How Does a Foreign Trade Zone Function in the US?

Foreign trade zones (FTZ) play a primary role in import and export activities. By reducing customs barriers and summarizing the management of imported merchandise, these areas offer companies a cost-effective and practical way to manage their goods in competitive international markets.

This article explains the functions, regulations and purposes of these specialized areas. But before we begin, it is important to address the fundamental question: What are foreign trade zones?

What Are Foreign Trade Zones?

A foreign trade zone is a designated area within a country, usually near a port of entry, where goods can be imported, stored, processed or re-exported without being subject to immediate duties or taxes.

To illustrate clearly, a company importing auto parts to assemble cars within an FTZ will pay taxes only on the finished vehicle, rather than on each component. This attribute in duty management is a significant draw for businesses of all sizes.

In the United States, these zones are governed by the Foreign Trade Zones Board, established under the Foreign-Trade Zones Act of 1934, and overseen by Customs and Border Protection (CBP).

Currently, free trade zones in USA have a transaction volume of more than US$1 trillion. These spaces promote the handling of different products, from electronics to oil derivatives, and reinforce the significance of ports such as Los Angeles, Miami and Houston as strategic logistical points.

How many Foreign Trade Zones are there in the world?

There are over 3,000 foreign trade zones worldwide, of which approximately 200 are currently active in the United States. These are primarily used to store, assemble, or manufacture goods before they enter domestic commerce or are exported. These zones enable businesses to delay or reduce their duty payments, giving them an edge in the highly competitive sphere of international trade.

The Regulations that Govern Foreign Trade Zones

The administration of FTZs involves strict oversight to guarantee compliance with International laws and regulations. In the case of the US, the Foreign Trade Zones Board, under the US Department of Commerce, issues grants for establishing zones, while Customs and Border Protection enforces operational provisions.

• Location Requirements: Free trade zones must be within 60 miles or 90 minutes of a port of entry, which guarantees that CBP can easily oversee activities.
• Duty Deferral: Imported goods can be stored or processed within an FTZ without immediate payment of customs duties. Duties are only paid when the goods enter the U.S. market for consumption.
• Duty Exemption on Re-exports: Goods that are imported into an FTZ and subsequently re-exported without entering U.S. commerce are exempt from customs duties and quota charges.
• Admittance Rules: Merchandise entering an FTZ must be reported to CBP, specifying its classification under “privileged” or “non-privileged” status. This determines how the duty rate will apply when the goods leave the zone.
• Inventory Control: Free zone operators must maintain precise, real-time inventory records. The CBP frequently audits these records so that unauthorized activity does not occur within the zone.
• Merchandise Security: Foreign trade zones must meet stringent security standards, including restricted access, surveillance systems, and physical barriers to protect products from theft or without permission removal.

The Purpose of a Foreign Trade Zone

The principal objective of an FTZ is to support enterprises involved in international trade by reducing costs, enabling logistics and fostering economic growth near major US ports. Its main benefits include the following:

• Encouraging Manufacturing: Free trade zones endorse industries by allowing assembly and production without the immediate financial burden of tariffs.
• Facilitating Exports: As mentioned above, by exempting duties on re-exported goods, FTZs encourage enterprises to participate in global markets.
• Reducing Costs: Foreign trade zones save money by avoiding duplicate tariffs. If a company imports raw materials, such as textiles, to produce garments for export, it can avoid paying taxes on the fabrics altogether, as long as the finished products are shipped out of the U.S.
• Enhancing Logistics: Free trade zones close to major ports of entry allow businesses to streamline their supply chain operations. Goods can be consolidated, tested, or repackaged within the zone, saving time and minimizing delays.

What Can and Cannot Be Done in an FTZ

Foreign trade zone regimes provide companies with a number of benefits for the management of their merchandise, although they are subject to particular customs and commerce regulations.

Permitted Activities

• Manufacturing: FTZs allow businesses to transform raw materials or items into finished goods. For example, electronics companies might import components, assemble them, and export finished devices without paying US duties.
• Storage: Products can remain in a foreign trade zone indefinitely, which gives businesses the flexibility to manage inventory based on demand or market conditions.
• Testing and Repairs: Enterprises can test goods for quality or repair damaged merchandise before entering the US market. For example, a manufacturer might inspect electronics for defects.
• Repackaging and Relabeling: Businesses can repackage products to meet specific retail or shipping requirements. This is especially useful for cosmetics and pharmaceuticals, where precise labeling is critical.

Prohibited Activities

• Retail Trade: Direct sales to consumers within a foreign trade zone are strictly prohibited to maintain fair competition with local retailers.
• Restricted Goods: Certain hazardous materials may be banned or tightly regulated within an FTZ.

These rules guarantee that foreign trade zones support industrial and commercial purposes without undermining domestic economic interests.

The 4 Classifications of Merchandise in an FTZ

Merchandise in an FTZ is divided into four categories, each with distinct customs treatment that determines how duties, taxes, and regulations are applied to the goods based on their classification. These categories provide businesses with options for managing inventory, production, and distribution while complying with trade laws and optimizing costs.

1. Privileged Foreign: This category locks in the duty rate at the time the products enter the foreign trade zone. For example, if tariffs on imported steel increase later, the company will still pay the original, lower rate.
2. Non-Privileged Foreign: Goods in this classification are subject to the duty rate that is in effect when they leave the free trade zone. Businesses typically choose this category when they expect tariffs to decrease in the future.
3. Domestic: US-made goods can be moved into a foreign trade zone for storage, processing, or eventual export without incurring additional customs duties. This benefits agricultural and industrial producers looking to expand their international market share.
4. Zone-Restricted: Items classified as zone-restricted are designated for re-export only. That merchandise cannot be reintroduced into the US market, which complies with commerce restrictions.

By utilizing these classifications strategically, businesses can minimize costs and comply with US trade laws.

Are US Foreign Trade Zones the Same as Free Trade Zones in Other Countries?

While foreign free trade zones in the USA and abroad share similarities, they differ greatly in structure and purpose. US FTZs prioritize manufacturing, assembly, and tax management with strict oversight from agencies like the Foreign Trade Zones Board and Customs and Border Protection (CBP). Globally, special areas, such as those in Europe or Asia, often emphasize unrestricted commercial activities, which are prohibited in free trade zones in USA.

In Latin America, the Panamanian areas stand out as foreign trade zone examples that are fundamental for international commerce. Thanks to their privileged location near the Panama Canal, areas such as the Colon Free Zone and Panama Pacífico offer tax incentives, tariff exemptions and the ability to conduct retail trade, an advantage over the US FTZs.

Foreign Trade Zones provide enterprises with unparalleled opportunities to manage their merchandise efficiently and cost-effectively. From duty deferrals to optimized customs processes, FTZs are important to stimulate economic activity near US ports. When combining reduced costs, advanced logistics infrastructure and access to international markets, Panama free zones present an attractive alternative to free trade zones in USA for certain business models.

If you are interested in learning more about how to operate in Panama’s FTZs and take advantage of their benefits, Kraemer & Kraemer’s team of experts can guide you through the process and help you understand the legal requirements to get your company up and running successfully. Contact us for more information.