AUGUST 05, 2019

By Devinder Bagia, Joint Partner and Aishwarya Dubey, Associate, Lakshmikumaran and Sridharan Attorneys

IN the recent past, newspapers were swamped with reports of the premier intelligence agency initiating an investigation against the benefits of customs duty exemption availed under the agreement on South Asian Free Trade Area ('SAFTA') for import of readymade apparel from Bangladesh.

SAFTA is a free trade agreement with member countries from the South Asian regions such as Afghanistan, Bangladesh, Bhutan, India, Maldives, Nepal, Pakistan and Sri Lanka. It provides for basic customs duty ('BCD') exemption when goods are imported from any country party to the SAFTA provided that the goods, for which exemption is claimed, originate in the member country.

The investigation by DRI revealed that the imported apparels claimed to be originating from Bangladesh were supplied from other countries with minimal processing in Bangladesh. The DRI is also investigating the issue of third-country invoicing under SAFTA. Through this article, we have tried to analyse the concept of third-country invoicing/ third-party invoicing under free trade agreements and the conundrum around the same.

What are Free Trade Agreements ('FTA')?

Before dwelling into third-country invoicing, it is relevant to understand the concept of FTAs.In modern world, trade between nations is not a concept unheard of. Therefore, to facilitate trade, Free Trade Agreements are executed amongst countries or trading blocs for giving preferential treatment to goods originating in countries party to the agreement.FTAs are aimed at reducing or eliminating barriers to trade.

FTAs generally cover trade in goods and services both. Also, FTAs intend to reduce/eliminate tariff as well as non-tariff barriers.Here, we are concerned with the trade in goods wherein the member countries to the FTA agree to give reciprocal preferential tariffs (by way of reduced BCD) to the goods which originate in the member country. The FTAs provide for rules of origin ('Rules of Origin') of goods which lays down criteria to determine as to when a product would be considered to originate in the member country.

Generally, Rules of Origin provide for substantial transformation as a criterion for ascertaining origin or national source of product. Under the FTA which India has entered into with various countries / trade blocks, the origin is generally determined based on following criteria (i) whether there is tariff jump in all the non-originating materials (change in tariff codes between imported raw materials and exported finished goods) (ii) required percentage of value addition is achieved in the exporting country and (iii) the final process of manufacture is done in exporting country and goods are consigned directly from such country. A certificate of origin ('COO') is issued by the competent authority in the country of origin for the goods satisfying the origin criteria as laid down under the Rules of Origin.

India has entered into various, bilateral as well as multilateral, FTAs. Some of the prominent FTAs which India is a signatory to includes AIFTA (i.e. ASEAN-India FTA), SAFTA, India-Korea FTA, India-Japan FTA, and Asia Pacific Trade Agreement.

Third-Country Invoicing

Trade in its strictest sense involves two contracting parties whereby one party (exporter) sells the goods to the other party (buyer/importer). However, intermediary trade or third-country invoicing has now become a well-accepted and common practice in international trade. A typical example of third-country invoicing looks like this:

A, B and C are residents of three different countries. A sells goods to B against an invoice, who in turn sells the goods to C against another invoice. However, for ease of doing business, the goods are never physically delivered by A to B. The goods are delivered directly from A to C.

Third-country invoicing is colloquially referred to as bill-to-ship-to model.

Third-Country invoicing under FTAs

Out of all the FTAs, where India is a signatory, most of them comprise of a provision relating to third-country invoicing. AIFTA (ASEAN-India FTA), India-Chile FTA, India-Korea FTA, and India-Malaysia FTA categorically provide for third-country invoicing.

An example of an FTA providing for third-country invoicing can be seen in AIFTA (ASEAN-India FTA).The provision reads as follows:

“The Customs Authority in the importing party shall accept an AIFTA Certificate of Origin where the sales invoice is issued either by a company located in a third country or an AIFTA exporter for the account of the said company, provided that the product meets the requirements of these rules."

The CESTAT, Chennai also briefly dealt with the issue of third-country invoicing in the case of M/s. Olam Enterprises India Pvt. Ltd. v. CC, Tuticorin, - 2018-TIOL-2060-CESTAT-MAD. The Hon'ble Tribunal stated that invoice issued by party in third country will not disallow the benefit of AIFTA certificate of origin. Nevertheless,AIFTA provisions specifically provide for third-country invoicing.

Even the World Customs Organisation ('WCO') acknowledges that third-country invoicing is a well-established practice in international trade. WCO for effective and efficient implementation of Rules of Origin, has issued guidelines on COO. These guidelines also recognise that for importers and exporters it is a common practice to involve an intermediary between them.

However,certain FTAs entered into by India are silent on the concept of third-country invoicing.The WCO Rules of Origin provide that if third party invoicing is not explicitly allowed or prohibited under a trade agreement, it is up to the customs authorities according to the national legislation to determine how such instances are treated.

SAFTA, India-Singapore FTA, SAPTA (SAARC-India preferential agreement)are some agreements which do not contain an outright provision on third-country invoicing. In such cases, the question which arises is whether the customs authorities of the importing country should still allow the benefit of preferential rate if the invoicing country is a non-member? It becomes a contentious issue especially when even the national legislation (rules of origin as notified by the contracting members) is also silent on the aspect. It may be noted that under the FTAs, it is fundamentally the goods which become eligible to the preferential tariff if they satisfy the origin criteria under the rules of origin. Therefore, once eligible, the third country invoicing should not change that situation. However, it needs to be seen as to how Customs authorities in the ongoing investigations look at the issue.

Another issue which crops up is the extent of exemption which will be granted under the FTAs to the goods which are invoiced through third countries. Whether the entire FOB value of goods invoiced by the third country seller (including the intermediary margin) should get the exemption? The Hon'ble CESTAT in M/s. Olam Enterprises supra held that exemption is available to the full value of goods in such cases. As stated, Olam was a case where a provision did exist for third country invoicing, however, the issue still remains when the FTAs are silent on the issue like in the case of SAFTA.

Let's understand the above issues with the help of an illustration. 'A' in the exporting member country (say Bangladesh) raises an invoice of INR 100 on 'B' in the third country (say, Italy) and provides a Certificate of Origin (COO) with FOB being indicated in COO as INR 100. In turn, 'B' issues an invoice of INR 120 (FOB) on 'C' (the importer in India). 'C' imports the goods on the cover of the COO issued by 'A' and the commercial invoice issued by 'B'.

Considering the above transaction is executed under an FTA which is silent on third-country invoicing i.e. SAFTA then two issues arise. First, whether the importer is entitled to any benefit under the FTA at all since third-country invoicing is not expressly provided for and second, if the benefit is granted, what FOB value(100 or 120) will be considered for granting the same.

The Ministry of Commerce is the nodal agency responsible for implementing and overseeing functioning of the FTAs. Bearing in mind the wide acceptance of practice of third-country invoicing, it will be a breather for various industries if the Government issues a clarification in this regard and would help in solving the conundrum around third-country invoicing under FTAs.

(The views expressed are strictly personal.)