Exploring New Opportunities for Trade in Goods under the CETA – As Easy as Apple Pie

Since entering into provisional application on 21st September 2017, the Comprehensive Economic and Trade Agreement (CETA) has been creating new opportunities for trade in goods and services for business stakeholders in Canada and the European Union. With respect to trade in goods, the CETA creates new competitive opportunities and supply chain prospects through (i) the progressive elimination of customs duties, (ii) the introduction of highly liberal “origin quotas” for certain product categories, and (iii) “tariff rate quotas” (TRQs) that provide increased access to otherwise restricted market sectors (i.e., cheese in Canada; beef, pork, and other products in the European Union).

It is well known that the CETA eliminates most of the customs duties that previously applied to cross-border trade in Canadian and EU goods. The Government of Canada, for example, explains that while “only 25 percent of EU tariff lines on Canadian goods were duty-free” before the CETA entered into provisional application, “98 percent of EU tariff lines are now duty-free for Canadian goods” (Global Affairs Canada, “CETA: A progressive trade agreement for a strong middle class”, http://www.international.gc.ca/gac-amc/campaign-campagne/ceta-aecg/index.aspx?lang=eng).

What must not be overlooked, however, are the conditions and requirements that businesses must satisfy in order to leverage the benefits of this preferential tariff treatment. Products traded between Canada and the European Union are not automatically eligible for duty-free market access merely because they are classified under tariff items for which the customs duties were reduced to zero under the CETA. Rather, such goods must qualify as “originating” in Canada or the European Union in accordance with the applicable “rules of origin”. These rules are specified in the CETA Protocol on Rules of Origin and Origin Procedures, and they have been implemented into Canadian customs law under the CETA Rules of Origin Regulations and the CETA Tariff Preference Regulations under the Customs Tariff.

Very generally summarized, the rules provide that a product is “originating” if (i) it is “wholly obtained” in Canada or the European Union, (ii) it is produced exclusively from materials that are “wholly obtained”, or (iii) it has undergone “sufficient production” in Canada or the European Union.

These terms warrant some explanation.

Originating Products that are “Wholly Obtained” or Made from “Wholly Obtained” Materials

Generally, a product or material is “wholly obtained” in Canada if it is harvested, extracted, or recovered entirely within Canada. Simple examples include wheat that is grown and harvested on Canadian farms and potash that is extracted from Canadian mines. Special rules apply to goods harvested from the sea or the seabed. For instance, seafood harvested on the high seas by a fishing vessel that is registered and licensed in Canada will qualify as “originating” if certain conditions are satisfied.

In turn, it makes sense that a product manufactured exclusively from “wholly obtained” materials will be considered an “originating” product under the CETA (e.g., a processed food product made in Canada using Canadian agricultural ingredients).

However, an important point here is that such a product does not necessarily need to be produced using 100 percent “wholly obtained” materials. The CETA provides a general tolerance for some “non-originating” materials to be used in the production of “originating” products. Provided that the total value of non-originating materials does not exceed 10 percent of the transaction value or ex-works price of the finished product, the product will generally be considered “originating” and eligible for preferential treatment under the CETA. For Canadian and EU businesses, this tolerance has important implications for optimizing the costs of production and supply chain efficiencies for “originating” products.

Originating Products that have Undergone “Sufficient Production”

An “originating” product may contain a higher proportion of non-originating materials if it has undergone “sufficient production” within Canada or the European Union. The term “sufficient production” refers to processing or manufacturing work that transforms a material or product into something different. This transformation is evidenced through the change — or “shift” — in tariff classification under the Harmonized Commodity Description and Coding System (HS).

For example, if non-originating apples (HS tariff subheading 0808.10) are used to produce apple pies (HS tariff subheading 1905.90), they have undergone production that changes them to not only another heading (08.08 to 19.05), but also to another chapter (8 to 19). What constitutes “sufficient production” for each product is specified in the product-specific rules of origin under Annex 5 of the CETA Origin Protocol. These rules are usually conditioned on regional value content requirements, which impose minimum thresholds for “originating” content and/or maximum thresholds for non-originating content.

The product-specific rule of origin for our apple pie requires that the non-originating ingredients undergo a change to HS heading 19.05 from “any other heading” (e.g., from heading 08.08 for the apples). This rule is conditioned on a number of regional value content thresholds which require, among other things, that the net weight of non-originating flour used in production does not exceed 20 percent of the net weight of the finished product, and the net weight of all non-originating egg and dairy products is no greater than 20 per cent, etc. Notably, there is no limit on the weight of non-originating apples, which are the primary ingredient by weight.

What does this mean in practical terms? Generally, if you were to produce apple pies in Canada for export to the European Union, you could use 100 percent U.S. apples and, provided the finished product satisfies the regional value content requirements for the other ingredients, it would qualify as an “originating” good eligible for duty-free treatment under the CETA.

The apple pie provides a simple illustration; such product-specific rules of origin apply to other manufactured and highly processed products. For producers in Canada and the European Union, understanding these rules means understanding how best to leverage supply-chain options to maximize production cost efficiencies while maintaining eligibility for the preferential tariff treatment that provides a competitive advantage in CETA markets.

Another important rule of origin — with real supply chain implications — is that when a non-originating material undergoes “sufficient production”, and the resulting product is considered to be “originating” under the CETA, no account shall be taken of the non-originating material it contains if it is used in the subsequent production of another product. This rule applies whether or not the material has acquired originating status inside the same factory where the final product is produced. Canadian and EU producers of finished goods that assemble manufactured components or make intermediate inputs for further processing may find this rule helpful for satisfying the regional content value thresholds discussed above.

“Origin Quotas” – Highly Liberal Alternatives to the Product-specific Rules of Origin

Finally, the CETA introduces “origin quotas”, which allow limited quantities of certain products to receive preferential tariff treatment if they satisfy “alternative” rules of origin that are much more liberal and relaxed — and therefore easier to satisfy — than the standard product-specific rules of origin.

The origin quotas are set forth in Annex 5-C of the CETA Origin Protocol, and are administered in Canada by the Trade Controls Bureau of Global Affairs Canada pursuant to the Export and Import Permits Act and its regulations. The origin quotas cover (i) exports from Canada to the European Union of certain processed food products, high-sugar containing products, sugar confectionary and chocolate preparations, fish and seafood products, dog and cat food products, apparel and textile products, and motor vehicles; and (ii) exports from the European Union to Canada of certain apparel and textile products.

To provide an example of how the “alternative” rules operate under the origin quotas, let us return to our apple pie factory. If our apple pies are exported to the European Union under the 35,000 tonne origin quota for “processed foods” (see the Notice to Exporters issued by the Trade Controls Bureau), the applicable rule for “sufficient production” requires only that all of the ingredients undergo a change to HS heading 19.05 from any other heading — there are no regional value content thresholds. This means that the pies could be produced in Canada using 100 percent non-originating ingredients, including apples, flour, sugar, dairy products, eggs, etc. As these materials each undergo a change to HS heading 19.05 from other headings (in other chapters) in the production of apple pie, the alternative rule will be satisfied regardless of how much non-originating content is used. This could have important implications for production cost efficiencies.

To export our apple pies under the origin quota, we would need to apply to the Trade Controls Bureau for shipment-specific export permits, which are issued for processed food products on a “first-come, first-served” basis. Once the annual quota of 35,000 tonnes is fully utilized, no further export permits will be issued until the beginning of the next calendar year.

The origin quotas for certain apparel products, sugar confectionary, chocolate preparations, and dog and cat food products are administered in the same way, through shipment-specific export permits issued on a “first-come, first-served” basis. Export permits for Motor vehicles and high-sugar containing products are issued under application policies administered by the Trade Controls Bureau and require interested Canadian producers and exporters to apply by 1st October of the preceding year. No export permits are required for exports from Canada to the European Union of seafood products and textile products under the origin quotas; the European Union manages these imports on a “first-come, first-served” basis on the EU side.

Analyzing How Your Business Will Benefit under the Preferential CETA Market Access

The foregoing are a few examples of how the CETA is creating new opportunities for businesses in Canada and the European Union. Stakeholders on both sides of the Atlantic are currently exploring how the CETA applies to the specific circumstances of their businesses and supply chains, and how they can leverage its provisions to obtain a competitive edge in Canadian and EU markets. In order to yield the best returns, this analysis must be done on a product-by-product basis.

If you are a producer or exporter of products in either Canada or an EU country, an analysis of how your goods and supply chains align with the CETA rules of origin may open up new short-term and long-term opportunities, in terms of both competitive market access and strategic production planning.

Tereposky & DeRose LLP regularly provides advice on how to apply and leverage the provisions of international trade agreements, including the CETA, the NAFTA, and the forthcoming CPTPP.  Should you have any questions regarding potential opportunities under these trade agreements or any other trade related issues, we are at your disposal.

Daniel Hohnstein

SCC says “No” to Unrestricted Inter-Provincial Free Trade

Today the Supreme Court of Canada issued its highly anticipated decision on free trade within Canada. The decision concerned the New Brunswick legal regime that restricts the imports of beer, wine, and other alcoholic beverage products into the province, but it has implications for the regulation of inter-provincial trade across Canada.

The appeal arose from the activities of a resident of New Brunswick who made a trip to Quebec in October 2012 to stock up on inexpensive beer and spirits. He was stopped by police upon returning to New Brunswick, charged under a provision of the New Brunswick Liquor Control Act, and fined $240 plus administrative fees and a victim surcharge levy. The provision at issue places strict limits on the amount of liquor that a resident is permitted to possess in New Brunswick from any source other than the New Brunswick Liquor Corporation — the Crown corporation that maintains a statutory monopoly on the importation, distribution, transportation and sale of beverage alcohol products in the Province. This has the effect of restricting imports of liquor products across New Brunswick’s borders.

The New Brunswick Provincial Court dismissed the charge on the basis that the relevant provision under the Liquor Control Act infringed section 121 of the Constitution Act, 1867, which provides that all articles grown, produced, or manufactured in any of the provinces shall “be admitted free” into each of the other provinces. While the New Brunswick Court of Appeal denied leave to appeal, the Supreme Court of Canada granted leave to hear the substantive constitutional issue at the heart of this case.

Canada’s highest Court ruled that section 121 prohibits laws that “in essence and purpose restrict trade across provincial borders”. It considered that “laws that only have the incidental effect of restricting trade across provincial boundaries because they are part of broader schemes not aimed at impeding trade do not offend s. 121 because the purpose of such laws is to support the relevant scheme, not to restrict interprovincial trade”. Thus, while the section 121 “prohibits governments from levying tariffs or tariff-like measures (measures that in essence and purpose burden the passage of goods across a provincial border)”, it “does not prohibit governments from adopting laws and regulatory schemes directed to other goals that have incidental effects on the passage of goods across provincial borders”.

In the view of the Court, the first question is whether the essence or character of the law is to restrict or prohibit trade across a provincial border, such that it functions like a tariff. Tariffs, broadly defined, are “customs duties and charges of any kind imposed on or in connection with importation or exportation”. In order to show that a law contravenes section 121, a claimant must establish that the law distinguishes goods in a manner “related to a provincial boundary” that subjects goods from outside the province to additional costs. The additional cost “need not be a charge physically levied at the border, nor must it take the form of an actual surcharge; all that is required is that the law impose a cost burden on goods crossing a provincial border”.

The Court further elaborated that laws that have the effect of restricting trade across provincial boundaries will not violate section 121 if their primary purpose is not to impede trade, but to fulfil some other objective. However, where the primary purpose of the broader scheme is to impede trade, or if the impugned law is not connected in a rational way to the scheme’s objective, the law will violate section 121. In this regard, the Court considered that “a rational connection between the impugned measure and the broader objective of the regulatory scheme exists where, as a matter of reason or logic, the former can be said to serve the latter”.

A quick read of the decision indicates that the Court was faced with an issue that has been considered many times by international trade panels, including the Appellate Body of the World Trade Organization, which is the world’s ultimate multilateral forum for the resolution of trade disputes. The Court had to strike a balance between the principles of free trade and the “regulatory space” of provincial governments to regulate. It’s reasoning bears some of the key hallmarks established by the Appellate Body, including the requirement for a “rational connection” between the restriction on trade and the objective of the government measure. Although further study is required, the Court’s reasoning also appears to avoid the subjective pitfalls of the “aim and effects” test, wherein the legality of a measure is assessed in the light of its own aim and effects. Such an approach has been rejected by the WTO Appellate Body.

While the assessment of the legality of such a measure before a trade panel or the WTO Appellate Body would be much more rigorous, it will be an interesting debate whether the outcome would have been any different.  No doubt there will be much written on this important decision.

Greg Tereposky

Daniel Hohnstein

Canada Closes the Gate on Non-Market Economies (NMEs) and Circumvention of AD and CV Duties

[Updated 26 April 2018]

The Department of Finance has published its proposed Regulations Amending the Special Import Measures Regulations and the Canadian International Trade Tribunal Regulations in the Canada Gazette (available online here). Interested persons have 15 days from March 31st to provide comments on the amendments, which are expected to come into force late April or early May.  These new measures include alternative methodologies to address price distortions (e.g., non-market economies (NMEs)), the creation of new anti-circumvention investigations, the adoption of “scope” proceedings to replace previous informal advice provided by the Canada Border Services Agency (CBSA), and union participation in trade remedy proceedings.

Changes to Canadian Law

Following consultations in the summer of 2016 during which the Government of Canada sought stakeholder views on how to improve the effectiveness of the Canadian trade remedy system, new measures were announced in the 2017 Budget. To implement these measures, legislative amendments to the Special Import Measures Act (SIMA) were made through the Budget Implementation Act, 2017, NO. 1, which received royal assent on June 22, 2017.  However, for these legislative changes to become operational, amendments to the Special Import Measures Regulations (SIMR) and the Canadian International Trade Tribunal Regulations (CITT Regulations) are required. The proposed changes concern these amendments.

On 26 April 2017 the CBSA announced these changes and provided some elaboration on how it will implement them. See: http://www.cbsa.gc.ca/sima-lmsi/sapt-pesp-eng.html

NMEs and Other Distortions Affecting Exporters

The previous June 2017 changes to the SIMA empowered the CBSA to reject sales of a “particular exporter” or of a “particular country” if a “particular market situation exists which does not permit a proper comparison with the sale of the goods to the importer in Canada”. A “particular market situation” may exist where there is government intervention in the market that distorts prices so that they are artificially low, such that they are not appropriate to use for the price comparison.  In such circumstances, the CBSA can use the alternative constructed normal value methodology (i.e., costs plus profit). It is now apparent how Canada intends to implement this change to counter NMEs.

The amendments to the SIMR focus on the “profit” element of the constructed normal value. They will allow the CBSA to disregard sales in the exporter’s market where a particular market situation exists in determining the “reasonable amount of profit” when constructing the normal value. Focusing on “profit” rather than on “cost of production” might be aimed at avoiding the requirement to use the cost of production “in the country of origin” that is specified in Article 2.2 of the WTO Anti-Dumping Agreement and that prevents investigating authorities from using costs from surrogate third countries.  The phrase “reasonable amount for… profit” in Article 2.2 is not explicitly qualified by that language.

Anti-Circumvention Investigations

The SIMR will be amended to prescribe the activities that constitute circumvention (e.g., assembly or completion of goods in Canada or a third country using parts or components from a subject country, or the slight modification of goods), in addition to the factors that the CBSA could consider in making its determination. The CITT Regulations will also be amended to allow one CITT Member (rather than three) to amend the order that originally imposed the duties so that it will cover the goods subject to the CBSA’s anti-circumvention decision.

Scope Proceedings

The SIMR will be amended to prescribe the information that applicants will be required to include in an application for a scope ruling and lay out the procedure applicable to such proceedings, including the circumstances under which the CBSA could reject an application for a scope ruling or extend the period for making a scope ruling. The CITT Regulations will be amended to provide for an appeal mechanism of scope rulings made by the CBSA and the procedure applicable to such proceedings. The CITT Regulations will also be amended to allow one CITT Member (rather than three) to hear appeals of the CBSA’s circumvention determinations.

Union Participation

In addition to adding unions to the list of parties that may make representations to the CITT in public interest inquiries, the amendments to the SIMR will also require that domestic producers include a list of relevant unions in dumping and subsidizing complaints. The CITT Regulations will be amended to add unions to the definition of parties that may make representations.

Tereposky & DeRose regularly provides advice on Canadian anti-dumping and countervailing duty matters.  Should you have any questions regarding this matter or anti-dumping and countervailing duty issues more generally, we are at your disposal.

Greg Tereposky

Stephanie Desjardins