FTZ Basics & Benefits
Foreign Trade Zones can help global shippers maximize savings and minimize operational costs. Speeding customs clearance and eliminating paperwork seals the deal.
The global economy is altering how goods are produced. Today, parts made in one country are increasingly assembled in another, then sold in a third. As global trade expands, foreign trade zones (FTZs) grow in importance as well.
During the Great Depression, the Foreign Trade Zones Act of 1934 created FTZs to expedite and encourage foreign commerce, and reduce costs for U.S.-based operations engaged in international trade.
Today, in the United States, an FTZ is a geographical area where commercial merchandise, both domestic and foreign, receives the same customs treatment it would if it were outside the commerce of the United States. Importers, distributors, manufacturers, and others can activate the FTZ option to defer, eliminate, or reduce duties on imported goods.
"The global supply chain continues to add value to duty-free zones, with every country counting on others to supply raw materials, finished goods, and other services," says Terry McMullen, managing director of AIT Worldwide Omaha (AIT Worldwide Logistics is the global partner of the Omaha FTZ). "With more countries getting into the global trade mix with new products every year, the world is becoming more reliant on this flow of commerce."
FTZs also help maintain U.S. employment opportunities. While U.S. FTZs account for less than one-half of one percent of all world zone workers, and a small share of the U.S. workforce, most of this employment is in manufacturing, which has lost a significant share of workers during the past several decades.
FTZs are supervised by U.S. Customs and Border Protection (CBP), under the U.S. Homeland Security Council. Every state currently maintains at least one FTZ, and many have numerous manufacturing operations. In all, more than 230 FTZs, and nearly 400 subzones, operate in the United States.
An FTZ's primary advantage is its ability to improve a company's competitive position. Businesses can avoid import duties if goods that enter the FTZ are stored, sorted, tested, repackaged, and otherwise handled within the FTZ, then exported without ever entering the U.S. marketplace.
For those products that do enter the U.S. marketplace, duty payments are due only once. Postponing payment provides a cash-flow advantage to importers and exporters. In addition, duty and tax rates on merchandise admitted to an FTZ may change because of operations conducted within the zone. A company may elect to pay either the duty rate applicable on the foreign material placed in the zone, or the duty rate applicable on the finished article transferred from the zone—whichever they find more advantageous.
For example, import duties on components are often higher than duties charged for finished products entering the U.S. market. Ball bearings imported from Korea, for example, may have a nine-percent duty rate. But those ball bearings can be placed in an FTZ, then installed into an automobile steering assembly. If the finished vehicle, once manufactured, has a 2.5-percent duty, then the entire assembly of parts and equipment gets the lower duty rate.
"A lot of cars come through the Port of Tacoma," says Annika Dean, real estate specialist for the port. "Paying duties on just the finished product, rather than on each component the automaker is importing, is a huge deal. It allows carmakers to remain competitive in the global marketplace."
Cutting Down on Paperwork
FTZ users gained additional economies of scale in May 2000, when President Clinton signed the Trade and Development Act, which contains a provision that allows the use of the Weekly Entry procedure for all FTZs. Under Weekly Entry procedures, FTZ users file only one Customs Entry per week, rather than one per shipment. Customs no longer has to process an entry for each shipment being imported into the FTZ, and the importer no longer has to pay for the processing of each entry. Alternatively, if companies are importing into a non-zone, they pay a merchandise processing fee for every container that comes off a ship.
In addition, companies can conduct zone-to-zone transfers, so they do not pay duties if they move materials from one FTZ to another.
But FTZs are not necessarily beneficial to all types of importers and exporters. The advantages depend on the manufacturer and the industry. The automotive industry relies heavily on FTZs because it often sources parts from several different countries, and assembles them in yet another country. For example, a combination of low costs, convenient location, and a slew of free trade agreements have made it more advantageous for automakers to assemble cars in Mexico.
In November 2013, Nissan opened its second final assembly plant in Aguascalientes, Mexico. Honda, Mazda, and Audi are also adding assembly lines in the country. In 2013, Mexico was on pace to build 3.15 million vehicles, which represents 19 percent of all cars and trucks made in North America.
Apparel and retail importers also can benefit from using an FTZ. "Garments and other retail items carry as much as 20 percent or higher duty," says McMullen. "Using an FTZ, importers can bring three months' worth of product into the United States on two 40-foot containers, but pull out only the product they need each month by the pallet level. They pay only for the product they have brought into U.S. commerce at that time. Eventually they do have to pay the duties, but they also save by consolidating into larger shipping units. That model offers unique advantages."
Choosing the Right Type of FTZ
There are two types of foreign trade zones: general-purpose zones and special-purpose subzones. A general-purpose zone is typically a multi-tenant building or industrial park site that has been designated as an FTZ. By definition, a general-purpose zone must be available to more than one company, and is for warehousing only.
General-purpose zones are well-suited to smaller companies, or those without an ongoing need for an FTZ. Such businesses can access the benefits of an FTZ as needed, and avoid the costs associated with investing in their own infrastructure. Because multiple companies utilize the same footprint, costs are deferred.
Companies that use a general-purpose FTZ can also involve a third-party logistics (3PL) provider to assist them. The OpTech Group, for example, provides 3PL services in San Antonio; its location at East Kelly Railport is the only active FTZ in the region.
"Our FTZ is public; we operate it, and new companies that want to use it subcontract with us," explains Brian Hickert, vice president of sales and strategy for OpTech. "We run their materials through our warehouse, but it's not dedicated to them.
"This model is ideal for a company that might not have an ongoing need for an FTZ, or a company that just isn't sure yet," Hickert adds. "They can use OpTech as a 3PL for FTZ services, then gauge whether or not they want to activate their own FTZ."
In addition to traditional duty-deferred warehousing, OpTech also provides value-added services such as kitting and assembly. "Importers can place inventory in the United States, where we can configure it, or kit items together to fit their needs," says Hickert. "We can then deliver that finished product to any major city outside San Antonio within two or three days. Using this approach, importers can serve customers better than large producers with a more static supply chain."
Such companies can also utilize a 3PL to help optimize their processes so they pay the lowest duties. 3PLs can examine packaging, for example, to ensure the company's product moves using the least space possible and in the quickest time.
"Companies that bundle their products well, and play the game smart, can end up paying a lot less than companies that don't," says Hickert. "For example, we have a customer whose competitor is in the same FTZ—they sell the same product. But one company can put only 40 bottles of product on a pallet, while the other can put 100 bottles on a pallet. One pays a premium because it didn't think about the whole process.
"Companies that operate through a public FTZ, and utilize 3PL assistance, can get access to these additional services, as well as recommendations for how to optimize the entire process," he adds.
A 3PL that works within an FTZ may also assist companies with goods that fall under import quotas. "Because those caps often run out on a first-come, first-serve basis, smart shippers can bring their merchandise into the FTZ at the end of the year," says Hickert. "On Jan. 1, when the import quota opens, they put their inventory in, and are first to apply for the permit. That's a sophisticated shipper that knows how to leverage the FTZ."
Another approach that can be used under general-purpose zones is an Alternative Site Framework. This FTZ designation was recently created by the Obama Administration, and is intended to extend the benefits of an FTZ to areas outside of existing zones without the lengthy filing application and administrative overhead inherent in traditional foreign trade zones.
The Alternative Advantage
In 2011, Tacoma moved to an Alternative Site Framework. This approach offers a number of advantages to companies requiring FTZ services, such as guaranteed designation in 30 days, reduced paperwork, simplified application, and lower costs for all parties involved. Under the Alternative Site Framework, Tacoma's FTZ footprint extends to its entire county.
"We can work with an operator anywhere in Pierce County to designate a site," says Dean. "Under the Alternative Site Framework, as long as a company is approved and compliant with customs requirements, the FTZ can be virtual."
The second type of FTZ—a special-purpose subzone—is for the benefit of one company only for a limited purpose that cannot be accommodated within an existing zone site. A typical subzone designation includes the acreage where one company's manufacturing or distribution facility is located. Subzones generally work best for large companies, and are not generally cost-efficient for smaller ones.
"The most common FTZ is when a manufacturer operating a large distribution center or plant asks CBP to designate part of their facility, in which they only handle their own materials, as an FTZ," says Hickert. "Customs can then come in and out of the facility regularly to verify the manufacturer's activities."
The Combination Approach
Many states utilize a combination of FTZ approaches. Washington, for example, has a disparate set-up. Several large companies, such as Boeing, operate their own FTZs at their own facilities, while other companies utilize the Alternative Site Framework. In 2012, Tacoma's FTZ received more than $2.1 billion worth of foreign status merchandise.
Brooks Sports and The Home Depot are the port's newest designated sites, and are currently working with CBP for activation. In all, the Port of Tacoma currently has 16 FTZ operators, of which six are activated.
Some FTZs are located at ports, while others are inland. Both port-located and inland-located FTZs provide the same features and benefits. The location of a company's final customers is the most important factor in determining which FTZ to use.
For example, Miami is an ideal location for imported goods from Asia destined for U.S. consumers and Latin American customers. When a 40-foot container arrives at the Miami FTZ, cargo is unloaded. When the U.S. goods in that container are ready to come into U.S. commerce, then the importer pays a duty. But product transiting the FTZ in Miami and moving to Latin America can be re-exported without the company having to pay U.S. duties.
Although port-located and inland-located Foreign Trade Zones share the same features and benefits, inland ports are growing faster. One reason may be the cost of warehousing.
"Warehouse fees in West and East Coast port FTZ zones can be as much as 70 percent higher than in the Midwest," says McMullen. "Companies can reach the rest of the country from Nebraska in two to three days, at a low distribution cost, with economical warehouse fees."
Pitfalls and Challenges
The challenges associated with using an FTZ depend on its type. Overall, documentation and compliance with CBP rules and regulations are critical. For companies that are operating their own FTZ, making sure inventories check and balance is important.
Since 1986, CBP has conducted oversight of FTZ operations on an audit-inspection basis known as Compliance Reviews. These reviews assure compliance through audits and spot checks under a surety bond, rather than through on-site supervision by CBP personnel.
For FTZ operators, software compliance is another challenge. Operators need to implement software that interacts directly with CBP technology systems, and timely compliance has been difficult for some.
Meanwhile, companies that utilize public FTZs can face challenges associated with sharing FTZ space and resources. "It's easy to optimize processes when you are running a facility for one customer," says German Rico, general manager of East Kelly Railport at Port San Antonio. "But it's much harder to run several customers, with different requirements, through the same facility."
New companies can also encounter obstacles when dealing with CBP, and those preparing to use an FTZ for the first time should be prepared for delays.
"Customs will red-flag any new company importing into the United States until it has a good feeling about its profile," says Rico. "The agency does this for all companies—even established ones getting into new products."
Rico encourages new companies to ensure they have "safety stock" to help deal with such delays. "Many new companies are in a rush because they want to hit the market quickly, so they order and import just enough stock," he says. "But after three weeks in operation, a shipment might get held up for one week because CBP wants to do an intensive inspection, or lab work. If companies don't have safety stock, the supply chain flow can be delayed. Then they are in trouble."
Future of FTZs
The future of FTZs looks bright. FTZ activity in Nebraska has grown over the past five years, with two additional subzone FTZs opening—one at Cabela's in Sydney, Neb., and one in Grand Island. Tacoma also has experienced a significant uptick in inquiries from companies looking to utilize FTZ services.
"As every aspect of business grows more competitive, FTZs are becoming an important strategic tool for any manufacturer of any volume," says Vince Sullivan, business development manager for the Port of Tacoma. "Foreign Trade Zones are a critical component of any business plan for companies importing product and carrying inventory."
The continued growth of the global economy could help expand FTZ use, as well. "We will see robust growth in FTZ activity around the country, as well as shifts in different product use as the United States and other countries determine duty rates, commodities to be protected, and commodities that might go way up," says McMullen.
An increase in the use of free trade zones around the world could also play a role in FTZ growth. In November 2013, European and U.S. officials resumed negotiations on a trans-Atlantic free trade agreement.
"The United States and European Union will sign a trade agreement by 2015," predicts Hickert. "When that agreement begins, we'll be able to leverage the many benefits we've been able to offer as a result of NAFTA for companies trying to access south Texas for shipments to Europe."
After the 1993 North American Free Trade Agreement was signed, questions arose as to whether foreign-owned operations along the U.S.-Mexico border would diminish in importance, and entire free trade agreement partner countries would become vast "free trade zones."
But free trade zone use has remained popular in developing and developed countries alike because of its diverse benefits, according to U.S. Foreign-Trade Zones: Background and Issues for Congress, a study published in November 2013 by the Congressional Research Service. In fact, 3,700 firms currently employ at least 1.2 million workers in zones in Mexico.
Whether or not additional free trade agreements emerge, it's clear that FTZs will continue to play an important role in foreign trade, and their multiple competitive benefits guarantee expansion and growth well into the future.