Free Trade Agreements and Their Impact on Customs Duties and Rules for India

Free Trade Agreements (FTAs) represent institutional arrangements between two or more countries aimed at reducing or eliminating tariff and non-tariff barriers on substantial trade. India’s engagement with FTAs has undergone a major transformation, moving from early regional trade deals toward balanced, bilateral comprehensive partnerships. These agreements directly alter the application of customs duties at Indian ports of entry by offering preferential tariff rates compared to Most Favoured Nation (MFN) duty rates. While duty concessions facilitate market access for domestic exporters and lower input costs for industries, they also require sophisticated customs compliance frameworks to protect the domestic market against illegal trade circumvention and revenue loss.

Understanding Free Trade Agreements and Tariff Architecture

Trade agreements operate on a spectrum of integration, each exercising a distinct impact on national tariff structures.

Classifications of Trade Deals

• Preferential Trade Agreement (PTA): Participating countries reduce customs duties on a select list of tariff lines without complete elimination. Examples include the Asia-Pacific Trade Agreement (APTA) and the India-MERCOSUR PTA.
• Free Trade Agreement (FTA): Partner nations reduce or eliminate customs tariffs on a substantial majority of goods traded between them.
• Comprehensive Economic Cooperation Agreement (CECA) and Partnership Agreement (CEPA): These arrangements extend beyond merchandise trade to cover services, investment, intellectual property rights, government procurement, and regulatory cooperation. Examples include the India-UAE CEPA and the India-Japan CEPA.

Customs Duty Concepts Under FTAs

• Most Favoured Nation (MFN) Rate: The standard non-discriminatory customs duty applied to imports from all World Trade Organization (WTO) member countries in the absence of a preferential agreement.
• Preferential Tariff Rate: A concessional customs duty rate granted exclusively to goods originating from an FTA partner nation.
• Margin of Preference (MoP): The percentage difference between the standard MFN tariff rate and the concessional preferential rate.

Rules of Origin and CAROTAR 2020 Framework

To claim concessional customs duties under an FTA, imported goods must satisfy specific Rules of Origin (RoO) to confirm that they originated in the partner country and were not merely routed through it.

Rules of Origin Criteria

• Wholly Obtained Goods: Products extracted, harvested, or produced entirely within the exporting country without any third-country inputs, such as raw agricultural produce or minerals.
• Non-Wholly Obtained Goods: Products containing third-country raw materials or components. These must undergo substantial transformation in the partner country to qualify for preferential duties.
• Substantial Transformation Standards: Expressed through Change in Tariff Classification (CTC) at the Chapter (CC), Heading (CTH), or Sub-Heading (CTSH) level, accompanied by a Regional Value Content (RVC) requirement, typically ranging between 35% and 40% local value addition.

Section 28DA and CAROTAR 2020 Rules

To curb the misuse of duty-free concessions and prevent third-country goods from entering India via FTA partners, the government inserted Section 28DA into the Customs Act, 1962 through the Finance Act, 2020. This statutory provision is operationalized via the Customs (Administration of Rules of Origin under Trade Agreements) Rules, 2020 (CAROTAR 2020).

• Burden of Proof on Importers: Importers claiming preferential customs duty must exercise due diligence and possess origin-related information before importing goods. A mere Certificate of Origin (CoO) issued by the exporting nation is no longer accepted as absolute proof.
• Customs Verification Powers: Customs officers can request additional origin details directly from the importer via Form I. If the importer fails to produce satisfactory information within prescribed timelines, customs authorities can initiate cross-border origin verification or reject the preferential tariff claim.
• Precautionary Measures: In cases of repeated non-compliance on identical goods from the same exporter, customs authorities can suspend preferential duty treatment for subsequent shipments.

Evolution of India’s FTA Landscape

India’s strategy toward trade agreements has evolved from early deals focused narrowly on tariff cuts to new-generation partnerships incorporating strict origin safeguards and balanced sector coverage.

Impact on Customs Administration and Domestic Industry

Customs duties serve a dual purpose in India: generating revenue for the central government and protecting domestic producers from predatory foreign pricing.

Customs Compliance and Revenue Safeguards

The enforcement of CAROTAR 2020 has tightened customs clearance procedures at ports, requiring importers to maintain origin documentation for at least five years from the date of filing the Bill of Entry. This regulatory check prevents revenue leakages caused by the duty-free entry of non-qualifying goods.

The Inverted Duty Structure Challenge

An inverted duty structure arises when the customs duty on imported raw materials or intermediate inputs is higher than the duty on the finished product imported under an FTA. To resolve this issue, the Ministry of Finance conducts periodic reviews of basic customs duties during annual budget exercises to ensure domestic manufacturers maintain cost competitiveness relative to imported final goods.

Digital Trade Facilitation

To streamline clearance while enforcing compliance, the Central Board of Indirect Taxes and Customs (CBIC) has integrated FTA clearances into the Single Window Interface for Facilitating Trade (SWIFT) system. The Directorate General of Foreign Trade (DGFT) provides an online platform for the electronic issuance of Preferential Certificates of Origin (e-CoO), ensuring transparency and rapid verification.

Key Facts for Quick Revision

• Free Trade Agreements grant concessional customs duty rates that sit lower than standard Most Favoured Nation (MFN) rates.
• Section 28DA was added to the Customs Act, 1962 through the Finance Act, 2020 to govern the administration of Rules of Origin under trade agreements.
• CAROTAR 2020 came into force on September 21, 2020, making importers accountable for verifying the origin criteria of goods claiming preferential duty.
• Importers must retain origin-related records for every Bill of Entry under preferential claims for a minimum period of five years.
• Substantial transformation requires goods containing foreign components to meet Change in Tariff Heading (CTH) and minimum Regional Value Content (RVC) percentages.
• India’s first bilateral Free Trade Agreement was signed with Sri Lanka in 1998 (ISFTA) and implemented in 2000.
• The India-UAE Comprehensive Economic Partnership Agreement (CEPA), implemented in May 2022, was India’s first major bilateral trade agreement in over a decade.
• The India-EFTA Trade and Economic Partnership Agreement (TEPA), signed in March 2024, includes Switzerland, Norway, Iceland, and Liechtenstein.
• Digital processing of Preferential Certificates of Origin is handled by the online portal operated by the Directorate General of Foreign Trade (DGFT).
• The inverted duty structure occurs when raw materials face higher customs tariffs than finished items imported at concessional FTA rates.