Substantial Transformation of IT Products Under the TAA Requires Careful Consideration

The Trade Agreement Act ("TAA") utilizes a "substantial transformation" test in determining the country of origin of an end product composed of various parts from various countries. Substantial transformation is assessed and determined on a case-by-case basis, examining the totality of the circumstances. Therefore, no one factor is determinative. TAA as well as "Buy American" determinations are very fact specific. Thorough legal, technical, design, and production analysis is generally needed to ensure the proper country of origin designation. In analyzing IT products, the focus is often on the "essence test" centering on the part of an end product that confers identity and defines general use.

Three recent final determinations by U.S. Customs and Border Protection ("CBP") highlight the impact of IT development and programing on country of origin designation under TAA and Buy American provisions. Together, these determinations define both programing and software/firmware development and indicate how critical they are to assessing country of origin designation.

HQ H258960 (May 31, 2016) examines two different scenarios involving hardware and programming.

• Scenario 1 involves "blank" transceivers consisting of just hardware without any programming.
• Scenario 2 involves transceivers having a generic program that is removed and proprietary software is installed and then tested for compatibility.

Under both scenarios, the proprietary software is developed in the US, value is increased significantly after programming, and the hardware is wholly manufactured outside the US.

Scenario 1 results in a US country of origin designation because, "[w]ithout the proprietary software, the transceivers could not function as a network device in any capacity." Scenario 2 results in a different outcome. "[P]rogramming an imported, already functional, transceiver just to customize its network compatibility, would not actually change the identity of the imported transceiver." Under this scenario, the last substantial transformation occurred where the hardware was manufactured and that country is properly designated as the country of origin.

This case illustrates that programming alone, even if it adds some specific functionality, may not be sufficient to garner a country of origin designation if generic software already installed on the hardware renders the hardware functional for the general end purpose.

HQ H273091 (July 1, 2016) examines two products, a cable and a transceiver, created under similar but importantly distinct circumstances by the same company.

The cable is fully assembled in China and completely non-functional when imported into the US. Chinese software[1] is downloaded in the US which enables the cable to function as intended. The transceiver is fully assembled in China and completely non-functional as imported into the US. German software is downloaded in the US which enables the transceiver to function as intended.

CBP concluded that downloading does not amount to programming. China is the proper country of origin for the cable because the major assembly processes are performed and the software was developed in China. China is also the proper country of origin for the transceiver because the last substantial transformation occurred where the major assembly processes are performed. Here, the software development in Germany is not the last substantial transformation, so it cannot be the country of origin.

HQ H261623 (November 30, 2016) deals with two scenarios for hard disk drives created by the same company.

Under both scenarios, certain components are designed in the US but the final system, including firmware, is designed in Singapore or South Korea with support from the US. The components are manufactured in various parts of Asia (using both factories that are internal and external to the company). The components are assembled and initial testing is done in various parts of Asia. The hard disk drives are then shipped in scenario 1 to Singapore or South Korea and in scenario 2 to the US. Final assembly and programing is conducted at one of these three locations. The encryption architecture is designed in the US. The encryption firmware is developed and programmed primarily in the US and South Korea. The CBP notes that,

"programming an information processing device will not in every case result in a substantial transformation of the device. It will depend on the nature of the programming, as compared to the nature and complexity of the information processing device on which the programming is completed. In other words, installing a relatively simple program on a complex information technology device will generally, by itself, not result in a substantial transformation of the device."

The encryption programing in this case did not play as vital a role in the end product as the final system and firmware design. Thus, CBP concludes that under scenario 1, Singapore and South Korea respectively are the designated country of origin but that in scenario 2 the location of final component assembly is the designated country of origin because that country is where the last substantial transformation occurs.

Conclusion

These three cases collectively stand for some important developments in TAA and "Buy American" IT country of origin designations.

• First, software/firmware development and downloading and testing of the software/firmware have to occur in the same country for that country to receive country of origin designation.
• Second, if the software/firmware development and downloading occurs in different countries, the place where manufacturing and major assembly occur will be designated the country of origin.
• Third, hardware that is delivered without any programing and then has software/firmware downloaded onto the device will receive country of origin designation where the software/firmware is developed and downloaded. But, hardware that is functional with generic software/firmware that is removed and then reprogrammed to install proprietary software/firmware, which provides specific connectivity benefits, does not substantially change an end product.
• Finally, even if downloading can be understood to be programing, it may not be sufficient to confer a substantial change to an end product for country of origin designation. Under these circumstances the place where the software/firmware or even hardware was designed may play a greater role in the country of origin designation and the place where the end product is manufactured may ultimately be the place receiving the country of origin designation.

[1] The assessment of the software country of origin is also noteworthy. CBP concluded that "eighty percent of the research conducted to develop the proprietary software is done in the US and twenty percent is done in China, all other development processes are conducted in China." Under these circumstances the software was considered Chinese in origin.