HQ 545977 - Article 509; advance ruling; NAFTA; regional value content; net cost; accumulation; waiver of documentation requirements - United States International Trade Commision Rulings

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HQ 545977

November 29, 1997

VAL RR:IT:VA 545977 CRS

CATEGORY: VALUATION

Brian F. Walsh, Esq.
Barnes, Richardson & Colburn
200 East Randolph Drive
Suite 7920
Chicago, IL 60601

RE: Article 509; advance ruling; NAFTA; regional value content; net cost; accumulation; waiver of documentation requirements

Dear Mr. Walsh:

This is in reply to your letter of April 27, 1995, submitted on behalf of your client, Shure Brothers International ("Shure") of Evanston, Illinois, in which you requested an advance ruling under part 181, Customs Regulations (19 C.F.R. pt. 181), as to whether certain microphones imported into the United States constitute originating goods under the North American Free Trade Agreement (NAFTA). Two additional submissions were made under cover of letters dated November 20, 1996, and June 20, 1997, and several conferences were held with members of my staff and the Regulatory Audit Division. The ruling request raises issues relevant to claims for post-importation NAFTA refunds filed by Shure in the ports of El Paso, Texas and Nogales, Arizona. The claims have been withheld pending the issuance of this decision. The cost information furnished in connection with this ruling request will be treated as confidential pursuant to 19 C.F.R. ? 181.93(b)(7). Any information in this ruling enclosed in brackets will be deleted from published versions of the decision. We regret the delay in responding.

FACTS:

The instant ruling request concerns a model [*****] microphone produced in Juarez, Mexico, by Shure's wholly-owned subsidiary, Shure Electronica, S.A. Both originating and non-originating materials are used in the production of the imported microphones, including materials produced by Shure in the U.S., materials produced by Shure Electronica at its plant in Juarez, Mexico, materials produced by Shure de Sonora S.A. de C.V. (also a wholly-owned subsidiary of Shure) at its plant in Agua Prieta, Mexico, and materials imported from outside the NAFTA region. The latter are processed by Shure at its foreign-trade zone (FTZ) in El Paso, Texas, prior to being shipped to Shure Electronica's Juarez plant for use in the final assembly of the microphones. The applicable rule of origin for the good includes a regional value-content (RVC) requirement.

In your submission of June 20, 1997, you have submitted a bill of materials and a net cost RVC calculation in respect of the microphones produced in Mexico by Shure Electronica. The bill of materials sets forth on a per unit basis for all four plants (Juarez, Agua Prieta, Evanston and El Paso), all product (materials, direct labor costs and direct overhead), period and other costs incurred in the production of the microphones. The labor and overhead attributable to each material used in the production of the microphones is shown as a composite figure in the bill of materials. While Shure Electronica is the producer of the good, all of Shure's facilities in the NAFTA region, whether separately incorporated in Mexico or part of the parent corporation, are producers of components used in the production of the microphones.

Shure has centralized its management, accounting and certain engineering, data processing, personnel and manufacturing support functions at its headquarters in Evanston. Some of the management time at Evanston is therefore related to matters connected with Shure's Mexican operations. The factories in Mexico are not charged separately for administrative costs incurred in Evanston. Thus, all the information necessary for the RVC calculations, viz., information relating to production at Agua Prieta, Evanston and El Paso, is present at Evanston.

In determining the RVC of the microphones, Shure Electronic, the producer of the good, proposes to accumulate the production of its related producers. The RVC calculation you have submitted is based on the value of materials from all four of the related Shure entities, the direct labor costs and direct overhead incurred in Juarez, and the labor, overhead and period costs from El Paso. To this are added the labor and overhead costs product costs from Agua Prieta and the period costs, i.e., the management, personnel and other administrative costs, incurred by Shure at its Evanston headquarters. Shure has combined labor and overhead in a single figure based on the standard labor hours used the production of the microphones at each of Shure's plants. The product and period costs are accumulated without regard to whether the materials to which the costs relate are originating or non-originating. The calculation yields an RVC in excess of the 50 percent required under the net cost method.

ISSUES:

The issues presented are whether: (1) the product costs involved in the production of materials at all the related Shure facilities and used in the production of the imported microphones can be accumulated in determining the RVC of the microphones; (2) the period costs incurred by Shure at its Evanston headquarters and related to the imported merchandise can be accumulated for purposes of the RVC calculation; and (3) whether Shure may be granted a waiver from the requirement of having to obtain a net cost statement relating to accumulated material costs.

LAW AND ANALYSIS:

Section 4 of the Appendix to part 181, Customs Regulations, (19 C.F.R. pt. 181 app.; NAFTA Rules of Origin Regulations (the "ROR")), sets forth the rules for determining whether a good originates in the territory of a NAFTA party. For example, a good will originate if it was "wholly obtained or produced" in accordance with section 4(1) ROR, or if it satisfies the applicable change in tariff classification, the applicable RVC requirement or combination thereof under section 4(2) of the ROR, to cite but a few possibilities.

In regard to both the change in classification and/or the RVC rules for conferring originating status, section 14 of ROR affords the exporter or producer of the good the option of determining the origin of the good by accumulating the production of a material with the production of the good in which the material is used. Section 14 provides in relevant part:

(1) Subject to subsections (2) and (4), for purposes of determining whether a good is an originating good, an exporter or producer of a good may choose to accumulate the production, by one or more producers in the territory of one or more of the NAFTA countries, of materials that are incorporated into that good so that the production of the materials shall be considered to have been performed by that exporter or producer.

The effect of accumulation is thus to treat the production processes of the material producer(s) and the producer of the good as one for purposes of determining whether the good qualifies as an originating good under the ROR.

In order to accumulate the production of a material under section 14, the exporter or producer of the good must obtain a signed statement from the producer of the material with respect to the net cost incurred in the production of that material. The net cost information can be based on cost averaging of accumulated production in accordance with section 14(3), which requires, inter alia, that the statement set forth "any amount, other than an amount that includes any of the values of non-originating materials, that is part of the sum of the net cost incurred by the producer of the material in the production of that material...produced in a single plant by the producer of the material...divided by the number of units of materials to which the statement is made." 19 C.F.R. pt. 181 app., ROR ? 14(3)(b).

Under the ROR, net cost is determined in accordance with section 6(11), pursuant to one of several options, all of which involve a calculation of the producer's total cost. Total cost is calculated in accordance with section 2(6) of the ROR which provides that "total cost consists of all product costs, period costs and other costs that are recorded, except as otherwise provided in paragraphs (b)(i) and (ii), on the books of the producer without regard to the location of the persons to whom payments with respect to those costs are made". 19 C.F.R. pt. 181 app., ROR, ? 2(6). The term "product costs" is defined as "costs that are associated with the production of a good, and includes the value of materials, labor costs and direct overhead"; the term "period costs" is defined as "costs, other than product costs, that are expensed in the period in which they are incurred". 19 C.F.R. pt. 181 app., ROR, ? 2(6).

In the instant case, Shure Electronica is the producer of the good, i.e., the microphones. Both originating and non-originating materials are used in the production of the good. As a general matter, the determination as to whether a good originates in the territory of a NAFTA country is made by applying the provisions of section 4 of the ROR. In determining the RVC of a good, the entire value of the materials used in the production of the good is considered to be originating or non-originating, as appropriate. The accumulation provision, however, allows the producer or exporter to include as part of the good's RVC any regional value added by suppliers of non-originating materials used in the production of the good. Thus, accumulation allows the producer to reduce the value of non-originating materials used in the production of the good by taking into account the NAFTA inputs incorporated in those non-originating materials.

For purposes of determining the RVC of the [******] microphone, you have asked whether Shure Electronica can accumulate all the product and period costs incurred by the Shure entities involved in the production of the good, including its own product costs. However, unlike the general scenario, described above, for determining the originating status of a good, Shure proposes to do this regardless of whether the materials used in the production of the microphones are originating or non-originating. In effect, Shure proposes to by-pass section 4 of the ROR and apply the accumulation provision ab initio in determining whether the imported microphones meet the applicable RVC requirement.

Indeed, Shure contemplates using accumulation even if a material used in the production of the microphones contains no non-originating materials. For example, as set forth in the bill of materials dated June 19, 1997, part no. [********], a swivel assembly, contains no non-originating content whatsoever. The material costs are originating and are carried on the producer's books, as are certain direct labor and overhead costs. Other direct labor and overhead costs are carried on Shure's books in Evanston. Rather than make an initial determination as to which materials are originating and which are non-originating, and then accumulate any regional value contained in the latter, Shure has asked whether, in order to calculate the RVC of the microphones, it is acceptable to apply the accumulation method without regard to the originating status of the materials used in the production of the microphones.

As noted above, section 14 allows the producer of the good to accumulate the production, by producers in one or more of the NAFTA countries, of materials incorporated into the good. 19 C.F.R. pt. 181 app., ROR, ? 14(1)-(2). While Shure's approach is unusual in that Shure intends to use the accumulation method irrespective of whether the materials to which the costs relate are originating or non-originating, it is our position that the approach is nevertheless a permissible application of the accumulation method, subject to the following considerations.

First, based on the fact that Evanston and El Paso are part of the same corporate entity (Shure Brothers International), the producer of the good, Shure Electronica, can accumulate any corporate overhead costs on Evanston's books that are related to the production of materials used in the production of the good. In this regard, any overhead or other costs that are allocated to the good must be allocated in accordance with the reasonable allocation provisions of schedule VII. Second, in order to support the information contained in the bill of materials for the microphone, Shure must have bills of material for all the materials it produces which are used in the production of the microphones. Alternatively, for materials acquired from other producers, Shure must have a statement from the supplier of the materials in order to document the originating status of the materials. Based on the information presented some fifty-five materials (sub-assemblies and components) are used to produce the microphones. Thus, to support its RVC calculation in the event of a verification, Shure must have available individual bills of material or statements for all of the materials used in the production of the microphones.

In addition, in calculating the RVC of the microphones, we note that Shure has combined labor and overhead in a single figure based on the standard labor hours used the production of the microphones at each of Shure's plants. However, under schedule VII (Reasonable Allocation of Costs), materials and labor must be directly attributed to the good. Thus, while the overhead calculation can be based on a formula, labor costs, in contrast, must be directly attributed. Under schedule VII, cost allocation methods used for internal management purposes must also be used for purposes of allocating direct material costs, direct labor costs and overhead costs to the good. 19 C.F.R. pt. 181, app. schedule VII, ? 3. Please note, however, that any costs allocated to the good on the basis of a cost allocation method used for internal management purposes that is solely for the purpose of qualifying a good as an originating good will not be considered a reasonable allocation. Id. at ? 7.

Finally, Shure has requested a waiver of the requirement of section 14 that producers choosing to accumulate the production of materials obtain net cost statements from the material producers whose costs are being accumulated. The basis for this request is that the cost information of all the producers whose costs would be accumulated are located at Shure's Evanston headquarters. Shure contends that the present circumstances are unlike those which would obtain where, for example, a producer wishes to accumulate costs incurred by unrelated parties, or in a decentralized organization. Shure notes further that a net cost statement in this instance would be duplicative of information already available in Evanston and would serve no purpose for the company internally.

It is our position, however, that the statement required by section 14 may not be waived. The documentation and records specified under Article 505 of the NAFTA are required to enable the customs administration of a Party to conduct a verification of origin under Article 506 of the NAFTA. Uniform Regulations for the Interpretation, Application, and Administration of Chapters Three (National Treatment and Market Access for Goods) and Five (Customs Procedures) of the North American Free Trade Agreement (the "Uniform Regulations"), Article V, 60 Fed. Reg. 46464, 46465 (1995). Nevertheless, in the circumstances of this related party case it is our position that the required statement may take the form of cost sheets so long as it is made available in the event of a verification. The statement or cost sheets may be maintained in machine-readable form provided they can be retrieved and printed; in any event, they must be made available for inspection in the course of a verification visit.

HOLDING:

In conformity with the foregoing, Shure Electronica can accumulate the production by its related producers in the NAFTA territory of materials incorporated into the microphones, including the management, personnel and other administrative costs carried on Shure's books, to the extent those costs were incurred in the production of materials by Shure's U.S. entities. The requirement of a statement under section 14 of the ROR is not waived.

This holding applies only to the specific factual situation and merchandise identified in the ruling request. This position is clearly set forth in section 181.100(a)(2), Customs Regulations, which states that a NAFTA ruling letter is issued on the assumption that all the information furnished in connection with the ruling request and incorporated therein, directly, by reference, or by implication, is accurate and complete in every respect. Should it subsequently be determined that the information furnished is not complete and/or does not comply with 19 C.F.R. ? 181.100(a)(2), this ruling will be subject to modification or revocation. In addition, any change in the facts furnished in connection with this ruling may affect the outcome of the regional value content determination. In such a case, it is recommended that a new ruling request be submitted in accordance with 19 C.F.R. ? 181.93.

Sincerely,

Acting Director
International Trade Compliance Division

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