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By Franscela Sapien and Rafael Sánchez, from Cuesta Campos y Asociados, S.C.

Introduction

In accordance with the North America Free Trade Agreement ("NAFTA"), the customs authorities (of the respective countries) may verify the origin of the goods imported to their territories using preferential rules (under the NAFTA). The purpose of such verification audits is to confirm i that the imported goods comply with the rules of origin of NAFTA, and (ii) that therefore, they are eligible to the preferential tariff and non-tariff regulations.

Below we provide a summary of the most common false beliefs and important recommendations that should be considered when dealing with a country of origin audit conducted by a foreign authority:

1. Mexican and/or Canadian governments do not have authorities in the US.

This belief is incorrect. Under the NAFTA, each party of the agreement appoints a governmental customs authority under their own domestic law, which will be in charge of reviewing the applicability and enforcement of the NAFTA in their own jurisdiction. Therefore, when goods are imported into Mexico, from the U.S. or Canada, using the NAFTA regulations (tariff and non-tariff benefits), the Mexican Customs Authority has the power to initiate audit procedures to verify that such goods do comply with NAFTA rules.

Such auditing authority has the power (i) to conduct onsite visits at the plant or offices of the exporter or producer, and/or (ii) to request information remotely.

  • The authorities in each jurisdiction with power to conduct such audits are the following: United States: U.S. Customs and Border Protection, administrated by the U.S. Department of the Homeland Security. Mexico: Central Audit Administration of Foreign Trade Operations, administrated by the Mexican Revenue Agency (SAT, for its acronym in Spanish). Canada: Canada Border Service Agency.

2. Can foreign customs governments conduct audit visits at my premises in the US?

Yes, audits of the foreign customs authority can be executed.

The purposes of onsite visits are (i) to review support documents and information inventory control, databases, contracts, agreements, invoices, payment evidences, use of materials, among others, and (ii) to review the manufacturing process, when the audited party is the producer of the imported goods.

Prior to conducting the verification visit, the customs authority shall notify in writing its intention to conduct such visit (i) to the exporter and/or producer (as the case may be), and also ii to the local customs administration of the place where the audit will be carried out this is in case that the audited party wants to have assistance or support from its own government.

Can the exporter and/or producer reject the verification visit? Yes; however, this has legal consequences (Please see below item 4).

3. What happens if an audit visit request is not responded?

The general belief of exporters and producers is that there will be no legal implications. In fact, they do not feel responsible or obligated to respond to requirements of foreign governments (simply, because it is a foreign authority). Contrary to this belief, in case that there is no consent to the verification visit within 30 days after the notification is received, the foreign government can automatically consider that (i) the goods do not have NAFTA origin, and that therefore, (ii) they are not entitled to the NAFTA benefits.

4. What happens if I do not cooperate?

If during the course of the audit (either at the premises of the exporter/producer, or remotely) the audited party refuses to provide the requested information, the auditing authority may also automatically consider that (i) the goods do not have NAFTA origin, and that therefore, (ii) they are not entitled to the NAFTA benefits.

5. Will my information be confidential?

Usually, the party subject to the verification visit is reluctant and unwilling to provide the foreign customs authority with the information requested, due to confidentiality and disclosure concerns.

Although this concern is valid, NAFTA and local regulations in each jurisdiction set forth provisions and obligations to ensure that any information provided by the exporter/producer during the course of the audit is treated as highly confidential. The information must only be disclosed to the customs authority for the administration and enforcement of the origin determinations and for customs and revenue matters.

To address the concern, a good recommendation is to explain openly the issue to the head government officer in charge of the audit. This could help to narrow the request of the authority, and to only provide what is strictly necessary.

6. Should I tell my customer (importer) about the audit?

It is very important for exporters/producers to immediately inform all commercial parties as soon as they are aware of an audit procedure (i.e. when the notification is received. The result of the process directly impacts the legal standing of the importer See item 9 below). If you inform about the situation on time, you give your importer the possibility of collaborating through the process (they are located in the country of the auditing authority and their point of view can be very useful in the process).

In addition, you must take into consideration that the importer is your business partner. If something may affect them, it may affect you too.

7. What are the steps of the audit procedure?

In accordance to NAFTA, the customs authority may carry out two type of audits: via written questionnaires, or through onsite verification visits.

  1. Written questionnaires. These are official formats with questions and data requests for different sections (bill of materials, classification, description and invoice number, quantity, unit cost, support documentation). The steps for a verification of origin audit through these questionnaires are the following:
    1. Written notification. The notification is usually sent through national postal service. Such notification will include the questionnaire and a list of documents that the exporter/producer must provide to the authority to prove the origin of the products. Response to the Questionnaire. The exporter/producer must submit to the customs authorities a file that includes: (i) responses to the questionnaire, (ii) attachments and exhibits with all the documents that evidence the origin of the goods, and (iii) any additional statements or documents that the audited party considers appropriate to support the origin of the goods. The response to the questionnaire must be submitted to the customs authority's office within 30 calendar days after the Written Notification was received. Review of the documentation and questionnaire. The authority will review and evaluate the information provided by the exporter/producer, to determine if the goods are originating. After this review, the authority can make additional requests to clarify questions. If this is the case, the foreign authority will issue a second written notification, specifying what needs to be provided (the Second Notification). The exporter/producer must submit such additional information within the period specified in the Second Notification. Final Resolution. After the customs authority reviews the information submitted by the exporter/producer during the whole process, it will issue its resolution, confirming or denying the NAFTA origin of the goods.

    Onsite verification visits. These are visits to the exporter/producer premises, carried out by foreign officers of the customs authority. The exporter/producer must appoint a person to attend such verification visits. The activities during the audit differ, depending on the goods that are subject to the review. The steps are the following:

    1. Written notification. It is made to the exporter/producer, and the local customs authority of that country. The purpose is to inform about the intention to conduct an onsite visit on a specified date. Confirmation of the exporter/producer. The exporter/producer has to respond to the notification accepting the verification visit; otherwise, the authority will issue a resolution denying the preferential tariff treatment. Visit. The customs authority will visit the exporter's/producer's premises to review the manufacturing process, and request information. The visit does not have a fix period of time (i.e. it can last as many days as necessary). Review and analysis. After the visit, there will be an analysis period. Additional requests can be made by the authority. Final Resolution. The authority will issue a resolution confirming or denying the NAFTA origin.

8. Should I seek professional (local) assistance to prepare the audit?

Although some companies may have internal foreign trade departments with knowledge in these kind of auditing procedures, we advice in every case to seek professional assistance from local counsels (of the country of the auditing authority).

Even though the audit process is regulated in the NAFTA, each authority and each law system is different. Assistance of local counsels may be the difference between passing or failing the audit.

9. What happens if I did not pass the audit?

Since the goods did not qualify for the NAFTA benefits, it is very likely that the importer will receive a tax assessment from the customs authority. Such assessment will demand the payment of: omitted taxes and fees, fines and penalties, surcharges and inflation adjustments.

The exporter/producer will not receive any penalty or sanction (because the foreign authority does not have the power to impose it); nevertheless, its relationship with the importer will be affected (as a result of the tax assessment). In this regard, it is possible that the commercial agreement between the exporter and the importer sets forth that the exporter must indemnify and hold harmless the importer (if the tax assessment is imposed because of its fault) – after all, according to the NAFTA, the exporter/producer should be responsible to guaranty the origin of the goods. To avoid conflicts, it is highly suggested that both parties execute an agreement (that clearly regulates a possible adverse scenario) before they initiate their business operations.

Finally, the exporter/producer may be able to challenge the resolution of the customs authority through any of the local appeal and contesting proceedings (administrative and/or judicial actions, depending on the jurisdiction).

10. What happens if I've been repeatedly failing audits?

When an exporter and/or producer has been repeatedly certifying that goods are originating when in fact they are not, the customs authority is able to initiate a process by which a general declaration will be issued, stating that all the certificates of origin, in connection to certain goods, executed by such exporter/producer, do not have NAFTA origin.

This is the worst of the scenarios for the exporter/producer, since it will complicate business operations with parties of another country.

Conclusion

Companies that conduct business under the NAFTA must be aware of these kind of auditing process and their legal implications. Also, since the best medicine is the preventative, it is highly advisable that companies:

  • Keep records and support documents of all their production and distribution operations (invoices, payments, statements, materials, inventories, among others). Prepare manuals to know how to address and handle an audit when necessary. Inform their employees and staff about the possibility of being audited by a foreign authority, so that they know how to act when one takes place. Conduct preventative due diligence to identify red flags, and corrective actions.
Region: Canada, Mexico, United States
The information in any resource collected in this virtual library should not be construed as legal advice or legal opinion on specific facts and should not be considered representative of the views of its authors, its sponsors, and/or ACC. These resources are not intended as a definitive statement on the subject addressed. Rather, they are intended to serve as a tool providing practical advice and references for the busy in-house practitioner and other readers.
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