This Week in International Trade – Border Adjustment Tax, Trans Pacific Partnership Agreement & the NAFTA in the News

By Melissa Miller Proctor

Several key international trade issues made the headlines in various news media outlets this week, namely the proposed border adjustment tax and the status of both the TPP and the NAFTA. Here are the key take-aways:

  • It has been reported in the media this week that House Republicans may push ahead with tax reform legislation that will include a border adjustment tax even though it is not clear whether they have enough votes to pass the bill. However, a couple of days ago, in an interview with The Wall Street Journal, Trump stated that he is not a fan of the GOP’s border adjustment proposal that would tax imports and exempt exports as it was too complicated. In that interview, he stated that he didn’t believe that a border adjustment was needed in addition to lowering the corporate tax rate, and that it was too complicated because companies would receive credit on certain parts and not others and would have to contend with country of origin issues. Therefore, one can only continue to speculate on the likelihood of that a border adjustment tax will come to pass and what it will specifically entail. 
  • Sean Spicer, Spokesman for the Trump Transition Team, announced that executive orders on the Trans-Pacific Partnership Agreement (TPP) and the North American Free Trade Agreement (NAFTA) will be issued shortly upon President-Elect Trump’s taking office, and that Trump will not wait for trade-related administration nominees to be confirmed by the Senate. During the presidential campaign, President-Elect Trump stated that he intended to withdraw from the TPP and either renegotiate the NAFTA or withdraw from it as well. 

By way of background, the concept of a border adjustment tax was originally rolled out in June 2016 in the House Republicans’ “A Better Way” publication (otherwise known as “the Blueprint”). Generally, under a border adjustment tax scenario, the corporate income tax would not be assessed on worldwide income; rather, a US company would pay the tax based on its domestic revenues minus its domestic costs. Thus, the tax would be based on the place of production and sale of the goods (i.e., the destination). In addition, export sales would not be taxed. Further, the costs associated with any imported goods or supplies used in sales in the US would not be deductible; therefore, a company that sources raw materials, parts and components from foreign suppliers would not be able to deduct the cost of those imports, and would pay the tax on those imports. It is possible that a border adjustment tax of this type could be challenged at the WTO-level as a prohibited subsidy; however, it could also be viewed as a legitimate indirect tax similar to the Value-Added Tax (VAT) that exists in other countries, which is accepted by the WTO. President-Elect Trump talked extensively about a border tax during the presidential campaign.

With regard to the international trade agreements, Congress has historically granted broad authority to the President to negotiate, enter and even withdraw from international trade agreements. For example, the President may terminate or withdraw from trade agreements after providing formal notice (i.e., six months) to the agreement’s partner countries. In addition, the President may revoke prior Executive Orders that provided preferential tariff treatment under agreements and even institute higher tariffs on imported goods. The TPP, which includes the United States and 11 other countries in the Asia Pacific region (i.e., Australia, Brunei, Canada, Chile, Japan, Malaysia, Mexico, New Zealand, Peru, Singapore, and, Vietnam), would be the largest regional free trade and investment agreement ever negotiated. In February 2016, the United States and the various signatory countries signed the agreement and currently have a maximum period of two years in which to implement it into their local laws. Even if the TPP were implemented into U.S. law, the agreement itself would enter into force only after at least six of the signatory countries (that represent a minimum of 85% of the GDP of all of the participants) have implemented the agreement into their local laws. Many of the signatory countries have already started the ratification process of the TPP under their laws. As noted above, President-Elect Trump stated during his campaign that he intends to submit formal notification to the TPP signatory countries of the United States’ withdrawal from the agreement. 

As is commonly known, the NAFTA is a free trade agreement that includes the United States, Canada and Mexico. It was signed into force by former President Bill Clinton on January 1, 1994, and eliminated duties on “originating” goods and non-tariff barriers on goods and services traded between the parties. The terms of the NAFTA itself, in Section 2205, allow the parties to unilaterally withdraw from the NAFTA. As noted above, the President may also unilaterally withdraw from the NAFTA by issuing an executive order and set higher rates of duties on imported goods. It is anticipated that if the United States were to withdraw from the NAFTA and impose higher tariff rates to goods imported from Canada and Mexico, the costs borne by U.S. manufacturers that source Canadian and Mexican raw materials, parts and components would increase—those costs would likely be passed along to U.S. consumers in the prices of the finished goods. In addition, U.S. exporters would likely find that their products would become less competitive in Canadian and Mexican markets given that customers in those countries would be paying higher duties on U.S. goods. 

Polsinelli will continue to monitor and track these fluid international trade issues, and further developments will be reported in this blog—stay tuned.