Firearms Export Control Reform Won’t Eliminate Export Compliance Programs

Written by Orchid

June 28, 2018

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Firearms Export Control Reform Won’t Eliminate Export Compliance Programs

When firearms Export Control Reform (ECR) takes effect in 2019, the new export regulations will make it easier for U.S. companies in the firearms and ammunition industry to participate in the global market. But will ECR also lighten the industry’s export compliance burden?

One immediate and lasting effect for companies that are only involved with non-automatic and semi-automatic firearms, components, ammunition and accessories will be the elimination of the annual $2,250 registration fee currently paid to the Directorate of Defense Trade Controls (DDTC) and the elimination of the $250 per license fee for export licenses under the International Traffic in Arms Regulations (ITAR). There are no comparable fees for those companies, which will be dealing solely with the Department of Commerce Export Administration Regulations (EAR) and will no longer be engaged in activities controlled by the ITAR.

The challenge of complying with export regulations, however, will not change all that much over the long term and will in fact increase In the short term as most of the industry transitions from the ITAR to the EAR.

Consider that the price for access to the benefits of Export Control Reform.

Let’s take a look at the ways in which firearms Export Control Reform is likely to affect your company’s export compliance program.

Certain aspects of export compliance programs will not change

Some things won’t change at all.

Export controls will continue and so will export compliance programs. Export Control Reform will bring many benefits to the firearms and ammunition industry, but the benefits will notinclude the end of export compliance programs. All firearms and ammunition and most components and accessories that migrate to the EAR will still require export licenses before they can be exported. Much of the technical information that is controlled as “technical data” under the ITAR will continue to be controlled as “technology” under the EAR. Services, known as “defense services” under the ITAR, will not be controlled under the EAR but the elimination of controlled services won’t have a major impact on most export compliance programs.

In addition to the continuation of controls over hardware and technology exports under the EAR, the other export-related laws and regulations addressed by export compliance programs won’t be affected at all. Companies engaged in international trade in non-military firearms, ammunition, components and accessories will continue to be subject to the U.S. Office of Foreign Asset Control (OFAC), the Foreign Corrupt Practices Act (FCPA), Anti-Money Laundering (AML) and Anti-Boycott regulations, among others, to the same extent as they are today. The ITAR will continue to control international brokering of the items that move from the ITAR to the EAR.

Penalties for violations will continue. The risk of civil penalties or other enforcement action for failure to follow the rules is another thing that won’t change materially under the EAR. Civil penalties for violations will be lower under the EAR (~$300,000 per violation) than under the ITAR (~$1 million per violation) but penalties can be big under both sets of regulations, and the exposure for serial violators (i.e., those who commit multiple violations or the same violation multiple times) will continue to be eye-popping.

The other enforcement tools available to the Government under the ITAR – criminal prosecution for willful violations and loss of export privileges – will be available under the EAR.

Furthermore, it will be just as important under the EAR as it is under the ITAR for exporters to conduct due diligence on the parties with whom they are dealing in international transactions involving firearms, ammunition, components, accessories and technology. The Government’s shift of regulatory responsibility from the State Department to the Department of Commerce does not reflect any decrease in the Government’s interest in ensuring that firearms and ammunition exported from the United States do not fall into the wrong hands (and shouldn’t diminish your interest, either).

Voluntary disclosure of violations will continue to be encouraged. The EAR, like the ITAR, depend on self-enforcement of export regulations by the exporting community. Periodic inspections like those conducted by the Bureau of Alcohol, Tobacco, Firearms and Explosives (ATF) aren’t part of the Commerce Department’s enforcement toolbox any more than the State Department’s. Instead, the industry will continue to be looked on to police itself through export compliance procedures, employee training and internal mechanisms for disclosure of actual and potential violations so weaknesses in the compliance system can be identified, remedied and, when appropriate, disclosed to the Government. The disclosure vehicle under the EAR is called a “Voluntary Self Disclosure” (VSD), in contrast to the ITAR’s “Voluntary Disclosure” but the purpose and effect are the same.

Industry’s export compliance burden will increase in the short term

ECR will impose a number of one-time demands on the industry.

Re-classification. All companies that manufacture, export or are in possession of technical data relating to firearms, ammunition, components or accessories will need to redo their product classification matrices (or create them if they don’t exist). A product classification matrix is a list of all products manufactured or sold by the company that includes export classifications and usually tariff and Customs codes, too. The product classification matrix is the foundation of good export compliance programs because it permits a company to know precisely how export regulations affect its products and activities.

Export Control Reform will change the export classification of virtually all firearms, ammunition, components and certain accessories, even items that continue to be subject to the ITAR. The only way for a company to begin to understand how to comply with the new regulations is to know how its products will be classified under the EAR or, when applicable, the reconstructed ITAR. This is a one-time exercise, but it is mandatory. (If there is good news regarding classification, it is that the tariff and Customs codes won’t change. Note, too, that ECR will not affect the United States Munitions Import List (USMIL), which underlies ATF’s permanent import regulations.)

Re-classification should be completed beforethe new rules become effective. Engineers, sales personnel and others in the company should be informed so drawings and other written material can reflect the new classifications.

Management training. It is important that owners and senior management understand the impact of ECR on their company’s activities and compliance obligations. The CEO doesn’t need to know how to prepare export licenses under the new rules or the details of each new Export Control Classification Number (ECCN) (the EAR counterpart to United States Munitions List (USML) categories and sub-categories under the ITAR) for items that migrate to the EAR, but owners and senior managers must understand the opportunities and challenges presented by ECR. We have noted previously that ECR will open new possibilities for international sales (see Retail Sales Will Benefit from Firearm Export Control Reform and How to Make International Sales Happen Faster Under Export Control Reform) and cross-border technical collaborations (see Collaborating With Foreign Partners Will be Easier After Firearms Export Control Reform). As discussed above, ECR also will affect the totality of companies’ export compliance and licensing programs and creates exposure to penalties for those who don’t adapt.

Owners and senior managers require training at a strategic level to fulfill those responsibilities and to take advantage of the expanded options for conducting business with international partners. The new rules won’t take effect until next year but understanding their impact should occur well before then.

Technical training for compliance, international sales and shipping personnel. The people at each company who are closely and regularly involved in international sales – salespeople, licensing and shipping, in particular – all need to become acquainted with the details of what will change before the changes take effect. At least some of the 2019 sales and marketing activity that begins in the fall of 2018 will turn into purchase orders after ECR takes effect. The new rules will affect fulfillment of those orders in many ways, including the following:
- As soon as ECR takes effect, licenses for non-automatic and semi-automatic firearms, components and ammunition will be submitted to the Department of Commerce rather than the State Department.
- Industry licensing personnel who have worked primarily with ITAR licenses and who think in ITAR terms will be working with an entirely different set of regulations that cover much of the same ground as the ITAR but by a totally separate path.
- As soon as ECR takes effect it will become possible to apply for Department of Commerce licenses before purchase orders are received.
- Requirements with respect to license supporting documentation (purchase orders, DSP-83s, end-user statements, import permits) will change completely.
- Exporters will want to educate their foreign customers, too, about ECR so customers’ procedures and expectations regarding license supporting documents, license approval processes and delivery schedules realign to the new rules.

Companies should strongly consider ensuring that their core export personnel receive detailed training before SHOT Show 2019.

New policies and procedures; update export compliance manuals. No one will want to think about this, but most companies’ ITAR-focused export compliance manuals, procedures and training programs began hospice care when the new rules were posted in mid-May and will expire the instant ECR takes effect. Companies that don’t address this issue before the effective date of ECR will be without a critical component of their export compliance program until they do.

The details of the required changes to export compliance programs are beyond the scope of this piece but few companies’ compliance materials will require less than major surgery. The source of this problem is that, with very limited exceptions, the firearms, ammunition, components, accessories and technology that migrate from the ITAR to the EAR will continue to be controlled but under a totally different set of regulations. Most activities that are the subject of companies’ export compliance and licensing procedures will continue to require written procedures, but the procedures and terminology will have to be rewritten/revised to conform to the EAR.

A little bit of denial on this subject is okay, but not for too long. Companies that don’t begin to revise their compliance policies and procedures until after ECR’s effective date will have waited too long to get started.

Employee training. General employee export compliance training oriented around the new rules should be conducted before the new rules take effect, but this can probably wait until 2019. The optimal time to conduct employee training for employees who do not interact with export regulations regularly will be during the 60 days prior to the effective date. The important thing is to get this done before the effective date, not after.
Re-thinking compliance systems. Business owners and senior management should recognize that along with the one-time burdens arising from the ITAR-to-EAR transition will come a one-time opportunity to take a fresh look at how the company “does export compliance.” Since ECR will necessitate many compliance program changes and disrupt the status quo, why not also take a look at the way you allocate compliance functions within your organization while you’re at it?

The export licensing function is the area most ripe for scrutiny. To capture the benefits Export Control Reform will bring to international sales, it will be more important than ever to align international sales teams with the people who prepare the export licenses and understand the regulations. Licensing personnel should be empowered to advise the sales teams on strategies that use the new rules to do things that can’t be done under the ITAR (see How to Make International Sales Happen Faster Under Export Control Reform).

Additionally, companies that ship a lot of product to customers outside the U.S. – or that intend to start doing so after ECR takes effect – should explore how to use automation to make their licensing processes more efficient. Most of the labor associated with ITAR licenses relates to the supporting documents that are required to be uploaded with the license. That work does not lend itself to automation. The labor associated with EAR licenses, by contrast, relates to determining whether the export of a particular product, to a particular end user, for a particular end use in a particular country requires a license and, if so, whether a license exception is available. Those determinations can be complex, but they lend themselves to automated solutions in which the Enterprise Resource Planning (ERP) system carries some of the burden currently shouldered by licensing personnel.

Some export compliance duties will become easier to manage

The impact of ECR on export compliance programs does include a few bits of good news so let’s not finish without mentioning some of them.

Cloud storage and email transmission of EAR “technology” is permitted (with conditions). The ITAR do not permit cloud storage of “technical data” if data in the cloud moves outside the U.S. or can be accessed by foreign persons. Also, email transmission of technical data to third parties over the Internet is not permitted, even if the information is encrypted. In today’s world, these restrictions limit the access of companies in the firearms and ammunition industry to the full range of technology services that are available in the marketplace.

After ECR takes effect, cloud storage and email transmission of technical data for items migrating from the ITAR to the EAR will be permitted if the technology is end-to-end encrypted in accordance with EAR § 734.18. This upcoming change is worth noting now if you expect to be in the market for an IT system upgrade in the near future.

The scope of EAR-controlled “technology” will be narrower than ITAR-controlled “technical data”. Without getting too deeply into the weeds, certain information that is controlled under the ITAR will no longer be controlled under the EAR. The EAR definition of “technology” is more precisely focused on truly confidential and proprietary information than the ITAR definition of “technical data,” which encompasses a broad swath of information that is not very secret or proprietary. Also, under EAR § 734.7(a)(4), information that is publicly available on the Internet is not considered “technology” under the EAR. That’s means that if information is readily available on the Internet it will not be controlled under the EAR.
The absence of controls on defense services under the EAR will narrow the scope of technology control programs somewhat. Under the ITAR, providing assistance to a foreign person in the “design, development, engineering, manufacture, production, assembly, testing, repair, maintenance, modification, operation, demilitarization, destruction, processing or use of” firearms, ammunition, components and certain accessories requires an export license, even if no technical data is being shared with the foreign person.

The elimination of controls on services under the EAR and the narrower definition of “technology” together will mean that customer service personnel will be at reduced risk of making accidental exports, concerns about posting instructional Internet videos will decrease, and training foreign persons in the use of firearms will be less controlled.

How Can Orchid Advisors Help?

Orchid Advisors, the #1 provider of regulatory compliance solutions to the firearms and ammunition industry, is committed to showing the industry how to use ECR to do international business and other affected activities more easily and efficiently than they can today.

Orchid’s ITAR / EAR Practice helps companies in the firearms and ammunition industry (i) sell firearms, ammunition, components and accessories to foreign customers, (ii) build sustainable export compliance programs, and (iii) design, source and manufacture firearms, components, tools and accessories outside the United States.

Look to Orchid Advisors to help you take command of the new ECR export environment in the following ways:

Formulation of EAR-driven international sales and sourcing strategies
Technology solutions for reducing the cost and increasing the speed of export license determinations, license preparation and related activities.
Preparation of export licenses and provision of other “export compliance department” services on an outsourced basis.
Practical advice on making near-term decisions under the ITAR that will be affected in 2019 by the new rules.
Development of integrated export and ATF compliance solutions for transitioning to the post-ITAR world.