Preparing for Choppy Waters

The recent threat of new or increased tariffs between major world economies has created a volatile situation for companies with multinational operations. Most recently, the United States and China have each introduced new levies targeting imports from one another, and new 25% tariffs on US imports from Mexico and Canada are due to be implemented in early March. For now, these appear to be across the board tariffs, however time will tell if the impact will be narrowed to include only specific product categories. HLB International has been coordinating our international tax and transfer pricing experts across the United States, Mexico, Canada, and China to provide our clients with practical guidance on some of the most pressing questions to a global business facing the prospect of new or elevated tariffs.

While customs and tariffs affect each global company in a unique way, common best practices can help tax, finance, and operational departments navigate the complexities of a fast-changing world trade environment in which the cost of raw materials, inputs, and finished goods can spike with little warning. This uncertainty creates a stress on global businesses of all sizes where the cost of importing and exporting products may change with no recourse and the company is faced with either passing on the cost to the consumer or bearing it themselves. Neither is an attractive option.

Based on numerous discussions with our clients over the past several weeks, and global collaboration within our international network, HLB has developed a three-phased approach to assessing the impact of, and adjusting to, a new customs and tariff footprint. This strategy is intended to help companies make well-informed, proactive decisions while ensuring compliance with relevant tax, transfer pricing, and trade rules, and consists of the following:

Phase 1: Global Supply Chain Mapping

The first action any company should take when evaluating the potential effect of new tariffs is to ensure a thorough understanding of its own internal and external supply chains, its stakeholders, and processes. This process entails answering the following key questions, among others:

  • Which internal and external stakeholders are involved in customs valuation, documentation, and compliance?
  • What are the company's import and export destinations, and how do those correspond to newly introduced worldwide tariff and trade measures?
  • For all cross-border activity, who is the Importer of Record, the entity that is responsible for reporting and remitting the customs duties/tariffs?
  • What legal and contractual arrangements (both third-party and intercompany) govern the terms of export/import?
  • Are there differences in data sources for tracking customs and income taxes?
  • Are alternative suppliers available, and if so, what are the operational and financial implications of changing source?

Phase 2: Evaluation of Potential "Levers"

Once internal and external supply chains, stakeholders, and processes are thoroughly mapped, the next step for global companies is to evaluate the potential levers at their disposal to modify and/or optimize their customs footprint. Examples of questions to answer in this phase include:

  • What constraints do legal contracts place on the company's ability to shift or reallocate tariff expense?
  • For related-party imports, how do the company's transfer pricing practices (e.g., entity/transaction characterization, relative functions/assets/risks, etc.), affect the appropriate allocation of tariff expense from an income tax perspective?
  • For related party imports, how does the transfer pricing method used for pricing intercompany product sales and purchases interact with customs valuation, if at all? Are downward adjustments eligible for customs refund in the jurisdiction(s) in question?
  • How do industry and market forces (e.g., supplier/purchaser power) affect the ability to pass on tariff expenses to customers?
  • Do alternative sources/locations provide a more favorable customs/tariff footprint? For example, are free trade zones an option?
  • What are the compliance and financial impacts of taking no action in terms of forward-looking planning?

Phase 3: Planning and Implementation

Only after the mapping and evaluation in Phases 1 and 2 are complete should companies begin the process of planning changes to business and financial operating models. Depending on the company's facts and circumstances, strategies may include realignment or renegotiation of product and/or contractual flows, valuation planning (possibly in conjunction with changes to transfer pricing policies), and other measures intended to reduce the margin impact of tariffs. Importantly, companies should continuously track national and jurisdictional policies, as changes to these can be swift and disruptive, and consider starting with more broad-based changes that can accommodate a range of scenarios

HLB tax, transfer pricing, and international trade experts are ready to assist your company throughout each of these three phases. These matters are very fact-specific, so it's important to understand your business and develop a bespoke strategy to meet your unique needs. Contact us today for a no-cost, no-risk consultation.

Author: Marina Gentile, HLB Global Transfer Pricing Leader