Other Consequences of a Tariff War: 5 Risks To Avoid

The following article was originally published February 2025. Reproduced with permission of Industry Today.

New or increased tariffs on imported goods represent an obvious direct cost to an importer’s bottom line. These tariffs also come with other consequences that could add costs to the supply chain and risk to business operations. As importers face increased tariffs and volatility, planning can help mitigate the following five risks.

1. Insufficient customs bond. Goods imported into the United States are secured by a customs bond, which serves as an insurance policy for U.S. Customs and Border Protection (CBP) should an importer become incapable of paying its outstanding duty liability due to a bankruptcy or financial crisis. The bond limit is calculated as 10% of the estimated duty over a 12-month period. While bond limits start at $50,000, and $250,000 to $500,000 limits are common, it is not unusual to see bonds of $1 million for larger multinational corporations.
   
   As new or increased tariffs are added, customs bonds will become insufficient if the total amount of unliquidated duty surpasses the bond limit. The importer will face either having to increase the bond limit or having to painfully wait for entries to liquidate prior to adding subsequent imports under the customs bond. Increasing the bond limit poses its own challenge as it creates more exposure for the insurance underwriters. To mitigate the exposure, underwriters often require importers to present audited financials. If the company is not in a good financial position, the underwriters may require a company put up collateral, often in the form of a letter of credit and in an amount up to 110% of the bond limit.

   Solution: Being proactive by consulting with the bond surety to review the bond limit and doing some forecast modeling on future duty liability can help significantly mitigate the risk of receiving insufficiency notices after new tariffs are enacted. Taking care of this now instead of waiting until after the tariffs are enacted can help prevent supply chain disruptions and demurrage expenses. The bond sureties are likely to be inundated for days if not weeks after the enactment of new or increased tariffs, so taking care of this now could significantly reduce costs and frustration.

2. Trade compliance. When new or increased tariffs are imposed, the cost for noncompliance with CBP laws and regulations increases when there is a loss of revenue to the federal government. CBP assesses penalties based on whether the violation resulted in a loss of revenue for the federal government and based on the degree of culpability by the violator. Typically, CBP will start at gross negligence, which carries a penalty of four times the loss of revenue; thus, if a 50% increase in tariffs is imposed, it will translate into a 50% penalty increase. Even when there is no loss of revenue, CBP will assess penalties ranging from 20% to the domestic value of the merchandise depending on the degree of culpability (negligence, gross negligence, and fraud). Common violations typically include systemic misclassification of imported goods under the Harmonized Tariff Schedule (HTS) as well as undervaluation of merchandise.

   Solution: Performing a mock compliance audit can help identify systemic errors leading to violations as well as assess the sufficiency of a company’s internal control environment. CBP perceives companies with a strong internal control environment as lower risk for noncompliance. Furthermore, importers can receive reduced penalty benefits for self-disclosure of violations prior to a CBP investigation.

Degree of Culpability	Revenue Loss	No Revenue Loss
Fraud	Domestic value	Domestic value
Gross Negligence	4 times loss of revenue	40% of dutiable value
Negligence	2 times loss of revenue	20% of dutiable value
Source: 19 U.S.C. Section 1592 penalty guidelines



3. Country of origin. After the imposition of the Section 301 tariffs on Chinese originating goods by the Trump administration in 2018, a number of companies got caught engaging in illegal acts both with the intent to defraud the U.S. government and because of pure ignorance of customs laws and regulations. A couple of examples include:
   • Sending Chinese manufactured components to the Philippines for simple assembly
   • Transshipping Chinese goods through an intermediate country and relabeling them with the intermediate country’s name as the country of origin
   
   Country of origin is defined in 19 CFR 134.1(b) as “the country of manufacture, production, or growth of any article of foreign origin entering the United States. Further work or material added to an article in another country must effect a substantial transformation in order to render such other country the country of origin.” A substantial transformation occurs when an article emerges from a manufacturing process with a name, character, or use which differs from those of the original material subjected to the process.
   

   Solution: Companies should openly discuss and educate their personnel, especially those in purchasing, procurement, manufacturing, and supply chain, of the risks associated with trying to circumvent tariffs. Company leadership should scrutinize proposals to modify manufacturing and supply chains, especially when intermediate countries are introduced into the process. A written policy by company executives addressing these risks also can help personnel be aware of the risks and their responsibilities to comply with CBP laws and regulations.

4. Transfer pricing. Related-party transactions between foreign sellers and U.S. importers or buyers are scrutinized both by the IRS and CBP to determine if the relationship influenced the price of goods and, thus, affects the amount of tax paid to the IRS or import duties paid to CBP when the goods are imported. There is an inverse relationship between customs and transfer pricing, as a higher customs value (indicative of a higher value of purchases) means lower taxable income and vice versa. Companies with international related-party transactions often use a transfer price to establish an “arm’s-length” relationship for IRS purposes, which is the cost of goods plus a reasonable profit remitted to the seller based on comparative analysis of like and similar companies. While a transfer pricing policy will be considered by CBP as part of the overall evidence of an arm’s-length relationship between the parties, CBP uses its own assessment methodology based on circumstance of sale and test values, both of which are applied on a transactional basis, often in comparison to the related foreign seller’s overall profit margin.
   
   The imposition of new or increased tariffs, especially if they are significant, will be a direct cost for the related buyer/importer, which will erode its operating profit. From a transfer pricing perspective, if a company purchases products from a related party for sale to third parties and recognizes an overall operating loss, the related-party transaction (the purchase of products) might not be construed as consistent with the arm’s-length standard. If the company is not able to provide sufficient commercial reasons for the losses, then the IRS, during a transfer pricing audit, may argue that the transaction is not conducted in accordance with the Section 482 provisions and may assess penalties.
   
   Furthermore, the related buyer/importer has an obligation to report postimport purchase price variances to CBP and deposit any additional duties owed. The statute of limitations for import entry transactions is five years from the date of import. Conversely, any direct adjustments of the purchase price by the foreign related seller will have a direct impact on the tariffs to be paid by the related U.S. buyer/importer. Thus, new or increased tariffs would significantly affect transfer prices and could place a company in jeopardy of maintaining an arm’s-length relationship, which could result in additional taxes and penalties and could force the company to adopt a more complicated basis of appraisement for customs valuation purposes, such as deductive or computed value.

   Solution: Now is the time to consult with your transfer pricing specialist to evaluate possible tariff scenarios and formulate strategies to maintain the arm’s-length relationship. Furthermore, companies with related-party transactions should strongly consider enrolling in CBP’s reconciliation prototype, which allows the buyer/importer to “flag” its import entry transactions at the time of entry with the mutual understanding that the importer will finalize its declared value and duty liability within 21 months of the date of import through an aggregate or entry-by-entry reconciliation submission.

5. Valuation stripping. When tariffs increase, many importers evaluate options for stripping out costs from its dutiable value such as foreign inland freight, international freight and handling charges, insurance, and duty as well as additions to the price actually paid or payable such as:
   • Materials, parts, and components
   • Tooling, dies, and molds
   • Certain foreign engineering, research and development, and design work
   • Certain royalties and licensing fees
   • Packaging
   • Selling commissions
   • Proceeds to the seller
   
   The regulations permit the deduction of freight and insurance when goods are purchased on a Cost Insurance and Freight Incoterm basis or on freight and import duties for a Delivered Duty Paid Incoterm basis to affect a lower dutiable value. However, the importer must be able to demonstrate that the freight, insurance, and duties are both:
   • Individually itemized on the commercial invoice separate from the cost of goods
   • Supported through underlying records in the possession of the importer at the time of importation such as rated bills of lading, insurance policy premium payment receipts, and duty remittances
   
   However, many of these other costs related to the price actually paid or payable are dutiable under law and, therefore, must be declared to CBP at the time of entry.

   Solution: Consult with your customs and trade adviser prior to enacting modified pricing arrangements, split invoices, or other strategies to reduce dutiable value. While some deductions are legally permissible if adequately supported through underlying records, others, such as the additions to the price actually paid or payable, must be included under law. Failure to properly value imported goods might result in the imposition of customs penalties.

Looking ahead

New or increased tariffs not only impact an importer’s bottom line directly but also introduce additional risks to the supply chain and business operations. To mitigate these risks effectively, it’s crucial for importers to proactively address these five key areas. Taking proactive steps now can save valuable time, costs, and potential disruptions down the road.