What is the difference between a customs audit and a Free Trade Agreement (FTA) verification? An audit is a broader inquiry that can cover any legal requirement, whereas a verification is specific to origin and FTA compliance.

Customs audits are generally broader, focused on a wide range of customs issues, and are typically risk-based, or revenue-based. Customs audits focus on multiple entries, usually over a specific time-frame.

FTA verifications ensure the stipulations stated in the FTA document are accurately applied. These verifications focus on a particular claim of preferential treatment and follow a procedure documented in the text of the international agreement.

The main difference between the two is that an FTA verification is focused on the specific import entry that claimed FTA preferential treatment instead of a broad range of entries. The second main difference is that FTA verifications are not only conducted by customs agencies in the importing countries but can also be conducted by foreign governments in accordance with the text of the trade agreement.

The FTA verification is focused on verifying the validity of a duty-free import claim. Countries are motivated because of the loss of revenue. The FTA verification authority and procedures are found in the text of each FTA. The text of the agreement specifies what the party countries agreed to in regards to the type and procedure of audit and verification of valid preferential claims.

For example, under the U.S.-Korea Free Trade Agreement (KORUS), article 6.18 states that the importing country may conduct verifications by written requests or by visits to the premises of the exporter. NAFTA verification is found in article 506 and allows Canadian or Mexican customs authorities to perform verifications on US exporters.

Burden of Proof

For all other U.S. FTAs besides NAFTA, CBP places the burden of proof primarily on the importer. This means that when a U.S. company imports under U.S.-Australia, it is the U.S. company (the importer) that is responsible for proving the accuracy of the FTA claim. That company must provide accurate documentation to defend against the FTA verification. This can become an issue when the customer is requesting the costing information for a product that could reveal the seller’s profit margin.

Alternatively, the burden of proof is different between NAFTA and all other U.S. FTAs. Under NAFTA, the importer can claim FTA preferential treatment if they can reasonably rely on a properly documented NAFTA certificate. If a verification is to be completed, CBP will contact the exporter for proper verification. The exporter (from Canada or Mexico) actually has the burden to prove that the certificate is valid.

What to Expect

An FTA audit verifies classification and valuation, along with rule of origin, proper de minimis application, adherence to direct consignment rules, proper documentation of certificate of origin with proper dates and signature, as dictated in the applicable FTA. FTA verifications from CBP can be triggered from a focused assessment, quick response audit, or even a routine CF28 if a questionable determination process or certificate of origin is identified in the audit process. Foreign customs agencies can also trigger FTA verifications, usually when the foreign government has suspicions about the transaction, or if there are discrepancies within the certificate of origin itself.

To successfully defend against an FTA audit, a company must fully understand the text of the FTA. All FTAs are different, but good policies and procedures will assure proper compliance with all FTA regulation.

Successful FTA verifications depend on:

  • Understanding the relevant rule of origin. If you do not know the rule applicable to the goods, there is no way for you to prove the goods qualify;
  • Correct tariff classifications for finished goods and materials; some FTA qualification depends on tariff shift rules, requiring knowledge of the classification of both inputs and finished goods, for example;
  • Accurate valuation of finished goods and materials. When relevant, the producer must properly document costs in the producer’s books and records, properly allocated to the product, and adjusted per the agreement (e.g., most materials are valued on an FOB basis);
  • Consistent application of rules. Some rules are very complex and require a lot of detail and consistency (and probably automation); and
  • Formalities of the particular FTA: be precise with details such as the date of import versus the date of the NAFTA certificate of origin. If the certificate of origin says Net Cost method was used, does the rule actually permit that method?

A finding of non-compliance typically results in the refusal of duty-free treatment, directly affecting the cost of the goods and the importer’s bottom line. If the certificate of origin is denied, the importer must then pay the normal duty rate for the product, plus interest, and in some cases, plus penalties and legal fees. In many cases, these goods have already been sold and thus, the importer cannot increase the price of the goods to recoup the increased duty and other unanticipated costs.

Further compounding the problem, repeatedly certifying goods when they in fact are not eligible could lead to customs authorities denying all requests for duty free treatment. Clearly, this is bad for business.

The 2016 Thomson Reuters and KPMG LLC Global Trade Survey found that 77% of companies are not fully utilizing FTAs available to them. Why? These companies cite reasons such as complexity of rules of origin, challenges in gathering information from suppliers and the risks and costs of compliance. Automation on each part of the process increases accuracy and efficiency which can decrease the likelyhood of negative audit results and increase proper usage of FTAs, increasing duty savings globally.

Kellie Gryga is ONESOURCE FTA analyst at Thomson Reuters.