HQ 555032

September 23, 1988

CLA-2 CO:R:C:V 555032 DJG

CATEGORY: Valuation

Joseph F. Donohue, Esq.

Donohue and Donohue

26 Broadway

Suite 111

New York, New York 10004

RE: Applicability of duty-free treatment to certain petroleum

products pursuant to General Headnote 3(a), TSUS

Dear Mr. Donohue:

This is in response to your May 20, 1988, application on

behalf of for duty-free entry under

General Headnote 3(a), Tariff Schedules of the United States

(TSUS), of certain petroleum products imported from the Virgin

Islands (VI).

FACTS:

You maintain in your application (a resubmission of an

application dated August 8, 1985), that each of the subject

products, made from crude petroleum, has been substantially

transformed in the VI, by a process called \"crude or primary

distillation,\" into a variety of new products with names,

characteristics and uses differing from the crude oil (crude)

from which they were manufactured. Further, you claim that the

resulting products produced from the \"crude distillation\" are

then manufactured, by processing and/or blending operations, into

several new products with new names, characteristics and uses.

Your letter provides the following description of the

processing involved in producing each product:

Stage 1:

The crude from which the subject products are derived

is imported into the VI from U.S. and foreign sources.

After it is received at the refinery, the crude is stored

to permit water to settle and be drained off. It is then

pumped to the distillation facility where it is heated to a

temperature of about 250 degrees Fahrenheit and is mixed

with water. The water and oil mixture passes through an

emulsifying valve. The emulsion then goes through a

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high voltage electric field within a vessel called a

\"desalter\". This causes the excess water to coalesce and

settle to the bottom of the desalting drum. The salt and

water mixture are removed to an effluent treating system.

Small amounts of demulsifying chemicals are introduced to

aid in breaking the emulsion within the desalter. The

solution of water, salt and other inorganic matter (sand,

sediment, etc.) settle to the bottom of the desalter while

the crude oil rises to the top. The crude is then ready to

proceed to the \"crude distillation tower\" where the process

of separating the crude oil into \"cuts\" or \"fractions\" of

different boiling points is accomplished.

After the crude is desalted, it is heated to a

temperature of approximately 650 degrees Fahrenheit,

forming liquid cuts. These primary cuts include so-called

\"light ends,\" such as butane, pentane, naphthas, kerosene,

gas oils and residuum. Light ends also consist of

hydrocarbon gases like propane, methane and ethane, which

are consumed as fuel and, therefore, are not involved in

your ruling request.

Butane is used as a component in gasoline and gasoline

blendstocks as well as refinery fuel. It can also be mixed

with toluene and xylene to make refinery blendstocks.

Pentanes are used in the manufacture of gasoline as are

light straight run naphthas (LSR) and the light and heavy

naphthas. The light naphtha cut is also used in the

manufacture of benzene, toluene, xylene, heavy aromatics

and raffinate. Kerosene is manufactured into commercial

grades K-1 and K-2 kerosene and/or jet fuel.

Light gas oil is manufactured into No. 2 oil. Heavy

atmospheric gas oil (HAGO) is manufactured into No. 6 oil

or catalytic cracker feedstock (catfeed) used in the U.S.

to make gasoline. Resid, a mixture of hydrocarbons is

further manufactured into vacuum gas oil, pitch, catfeed

and No. 6 oil. Pitch can be processed into naphtha, gas

oil and tar. Tar is blended with either light gas oil,

heavy gas oil, vacuum gas oil, desulfurized gas oil, No. 2

oil or resid to make No. 6 oil.

Stage 2:

This processing stage involves the conversion of the

primary distillation products produced in stage 1 into

products such as motor fuel, jet fuel, heating oil,

catfeed, etc.

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Propane, butane, pentane and fuel gas are manufactured

from light ends produced in stage 1. The light ends are

chemically treated to remove hydrogen sulfide and

mercaptans. They are then fractioned into fuel gas,

propane, butane and pentane.

All types of gasoline are manufactured from naphtha

and other components. The naphtha cuts produced in stage 1

are sent to desulfurizing units where hydrogen is

introduced and chemically combines with the sulfur attached

to hydrocarbon molecules of the naphtha to form hydrogen

sulfide gas. The hydrogen sulfide is removed and the

sulfur is separated out.

The desulfurized naphtha is sent to a \"platformer\"

where a platinum catalyst and a temperature of

approximately 950 degrees Fahrenheit combine to reform the

naphtha molecules and to increase its octane quality. The

reforming process involves a change in molecular structure

which increases the octane rating.

The kerosene distillate, produced in stage 1, is used

to manufacture jet fuel. Like naphtha after distillation,

kerosene usually contains sulfur and, in some cases,

nitrogen and oxygen compounds. The kerosene is then sent

to a desulfurizer where it is reacted with hydrogen to

remove these contaminates and any remaining light ends and

hydrogen sulfide. This process causes physical changes and

chemical reactions of hydrocarbon molecules.

Kerosene can also be manufactured into K-1 and K-2

heating oil in much the same way as it is made into jet

fuel.

Light gas oil produced in stage 1 is manufactured into

No. 2 oil. After primary distillation, the gas oil is

desulfurized and subsequently stripped of light ends (the

same process to which kerosene is subjected in the

production of jet fuel). The gas is treated with a pour

point depressant - a chemical additive that inhibits

crystallization of waxes.

Resid, which is the portion of the crude oil that did

not vaporize in the crude distillation unit during stage 1,

is used as feedstock or as blendstock in the manufacture of

No. 6 fuel oils. A vacuum distillation process is used to

separate the resid into light vacuum gas oil (LVGO), heavy

vacuum gas oil (HVGO) and pitch. The separation is

performed in a vacuum at a pressure of 60 mmHg and a

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temperature in excess of 700 degrees Fahrenheit. The

products produced from the vacuum distillation process

differ from resid in both chemical and physical properties.

The vacuum gas oil is usually sent to a vacuum gas oil

desulfurizer for sulfur removal, resulting in feedstock for

a catalytic cracking unit known as \"catfeed\".

Alternatively, the vacuum gas oil is used in the

manufacture of catfeed and No. 6 oil without processing in

the desulfurizer unit.

Pitch is sent to a \"visbreaker\" and subjected to

thermal cracking wherein larger hydrocarbon molecules are

thermally broken into smaller molecules that boil in the

naphtha, middle distillate and gas oil boiling range. The

visbreaker naphtha is mixed with crude naphtha,

desulfurized, and reformed into reformate. The visbreaker

light and heavy gas oils are similarly mixed and

desulfurized. Each is blended with its respective

counterpart from the stage 1 primary distillation process.

The unconverted portion of the pitch, called \"tar,\" is

blended with cutterstock, resid and, in some cases, pitch

to produce a residual fuel oil of specified sulfur content.

Variations in sulfur content identify distinct grades of

No. 6 oil.

Blendstocks and feedstocks, such as heavy aromatics,

penexate, platformate, raffinate, toluene, xylene and

catfeed, are further manufactured in the manner described

below.

Isomerate and penexate is created when light straight

run naphtha (LSR) from the crude distillation unit is sent

to the LSR desulfurizer where hydrogen is introduced to

chemically remove sulfur and nitrogen. The desulfurized

LSR then goes to the \"PENEX unit\" to increase the octane.

This process chemically converts straight chain

hydrocarbons (paraffin) into branched hydrocarbons

(isoparaffins). These blendstocks are components in the

manufacture of gasoline (i.e., they are mixed with light

catalytic cracker naphtha, heavy catalytic cracker naphtha,

alkylate, dimate and butanes, to make gasoline.)

Reformate and platformate are manufactured from light

and heavy naphthas which are sent to the desulfurizing

units where sulfur and nitrogen are removed by chemical

reaction with hydrogen. The desulfurized naphthas are then

sent to platformers to increase the octane rating.

Platformate, made from light naphtha, often is subjected to

an aromatics extraction process involving a sulfolane unit.

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Sulfolane, a liquid solvent, absorbs the aromatic

components of the plaltformate (e.g., benzene, toluene,

xylene and heavy aromatics). The remaining product,

raffinate, is used as a component in JP4, a naphtha grade

jet fuel, or in gasoline.

ISSUE:

Whether the described distillation of foreign crude oil

into primary cuts (e.g., light ends, light straight run (LSR),

light naphtha, heavy naphtha, kerosene, light gas oil, heavy gas

oil (HAGO), resid, etc.) and its further processing into finished

products (e.g., butane, penexate, gasoline, platformate, jet

fuel, k-1 kerosene, No. 2 oil, catfeed, No. 6 oil, etc.) effects

a double substantial transformation such that the crude will not

be considered foreign material for purposes of computing the 50

percent maximum foreign materials value limitation set forth

under General Headnote 3(a), TSUS.

LAW AND ANALYSIS:

Duty-free treatment under General Headnote 3(a), TSUS, is

accorded to eligible articles imported directly from any insular

possession if such articles, the growth or product of any such

possession, or manufactured or produced in any such possession

from materials the growth, product, or manufacture of any such

possession or of the customs territory of the United States, or

of both, do not contain foreign materials to the value of more

than 70 percent of the articles\' total value. In the case of

articles not eligible for duty-free treatment under the Caribbean

Basin Initiative (CBI), such as products made from petroleum, the

foreign value limitation is 50 percent.

Customs has decided that, for the purpose of determining

whether products of an insular possession meet the foreign value

limitation, if foreign material is substantially transformed in

an insular possession and then that product is substantially

transformed again in that insular possession, its cost will be

considered part of the value of materials produced in the insular

possession. See, Federal Register notice published April 13,

1988, 53 FR 12145.

In the present case, a portion of the raw materials used in

the production of the finished products are of foreign origin.

Therefore, in order for the foreign crude to be considered part

of the value of material produced in the VI, it must undergo a

double substantial transformation in the VI.

The double substantial transformation concept has its

origins in the administrative and judicial interpretations of 19

CFR 10.177(a) defining materials \"produced in the beneficiary

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developing country\" for purposes of the GSP 35 percent value

content requirement. See, T.D. 76-100, 10 Cust. Bull. 176 (1976)

for an explanation of the application of this regulatory

provision.

Customs application of the double substantial

transformation requirement in the context of the GSP received

judicial approval in The Torrington Company v. United States, 8

CIT 150, 596 F. Supp. 1083 (1984), aff\'d 764 F. 2d 1563 (Fed.

Cir. 1985).

The court, after affirming Customs application of the

double substantial transformation concept, stated the following:

Regulations promulgated by Customs define the term

\"material produced\" to include materials from third

countries that are substantially transformed in the BDC

into a new and different article of commerce. 19 CFR

10.177(a)(2). It is not enough to transform substantially

the non-BDC constituent materials into the final article,

as the material utilized to produce the final article would

remain non-BDC material. There must first be a substantial

transformation of the non-BDC material into a new and

different article of commerce which becomes \"material

produced\", and these materials produced in the BDC must

then be substantially transformed into a new and different

article of commerce. It is noted that 19 CFR 10.176(a)

distinguishes between \"merchandise produced in a BDC\" and

the cost or value of the \"materials produced in the BDC\"

which demonstrates the contemplation of a dual substantial

transformation requirement.

In determining that the double substantial transformation

concept should be applied to General Headnote 3(a), TSUS, Customs

recognized the interrelationship of the GSP, CBI and General

Headnote 3(a), TSUS, in terms of the parallel intent and similar

language of these special tariff treatment programs. Therefore,

an evenhanded approach in administering these programs was deemed

appropriate and desirable. See, 53 FR 12143 at 12145.

The well-established test for determining whether a

substantial transformation has occurred is derived from language

enunciated in Anheuser-Busch Brewing Association v. United

States, 207 U.S. 556, 562 (1908), defining the term \"manufacture\"

as follows:

Manufacture implies a change, but every change is not

manufacture and yet every change in an article is the

result of treatment, labor and manipulation. But something

more is necessary, as set forth and illustrated in

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Hartranft v. Wiegmann, 121 U.S. 609. There must be

transformation; a new and different article must emerge,

having a distinctive name, character or use.

Simply stated, a substantial transformation occurs when an

article emerges from a process with a distinctive name, character

or use, different from that possessed by the original material

that was processed. See, Torrington Co. v. United States, 764 F.

2d 1563, 1568 (1985) (citing Texas Instruments, Inc. v. United

States, 681 F. 2d 778 at 782).

Applying this principle to the circumstances in this case,

we conclude that the distillation process performed on the

imported crude oil in the primary distillation tower does create

new products with new names, characters and uses.

The distillation process (described in stage 1) separates

the crude into fractions according to boiling points. These

primary cuts include so-called \"light ends\" (mostly hydrocarbon

gases like propane), naphthas, kerosene, gas oils and residuum.

The crude undergoes physical and chemical changes in the

formation of new products with qualities and capabilities

distinct from the original crude. Thus, it is substantially

transformed into new articles of commerce.

Converting these primary distillation products into

finished products (described in stage 2), such as motor fuel,

etc., involves a variety of processing steps and equipment. The

various naphthas, gas oils, etc., may be subjected to

desulfurization (removing sulfur compounds, oxygen and nitrogen),

cracking (breaking larger molecules into smaller ones),

hydrogenation (adding hydrogen to unsaturated molecules), and

similar treatments. The resulting materials are themselves

marketable products, or can be blended to produce various other

products such as gasoline. In either case, additional additives

such as deicers, pour point depressants, etc., may be added to

create new products with distinct properties and applications.

As a result of these processes, the primary distillation products

have been substantially transformed into new and different

articles of commerce (the finished products). In some cases, the

constituent material\'s molecular structure is altered while in

other cases a significant additive is introduced or a compound is

removed creating new products with characters, uses and names

differing from the material from which it was produced.

The various naphthas, gas oils and other finished products,

and the constituent primary distillation fractions from which the

finished products are derived, are more than \"ready to be put

into a stream of commerce,\" they are generally recognized in the

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field as independent articles. These articles are frequently

marketed as distinct products with unique uses and are reqularly

bought and sold for specific purposes. See, Torrington Co. v.

United States, 764 F. 2d at 1570.

It is clear in this case that at least two critical

manufacturing steps separate three classes of articles, each of

which is markedly different from the others. The initial raw

material (crude) is a distinct product with a unique character

quite apart from either the cuts or the final products. The

intermediate products - the cuts - have qualities and attributes

which render them suitable for further manufacture into the

subject finished products. At each stage of manufacture, the

products which emerge are more refined, possessing unique

characteristics specifically applicable to a given use, having

lost the identifying characteristics of the material from which

it derived. Therefore, we are of the opinion that under the

circumstances described above the requisite double substantial

transformation has been established.

HOLDING:

We are satisfied that the extensive manufacturing

operations performed in the VI results, as described above, in

the double substantial transformation of the imported raw

material (into each of the described finished articles).

Therefore, the imported foreign crude will not be considered a

foreign material for purposes of computing the 50 percent maximum

foreign materials value limitation set forth in General Headnote

3(a), TSUS, but will be considered a material produced in the VI.

Sincerely,

John Durant

Director, Commercial

Rulings Division