U.S. Customs and Border Protection (“CBP”) expanded U.S.-flag requirements in a recent ruling requiring shippers to use costly U.S.-flag vessels when shipping processed condensate to and from a foreign country to be blended as a diluent with heavy crude. See HQ H265791 (Sept 14, 2015). This ruling comes as a surprise to many because, among other things, it assumes processed condensate and heavy crude are the same product, contrary to industry standards and rulings by the U.S. Department of Commerce that recognize these commodities as distinct.
The Legal Issue CBP Addressed Under the “Jones Act,” the carriage of merchandise between U.S. ports or “coastwise points” must be conducted by U.S.-flag vessels. 46 U.S.C. § 55102. Shippers cannot circumvent this requirement by shipping goods between U.S. ports by way of a foreign country. On the other hand, if a product is exported to a foreign country where it is subjected to processing or manufacturing before being returned to the United States, foreign-flag vessels may be used—provided the resulting product constitutes a “new and different product.” 19 C.F.R. § 4.80(b)a.
The question recently put to CBP was whether processed condensate becomes a “new and different product” after it is blended as a diluent with heavy, unprocessed crude oil. CBP ruled that it was not a new product, reasoning that “the entire ‘blending’ operation consists of placing a crude oil product from the United States in a tank with another crude oil product, which results in a third crude oil product that closely resembles the first two crude oil products.” CBP thus concluded that U.S.-flag vessels are required for both shipping processed condensate to the foreign blending facility and shipping heavy crude back to the United States.
Why CBP’s Decision Was Unexpected This ruling is surprising for several reasons. First, CBP’s principle assumption is that processed condensate is “crude oil.” The U.S. Commerce Department’s Bureau of Industry & Security (“BIS”) has ruled, however, that the opposite is true. Specifically, BIS issued commodity classifications in 2014 finding that processed condensate of the type at issue in this ruling is not “crude oil” for the purpose of U.S. restrictions on crude exports because it is made by processing lease condensate (a type of crude) through a distillation tower to create an exportable, refined petroleum product.1 Heavy crude oil, on the other hand, even when it is blended with approximately 25 percent processed condensate as a diluent, is considered “crude oil” by BIS.
CBP’s ruling is also surprising because it is a departure from prior CBP rulings where goods were differentiated based on product specifications and industrial uses. In the fuel oil context, where CBP has most frequently addressed product blending, “CBP has consistently held that in order for fuel oil to qualify as a new and different product, it must undergo a change in ASTM [American Society for Testing Material] grade.” See HQ H249067 (Mar. 6, 2014). Such changes in grade demonstrate differences in “key specifications” like viscosity and flash point. See HQ 113080 (May 2, 1994). CBP has also recognized that “fuel used for heating homes, apartment and diesel engines (Fuel Oil No. 2); and fuel used for power plants and ocean going vessels (Fuel Oil No. 6) are significantly different,” and “[a]ccordingly, each type of product is a ‘new and different product.’” See HQ 115281 (Jul. 20, 2001).
For reasons that are unclear, CBP did not address the stark differences in specifications and industrial uses between processed condensate and heavy crude with diluent. Canadian heavy crude, for example, typically has an API gravity of less than 25 and is so viscous that it requires a diluent to flow through a pipeline. Processed condensate, by contrast, is light enough, with an API closer to 50, that it makes an ideal diluent. It can also be used for gasoline blending, as a power generation fuel, and as a petrochemical feedstock. Heavy crude has none of these industrial applications and the markets for the two products are distinct. CBP nevertheless treated them as interchangeable.
Another important difference between heavy crude and processed condensate is the fact that the latter has been processed through a crude oil distillation tower and the former has not. It has long been established that crude oil and refined petroleum products are not the same product for the purpose of the Jones Act. See American Maritime Assoc. v. Blumenthal, 590 F.2d 1156 (D.C. Cir. 1978) (“crude oil is simply quite different from the ultimate products which come out of a refinery”). In Blumenthal, the D.C. Circuit upheld a ruling by Customs that found refined oil products derived from Alaskan crude oil to be "new and different products," distinct from the Alaskan crude, and therefore eligible for shipment by foreign-flag vessels. Id. at 1162. The court concluded that a contrary decision would “undermine the general proposition, on which significant sectors of world trade rely, that goods exported from the United States to undergo substantial processing or manufacture abroad before re-entering the American market are, upon their re-entry, new and different products not subject to the Jones Act prohibition.”
Conclusion CBP’s recent Jones Act decision may undermine industry expectations as the Blumenthal court forewarned. U.S. producers facing a condensate surplus rely on their ability to market condensate for blending with heavy crudes. Pipeline shipments to Canada remain essential, but vessel transportation is an important option in various contexts. CBP’s ruling on the scope of the Jones Act calls into question the economic viability of exporting condensate (processed or not) by vessel if it is to be blended with heavy crude and returned by vessel to the United States.
- See generally, Jeffrey Orenstein, BIS Explains “Commingling and Scope of Crude Oil Export Controls,” DOWNSTREAM TODAY (Jan. 13, 2014) (available at http://www.downstreamtoday.com/News/ArticlePrint.aspx?aid=45989&AspxAutoDetectCookieSupport=1)
Client Alert 2015-324