Neville Peterson LLP: Customs and International Trade Law

February 3, 2000
M E M O R A N D U M
TO:	Clients and Friends of the Firm
FROM:	Neville Peterson LLP
RE:	Final Customs Drawback Penalty Regulations and Guidelines

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I. INTRODUCTION
     The United States Customs Service has issued Treasury Decision 00-5, which establishes final regulations implementing Section 593A of the Tariff Act of 1930, as amended [19 U.S.C. Section 1593a], which authorizes the agency to impose civil penalties for the filing of false or fraudulent claims for duty drawback. The new regulations are effective on February 24, 2000¹. However, Customs considers the regulations applicable to drawback claims made on or after August 29, 1998, the date the agency published in the Customs Bulletin a notice announcing the establishment of an automated drawback selectivity program [Treasury Decision 98-88].

     This Memorandum summarizes the new regulations.

II. MAXIMUM PENALTIES FOR FALSE AND FRAUDULENT DRAWBACK CLAIMS
     Section 593A of the Tariff Act provides for the assessment of civil penalties on any person who, by means of any false and material statement, document or electronically-transmitted data or information, or by means of material omissions, seeks or attempt to seek the payment of a drawback claim, or who aids or abets any other person in so doing. Maximum civil penalties for violation of Section 593A depend upon (1) the culpability of the alleged violator, (2) the amount of drawback involved in the false or fraudulent claim, (3) the number of violations committed, and (4) whether the person is a participant in Customs' voluntary Drawback Compliance Program.

     The maximum drawback penalties allowed under Section 593A are as follows:

MAXIMUM DRAWBACK PENALTIES
DRAWBACK COMPLIANCE PROGRAM NON-PARTICIPANT

Culpability Level	Maximum Penalty
Intentional Fraud	300% of Loss of Revenue
Negligence
First violation	20% Loss of Revenue
First repetitive violation	50% Loss of Revenue
Second and subsequent repetitive violations	100% Loss of Revenue

MAXIMUM DRAWBACK PENALTIES
DRAWBACK COMPLIANCE PROGRAM PARTICIPANTS

Culpability Level	Maximum Penalty
Intentional Fraud	300% of Loss of Revenue
Negligence
First violation	Warning letter
First repetitive violation	20% Loss of Revenue
Second repetitive violation	50% Loss of Revenue
Third repetitive violation	100% Loss of Revenue

III. HIGHLIGHTS OF THE REGULATIONS
     The key aspects of the new drawback regulations can be summarized as follows:

     Negligent and Intentional Violations

     While Customs' regulations do not specifically define what constitutes a "negligent" or "intentional" violation of Section 593A [the mitigation Guidelines do], Treasury Decision 00-5 provides some examples which provide helpful insights into Customs' views on the issue.

     For example, Customs indicates that where a drawback claimant makes no effort to determine whether exported orange juice is "commercially interchangeable" with imported orange juice designated as the basis of a drawback claim, a negligent violation of Section 593A would exist.

     On the other hand, Customs indicates that where a drawback claim is filed, but the claimant fabricates bills of lading and other export documentation, this would be considered an intentional violation.

     Loss of Revenue Under Section 593A

     Customs' regulation defines the term "Loss of Revenue" for drawback penalty purposes as "the amount of drawback . . . that is claimed and to which the claimant is not entitled, and includes both actual and potential loss of revenue". See 19 C.F.R. Section 162.71(b). The term encompasses both "actual loss of revenue", which is defined as the amount of drawback "that is claimed and has been paid to the claimant and to which the claimant is not entitled", as well as "potential loss of revenue", which is defined as "the amount of drawback that is claimed and has not been paid to the claimant, and to which the claimant is not entitled". Id. Penalties for false drawback claims can be based on either actual or potential losses of revenue.²

     Presumably, a "potential loss of revenue" could occur as soon as a drawback claim is filed, while an "actual loss of revenue" could not occur until accelerated duty drawback is paid, or a drawback claim is liquidated and drawbacks finally paid.

     "Repetitive Violations"

     Under the drawback penalty statute and its implementing regulations, "repetitive" violations of Section 593A carry higher penalties, and less possibility of administrative mitigation by Customs. The new regulations define a "repetitive" violation as "a violation by a person that involves the same issue as a prior violation by that person". Thus, a drawback claimant is not guilty of a "repetitive" violation if it had a prior violation involving a different issue.

     "Repetitive" violations are measured within a three-year period. Where an earlier violation occurs more than three years prior to a subsequent violation, the latter violation is not considered "repetitive".

     Prior Disclosure

     When a drawback claimant makes a "prior disclosure" of a violation to Customs, that is, a written disclosure made before a formal investigation is commenced, or without knowledge that a formal investigation has been commenced -- the maximum penalty for a fraudulent violation shall be 100% of the loss or revenue. For "prior disclosed" negligent violation, the maximum penalty will be an amount equal to the interest accruing on any actual loss of revenue during the period from the date a claim was paid/overpaid to the date on which the overpayment was tendered to Customs.

     Recovery of Actual Loss of Revenue

     Whether or not a monetary penalty is assessed for a false drawback claim, the draft regulations would empower Customs to recover any actual loss of revenue resulting from the claim. Customs may demand restitution of excess drawback payments by means of a written notice; the recipient may challenge the loss of revenue determination by written application to the Commissioner of Customs.

IV. DRAWBACK PENALTY PROCEDURES
     Customs' procedures for civil drawback penalties largely parallel those which govern the imposition of civil Customs penalties under Section 592 of the Tariff Act of 1930, as amended [19 U.S.C. Section 1592]. Accordingly, drawback claimants suspected of having filed false (negligent or fraudulent) claims will be issued prepenalty and penalty notices, and will have the ability to petition for remission or mitigation of those penalties in accordance with 19 U.S.C. Section 1618. A "prior disclosure" option, to limit penalty liability, is also available.

     Prepenalty and Penalty Notices.

     The new drawback penalty regulations mirror those for 19 U.S.C. Section 1592 by providing for the issuance of a written prepenalty notice to an alleged violator, and granting the alleged violator the opportunity to show why no penalty should be assessed. The prepenalty notice must:

(i) identify the drawback claim;

(ii) set forth the details relating to the seeking, inducing, or affecting, or the attempted seeking, inducing or affecting, or the aiding or procuring of, the drawback claim;

(iii) specify all laws and regulations allegedly violated;

(iv) disclose all the material facts which establish the alleged violation;

(v) state whether the alleged violation occurred by reason of fraud or negligence; and

(vi) state the estimated actual or potential loss of revenue due to the drawback claim and, taking into account all circumstances, the amount of the proposed monetary penalty.

     In cases of alleged fraud, a prepenalty notice may not be issued without Customs Headquarters approval.

     A drawback claimant will be allowed to petition for remission or mitigation of a drawback penalty claim in accordance with 19 U.S.C. Section 1618.

     Where a drawback claimant who participates in Customs' Drawback Compliance Program receives a warning letter for a first violation of Section 593A, and believes that no violation has been committed, the claimant may submit a petition to Customs requesting cancellation of the warning letter. However, no administrative appeals from Customs' decision regarding such a petition are permitted.

V. DRAWBACK PENALTY MITIGATION GUIDELINES
     Customs' has also added a new Appendix D to part 171 of the Customs Regulations, providing administrative guidelines for the imposition and mitigation of civil drawback penalties.

     These guidelines define the two degrees of culpability - "negligence" and "fraud" -- using the same definitions that are used for 19 U.S.C. Section 1592 penalties.

     The guidelines restate some of the statutory and regulatory requirements pertaining to the issuance of prepenalty and penalty notices, and the submission of responses thereto. They also provide that a "prior disclosure" will be accepted by Customs only if the drawback claimant tenders the amount of drawback overpayment either at the time of disclosure or within 30 days after written notice by Customs.

     The guidelines also set forth ranges of mitigation for various types of violations, as follows:

Culpability	Penalty Mitigation Range
Negligent - nonrepetitive	10-20% loss of revenue
Negligent - first repetitive violation	25-50% loss of revenue
Negligent - second and subsequent repetitive violations	50-100% loss of revenue
Intentional	150-300% loss of revenue

Drawback Compliance Program Participants

Where a violation of 19 U.S.C. Section 1593 is committed by a participant in Customs' voluntary Drawback Compliance Program, the guidelines provide the following mitigation ranges based on culpability:

Culpability	Penalty Mitigation Range
Negligent - nonrepetitive	Warning letter
Negligent - first repetitive violation	10-20% loss of revenue
Negligent - second and subsequent repetitive violations	25-50% loss of revenue
Intentional	50-100% loss of revenue

     Drawback program participants do not receive any special dispensation in the case of fraudulent violations.

     Mitigating Factors

     The guidelines identify several "mitigating factors" which Customs may consider in setting the amount of a drawback penalty. These include contributory Customs error, extraordinary cooperation with the investigation, immediate remedial action, and a prior good record. In addition, the government's inability to obtain personal jurisdiction over the alleged violator, the violator's inability to pay the penalty, and Customs' failure to notify a drawback claimant of a known violation, are all listed as factors justifying mitigation.

     Aggravating Factors

     Customs' proposed guidelines would also identify various "aggravating" factors which would justify the denial of mitigation, or the imposition of a harsher penalty than might otherwise be the case. These factors include obstruction of an investigation or audit, withholding evidence, providing misleading information to Customs and prior substantive violations of 19 U.S.C. Section 1593a for which an administrative finding of culpability has been finalized.

     In addition, a claimant's failure to comply with a Customs Summons or other lawful demand for records will be deemed an "aggravating" factor.³

VI. CONCLUSION
     Customs is expected to make frequent and aggressive use of its new power to impose civil drawback penalties. The agency has been frustrated by what it views as insufficient compliance with drawback requirements on the part of many claimants.

     Our firm stands ready to furnish any additional information or assistance which may be required with respect to Customs' new civil drawback penalty laws and regulations.

1.     Customs initially posted the proposed drawback regulations on the agency's website as a "discussion draft" in May, 1997. Proposed regulations were published for public comment on September 29, 1998 [63 Fed. Reg. 51868].

2.     In contrast to civil Customs penalties under 19 U.S.C. Section 1592, there are no "nonrevenue violations" of the drawback penalty statute.

3.     We note that failure to comply with a Customs demand for information could by itself result in a claim for a recordkeeping penalty, under Customs' proposed regulations.

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