Application for Further Review (“AFR”) of Protest 4701-10-100432; Classification, Valuation, and Eligibility for Treatment under the Generalized System of Preferences (“GSP”); Optical Isolators

HQ H132656 April 28, 2011 OT:RR:CTF:VS H132656 YAG CATEGORY: Classification/Valuation Port Director Attn: Chief, Trade Operations Branch D U.S. Customs and Border Protection Building 77, JFK International Airport Jamaica, New York 11430 RE: Application for Further Review (“AFR”) of Protest 4701-10-100432; Classification, Valuation, and Eligibility for Treatment under the Generalized System of Preferences (“GSP”); Optical Isolators Dear Port Director: This is in response to your correspondence, dated November 2, 2010, forwarding the Application for Further Review (“AFR”) of Protest 4701-10-100432, timely filed by Neville Peterson LLP, on behalf of the Protestant. FACTS: Protestant, located in California, imports optical isolators into the United States from its affiliated company in Sri Lanka. Both companies are the affiliates of another corporation headquartered in Japan. Therefore, for the purposes of this ruling, the Japanese corporation, the Protestant, and the manufacturer in Sri Lanka, are related parties within the meaning of 19 U.S.C. §1401a(g). Protestant states that it purchases the merchandise from the Japanese corporation. The Japanese corporation, in turn, purchases the optical isolators from the manufacturer in Sri Lanka. Nevertheless, optical isolators are shipped directly to Protestant from the manufacturer in Sri Lanka, as evidenced by the air waybill, submitted to us with this protest. In its protest, Protestant states that CBP incorrectly classified optical isolators in subheading 9013.80 of the Harmonized Tariff Schedule of the United States (“HTSUS”) at a 4.5 percent (%) ad valorem duty rate. Protestant claims classification of the optical isolators as parts of telecommunications apparatus under subheading 8517.70, HTSUS. Optical Isolators According to Protestant, optical isolators are custom made by the manufacturer in Sri Lanka in accordance with Protestant’s U.S. customer’s specifications for an underwater optical, long-haul, digital telecommunication network. The optical isolators filter specific frequency of light in the 1550 nanometer range that is used in carrier-class, long-haul optical telecommunications networks for voice, data, images, and video. The purpose of the optical isolator is to increase the transmission performance of an optical fiber transmission line by eliminating the adverse effects of beams of light that are reflected back at the transmission source by the end faces of connectors and other optical components that are present in the transmission line. The return beams destabilize the oscillation of the laser transmission source and have a negative effect on optical fiber amplifiers. The optical isolators, subject to this protest, are “polarization independent” isolators. They operate on all polarized light, independent of the direction of polarization. The optical components of the optical isolators at issue are: Two Faraday rotators; Input pigtail fiber collimator; and, An output pigtail fiber collimator. In addition to these optical components, the optical isolators include the following physical components: Two isolator holders; Two rubber boots; Two caps; Two holders; Two sleeves; Two fiber termination points; One jacket; and, One body casing. The particular optical isolator does not include any electronic components. The components of an optical isolator, specifically, the Faraday rotators and pigtail fiber collimators, allow light traveling forward through the transmission line to pass through the isolator while return beams are isolated and eliminated. The optical isolators are generally used in optical fiber amplifiers. Faraday Rotators Each Faraday rotator is used to provide polarization rotation of the input light by 45 degrees. The Faraday rotators are made by the manufacturer in Sri Lanka from a liquid phase epitaxial (“LPE”) garnet crystal, two rutile crystal polarizers, and a ferrite magnet. The manufacturer in Sri Lanka produces the LPE crystal from LPE ingots, the rutile crystal polarizers from rutile ingot slices, and the ferrite magnet from an unmagnetized ferrite shape. LPE ingots, rutile ingot slices, and an unmagnetized ferrite are imported to Sri Lanka from Japan. Imported LPE ingots are inserted into wax molds and ground in three separate steps per side to specific thicknesses. Then the LPE ingots are polished on each side to a mirror surface, after which they are coated with an anti-reflective coating. The LPE ingots are subject to various quality inspections and analysis during this process. The coated LPE ingots are then cut to specific sizes, with 40 pieces of LPE ingots typically yielding 1000 LPE crystals. Each cut LPE crystal is inspected for quality. The rutile slices are processed in a similar manner to the LPE ingots with three polishing steps per side, and one mirror polishing step per side and then coated with an anti-reflective coating. The cutting of rutile slices consists of 2 steps: (1) the initial cuts are made to allow the manufacturer in Sri Lanka to preserve the axis of polarization during additional processing; and (2) the final cuts are made to the exact measurement for their use in Faraday rotators. The manufacturer in Sri Lanka magnetizes the imported unmagnetized ferrite shapes in batches using special equipment that generates magnetic field. The ferrite is shaped like a tube with a four-sided opening through the center. Following magnetization, the manufacturer in Sri Lanka aligns and epoxy-bonds an LPE crystal into the four-sided opening of the magnetized ferrite shape. After epoxy bonding the LPE crystal to the ferrite shape, the manufacturer in Sri Lanka subjects the article to heat to cure the epoxy bond and performs an epoxy survival test after bonding. At the end of the process, a rutile crystal polarizer is affixed over the opening in each side of the ferrite and LPE crystal. When properly aligned, the rutile crystal polarizers are epoxy bonded to the ferrite article and heat treated to cure the bond. Pigtail Fiber Collimators The pigtail fiber collimators included in the optical isolators are produced in Sri Lanka from pigtail optical fiber and mounted collimator lens, all imported to Sri Lanka from Japan. During the pertinent period, the collimators were made from imported pigtail fiber having an FT-type ferrule end and rubber boot. During collimator production, the manufacturer in Sri Lanka adds a protective sleeve over the optical fiber and a second, ST-type ferrule, to the open optical fiber end. To add the ST ferrule, the fiber coating is removed along a certain length of the optical fiber from the end and the optical fiber is polished at a specific angle other than 90 degrees to avoid reflection. The second, the ST ferrule, is temporary for the use during the manufacturing and testing operation of the optical isolators. After the final testing of the finished undersea telecommunications products, the ST ferrule is removed along the protective sleeve over the optical fiber. The lens for the collimator is housed in a metal ring. Before the lens is attached, a laser welder places, holds, and aligns a stainless steel sleeve with the FT ferrule end of the pigtail optical fiber, and they are laser welded together. The metal ring holding the lens is then aligned using signal generators and analytical equipment measuring the quality of light. The ring of the lens is laser welded at specific locations to the sleeve. The input and output collimators differ in that the input collimator has an additional sleeve that is aligned and laser welded in place. During the final assembly, the two Faraday rotators and the two collimators are assembled in a specific sequence with the imported internal holder or body, the external jacket and other minor components. Protestant states that the final assembly process is highly complex, requiring a clean room, special equipment, tooling and jigs, and skilled operators to hold, align, and continually analyze the alignment and performance during the assembly process. In addition to the quality controls during the final assembly of optical isolators, the manufacturer in Sri Lanka subjects each finished undersea optical telecommunications devise to further testing (to be in compliance with the U.S. customer’s specifications). Furthermore, if we do not agree with the Protestant’s proposed classification, Protestant claims that the optical isolators should be appraised and valued based upon the sale between the manufacturer in Sri Lanka and the company in Japan. To substantiate its claim, Protestant provided copies of two invoices from the manufacturer in Sri Lanka to the intermediary in Japan and from the intermediary in Japan to Protestant, which include the merchandise contained in the entry subject to this protest and reference specific invoice numbers. Additionally, Protestant argues that optical isolators were clearly destined for export to the United States because the Sri Lankan manufacturer made the merchandise in accordance with the specifications of Protestant’s customer in the United States. A copy of the U.S. customer specifications, explaining the environmental and mechanical requirements for all components used by the U.S. customer were also provided to this office. No further information was submitted. Finally, Protestant claims that the optical isolators are eligible for GSP treatment because they are produced from a double substantial transformation of non-Sri Lankan materials through complex processing operations, including grinding, mirror polishing, anti-reflective coating, cutting to size and shape of garnet crystal ingots and rutile crystal slices, magnetizing ferrite cores, aligning and bonding the materials to assemble a Faraday rotator, cutting to length and processing optic fiber, assembling, using bonding and laser welding optic fiber with other materials to make a collimator, and performing precision alignment of Faraday rotator and the collimators which are laser welded into the optical isolator. Protestant claims that the Faraday rotators and collimators are Sri Lankan-origin materials whose entire cost (as well as the direct costs of processing operations, including assists from the intermediary in Japan) should be counted towards the 35 percent (%) value added requirement under the GSP. To substantiate its GSP claim, Protestant provided a one-page cost sheet, which lists cost of materials, direct labor, production expenses, and total cost. In addition to the cost sheet, Protestant furnished a GSP declaration, signed by the Managing Director of the manufacturer in Sri Lanka and production flow charts. No further information, specifically describing the nature of the production expenses and assists from the intermediary company in Japan, was submitted. The Port, on the other hand, believes that in accordance with New York (“NY”) ruling H87581, the optical isolators were properly classified in subheading 9013.80, HTSUS. Additionally, the Port states that no documents have been submitted by Protestant to support the fact that the sale between the manufacturer in Sri Lanka and the intermediary in Japan was a bona fide sale at arm’s length. Also, the Port claims that Protestant failed to substantiate its assertion that the merchandise was clearly destined for the United States. Finally, the Port contends that the documents submitted by Protestant do not support that a double substantial transformation has taken place, and, therefore, the cost of the materials imported into Sri Lanka cannot be counted towards the 35 percent (%) value content requirements under the GSP. ISSUE: Whether the optical isolator is classified under subheading 9013.80 or subheading 8517.70, HTSUS; Whether the imported merchandise may be appraised on the basis of the transaction between the manufacturer in Sri Lanka and the intermediary company in Japan; and, Whether the imported optical isolators are eligible for preferential tariff treatment under the GSP. LAW AND ANALYSIS: Whether the optical isolator is classifiable under subheading 9013.80 or subheading 8517.70, HTSUS Classification under the HTSUS is made in accordance with the General Rules of Interpretation (“GRI”). GRI 1 provides that the classification of goods shall be determined according to the terms of the headings of the tariff schedule and any relative Section or Chapter Notes. In the event that the goods cannot be classified solely on the basis of GRI 1, and if the heading and legal notes do not otherwise require, the remaining GRIs may then be applied. Subheading 9013.80, HTSUS, provides for “liquid crystal devices not constituting articles provided for more specifically in other headings; lasers, other than laser diodes; other optical appliances and instruments, not specified or included elsewhere in this chapter; parts and accessories thereof; other devices, appliances, and instruments.” Subheading 8517.70, HTSUS, provides for “telephone sets, including telephones for cellular networks or for other wireless networks; other apparatus for the transmission or reception of voice, images or other data, including apparatus for communication in a wired or wireless network (such as local or wide area network), other than transmission or reception apparatus of heading 8443, 8525, 8527, or 8528; parts thereof; parts.” Protestant claims that optical isolators are properly classified as “parts” of telecommunications apparatus in heading 8517.70, HTSUS. We disagree with this claim. Additional U.S. Note 3 of Chapter 90, HTSUS, defines the terms “optical appliances” and “optical instruments” for the purposes of the chapter. Optical appliances and instruments are defined as referring only to those appliances and optical instruments which incorporate one or more optical elements, but do not include any appliances or instruments in which the incorporated optical element or elements are solely for viewing a scale or for some other subsidiary purpose. The purpose of the optical isolators is to increase the transmission performance of the optical fiber cables by eliminating the adverse effect of beams of light that are reflected back at the transmission source by the end faces of the connectors and other optical components that are present in the transmission line. The optical isolators operate on all polarized light, independent of the direction of the polarization. The optical isolators perform an optical function, increasing the transmission of infrared light, and contain optical elements such as the two Faraday rotators, the input pigtail fiber collimator, and the output pigtail fiber collimator. There are no electronic components contained in the optical isolators, but they contain the following components: two rubber boots, two caps, two holders, two sleeves, two fiber termination points, one jacket, and one body casing. The submission prepared by Neville Peterson, dated August 12, 2010, states that the Faraday rotators are used to provide polarization rotation of the input light by 45 degrees. The Faraday rotators are made from LPE garnet crystal, two rutile polarized crystals, and a ferrite magnet. The pigtail fiber collimators contain collimating lenses. Both the Faraday rotators and the pigtail fiber collimators are optical appliances, thus meeting the requirements of “optical appliances and optical instruments,” set forth by Chapter 90 Additional U.S. Note 3. Inasmuch as the optical isolators meet the definition of an “optical instrument” under Chapter 90 Additional U.S. Note 3, it is our position that optical isolators are classifiable in heading 9013, HTSUS. Furthermore, optical isolators are more specifically described as an optical appliance or optical instrument of Chapter 90 than in the parts provision of heading 8517, HTSUS. The optical isolator is not telecommunications apparatus, but, is a part of telecommunications apparatus. As a part, it is prima facie described in heading 8517, HTSUS, as a part. It is also described in heading 9013, HTSUS, as an optical appliance and instrument. Thus, as directed by Additional U.S. Rule 1(c) and Section XVI Note 1(m), the goods cannot be classified in heading 8517, HTSUS. In Sharp Microelectronics Technology, Inc. v. United States, 122 F.3rd, 1446 (Fed.Cir. 1997), the Court of Appeals determined that Note 1(m) of Section XVI can be complementary to a relative specificity analysis between competing headings. The Court of Appeals held that if the good belongs in heading 9013 because it is not more specifically captured elsewhere in the schedule, then Note 1(m) complements the rule of relative specificity by excluding the device from classification in Chapter 84, or in our case Chapter 85. Accordingly, we are of the opinion that optical isolators are properly classified, as entered and liquidated, under subheading 9013.80, HTSUS, as optical appliances and instruments, dutiable at 4.5 percent ad valorem. This conclusion is further supported by NY rulings H87581, dated February 13, 2002; A80542, dated March 14, 1996; 899186, dated June 30, 1994; and, Headquarters Ruling Letter (“HRL”) 954255, dated June 8, 1993; HRL 960082, dated December 15, 1997. Whether the imported merchandise may be appraised on the basis of the transaction between the manufacturer in Sri Lanka and the intermediary company in Japan The preferred method of appraising merchandise imported into the United States is the transaction value method as set forth in section 402(b) of the Tariff Act of 1930, as amended by the Trade Agreements Act of 1979 (“TAA”), codified at 19 U.S.C. §1401a. Section 402(b)(l) of the TAA provides, in pertinent part, that the transaction value of imported merchandise is the “price actually paid or payable for the merchandise when sold for exportation to the United States” plus amounts for the enumerated statutory additions. In order for imported merchandise to be appraised under the transaction value method, it must be the subject of a bona fide sale between a buyer and seller, and it must be a sale for exportation to the United States. The courts have had the opportunity to address the issue of the use of the transaction value method in multi-tiered transactions (involving foreign middlemen and foreign manufactures). In Nissho Iwai American Corp. v. United States, 982 F.2d 505 (Fed. Cir. 1992), the Court of Appeals for the Federal Circuit addressed the method for determining the use of transaction value in a three-tiered distribution system involving a foreign middleman. The Court indicated that a manufacturer’s price for establishing transaction value is valid so long as the transaction between the foreign manufacturer and the foreign middleman falls within the statutory provision for valuation. In this regard, the Court stated that in a three-tiered distribution system the manufacturer’s price constitutes a viable transaction value when the goods are clearly destined for export to the United States and when the manufacturer and the middleman deal with each other at arm’s length, in the absence of any non-market influences that affect the legitimacy of the sale price. Id. at 509. See also Synergy Sport International, Ltd. v. United States, 17 C.I.T. 18 (1993). In response to the decision in Nissho Iwai American Corp. v. United States, CBP issued its official position on the application of that decision in the form of a Treasury Decision (“T.D.”). In T.D. 96-87, Determining Transaction Value in Multi-Tiered Transactions, Vol. 30/31, Customs Bulletin No. 52/1, (January 2, 1997), CBP clarified some of the issues that arise in multi-tiered transactions in determining which sale is the sale for exportation to the United States for the purposes of determining transaction value. T.D. 96-87 states, in part, that: [I]n fixing the appraise