By Simran Sethi, Product Manager, Descartes

Rules of Origin and Classification and motorcycle factory

Rules of origin and classification have been thrust back into the limelight after a recent landmark decision where the Court of Justice of the European Union (CJEU) ruled against a major motorcycle company. The case revolved around the relocation of its motorcycle production from the United States to Thailand.  

Key Takeaways

  • The CJEU ruling highlights the need for legitimate economic justification in relocation decisions, not mere tariff avoidance.
  • Rules of origin are essential for determining a product’s eligibility for preferential treatment under trade agreements.
  • HTS classification is a critical foundation for verifying compliance with origin rules and securing trade benefits.
  • Provisions like tolerance, cumulation, and derogations offer flexibility to meet origin requirements while optimizing operations.
  • Businesses must adopt strategic compliance measures to navigate the complexities of varying trade agreement rules globally.

In 2018, the European Union imposed retaliatory tariffs in response to U.S. tariffs on steel and aluminium. To navigate these tariffs the company relocated some of its production to Thailand so that their motorcycles origin could be reclassified as Thai. This would mean that the company’s goods would be exempted from the applicable tariffs.   

At the heart of the case was the concept of single dominant purpose under Article 33 UCC-DA. Which provides that the sole purpose of relocation should not be tariff avoidance. In other words, it does not allow for companies to relocate primarily to circumvent tariffs. The CJEU found that shifting production to Thailand, in this case, lacked sufficient economic justification beyond tariff avoidance.  

The CJEU ruling is a wake-up call for trade compliance professionals that relocation decisions need to demonstrate strategic benefits and must withstand tariff-avoidance scrutiny. Trade compliance professionals must understand that accuracy and documentation aren’t optional—they’re critical. It demonstrates that non-compliance isn’t just about fines. Businesses need to consider reputational damage, operational disruption, and damaged relationships with regulators and trading partners. 

It highlights the importance of compliance and the current environment of global trade where adversaries and allies alike are likely to feel the impact of a governments policy decisions. The case provides valuable insights into the risks, responsibilities, and strategies which are necessary to ensure trade compliance while maintaining competitiveness. 

Rules of Origin: Defining Economic Nationality 

The World Trade Organization (WTO) defines rules of origin as the criteria needed to determine the national source of a product. However, there is significant variation in how governments define and apply rules of origin.  

The origin of a good can determine if it qualifies for any benefits such as preferential treatment under free trade agreements (FTA) or tariff exemptions.  In an environment where tariffs are increasingly used as both offensive and defensive tools, companies need to be able to handle increased government scrutiny.  Trade compliance professionals looking to reduce costs and access the benefits that an FTA brings must be able to ensure that their products meet the strict rules of origin and compliance standards. 

Businesses cannot simply pick up and move to another location just to circumvent tariffs. To comply with rules of origin, businesses must evaluate their product’s journey through the supply chain such as the sourcing of raw materials, their production processes, and where their product is assembled.

To qualify as originating they must demonstrate one of the following: 

  • Wholly obtained or produced goods are grown, produced or manufactured in a single country such as natural resources, plants grown and harvested, animals born and raised, or minerals extracted there. This also includes products made entirely from these goods or scrap and waste from manufacturing or consumption within that country. 
  • Sufficient Production/Substantial transformation If your product is not wholly obtained in the country concerned, it will have to comply with other product-specific rules. Such as sufficient production or transformation where the product is made of so-called non-originating materials. While governments universally recognise substantial transformation, the process where a product undergoes significant manufacturing or processing, the applied criteria will vary from government to government. Examples of basic product-specific rules 
  • Change in Tariff Classification: Some countries require HS codes to differentiate between the final product and its non-originating materials. 
  •  Ad Valorem Percentage: This is a values-based approach where a certain percentage of a good must be added domestically. 
  • Specific Manufacturing / Processing Operations: In some cases, a government may require specific production elements to take place within the country to meet origin requirements. 

Trade agreements often include provisions such as tolerance, cumulation and derogations. Understanding these concepts allows trade professionals to optimise their operations whilst staying within regulatory frameworks. 

  • Tolerance (De Minimis Rule) refers to a provision which allows a small percentage of non-originating materials to be considered originating without disqualifying it for preferential treatment. 
  • Cumulation allows materials and processing from specific partner countries in a trade agreement as if they originated in the country where the final goods are produced.  
  • Derogations are exceptions granted under specific circumstances. For example, standard rule of origin requirements can be relaxed if there are economic challenges in sourcing materials such as natural disasters or geopolitical events.  

Challenges can arise when different trade agreements have different rules, for example what qualifies under the United States-Mexico-Canada Agreement (USMCA) may not qualify under the EU-Japan FTA. Navigating rules of origin isn’t just a tick box exercise, it requires meticulous documentation such as certificates of origins and supplier declaration.  

Simply relocating production or reclassifying goods isn’t enough. Regulators will examine the underlying economic intent. The question to ask yourself is: Does this move genuinely make sense from an operational, strategic, or market-access perspective, or does it look like tariff avoidance? 

HTS Classification: Getting it Right

Harmonized Tariff Schedules (HTS) classification is intertwined with rules of origin. Together they help determine the duties, tariffs and eligibility for preferential treatment under trade agreements. Proper classification is foundational for verifying whether a product-specific rule of origin is met. 

If a product is misclassified, whether intentional or accidental, can have significant consequences, including the loss of your tariff benefit leading to financial penalties, regulatory scrutiny, and operational delays. 

Properly classifying goods under the HTS is fundamental to trade compliance. Origin claims are only as strong as the classification and valuation processes that support them.  

Each product has a specific Harmonized System (HS) code that determines the duties, tariffs, and regulations that apply to it but with thousands of codes which are constantly updated it can be easy to misclassify goods.  

Using an advanced classification tool that simplifies the process and reduces human error helps businesses stay compliant with HS codes and ensure accurate reporting for tariff and trade purposes. 

Trade Compliance and Relocation 

Rules of origin and HTS classification are at the heart of global trade compliance directly impacting business operations and competitiveness. Missteps in these areas can result in significant impact on business operations such as financial penalties and shipment delays. 

Businesses must carefully evaluate relocation decisions to ensure that any move provides strategic benefits rather than tariff avoidance. 

If companies do plan to relocate trade compliance professionals need to ask themselves: 

  • Are we confident in our current origin and classification processes? 
  • Do we have the tools and expertise to handle regulatory audits? 
  • Is compliance integrated into our overall business strategy, or is it treated as an afterthought? 

Addressing these questions is about building a resilient, agile trade compliance framework that supports long-term business growth. By prioritising accuracy, investing in the right technology, and embedding compliance into your strategic decision making, your organisation can navigate the complexities of global trade in turbulent times. Compliance isn’t just a necessity; it’s a competitive advantage in today’s evolving regulatory landscape. 

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