After having filed its protest, SmithKline submitted to Headquarters on June 10, 1993, a revised drawback proposal dated June 8, 1993 (case number 224767). On September 3, 1993, Headquarters wrote another letter to SmithKline informing it that after having technically reviewed the proposal, additional information and clarification/corrections on six issues were required before the drawback proposal could be approved. In this letter, Headquarters stated that although the specifications SmithKline submitted for the three different chemicals were sufficient for "same kind and quality" substitution purposes, the specifications given for the fourth chemical compound (FOMC) was insufficient to ensure that the domestic and imported merchandise are of the "same kind and quality," and thus requested the purity range for this chemical.

On September 15, 1993 while SmithKline's proposed drawback contract under 19 U.S.C. 1313(b) was pending, this protest, which was granted further review by Boston Customs, arrived at Headquarters No action on the protest was taken at that time since further consideration of the protestant's proposed drawback contract was pending.

About 6 months later on March 31, 1994, SmithKline resubmitted another revised drawback proposal to Headquarters (case number 225294) incorporating the changes referenced in the September 3, 1993 letter and enclosing the requested additional specification. On April 6, 1994, Customs reviewed the new information and determined that the additional specs for the fourth chemical compound were sufficient for "same kind and quality" purposes. The revised proposal, however, was still not properly signed in accordance with 19 CFR 191.6(a); a new signature page dated June 10, 1994 was submitted shortly thereafter. On June 22, 1994, Headquarters approved the drawback contract under 19 U.S.C. 1313(b) for the manufacture of monocid (sterile cefonicid sodium in vials) and sterile cefonicid bulk powder with the use of 7-ACA; 7-MACA; FOMC; and TSA, and abstracted the contract as T.D. 94-82-V.

On the protest form (CF 19) the protestant does not articulate an argument against the denial of drawback under 19 U.S.C. 1313(a), except to state that: "[p]er the recommendations of Customs Auditors, SmithKline Beecham filed a 1313(b) contract with Headquarters, Washington, D.C." The protestant does not explain its two-year delay in providing an acceptable amended drawback proposal to Headquarters after its original inadequate submission on April 16, 1991.

ISSUES:

(1) Whether Customs properly denied drawback under 19 U.S.C. 1313(a) pursuant to 19 CFR 191.10(e)(2) on the facts presented in this protest.

(2) Whether there is a time limitation incumbent on a drawback claimant to take corrective action under 19 CFR 191.10(e)(2).

(3) Whether, during the protest procedure, claimant may be given the opportunity to obtain an approved substitution manufacturing contract. If so, whether the protestant is entitled to drawback under 19 U.S.C. 1313(b) on the protested denied drawback claims filed under 19 U.S.C. 1313(a).

LAW AND ANALYSIS:

Initially, we note that the protest was timely filed under the statutory and regulatory provisions for protests (see 19 U.S.C. 1514 and 19 CFR Part 174). We note that the refusal to pay a claim for drawback is a protestable issue under 19 U.S.C. 1514(a)(6). This protest involves the denial of drawback under 19 U.S.C. 1313(a) and, by implication, eligibility for drawback under 19 U.S.C. 1313(b). Thirteen drawback entries have been protested, involving a total sum of $400,398.14, in claimed drawback.

Often referred to as "direct identification" manufacturing drawback, section 313(a) of Tariff Act of 1930, as amended (19 U.S.C. 1313(a)) provides that if articles are manufactured or produced in the United States, wholly or in part, from imported merchandise and have not been used prior to its exportation or destruction under customs supervision, the full amount of duties paid shall be refunded as drawback, less 1 per centum of such duties.

Section 1313(b), often referred to as "substitution" manufacturing drawback, provides that if imported duty-paid merchandise and any other merchandise whether imported or domestic of the same kind and quality are used within three years of receipt of the imported merchandise in the manufacture or production of articles by the manufacturer or producer of the articles and articles manufactured or produced from either the imported duty-paid merchandise or other merchandise, or any combination thereof, are exported or destroyed under customs supervision, 99 per centum of the duties paid on the imported duty-paid merchandise shall be refunded as drawback, provided that none of the articles were used prior to the exportation or destruction.

The Customs Regulations pertaining to drawback, promulgated under the authority of section 1313(l), are found in 19 CFR Part 191. These regulations require the manufacturer of the articles for which drawback is claimed under section 1313(a) to maintain records establishing compliance with these requirements (see 19 CFR 191.22). The protestant, in its drawback contract (T.D. 81-234), specifically agreed to comply with all of these requirements, and the protestant cited T.D. 81-234 as the basis for each of its claims.

Compliance with the Customs Regulations on drawback is mandatory and a condition of payment of drawback. United States v. Hardesty Co., Inc., 36 C.C.P.A. 47, C.A.D. 396 (1949); Lansing Co., Inc. v. United States, 77 Cust. Ct. 92, C.D. 4675; see also Guess? Jeans Inc. v. United States, 944 F. 2d 855, 858 (1991) "We are dealing [in discussing drawback] instead with an exemption from duty, a statutory privilege due only when the enumerated conditions are met" (emphasis added). The regulations provides for examination of all records (such as manufacturing and complimentary records) and verification of drawback claims by Customs (19 CFR 191.2(o) and 191.10).

The audit report stated that the designated imported duty-paid merchandise could be traced from receipt into inventory and from withdrawal from inventory into production. The audit report stated that the imported lots of material lost their identity after being placed in production and there was no way to correlate the import and inventory records in order to trace the import through production to the finished product. Thus, the designated imported duty-paid merchandise could not be traced through the entire manufacturing process, as required by the direct identification drawback statute (19 U.S.C. 1313(a)).

The problem exposed by the audit was that once the merchandise was placed into the first stage of production, the imported merchandise's identity was lost. That is, after the first intermediate product was produced and assigned an intermediate product number, the imported merchandise's identity could not be traced by production records either through the second or third stage of the production process. The final product (monocid) was produced after a three-stage process involving the manufacture of two intermediate products. SmithKline did not use only imported merchandise in its production but also used domestically-sourced merchandise in the production of the final product. As a result, the end product could not be said to have been produced only from the designated imported duty-paid merchandise.

The audit report found that the finished goods inventory records tracked the final product from production to exportation since those records documented when product was received from production and shipped for export. The finished goods inventory records established that SmithKline exported articles which it manufactured within 3 years after receipt of the designated imported duty-paid merchandise. Based on the fact that the imported merchandise could be traced to manufacture and the exported articles could be traced to production by the existing records, the audit report concluded that the records were adequate to support drawback under 19 U.S.C. 1313(b), but not under direct identification of 19 U.S.C. 1313(a). The audit report, therefore, recommended that SmithKline be given the opportunity to correct its claim under substitution manufacturing drawback before denying drawback under 19 U.S.C. 1313(a). Based on the findings and conclusions of the audit, we find that SmithKline is not entitled to a refund of its duties paid on the basis of 19 U.S.C. 1313(a). The protestant does not refute this position.

The first issue presented is whether the protestant violated a time requirement to pursue corrective action on its drawback claims filed under 19 U.S.C. 1313(a) to qualify for drawback under the substitution manufacturing drawback law of 19 U.S.C. 1313(b). Section 191.10(e) of the Customs Regulations provides that when verification by an audit uncovers an error or deficiency in a drawback proposal, Customs Headquarters or the port director (formerly the Regional Commissioner), as appropriate, will offer the claimant the opportunity to correct the proposal "within a specified time."

Section 191.10(e)(2) of the Customs Regulations (19 CFR 191.10(e)(2)) provides:

(e)(2) Contracts accepted by port director [formerly regional commissioner]. The port director [formerly regional commissioner] shall offer the claimant the opportunity within the specified time to amend proposals that are the basis of contracts which he has accepted. If the claimant does not take corrective action within the prescribed time, the port director [formerly regional commissioner] shall liquidate the claim(s) "no drawback."

This section of the Customs Regulations was revised in 1983. See T.D. 83-212; 48 FR 46740, dated October 14, 1983. Comments from the public were received on the then-proposed section 191.10(e), as follows:

Comment: The use of the phrase "within a specific time" in proposed section 191.10(e) should be changed to show the claimant has a fixed specific time to amend the defective drawback contracts. It is suggested that 90 days is appropriate.

Analysis: It is Customs opinion that use of specified time would be restrictive, both to Customs and the claimants. Contract deficiencies must be corrected timely. Required changes to contracts will vary in complexity. These matters are best resolved between the responsible Customs Service official and the claimant. The suggestion is not adopted. (48 FR at 46744; T.D. 83-212 at 477).

The drawback statute itself is silent as to any time limitation on the correction of a defective drawback contract rather than on filing of the original drawback entry or claim. See 19 U.S.C. 1313(r)(1)(a drawback entry shall be filed within three years after the date of exportation). Moreover, if it is determined that drawback is not allowable under the entry as originally filed but is allowable under such other subsection of 19 U.S.C. 1313, it is deemed filed pursuant to the other applicable subsection. See 19 U.S.C. 1313(r)(2).

It is clear from the above analysis of the public comments in T.D. 83-212 that Customs deliberately chose keep the term "within a specified time" vague, and not to set a definite time limit by regulation. An open-ended or undefined time limit for corrective action was selected to permit flexibility for both the Customs Service and the drawback claimants on a case-by-case basis, depending upon the specific needs of the parties which may warrant flexibility. However, Customs intended a "reasonable" time period under 19 CFR 191.10(e).

The protestant had 26 months (from January 22, 1991 to March 19, 1993) to amend its claims from direct identification to substitution before Customs finally liquidated the claims filed under 19 U.S.C. 1313(a) with "no drawback." In this case, Customs did not exercise its option to liquidate within a prescribed time frame; however, it cannot be said that the liquidation with a denial of drawback after a 26-month time period was unreasonable. Thus, the denial of drawback was proper pursuant to 19 CFR 191.10(e)(2). There was no entitlement to drawback under direct identification drawback provision. As stated previously, protestant does not contest its non-compliance with the statutory requirements of 19 U.S.C. 1313(a).

Notwithstanding the protestant's lack of due diligence in obtaining a specific drawback contract under section 1313(b) from Headquarters (it took SmithKline close to two years (from July 12, 1991 until June 10, 1993) in which to submit an acceptable revision of its original 1313(b) proposal of April 16, 1991), Customs cannot deny drawback when the protestant timely protested its denial of drawback and preserved its right under the applicable administrative procedure. The mere absence of an approved 1313(b) drawback contract at the time the protest was filed is not necessarily fatal to the protestant's right of recovery under 19 U.S.C. 1313(b), assuming of course that section 1313(b) would otherwise legally be available in this regard. See Ciba Company, Inc. v. U.S. , C. D. 1359 (1951); United States v. Adolphe Schwob, Inc., 21 C.C.P.A. 116, T.D. 46447 (1933), affirmed, Adolphe Schwob (Inc.) v. United States, 62 Treas. Dec. 248, T.D. 45908; also, see generally C.S.D. 84-100 and 84-19.

Entitlement to drawback under 19 U.S.C. 1313(b) is not directly in issue in this protest. The protestant established through its records that the exported articles were made with either the designated imported duty-paid merchandise or merchandise of the same kind and quality as that merchandise. The approval of SmithKline's substitution drawback proposal by Headquarters on June 22, 1994, confirmed the same-kind-and-quality requirement of the imported and substituted merchandise used in the manufacture of monocid and sterile cefonicid bulk powder. Customs found that there was sufficient evidence to substantiate compliance with the other aforementioned statutory and regulatory requirements under the substitution manufacturing drawback law based upon protestant's records. Therefore, we find that the protestant, although not entitled to drawback under direct identification, is nevertheless entitled to drawback under the substitution manufacturing drawback law on its denied drawback claims covered by this protest. See 19 U.S.C. 1313(r)(2); Ciba, supra; Adolphe Schwob, supra.

HOLDINGS:

(1) The denial of drawback under 19 U.S.C. 1313(a) was proper.

(2) Although there is no defined time limit under 19 CFR 191.10(e)(2) in which a drawback claimant is required to take corrective action, the consequence of not taking action within a "reasonable" time period is that Customs can liquidate the drawback claim and the drawback claimant will then be required to file a protest under 19 U.S.C. 1514(a)(6) to preserve his right to any entitlement under 19 U.S.C. 1313.

(3) The protestant, who timely filed a protest and obtained an approved contract under 19 U.S.C. 1313(b), is entitled to substitution manufacturing drawback under 19 U.S.C. 1313(b) on the protested drawback claims denied under section 1313(a) since entitlement to section 1313(b) drawback has been established by protestant's compliance with the drawback law. See 19 U.S.C. 1313(r)(2).

This protest is GRANTED in full. In accordance with Section 3A(11)(b) of Customs Directive 099 3550-065, dated August 4, 1993, subject: Revised Protest Directive, this decision should be mailed by your office to the protestant no later than 60 days from the date of this letter. Any reliquidation of the entry in accordance with the decision must be accomplished prior to the mailing of the decision. The Office of Regulations and Rulings, 60 days from the date of the decision, will take steps to make the decision available to customs personnel via the Customs Rulings Module in ACS and the public via the Diskette Subscription Service, Freedom of Information Act and other public access channels.

Sincerely,

Director, International Trade

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