For ecommerce businesses, import taxes can represent a significant part of your overall expense in fulfilling overseas orders. Understanding how they function and their potential impacts on your operations is absolutely crucial.
Here is a guide to import taxes and the many acronyms associated with customs fees, to help foster a better understanding for high-growth brands shipping internationally.
What are Import Taxes?
Import taxes are one type of customs fee applied to goods brought into a country from overseas. They act as a trade barrier, controlling the flow of specific types of goods into the country and giving an advantage to domestic goods over imports. Import taxes also provide revenue for the local government.
Types of Import Taxes
Import taxes take various forms. While an ecommerce brand may only deal with some, it’s vital to understand them all.
VAT (Value-Added Tax)
VAT is a tax collected at each stage of the production and distribution process. It applies to the value added to a product or service by a business.
The way VAT applies to imported goods is usually based on the cost, insurance, and freight (CIF) value. It’s important to consider these values when coming up with a pricing strategy for products being shipped internationally.
GST (Goods and Service Tax)
Like VAT, GST is a tax enforced by many countries on the sales of goods and services. However, unlike VAT, GST is often charged at a single rate. Products exported to a country that imposes GST may be taxed at the border — it’s crucial to consider this when calculating potential import costs.
Excise tax is a form of tax levied on specific goods and services like alcohol, tobacco, and fuel. This tax is usually factored into the price of the product and is often included in the valuation for customs duty and sales tax calculations.
Customs duty is a charge assessed on products imported into a country. It varies by country and product, often based on a percentage of the goods’ overall value. Local customs regulations will determine the specific duty rates.
A tariff is a tax imposed on imported goods, typically intended to protect domestic industries. Tariffs add to the cost of imported goods, making them less competitive with local products. These are often implemented as a fixed percentage of the value of the imported goods.
Terms and Acronyms Related to Import Taxes
There are many variables that affect what you’ll pay in import taxes. Most of these are spoken about in acronyms. To understand the full spectrum of costs associated with customs fees, first it’s important to understand each of these variables.
HS Code (Harmonized System Code): An international structure of identification developed by the World Customs Organization (WCO) for the classification of products. An HS code is a universal economic language and code for goods and materials.
Incoterms (International Commercial Terms): This series of predefined commercial terms are widely used in international commercial transactions. They are essential in determining responsibilities between a buyer and a seller, particularly in defining who bears the cost of freight, insurance, and import duty or taxes.
FCA (Free Carrier): One of the Incoterms, FCA (Free Carrier), refers to a delivery agreement in which the seller fulfills their obligation as soon as the goods are handed over, cleared for export, to the first carrier. The term “carrier” here can refer to any means of transport, including road, rail, sea, or air.
Import Duty: The tax that the importer pays to bring foreign goods into the jurisdiction of his own country.
DDP (Delivered Duty Paid): Under a DDP agreement, the seller is responsible for delivering the goods to an agreed-upon location, paying all the necessary duties and taxes. The buyer assumes all responsibility after the delivery of goods.
Tariff: A specific kind of import tax levied on a particular category of goods.
Customs Value: The total value of the imported goods, which includes product value, freight, and insurance. This forms the basis for the calculation of customs duty.
RAGS (Regulations, Advisory, Guidelines, and Standards): RAGS is a vital acronym that implies governing rules, advisories, guidelines and standards pertaining to import and export. It includes directives for import taxes, safety protocols, environmental regulation, product quality norms etc. Keeping a tab on RAGS is pivotal to remain compliant with international trade norms.
EOU (Export Oriented Units): EOUs are organizations that export their entire production. These units are popular in countries where the government wants to achieve export-led growth. EOUs can benefit from several tax benefits, including exemption from import duties on specific types of goods.
How to Properly Calculate Your Import Taxes
Understanding how to calculate import taxes is necessary for high-growth brands wanting to expand their international reach. Your import taxes and overall international shipping costs should inform your product pricing strategy and decisions about which countries you prioritize.
Keep in mind that these steps are a general rule. Depending on the specifics of your product and target market, there might be additional costs to consider, such as an excise tax or other specific duties.
Step 1: Determine the Customs Value of Your Goods
The total customs value of a product is the cost that actually gets taxed. It’s usually the product’s transaction value, which includes the price paid for the goods, packing costs, license fees, commissions paid, and the value of any assists (resources such as tools or materials provided by the buyer to produce the goods). These costs determine the basis for computation.
Step 2: Identify the Product’s Harmonized System (HS) Code
Each product has its own unique code which is used worldwide to calculate customs duties. You would need to find the HS Code of your product to ascertain the percentage of the duty that needs to be charged. Incorrectly classifying your products will result in steep fines and customs delays.
Step 3: Calculate the Duty
After you have determined the customs value and found the corresponding HS code, you can find the duty associated. This is done by applying the rate, given by the HS code, to the customs value.
Step 4: Calculate VAT or GST
As stated above, VAT and GST rates vary from one country to another. Once the duty has been calculated, add it to the original value of the goods. The result is then multiplied by the VAT or GST rate in the destination country to determine the total VAT or GST. Note that it’s not charged on the original value of the goods, but on the final value including the duty.
Here is a simple example, if you are shipping a product valued at $1000, and the customs duty set by the HS code is 10%, your duty will be $100. If the VAT rate in the destination country is 20%, the VAT charged will be 20% of $1100 (original value plus duty), which equals $220. Consequently, the total import tax is $320.
Using Free Trade Agreements to Lower Import Taxes
Free Trade Agreements (FTAs) are designed to reduce or eliminate trade barriers between countries, making it easier and more cost-effective for businesses to import and export goods. FTAs can be an effective tool for optimizing your international shipping mix.
Some Benefits of Using FTAs
- Reduced import duties: FTAs often lower or even waive customs duty fees, which can dramatically decrease the costs associated with importing goods.
- Business advantage: Lower costs can give you a competitive edge in the market, allowing you to offer more attractive prices to your customers.
- Market access: FTAs can open doors to new markets that were previously economically unfeasible to enter.
Finding the Right FTA for your Business
To take advantage of an FTA, you’ll need to understand which agreements are applicable to your business and the countries you’re dealing with. The World Trade Organization (WTO) maintains a comprehensive database of global trade agreements you can refer to. Additionally, many national governments provide resources to help businesses navigate their applicable FTAs.
For example, some US businesses adopted the 321 loophole to avoid certain import taxes and customs fees. But when this loophole is threatened, they may face added costs, supply chain issues, or other consequences.
While FTAs may provide numerous benefits, they also come with their own set of considerations. Here are a few things to keep in mind:
- Rules of Origin: To qualify for an FTA, the goods must meet the agreement’s specific rules of origin. This typically means a significant portion of the product’s value must have been added in one of the FTA’s member countries.
- Documentation: There may be additional paperwork required to demonstrate your goods are eligible for the benefits of the FTA.
- Variable Rates: The amount of duty reduction or elimination can vary depending on the specifics of the FTA. It’s crucial to stay up-to-date with these rates to maximize your cost-savings.