INTERNATIONAL TRADE AND CUSTOMS LAW NEWSLETTER PREPARED FOR THE CLIENTS AND FRIENDS OF THE FIRM, FOR VIEWING ON THE WORLD WIDE WEB.

Volume XII, Number 2
March, 1998

SUPREME COURT LIMITS
"GREIGE MARKET"
PROTECTION FOR
COPYRIGHTS

A United States copyright owner cannot require the exclusion of "greige market" copies of copyrighted materials, the U.S. Supreme Court has ruled. In Quality King Distributors, Inc. v. L'anza Research International, Inc. No. 96-1470 (March 9, 1998), a unanimous court ruled that Section 106 of the Copyright Act [17 U.S.C. Section 106] which gives a copyright owner the exclusive right to distribute copies of copyrighted works in the U.S. is subject to, and limited by, Section 109 of the Act [17 U.S.C. Section 109, the so-called "first sale" rule. That rule provides that a copyright owner's statutory protection ends when he sells the copyrighted work into the stream of commerce.

In Quality King, a United States copyright owner (L'anza) sold cosmetics bearing its copyrighted labels for export, at a discounted price. The discounted price was made possible by the fact that the copyright owner did not incur advertising or promotion costs in the intended foreign marked. However, the exported cosmetics were purchased abroad on the "greige market" and re-imported into the United States, where they were sold by Quality King to retailers, who sold them in competition with L'Anza's copyrighted goods. The Ninth Circuit Court of Appeals held that L'Anza was entitled to sue Quality King for infringing its exclusive distribution rights, and that the importation of the greige market goods violated 17 U.S.C. Section 602(a) which prohibits the importation into the United States, without consent of a copyright owner, of a copyrighted work.

The Supreme Court reversed, holding that the L'anza's power to enforce its copyright was extinguished when it first sold the goods to the export customer, and was compensated for them. Thereafter, L'anza had no right to restrict the resale or distribution of the goods based upon the copyright. Moreover, the Court held, 17 U.S.C. Section 1602(a) which prohibits importations of goods that infringe exclusive distribution rights under Section 106 of the act did not apply, because those rights had been extinguished under the "first sale rule."

The Quality King decision applies only to "greige market goods which are made and sold by the U.S. copyright holder. It does not extend to copyrighted work s which are manufactured abroad.

Copies of the Quality King decision are available from our offices [GTR No. 98-201].

SUPREME COURT HEARS
HMT ARGUMENTS

On March 4, 1998, the U.S. Supreme Court heard oral arguments in the case of United States Shoe Company v. United States, the designated "lead case" regarding the constitutionality of the Harbor Maintenance Tax (HMT), 26 U.S.C. Section 4461, as applied to waterborne exports. The disposition of the United States Shoe case will affect some forty-five hundred HMT challenges currently pending in the U.S. Court of International Trade.

If the oral argument is any indication, the Supreme Court seems likely to uphold earlier decisions, and strike down the HMT as unconstitutional. Several of the Judges were openly skeptical that an ad valorem charge, measured by the value of exported tools, was anything but a tax on exports, prohibited under the Constitution. In addition, many of the Justices scoffed at the Government's argument that the export HMT was a "user fee," designed to recoup the cost of delivering port maintenance and similar services. The Justices questioned whether exporters were in fact "users" of the ports, and suggested that the ad valorem aspects of the tax does not effectively measure each exporter's port use. Justice Sandra Day O'Connor noted that a small package of expensive computer chips, which might make little use of a port facility would be taxed more heavily than a large bulk shipment of wheat, which arguably makes more "use" of the port. Justice John Paul Stevens suggested that the HMT was excessive as to more valuable exports, while Justice Antonin Scalia chided the Government that not every charge allegedly imposed on a "user" would be upheld as a permissible "user fee."

The Government argued that Congress should be given leeway to determine the mechanism it will use to fund port maintenance, and that the ad valorem HMT actually favors exports by shifting more of the tax burden to imports. This argument seems to go nowhere with Chief Justice William Rehnquist, who noted that even if the HMT funding mechanism had been developed by "twenty wizards" it would not matter, for "if it violates the Export Clause," it's still bad.

The Supreme Court took the case under advisement. A decision is expected at the end of June, when the Court ends its session. Copies of a memorandum detailing the oral argument are available from our offices [GTR #98-202].

INTEREST ON DUTY REFUNDS:
GOVERNMENT DROPS
TRAVENOL APPEAL

After extended deliberation, Department of Justice has decided not to petition the Supreme Court for a writ of certiorari in the case of Travenol Laboratories, Inc. v. United States, which expanded importers' rights to receive interest on duty refunds. In Travenol, the Court of Appeals for the Federal Circuit ruled that the interest provisions of the Customs Informed Compliance Modernization Act, which became effective on December 8, 1993, applied to entries which were made prior to that date but whose liquidation did not become final until later. The decision means that importers receiving duty refunds in respect of pre-December 8, 1993 import entries, area entitled to receive interest on their refunds, running from the date the excess duties were paid, until the date a refund is issued. [Prior to the "Mod Act," interest was only available if the excess duties had been assessed for the first time upon liquidation of the entries.]

The Government believed that the "Mod Act" did not give importers a sufficiently clear right to demand interest from the Government. In the end though, they decided not to ask the Supreme Court to hear the case.

Customs officials previously cautioned, however, that the Travenol case is a two-edged sword, since it would let Customs collect interest from importers on underpayments of duty on pre-"Mod Act" entries. In light of the recent Federal Circuit Costellazo decision, which held that the assessment of interest separate from the assessment of duties of imported merchandise, the Government may attempt to bill importers who were required to pay additional duties on pre-Mod Act entries for interest. Customs is expected to issue an official position on how it intends to treat interest refunds under the Travenol decision within a few weeks.

CUSTOMS ISSUES FINAL
DRAWBACK REGS

The U.S. Customs Service has issued Treasury Decision 98-19, which sets forth a complete revision of the agency's duty drawback regulations. The new regulations, which become effective April 6, 1998, reflect numerous changes to the drawback law enacted in the Customs "Mod Act," and contain an overhaul of Customs' administrative procedures for handling and processing drawback claims.

The new regulations will require drawback claimants to do some work. All claimants who already hold waiver of pre-export notification requirements or a right to use the accelerated payment of drawback procedure must, no later than April 6, 1999 re-apply for these privileges. The Exporter's Summary Procedure (ESP) formerly a "privilege" requiring Customs approval, can now be used at the election of the drawback claimant.

Future drawback claims will need to show the Harmonized Tariff Schedule number of designated imports, as well as the HTS or Schedule B number for the exported goods. Moreover, importers filing protests against the liquidation of import entries will be required to indicate, on the protest form, whether to their knowledge, the import entry has been as the basis for a drawback claim or is the subject of a Certificate of Delivery.

The new regulations also implement Customs' voluntary Drawback Compliance Program.

Companies engaged in duty drawback will need to review these comprehensive new regulations. Available from our offices are copies of the regulations [GTR #98-203]. Our firm's memorandum summarizing the highlights of the regulations [GTR #98-204] and Customs' new "Informed Compliance" publication on Duty Drawback [GTR #98-205].

CIT DEFINES "COMMERCIAL
INTERCHANGEABILITY,"
HOLDS HMT, MPF, SUBJECT
DRAWBACK

As if it hasn't been an exciting enough month for drawback (we need to get out more), the U.S. Court of International Trade dropped a bombshell on the trade community in a new decision involving interpretation of the drawback statute.

In Textport Oil Company v. United States, Slip Op. 98-21 (March 5, 1998), the CIT was called upon to set a standard for determining when imported and exported goods are "commercially interchangeable", so as to be eligible for substitution unused merchandise drawback, 19 U.S.C. Section 1313(j)(2). In Textport, Customs had denied drawback in respect of certain jet fuels and other petroleum products, on the ground that the "substituted" goods designated in the drawback claim had not been subject to complete testing, in order to establish their critical properties under ASTM standards. The drawback claimant argued that it should be able to establish its right to drawback based on commercial acceptance of the goods, in the absence of testing.

In response Senior Judge R. Kenton Musgrave enunciated a 2-part test of "commercial interchangeability", which, he said, was grounded in "commercial acceptance" of merchandise in an arms-length transaction. Two conditions must be satisfied, he ruled, in order for goods to be considered "commercially interchangeable" for drawback purposes. First, there must be "commercial acceptance" of the goods. In other words, it must be shown that the purchaser of the exported goods in an arms-length transaction must have been willing to accept the imported merchandise designated in the drawback claim. Second, the imported and exported goods must be identically described on invoices and/or contracts. What is surprising is that the Court did not analyze "commercial interchangeability" according to the factors mentioned in the legislative history to the drawback statute. Conformity with government or industry standards, part numbers, tariff classifications and relative values.

What's more, the CIT ruled that, even where imported and exported merchandise are physically identical they may fail to qualify for drawback under 19 U.S.C. Section 1313(j) if they are described differently on the import or export invoices. Thus, if imported merchandise was described in the invoice as "heating oil" and the exported merchandise was described as "motor fuel" drawback will be denied, even if the two shipments were physically identical particularly in the absence of testing. This suggest a paramount emphasis of the commercial description of the goods, rather than on the actual nature of the goods themselves. Moreover, the Textport decision held that Customs' inquiry into "Commercial interchangeability" ends after the goods have left the exporter's possession. Thus, the Court held, Customs could not deny drawback based upon the fact that, after the drawback claimant had loaded the exported goods on a tanker, the buyer of those goods added conductivity improvers and other materials to the product. The Court held that Customs' right to demand testing, or an explanation of the imported goods, ends after they leave the drawback claimant/exporter's hands.

COURT HOLDS HMT,
MPF SUBJECT TO
DRAWBACK

The Textport court also shocked the Customs Service -- and delighted drawback claimants everywhere -- by ruling that drawback could be claimed on Harbor Maintenance Taxes (HMTs) and Merchandise Processing User Fees (MPFs) assessed on the imported merchandise which serves as the basis for the drawback claim. Rejecting Customs' longstanding position that these taxes are not drawback eligible, the Court held that HMTs and MPFs were "other Federal Taxes imposed on the merchandise by reason of its importation", and thus eligible for drawback under 19 U.S.C. Section 1313(j)(2). Moreover, the Court held that exporters could claim drawback on HMT and MPF payments even if they had not specifically mentioned these taxes on their drawback claims or protests. In this regard, the Court found that the taxes were so intimately tied to the imports, that the payment of a tax or a fee drawback rises or falls with a determination regarding the payment of duty drawback on the imported merchandise.

We anticipate that the government will appeal Textport case, however, drawback claimants will probably begin pressing immediately for drawback refunds of HMT and MPF payments.

Copies of the Textport decision are available for our office [GTR #98-206].

FTZ OPERATOR RECEIVED
DUE PROCESS, CAFC
FINES

An operator of a Foreign Trade Zone was not denied due process when the U.S. Foreign Trade Zones Board approved a grant of a second general purposes subzone in the Port of Miami, according to a recent decision of the U.S. Court of Appeals for the Federal Circuit (CAFC).

In Miami Free Zone Inc. v. Foreign Trade Zones Board, the operator of an established FTZ in the Port of Miami challenged the Board's decision to grant permission to a non-profit group to run a second general purpose FTZ in the Miami area. The aggrieved operator charged that it had been denied due process since the Board had not convened a hearing regarding the new application, and further argued that the issuance of the new grant was improper, since the Board had not properly applied the "convenience of commerce" standard of the Foreign Trade Zones Act."

Affirming a decision of the U.S. Court of International Trade, the Federal Circuit ruled against the operator on both counts. First, the Court noted although the Board had not convenient a formal hearing on the new application, it had given supporters and opponents of the application ample opportunity to comment on its merits, including the right to file written comments after the time period for receiving them had expired. Second, the Court sustained, as supported by substantial evidence, the Board's determination that the existing FTZ in Miami did not adequately serve the convenience of commerce, and that justification existed for a second FTZ in that port.

Copies of the Miami Free Zone decision are available from our offices [GTR #98-207].

CIT DEFINES "BREAD"
EXPANSIVELY FOR
TARIFF PURPOSES

The definition of "bread" under the Harmonized Tariff Schedule of the United States [HTS], is an expansive one, which extends to fried breads, and breads in a variety of forms, the U.S. Court of International Trade ruled recently.

In Sabritas S.A./Frito-Lay, Inc. v. United States, Slip Op. 98-_______ (February 20, 1998), the Court ruled that imported "taco shells" of the kind used by Taco Bell Restaurants and Home chefs, was properly classifiable under the duty-free provision for "bread" in HTS Subheading 1905.90.10. The Court ruled that the taco shells, which were produced from baked tortillas (admittedly a form of bread) which was then shaped and fried to a crispy consistency, had not ceased to be "bread" by reason of frying. Rejecting the Government's assertion that "bread" for tariff purposes is limited to common forms of leaven white bread, the Court noted that there were entire cook book chapters dedicated to "fried breads", and that the tariff definition of bread encompassed a wide range of fried breads, flavored breads and ethnic breads. The Court rejected the government's assertion that frying the tortillas somehow changed their character, making them something other than bread or something "more than" bread.

In another portion of the opinion, the Court rejected the importer's claim that "Munchos" Potato crisp -- a snack food made from dehydrated potatoes, corn flour and other ingredients, were properly classifiable as "potato chips" or as preserved or prepared potatoes under HTS Subheading 2005. The Court concluded that the potato crisp were not merely an "artificial" form of potato chip. In addition, the Court concluded that the potatoes used in the production of the product had been so changed in form and appearance that they were no longer recognizable as potatoes, preserved or prepared.

Interestingly, the World Customs Organization (WCO) Secretariat, asked to furnish an opinion on the classification of similar "crisp" under the International Harmonized System nomenclature, recently gave an opinion that these types of crisp should be classified under Heading 2205, as preserved or prepared potatoes.

Copies of the Sabritas decision [GTR #98-207] and the WCO report [GTR #98-208 are available from our offices].

CUSTOMS NCAT "RECONCILIATION
PROTOTYPE: PARTICIPANTS
SOUGHT"

COMPLIANCE ASSESSMENT
TEAM (CAT) REVIEWS:
CUSTOMS ISSUES
POLICY DOCUMENTS

Many importers are currently undergoing Compliance Assessment Team (CAT) audits by Customs, which are designed to obtain a statistical measurement of an importer's compliance with laws and regulations in several key substantive areas (classification, appraisement, quantity, recordkeeping, etc.). Customs' statistical scoring of CAT-reviewed companies determined which of three "buckets" the company is placed in for further compliance activities. ["Bucket 1" companies, with high compliance ratios and good compliance systems, is generally left alone; "Bucket 2" companies, with generally high compliance levels, but requiring some improvement, receive greater attention, as Customs works with the importer to improve compliance; and "Bucket 3" companies with unacceptable levels of compliance, are often targeted for full-blown Customs audits, increased cargo examinations, and other forms of heightened scrutiny by Customs. Recently, Customs made available one of its internal directives, indicating how the agency calculates the "total compliance level" and "materiality compliance level" of companies undergoing CAT audits. The document is a must for any company undergoing a CAT audit, or which believes it will be subjected to one in the near future.

Customs has also issued a notice indicating that the agency has modified its policy of suspending CAT reviews whenever the agency opens an enforcement investigation of the company.

Customs recently indicated that since, the CAP audit program began in 1995, the agency has "engaged" some 291 companies in the process. Of this total, 94 CAT reviews were completed, with 51 companies categorized as low risk ("Bucket 1"), 24 companies categorized as medium risk (Bucket 2) and 19 companies found to be "high risk". Customs intends to begin 74 new CAT reviews during the current fiscal year, with continuing emphasis on the agency's ______ identified "primary focus industries".

Copies of Customs' memorandum regarding compliance calculation methods [GTR #98-211] and its investigations follows [GTR #98-212] are available from our offices.

CUSTOMS TO ANNOUNCE
ICMP PROTOTYPE

In a development related to the CAT audit program, Customs has indicated that it will shortly announce a prototype of Importer Compliance Monitoring Program (ICMP), which has been variously referred to in the past as an importer "self ___________", "self assessment" or "self audit" program. Under the ICMP Prototype, companies would use their own resources to conduct structured self-reviews of Customs systems, together with an overall "macro-reconciliation" of these systems on an annual basis. Customs will then review the results of the company's self-assessment, perhaps verifying the results through sampling reviews of particular transaction.

Additional information on the ICM Prototype will be available from our office as soon as it is formally announced.

MARKING: BILL TO EXEMPT
SILK IMPORTS INTRODUCED

Rep. Robert Matsui (D-CA) has introduced a bill, H.R. 3924 which would exempt from country of origin marking requirements certain "silk articles" specifically, woven silk fabrics of HTS Heading 5007 and silk shawls, scarves, mufflers, mantillas, veils and the like containing 70% or more of silk or silk waste, classified under HTS Subheading 6214.10.10. The legislative change is required under the terms of the United States' agreement to settle the European Union's Complaint against certain aspects of the U.S. Country of origin rules for textiles, adopted as Section 334 of the Uruguay Round Agreements Act. European interest objected to the "fabric forward" origin rule applied to silk scarves and other products, which required scarves which were elaborately hand-decorated in Europe to be labelled as a "Product of China" based on the source of the silk fabric.

The July 20, 1998 date for completion of a Uruguay Round Rules of Origin Study is fast approaching, and the final shape of the proposed origin rules which will emerge from that study are still very much unclear. The U.S. International Trade Commission (ITC) recently sought comment on proposed "supplemental rules" of origin for goods classifiable in HTS Chapters 84, 85 and 90 [computers, electronics, machinery, photographic and scientific goods]. The "supplemental" rules would help Customs authorities make origin determinations in cases where application of "tariff shift" origin rules will not.

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