For the purpose of calculating the regional value content of final goods (using either the transaction value method or the net cost method), Article 402(10) allows a producer to designate as an intermediate material any self-produced, originating material used in the production of the final goods. As long as the intermediate material qualifies as an originating material, its entire value may be treated as originating in determining the regional value content of the finished goods.
The purpose of the intermediate material designation is to treat vertically integrated manufacturers more nearly in the same manner as producers who purchase materials from independent suppliers. If you produce your own materials from non-NAFTA inputs, the intermediate materials provision may help your goods to qualify as originating. This provision covers all goods and materials except:
- automotive goods defined in Article 403(1) and described in Annex 403.1 and;
- components described in Annex 403.2, specifically engines and gearboxes.
An intermediate material is a self-produced material, designated by the producer, that meets the rules of origin of Article 401 and that is incorporated into the final good. Article 415 defines a self-produced material as a material produced by the same party that produced the final goods and which is used in the production of those final goods.
An intermediate material may be composed of originating and non-originating submaterials. After determining that an intermediate material satisfies the applicable rule of origin under Article 401, the total cost to produce that intermediate material is treated as an originating cost. In other words, the producer would not include the value of the non-originating materials used to produce the intermediate material as part of the value of non-originating materials when calculating the regional value content of the final goods. The benefit of designating an intermediate material is that the producer may treat self-produced materials similarly to the way in which he would treat an originating material purchased at arm's length for purposes of determining the value of the non-originating materials of the final goods.
If the intermediate material must satisfy a minimum regional value content to qualify as originating, the net cost method must be used to calculate that regional value content.
A producer may make any number of intermediate material designations provided that no material subject to a regional value-content requirement may be designated as an intermediate material if it contains submaterials also subject to a regional value-content requirement that were also designated as intermediate materials.
| Company Z manufacturers forklift trucks in Canada and makes some of the material used in their production. As illustrated in the graphic above, each geometric symbol represents a material. The circles at the top (i.e., outer races, balls, steel, gaskets, impellers, bearings, engine blocks, crank shafts) are materials acquired from sellers in non-NAFTA countries. The squares are self-produced materials (i.e., rod-end bearings, casings, impeller assemblies, engines). They are considered horizontal materials in relation to each other. The impeller assemblies may not be designated as intermediate materials because they do not meet the Annex 401 rule of origin ("A change to subheading 8413.91 from any other heading"). However, the rod-end bearings, casings and engines could all be designated intermediate materials provided they satisfy the applicable Annex 401 rules of origin (the casings undoubtedly meet the rule of origin, which provides for "a change to subheading 8412.90 from any other heading"). The engines and rod-end bearings meet the required tariff change prescribed in the Annex 401 rules of origin but would also have to meet a regional value-content requirement to qualify as originating.
The rod-end bearings and casings are used in the production of the cylinders. Likewise, the impeller assemblies and engines are used in the production of the pumps that drive the hydraulic mechanisms of the forklifts. The cylinders and pumps (represented by triangles) are intermediate materials that are horizontal in relation to each other and vertical in relation to the materials from which they were made. As long as there is no regional value-content requirement for more than one intermediate material in the vertical stream, each new material may be designated as an intermediate material. The cylinders originate because the rod-end bearings meet the required tariff shift ("A change to heading 8412.10 through 8412.80 from any other heading") and the casings are originating (and therefore are not required to undergo the prescribed tariff change). Thus, Company Z may choose to designate both the rod-end bearings and the cylinders as intermediate materials because only one of them is subject to a regional value-content requirement. The engines and pumps, however, are both subject to regional value-content requirements and therefore Company Z must choose which is most advantageous: to designate the engines as an intermediate material or to designate the pumps. |
Where a single producer designates intermediate materials that qualify as originating solely based on a tariff change, that is, without having to satisfy a regional value-content requirement, subsequent designations can be made with previously designated intermediate materials. Thus, in the example above, if the engine were not subject to a regional value-content requirement, both it and the pump could be designated as intermediate materials.
There are two methods for determining the value of an intermediate material:
- the total cost incurred with respect to all goods produced that can be reasonably allocated to that intermediate material; or
- the aggregate of each cost that forms part of the total cost incurred with respect to that intermediate material that can be reasonably allocated to that intermediate material.
The two methods allow producers to select the one that best fits their production and accounting practices. The value of the intermediate material should be approximately the same using either method. However, the net cost method must be used for intermediate materials subject to a regional value-content requirement. Article 402(8) of the Agreement lists those costs which may not be included when calculating the regional value content of the intermediate material using the net cost method:
- sales promotion, including marketing and after-sales service costs;
- royalties;
- shipping and packing costs;
- now-allowable interest costs.
Although these costs are excluded in the net cost calculation, they do form part of the total cost of the material. Accordingly, costs such as royalties are excluded when calculating the net cost for purposes of determining whether the material satisfies a regional value-content requirement (and thus originates and can be designated an intermediate material), but are included in the total value of the material once its origin has been determined. As noted above, the total value of an intermediate material may be counted as an originating cost.