Application for Further Review (“AFR”) of Protest 3001-11-100283; Transaction Value; Related Party Transactions; Post-Importation Adjustments

January 15, 2015 HQ H186055 OT:RR:CTF:VS H186055 YAG CATEGORY: Valuation Port Director U.S. Customs and Border Protection Port of Seattle 1000 Second Ave., Suite 2100 Seattle, WA 98104 RE: Application for Further Review (“AFR”) of Protest 3001-11-100283; Transaction Value; Related Party Transactions; Post-Importation Adjustments Dear Port Director: This is in response to your correspondence, forwarding the Application for Further Review (“AFR”) of Protest 3001-11-100283, timely filed by the Pike Law Firm, P.C. on behalf of its client [***] (“Protestant”). We regret the delay in responding. Protestant has asked that certain information submitted in connection with this AFR be treated as confidential. Inasmuch as this request conforms to the requirements of 19 CFR §177.2(b)(7), the request for confidentiality is approved. The information contained within brackets and all attachments to this ruling request, forwarded to our office, will not be released to the public and will be withheld from published versions of this decision. FACTS: Protestant is a U.S. importer/corporation, which acts as an exclusive distributor of motor vehicles imported from the Seller/Manufacturer [***], the parent company, for re-sale in the U.S. market. Protestant also acts as the exclusive distributor for parts, accessories, and service tools imported from [***], the affiliate of the parent company. In September of 2003, Protestant voluntarily applied for a bilateral Advance Pricing Agreement (“APA”) with the Internal Revenue Service (“IRS”) and the foreign country [***] to cover all of its imported items (vehicles and parts) for the years of 2002-2006 (expanded to cover years 2007-2008 as well). This APA was approved on October 11, 2006 and was the subject of Headquarters Ruling Letter (“HRL”) H029658, dated December 8, 2009. In HRL H029658, CBP held that the company showed that the sales price was not influenced by the relationship for purposes of the circumstances of the sale test, based on the totality of the circumstances considered, and, as a result, transaction value was the proper method of appraisement. In HRL H029658, the importer provided various evidence to show that the prices were at arm’s length, including: (1) a detailed description of its sales process and price negotiations; (2) a bilateral APA that was approved by the IRS (the importer was a tested party under the APA, with CPM chosen as the best method to evaluate inter-company transactions); and, (3) a paper, prepared by the importer’s accountants, which provided details with respect to the pricing practices in the automotive industry. The evidence presented by the importer did not strictly fall within a single illustrative example, specified in 19 CFR §152.103(l)(1)(i)-(iii), such as the normal pricing practices of the industry. Nevertheless, taken together, the documents provided by the importer assisted CBP in reaching its conclusion that the relationship of the parties did not influence the price. In HRL H029658, the company claimed that it did not make compensating adjustments pursuant to its APA. The company stated that it engaged in rigorous negotiations with its parent company to set vehicle prices which allow it to earn an operating profit that meets the target interquartile range of the APA. Accordingly, these negotiations have resulted in prices that have never needed an adjustment (except for the years 1999-2001 when a compensating adjustment was booked). Nevertheless, a particular kind of adjustment has been booked by Protestant for several of the years covered by the APA at issue in HRL H029658. Specifically, Protestant stated that extremely adverse market conditions in 2009 resulted in a compensating adjustment paid by the parent company to Protestant, which led to a downward adjustment to the FOB invoice prices of vehicles imported in 2009. Protestant referred to these adjustments as “marketing support” payments from the parent company (Seller/Manufacturer) to Protestant. These “marketing support” payments were the subject of our decision in HRL H125118, dated September 12, 2014. In this decision, we considered the nature and the purpose of the payments made between the related parties and determined that these “marketing support” payments did not represent part of the price actually paid or payable for customs purposes because: (1) adjustments were not booked as Costs of Goods Sold (“COGS”), which remained unchanged; (2) payments were classified as a reduction in marketing expenses in accordance with the companies’ financial support agreement – indicative of the fact that related parties did not intend the payments to affect COGS; (3) profitability was adjusted for tax purposes; and, (4) “marketing support” payments were not covered transactions under the APA. Additionally, in 2010 Protestant booked post-importation transfer pricing adjustments as “APA support” payments that Protestant once again received from its parent company in [***]. These post-importation adjustments are subject to the protest in question. Protestant believes that these “APA support” payments at issue are part of the transaction value formula set forth in Protestant’s APA that was approved as the basis of appraisement in H029658 and argues that it is entitled to certain duty refunds. We note that these “APA support” payments are outside of the timeframe approved in HRL H029658. However, on August 20, 2010, Protestant filed its formal request for an APA renewal with the IRS. Until Protestant’s APA is renewed, Protestant operates under the scope of the APA approved in HRL H029658. Therefore, Protestant believes that the rationale and holding of H029658 with respect to the circumstances of the sale test, should apply to fiscal years 2009-2015, which are subject to a current pending bilateral APA request with the IRS. In support of its argument that the “APA support” payments should be taken into account for purposes of determining customs value, Protestant provided the following documents: (1) an Intercompany Memorandum of Understanding (“MOU”), executed between Protestant and its parent company in October 2012 to further document the intercompany pricing practices applicable to sales of vehicles pending the conclusion of the APA renewal process; (2) Protestant’s corporate tax return (IRS Form 1120), covering fiscal year 2010; (3) Protestant’s 2010 APA Margin Calculation covering APA support payment; (4) Protestant’s 2010 Trial Balance from tax work papers (reconciling book/tax differences); (5) 2010 Journal Entries covering “APA support” payment; (6) 2010 “APA support” payment calculation for duty refunds covering the subject protest; and, (7) Representative 2010 duty refund calculation (4th Quarter entries). Our decision follows. ISSUE: Is the related party price fixed or determinable pursuant to an objective formula at the time of importation for purposes of determining transaction value? Do the circumstances of the sale establish that the price actually paid or payable by Protestant to its parent company is not influenced by the relationship of the parties and is acceptable for purposes of transaction value? LAW AND ANALYSIS: Merchandise imported into the United States is appraised for customs purposes in accordance with Section 402 of the Tariff Act of 1930, as amended by the Trade Agreements Act of 1979 (TAA; 19 U.S.C. §1401a). The primary method of appraisement is transaction value, which is defined as “the price actually paid or payable for the merchandise when sold for exportation to the United States,” plus amounts for certain statutorily enumerated additions to the extent not otherwise included in the price actually paid or payable. See 19 U.S.C. §1401a(b)(1). When transaction value cannot be applied, then the appraised value is determined based on the other valuation methods in the order specified in 19 U.S.C. §1401a(a). In order to use transaction value, however, there must be a bona fide sale for exportation to the United States. See HRL 546067, dated October 31, 1996. We determined in HRL H029658 that there is a bona fide sale for export between the related parties in question. Since the facts of the transaction remain the same, there is no need for us to address this issue again. Therefore, the issue is whether post-importation compensating adjustments made for tax purposes should be taken into account in determining transaction value. Additionally, we must determine if transaction value between the related buyer and seller is still acceptable in this particular instance. Is the related party price fixed or determinable pursuant to an objective formula at the time of importation for purposes of determining transaction value? In HRL W548314, dated May 16, 2012, CBP examined the issue of claiming post-importation adjustments to value in related-party sales. CBP held that companies may claim compensating adjustments and other post-importation adjustments based on tax transfer pricing documentation and APAs. In HRL W548314, CBP found that the Importer’s transfer pricing policy constituted an objective formula provided the company’s transfer pricing policy meets certain factors. Thus, effective July 30, 2012, CBP allows both upward and downward post-importation adjustments to related-party sales prices made pursuant to a formal transfer pricing policy that meets the following criteria: A written “Intercompany Transfer Pricing Determination Policy” is in place prior to importation and the policy is prepared taking IRS code section 482 into account; The U.S. taxpayer uses its transfer pricing policy in filing its income tax return, and any adjustments resulting from the transfer pricing policy are reported or used by the taxpayer in filing its income tax return; The company’s transfer pricing policy specifies how the transfer price and any adjustments are determined with respect to all products covered by the transfer pricing policy for which the value is to be adjusted; The company maintains and provides accounting details from its books and/or financial statements to support the claimed adjustments in the United States; and, No other conditions exist that may affect the acceptance of the transfer price by CBP. An adjustment formula must satisfy all five criteria in order for CBP to accept it as objective. In this case, Protestant provided certain information to satisfy the above-referenced criteria. A written transfer pricing policy is in place prior to importation and the policy is prepared taking IRS code section 482 into account The protest in question involves merchandise imported into the United States in 2010. Protestant is a party to one completed bilateral APA covering 2002-2008, and has proposed a second one covering 2009-2015. This second APA is currently being negotiated between appropriate tax authorities. Together these APAs form Protestant’s written transfer pricing policy and are prepared in accordance with IRS code section 482. In addition, Protestant and its parent company executed an Intercompany MOU in October 2012 (provided for our review) to further document their pricing practices pending the conclusion of the 2009-2015 APA negotiations. This MOU provides additional evidence that the buyer and seller used the CPM method to form the basis of their intercompany transfer pricing formula starting January 1, 2009 (the beginning of the new APA term), and that such formula will continue as the basis of the intercompany pricing between the parties during the negotiation of the new APA. Therefore, Protestant’s written transfer pricing policy existed and the pricing method was agreed upon prior to the importation of goods in 2010. The U.S. taxpayer uses its transfer pricing policy in filing its income tax return, and any adjustments resulting from the transfer pricing policy are reported or used by the taxpayer in filing its income tax return In this case, Protestant’s APA requires the company to file an annual report attesting to its adherence to the APA terms. However, according to Protestant, because the pending bilateral APA for fiscal years 2009-2015 has not yet been approved, no further annual report has been filed in 2010. However, as noted in the MOU, Protestant adheres to the formula in the previously approved APA, and the necessary adjustments are made on an annual basis to ensure compliance with the terms of that APA. We also note that in order for Protestant to claim the adjustments made for tax purposes, these adjustments must relate to the value of the imported merchandise and be part of the price actually paid or payable. By working back from the arm’s length net margin (or profit) of Protestant, the arm’s length COGS (or price actually paid or payable for customs purposes) can be deduced. Thus, the customs value of the imported merchandise is affected every time the related parties reduce or increase their profitability pursuant to APAs or transfer pricing studies, which cover the imported goods, resulting in payments, transfer of funds, or credit/debit transactions between the related parties. Nevertheless, we recognize that in certain circumstances, compensating (post-importation) adjustments might not be part of the price actually paid or payable for customs purposes. In this particular case, the “APA support” payments from the parent company to Protestant in the United States represented cash payments and were recorded on the accounts of both the buyer and seller. Thus, there was a transfer of funds between the related parties. Additionally, the “APA support” payments have been made in accordance with Protestant’s bilateral APA and treated as a reduction in the COGS; therefore, the arm’s length COGS, which represents the price actually paid or payable for customs purposes, was changed to reflect the payments. Protestant provided its 2010 Income Tax Return to show the COGS reported to the IRS, as well as the supporting documents, indicating that the COGS amount was included in the transfer pricing adjustment. Upon review of the documents submitted by Protestant, we find that there is a link between the adjusted COGS and the tax returns, and the company indeed uses its APA in filing its income tax returns, and the adjustments are reported to the IRS and used by Protestant in filing its income tax return. The company’s transfer pricing policy specifies how the transfer price and any adjustments are determined with respect to all products covered by the transfer pricing policy for which the value is to be adjusted Based on the information provided by Protestant, the related party price (and the adjustments thereto) are determined pursuant to the company’s transfer pricing policy, which is based on the bilateral APA and the parties’ Intercompany MOU. Protestant provided CBP with documentation showing that adjustments are made on an entry-by-entry basis and, therefore, related to specific entries. Additionally, the Protestant’s APA confirms how the transfer price and any adjustments are determined with respect to all products covered by the APA for which the value is adjusted. The company maintains and provides accounting details from its books and/or financial statements to support the claimed adjustments in the United States Protestant provided financial and accounting records to support the claimed adjustments, as well as the detailed description of the profit allocation to individual products, as stated in the FACTS portion of this ruling. Protestant applies a fixed percentage across all imported products in order to allocate adjustments. Protestant’s formula is based on the operating margin. For purposes of the APA, the formula is cumulative. Protestant provided a complete paper trail to show how the “APA support” payment received from its parent company was recorded on its books, allocated to products on individual entries, and then reflected on the tax return. No other conditions exist that may affect the acceptance of the transfer price by CBP Upon our review of the information provided by Protestant, we determine that the transactions in question are not subject to any other considerations or conditions that may affect transaction value. While the allocation of profit between the related parties might be considered to be within the “control” of the parties under CBP’s prior interpretation of “control” in its decisions, the satisfaction of the criteria in W548314 reduces the possibility of price manipulation and subjectivity in claiming post-importation adjustments. Here, the operating profit the companies have to earn is set in advance and later allocated to individual entries. Therefore, since Protestant satisfied the criteria specified in W548314 to claim the post-importation adjustments in the year that the merchandise was actually imported, we conclude that in this particular case and based on the above referenced factors, Protestant’s transfer pricing policy as a whole may be considered an objective formula in place prior to importation for purposes of determining the price within the meaning of 19 CFR §152.103(a)(1). Accordingly, CBP is of the view that the post-importation adjustments in this case may be taken into account in determining the transaction value under 19 U.S.C. §1401a(b). Do the circumstances of the sale establish that the price actually paid or payable by the Importer/Buyer to the Seller is not influenced by the relationship of the parties and is acceptable for purposes of transaction value? Having established that the Protestant’s transfer pricing policy as a whole constitutes a formula, we must determine whether the imported merchandise may be appraised under transaction value. The fact that the “fixed price” requirement has been satisfied based on the acceptance of the Protestant’s transfer pricing policy as a formula, does not mean that the circumstances of the sale test is satisfied. Protestant must show that the relationship has not influenced the adjusted price. See W548314, dated May 16, 2012. There are special rules that apply when the buyer and seller are related parties, as defined in 19 U.S.C. §1401a(g). Specifically, transaction value is an acceptable basis of appraisement only if, inter alia, the buyer and seller are not related, or if related, an examination of the circumstances of the sale indicates that the relationship did not influence the price actually paid or payable, or the transaction value of the merchandise closely approximates certain “test values.” 19 U.S.C. §1401a(b)(2)(B); 19 CFR §152.103(l). In this case, there are no “test values” available to us; therefore, circumstances of the sale test must be applied. CBP addressed this issue in HRL H029658 with respect to Protestant’s APA, which covered fiscal years 2002-2008. Another bilateral APA, covering fiscal years 2009-2015, is currently being negotiated between the IRS and [***]. In the meantime, as noted in the Protestant’s MOU with its parent company, Protestant adheres to the formula in the previously-approved APA (updated with most current pricing and profit information) until such time as the new APA is approved. Accordingly, since CBP addressed the circumstances of the sale issue in HRL H029658, it is not necessary for us to do it here. HOLDING: The protest is granted. In accordance with Section 3A(11)(b) of Customs Directive 099 3550-065, dated August 4, 1993, Subject: Revised Protest Directive, you are to mail this decision, together with the Customs Form 19, to the Protestant no later than sixty (60) days from the date of this letter. Any re-liquidation of the entry or entries in accordance with the decision should be accomplished prior to mailing of this decision. Sixty (60) days from the date of this decision, the Office of International Trade; Regulations and Rulings will make the decision available to CBP personnel, and to the public on the CBP Home Page on the World Wide Web at www.cbp.gov, by means of the Freedom of Information Act, and other methods of public distribution. Sincerely, Myles B. Harmon, Director Commercial & Trade Facilitation Division