Keeping an eye on compliance in a volatile environment

Keeping an eye on compliance in a volatile environment

The current international trade atmosphere presents many challenges for North American importers and shippers. Regulations are complex and constantly changing, making the environment even more complicated. Trading partners leveraging tariffs and threats create volatility for businesses reliant on shipments that cross US borders. These issues disrupt business cycles and create financial risk that can jeopardize profit.

Mitigating risk

Businesses operating globally — whether relying on foreign-sourced raw materials, components, or finished goods — are subject to the specific regulatory policies enforced in every country involved in their supply chains. The potential imposition of fines and other penalties requires extensive research and close governance of ongoing trade compliance programs to remain abreast of each sovereign nation’s trade regulations and agreements. The compliance target is ever-moving. To mitigate the risk of noncompliance, companies must scrutinize every detail of their trade process to identify gaps that increase exposure to financial risk.

For example, an importer received a retroactive adjustment regarding Harmonized Tariff Schedule (HTS) classification during its recent import liquidation process. Reassessment of imported products’ HTS classification codes resulted in the application of additional duties following anti-dumping case investigations related to those HTS numbers. This adjusted duty, retroactive 90 days, was equal to 150 percent of the import value for close to 35 entrants eligible for liquidation. The importer’s new levied duty of $1.25 million was payable to US Customs and Border Protection (CBP) within 20 days.

Given the potential for such an outcome, international shippers simply cannot afford to gamble on compliance. In response to the complex trade environment, some organizations have created compliance departments managed by C-Suite officers ultimately responsible for mitigating risk emerging in this key operational area. Others are looking to augment their operations with the expertise of an Enterprise Logistics Provider that maintains a working knowledge of the dynamic international trade environment.

Impact of tariffs and noncompliance

Trade tensions have already been very disruptive to US businesses impacted by product- and origin-specific tariffs levied throughout 2018 and flowing into 2019. Uncertainty fueled by adversarial posturing between international trading partners and an environment of increased trade scrutiny more broadly threatens all industry sectors. Added layers of administrative enforcement creates additional risk for any importer/exporter operating internationally.

The passage of the Trade Facilitation and Trade Enforcement Act (TFTEA) by Congress mandated that CBP increase its trade enforcement and revenue generation activities, with particular focus on trademark violations, anti-dumping, countervailing duty, social compliance, and general trade compliance practices already in place. The volatile environment of tariffs and retaliatory actions further drives CBP to intensify its scrutiny of imported products as part of its duty to protect the commerce and security of the United States.

The e-commerce-driven explosion of small-package shipments crossing the US border compels CBP to address new security threats emerging in this channel and ensure all revenue due to the US government is collected. As a result, CBP investigators are closely scrutinizing HTS numbers, particularly for targeted items and imported products that reflect an HTS classification change possibly spurred by the assessment of a higher or recently adjusted duty.

Likewise, CBP is increasing enforcement of commerce involved in free trade agreements (FTAs). One importer received a request for documentation that covered an 18-month period. Investigators determined that while Canadian and Mexican agencies signed the import certificates, the importer could not prove it followed applicable North American Free Trade Agreement (NAFTA) rules. Failure to confirm NAFTA eligibility prior to entry carries a penalty of $11,000 per entry. With 635 entries, the fine for this particular importer approached $7 million.

Implementation and adoption of the Automated Commercial Environment (ACE) adds complexity by reducing the number of hard copy shipping documents that CBP sees at the time of entry. Customs is now requesting reconstructed entries of submission, or electronic or hard copy data post entry. Companies complacent with their documentation and recordkeeping processes and those without complete understanding of the document requirements for each transaction often are unable to produce documents “on demand” as required by Customs. CBP’s timeframe for recordkeeping investigation spans back five years from the date of clearance, creating added jeopardy for unprepared importers.

Recordkeeping tops the list of financial penalties that carry the greatest risk. Violations represent an impact of $100,000 each, per entry for data or documentation not produced upon demand by CBP. Because of the structure of the penalty and the ease of noncompliance, failures in recordkeeping are also the most prevalent compliance violations in international trade. In light of the current environment, CBP is asking for more records than they have in the past, and companies found to be noncompliant with US trade regulations face great financial risk.

Elevating compliance to the C-Suite

Compliance starts at the top of any organization, so it’s no surprise that trade compliance conversations are being elevated to the C-Suite. Corporate responsibility is now a core concept of the Customs Trade Partnership Against Terrorism (C-TPAT) program, which combines trade compliance and security. Senior management control and involvement in the import process has been part of the existing core responsibilities of every compliance program. Meanwhile, the Sarbanes-Oxley Act requires senior management roles to maintain visibility to all financial risk, which certainly exists in international trade lanes.

Business enterprises that can easily identify an executive-level sponsor managing trade compliance are typically in a good position to face CBP scrutiny. Those that struggle to connect the dots from the C-Suite throughout the organization, on the other hand, may find themselves on the wrong side of CBP’s reasonable care standards for supervision and control as outlined in trade regulations.

Senior management responsibility is more than just an endorsement — it is involvement in the entire process. Executives should not only examine all documentation and defensible processes to confirm they are in place, but they should also instill a culture of compliance that permeates the organization. This requires open communications across business units that allow compliance professionals to speak and interact with purchasing professionals within the same organization. Procurement and sourcing team members must maintain data transparency for finance. This level of connectivity is required for compliance, and the responsibility for maintaining this cross-functional communication rests squarely on senior management.

Seasonal shifts

During peak shipping seasons, capacity is naturally restricted, and international vessel operators react by applying surcharges. When capacity is tight, the addition of tariffs on foreign imports, particularly those from China, forces businesses to examine inventory management practices and make a difficult operational decision: operate in a just-in-time environment and pay higher expenses on imported goods or increase inventory levels and utilize warehousing options in anticipation of seasonal demand.

In the past, shippers were able to avoid inventory-carrying costs by only moving goods following a confirmed order. Many companies do not have extra revenue at year-end to invest in extra inventory, however, and failure to fill client expectations due to out-of-stocks can jeopardize customer satisfaction.

Unforeseen financial risk is another factor that affects a company’s ability to navigate the international supply chain. Among these factors, changes in focus and details of FTAs such as the US-Mexico-Canada Agreement (USMCA) require close process scrutiny across the end-to-end supply chain. If a FTA’s exemption clause changes, resulting in removal of certain HTS classifications, importers caught unaware face penalties that impact profit margin.

Importantly, the United States is not the only trading community member that is enhancing enforcement of trade regulations. Global compliance enforcement agencies are following the lead of CBP because of the popularity of revenue collection. That puts the onus on the shipper for the export clearance of goods leaving the United States, as well as the import clearance for those goods when they enter other countries for commerce.

The international trade environment always brings with it a certain level of complexity. Recent trends in tariffs, enforcement, and even the volume of small-package shipping further complicate the landscape. To avoid significant fines, businesses must learn to dot their “Is” and cross their “Ts” in the compliance process. Even existing allowances and privileges are being threatened, challenged, or taken away for shippers found in violation of trade regulations, creating an immediate threat to the profitability of these businesses’ existing purchase orders in contract.

Continual due diligence

Compliance is a journey, not a static program that sits on a shelf. In order for them to be successful, programs must be an ongoing process of assessment and evaluation.

Companies should not assume that “no news is good news,” or even that a clean history devoid of violations guarantees future compliance. Silence can breed false confidence. Instead, think of compliance as continual due diligence. One well-known global retailer purchased a large portion of their products from domestic suppliers, who sourced these products internationally. CBP investigators discovered that some of the internationally sourced products did not comply with social compliance obligations, but the retailer never assessed the practices of its suppliers, and thus, it failed to meet the comprehensive policy on labor practices. Under TFTEA, CBP fined this retailer $750,000 on only 15 percent of its foreign source profile, which means the total fine could be higher.

Corporate executives need to focus on the top three issues of trade compliance as a best practice. First, know the tariffs that CBP is imposing on goods imported into the United States and how to stay aligned with the ever-changing HTS structure. This involves using an import management process as a financial control.

The second issue involves monitoring FTAs and putting a plan in place for the potential loss of duty-free status for any sourced goods. Executives need contingency strategies to overcome the loss of or changes to agreements such as the Generalized System of Preferences (GSP), USMCA, and many others. Elimination of or withdrawal from an FTA can add additional costs, such as an ad valorem duty rate for each country across the product’s supply chain.

The third issue deals with how companies must remain vigilant, always reexamining their profiles and compliance practices, including recordkeeping, to make sure they are operating correctly. Informed compliance is more than a best practice. It is the law. For organizations operating in a decentralized fashion with multiple locations, compliance is difficult to prove without documented processes and ongoing training.

Many importers and exporters recognize that it is a best practice to seek independent evaluation of compliance programs. Independent verification and validation (IV&V) requires a knowledgeable partner that helps identify high-risk areas within a program to mitigate risks. IV&V includes an assessment that can uncover loopholes, gaps, and inconsistencies that could lead to fines or other punitive damages and introduces a plan to close the gaps.

CBP recognizes companies that undergo an independent and voluntary IV&V assessment, and looks on them as “good actors” with proactive compliance management. On the flip side, a company operating in a vacuum, without education from outside sources, may be viewed by CBP as being on the wrong side of the Reasonable Care standard. A business enterprise that ignores the financial risks emerging in international trade compliance jeopardizes its ability to grow and serve new markets, create satisfaction for customers, and, ultimately, protect its profitable performance.

Rick Brumett is vice president of client solutions at third-party logistics provider Transportation Insight.