First sale; dutiability of royalty payments; educational materials

HQ H309127 August 3, 2020 OT:RR:CTF:VS H309127 AP CATEGORY: Valuation James L. Rogers, Esq. Nelson Mullins Riley & Scarborough LLP 104 South Main Street, Ninth Floor Greenville, SC 29601 RE: First sale; dutiability of royalty payments; educational materials Dear Mr. Rogers: This is in response to your letter, dated February 13, 2020, on behalf of Company A, [ ], requesting a ruling regarding: (1) the acceptability of the “first sale” between a seller located in Country S ([ ]) and a related middleman located in Country M ([ ]); and (2) the dutiability of royalty payments paid to a third-party license holder after importation. You have asked that certain information submitted in connection with this ruling request be treated as confidential. Inasmuch as this request conforms to the requirements of 19 C.F.R. § 177.2(b)(7), your request for confidentiality is approved. The information contained within brackets and all attachments to your request for a binding ruling, forwarded to our office, will not be released to the public and will be withheld from the published version of this ruling. FACTS: Company A, located in Columbia, South Carolina, will import educational products, such as printed books, brochures, leaflets and recorded optical media, from Country S to the United States through Country M. Company A is a wholly-owned subsidiary of [ ] (“parent company”) in Country P ([ ]). Following sales from Country S-based manufacturer/seller [ ] to [ ], a Country M-based wholesaler/middleman and affiliate of Company A, the products will be stored in the middleman’s warehouse in Country M. You explain that the products will then be sold by the middleman to Company A, at which point they will be shipped to the United States and entered through various U.S. ports. You state that Company A will serve as the ultimate consignee and beneficial owner. Company A will import the merchandise though FedEx Trade Networks Transport & Brokerage, Inc. (“FedEx”) who will serve as the U.S. importer of record. The manufacturers in Country S are unrelated to the middleman. The sample purchase order from the middleman to the manufacturer and the sample invoice from the manufacturer to the middleman indicate the products will be transferred from the manufacturer in Country S to the middleman in Country M for consideration and will be delivered at the middleman’s warehouse in Country M. You state that upon completion of the transaction with the manufacturer, the middleman will hold title to, and will bear all the risk of loss for the products. You advise that the terms of the sale between the middleman and the manufacturer will be Free on Board (“FOB”) Place of Destination (the middleman’s warehouse in Country M). Unless otherwise agreed by the parties, title and risk of loss will pass from the foreign seller to the middleman when the merchandise is delivered to the middleman’s warehouse in Country M. The terms of the sale between the middleman and Company A will be Delivered at Place (“DAP”) Place of Destination. You do not specify the place of destination. Under Incoterms 2020 DAP, the middleman will bear cost, risk, and responsibility for the goods until their delivery to Company A at the named place of destination. Company A will be responsible for the costs associated with import clearance and will assist the middleman with export clearance. The sample purchase order from Company A to the middleman and the sample invoice from the middleman to the ultimate consignee indicate that the products will be transferred from the middleman to the ultimate consignee for consideration. At the time of sale by the manufacturer to the middleman, the products will be given specific product codes by the middleman, which will begin with either “U.S.” or “SPA,” when deposited into the middleman’s warehouse in Country M. The code “U.S.” indicates that the products are destined for the English-speaking market in the U.S. The code “SPA” indicates that the products are destined for the Spanish-speaking market in the U.S. The sample FedEx air waybill indicates that the merchandise will be shipped from Country M to an address in the U.S. You note that on rare occasions, products with the U.S. and SPA codes may be sent to destinations outside of the U.S. by “special order.” You advise that the packing costs of the products will be included in the sales price between the manufacturer and the middleman, and that there are no selling commissions incurred by the middleman and no assists associated with the products. You also advise that there are no proceeds of subsequent resale or other use that will accrue, directly or indirectly, to the manufacturer. You state that Company A will pay royalties in connection with the imported educational materials. You have provided a redacted copy of the License Agreement between the parent company and a third-party license holder. Company A’s parent company in Country P is the licensee and will make royalty payments to the licensor, the technology transfer company of a university in Country P. The licensee is granted a license by the licensor to use its trademark and logo outside of Country P. Specifically, the licensee has been granted an exclusive license in the U.S. by the licensor to “exploit, use, publish, market, sell and reproduce” certain educational materials and the licensor’s copyright in the materials, and to “use and reproduce the Trade Mark and Logo” upon the materials. Royalties will be paid to the licensor after importation of the educational materials in the U.S. based on the value of the retail sale made by Company A in the U.S. market. Company A will serve as a sub-licensee and will compensate the licensee for the royalties via an inter-entity transaction, which in turn will pay to the licensor. The royalties will represent a percentage of the sale price of each material sold by Company A in the U.S. on behalf of the licensee. No royalties will be paid to the foreign supplier. Company A will bear the royalty expense and it will not be shared with the middleman. The licensor is not related to the foreign supplier and the middleman. The License Agreement states that the licensee must reasonably try to maximize the sales of the products and to promote and commercialize them. Upon termination of the License Agreement, the licensee must stop using the licensor’s trademark and logo. You inquire whether the “first sale” price between the middleman and the foreign supplier can be used to determine the transaction value of the imported goods. You also ask whether the royalties paid by Company A to the licensor after importation to the U.S. should be included in the calculation of the transaction value of the goods. ISSUES: Whether the transaction between the foreign supplier and the middleman may be used to determine the transaction value of the imported merchandise. Whether the royalty payments paid to the licensor should be included in the transaction value of the imported merchandise. LAW AND ANALYSIS: First Sale: Merchandise imported into the United States is appraised in accordance with Section 402 of the Tariff Act of 1930, as amended by the Trade Agreements Act of 1979, codified at 19 U.S.C. § 1401a. The primary method of appraisement is transaction value. For purposes of this ruling, we accept that transaction value is the proper method of appraisement for the imported merchandise. Transaction value is the “price actually paid or payable for the merchandise when sold for exportation to the United States” plus certain statutorily enumerated additions such as royalties. You seek to utilize the transaction value of the sale between the manufacturer and the middleman. In Nissho Iwai American Corp. v United States, 982 F.2d 505 (Fed. Cir. 1992), the court reviewed the standard for determining transaction value in a multi-tiered transaction. The court case involved a foreign manufacturer, a middleman, and a U.S. purchaser. The court held that the price paid by the middleman to the foreign manufacturer was the proper basis for transaction value. The court stated that in order for the foreign manufacturer’s price to be a valid transaction value, the transaction between the manufacturer and the middleman needed to be a sale negotiated at “arm’s length” that was free from any non-market influences, and involved goods clearly destined for exportation to the U.S. In accordance with the Nissho Iwai court decision and our own precedent, we presume that transaction value is based on the price paid by the importer. An importer may request appraisement based on the price paid by the middleman/intermediary to the foreign manufacturer (the “first sale” price) in situations where the middleman/intermediary is not the importer. It is the importer’s responsibility to show that the “first sale” price is acceptable under the standard set forth in Nissho Iwai. The U.S. importer must present sufficient evidence that the alleged sale is a bona fide (good faith) “arm’s length sale” and that it is “a sale for export to the United States” within the meaning of 19 U.S.C. § 1401a. In Treasury Decision (“T.D.”) 96-87, dated January 2, 1997, the Customs Service (now Customs and Border Protection (“CBP”)) advised that the importer must describe in detail the roles of the parties involved and must supply relevant documentation addressing each transaction that was involved in the exportation of the merchandise to the United States (e.g., the alleged sale between the importer and middleman, and the alleged sale between the middleman and the manufacturer). Relevant documents include, but are not limited to purchase orders, invoices, proof of payments, contracts, and any additional documents (i.e. correspondence) that establishes how the parties deal with one another. CBP is looking for “a complete paper trail of the imported merchandise showing the structure of the entire transaction.” T.D. 96-87 further provides that the importer must also inform CBP of any statutory additions and their amounts. If unable to do so, the sale between the middleman and the manufacturer cannot form the basis of transaction value. To use a “first sale” price as the basis of appraisement under transaction value, the court in Nissho Iwai required the transaction between the foreign manufacturer and the middleman to be a bona fide sale. In VWP of Am., Inc. v. United States, 175 F.3d 1327 (Fed. Cir. 1999), citing J.L. Wood v. United States, 62 C.C.P.A. 25, 33, 505 F.2d 1400, 1406 (1974), the Court of Appeals for the Federal Circuit found that the term “sold” for purposes of 19 U.S.C. § 1401a(b)(1) means a transfer of title from one party to another for consideration. No single factor is decisive in determining whether a bona fide sale has occurred. CBP makes each determination on a case-by-case basis and will consider such factors as whether the purported buyer assumed the risk of loss and acquired title to the imported merchandise. In addition, CBP may examine whether the purported buyer paid for the goods, and whether, in general, the roles of the parties and circumstances of the transaction indicate that the parties are functioning as buyer and seller. Here, the foreign supplier and the middleman are unrelated parties, and are functioning as buyer and seller. The purchase order from the middleman to the foreign supplier and the invoice from the foreign supplier to the middleman reveal that the products will be transferred from the foreign supplier to the middleman for consideration. The terms of the sale between the foreign supplier and the middleman are FOB Place of Destination. While there is no mention in the documentation regarding the passage of title, as title must pass for there to be a sale, title will pass with the risk of loss based on the Incoterms. See Headquarters Ruling Letter (“HQ”) H268741, dated Feb. 27, 2018. Under Incoterms FOB place of destination, title and risk of loss will pass from the foreign seller to the middleman when the merchandise is delivered to the middleman’s warehouse in country M. The sample purchase order from Company A to the middleman and the sample invoice from the middleman to the ultimate consignee indicate that the products will be transferred from the middleman to the ultimate consignee for consideration. The terms of the sale between the middleman and the ultimate consignee are DAP. As noted above, while there is no mention in the documentation regarding the passage of title, as title must pass for there to be a sale, title will pass with the risk of loss based on the Incoterms. See HQ H268741, supra. Under Incoterms DAP, the middleman will bear the cost, risk, and responsibility for the goods until their delivery to the ultimate consignee at the named place of destination. Company A will be responsible for the costs associated with import clearance and will assist the middleman with export clearance. The foreign suppliers/manufacturers are not related to the middleman. As the foreign suppliers and the middleman are unrelated, the sale between each foreign supplier and the middleman is presumed to be at “arm’s length.” Finally, Nissho Iwai also required the goods to be “clearly destined for the United States” when sold by the factory to the middleman. In order to satisfy this requirement, the evidence must show that the only possible destination for the imported merchandise is the U.S. at the time the middleman purchased or contracted to purchase the merchandise from each of the foreign suppliers. Here, the merchandise will first go to the middleman’s warehouse in Country M and may be shipped to destinations outside of the U.S. on rare occasions by “special order.” There is a presumption that merchandise shipped to an intermediate country is not sold for exportation to the U.S. See 19 C.F.R. § 152.23. Whenever goods go to an intermediate location before being shipped to the U.S., there is a contingency of diversion. See HQ 547197, dated Aug. 22, 2000. In HQ 563551, dated Oct. 12, 2006, children’s dress-up products were produced in Sri Lanka and shipped to a warehouse in Canada, where they were packaged for shipment to the U.S. to fill existing U.S. orders, or stored until resold to customers in the U.S. CBP determined that there was no sale for exportation to the U.S. when the merchandise was shipped from Sri Lanka. The fact that the Canadian importer sold the same goods in Canada and the U.S. created an unacceptable contingency of diversion. In HQ 547349, dated May 5, 2000, garments were placed in a warehouse overseas for up to five days for consolidation purposes and for quality control inspections. Some of the garments initially intended for sale to a U.S. customer were sold in another country. The tags attached to the garments did not contain any U.S. specific sizes and there was nothing unique about the U.S.-destined merchandise. CBP concluded that there existed a possibility of diversion and that the merchandise was not clearly destined to the U.S. Consistent with these prior CBP rulings, we find that the proposed transaction fails to overcome the presumption that the merchandise shipped from Country S to an intermediate country is not a sale for exportation to the U.S. You state that the merchandise will be stored in the middleman’s warehouse in Country M before it is shipped to the U.S. and may be shipped to destinations outside of the U.S. on rare occasions by “special order.” Under these circumstances, there will be no sale for exportation to the U.S. at the time the merchandise is shipped from Country S. Although “U.S.” and “SPA” product codes will be used to indicate which goods are for the U.S. market, the fact that the same merchandise may be sold outside of the U.S. creates a contingency of diversion. Based on these facts, we find that the subject merchandise is not clearly destined for the U.S. at the time of sale to the middleman. Thus, the transaction between the foreign supplier and the middleman does not meet the requirement of being a bona fide arm’s length transaction for goods clearly destined for the U.S. and transaction value will be based on the price paid by the U.S. importer. Dutiability of royalty payments: The second issue is the dutiability of the royalty payments paid after importation into the U.S. As we already stated, the primary basis of appraisement under the TAA is transaction value, which the “price actually paid or payable for the merchandise when sold for exportation to the United States” plus amounts for enumerated statutory additions to the extent not otherwise included in the price actually paid or payable. 19 U.S.C. § 1401a(b)(1). The additions include “any royalty or license fee related to the imported merchandise that the buyer is required to pay, directly or indirectly, as a condition of the sale of the imported merchandise for exportation to the United States.” 19 U.S.C. § 1401a(b)(1)(D). With respect to the dutiability of royalty payments, the Statement of Administrative Action (“SAA”) to the TAA, H.R. Doc. No. 153, 96 Cong., 1st Sess. (1979), reprinted in Department of the Treasury, Customs Valuation under the Trade Agreements Act of 1979 (1981), at 48-49, states, in pertinent part: Additions for royalties and license fees will be limited to those that the buyer is required to pay, directly or indirectly, as a condition of the sale of the imported merchandise for exportation to the United States. In this regard, … royalties and license fees paid to third parties for use, in the United States, of copyrights and trademarks related to the imported merchandise, will generally be considered as selling expenses of the buyer and therefore will not be dutiable. However, the dutiable status of royalties and license fees paid by the buyer must be determined on a case-by-case basis and will ultimately depend on: (i) whether the buyer was required to pay them as a condition of sale of the imported merchandise for exportation to the United States; and, (ii) to whom and under what circumstances they were paid. For example, if the buyer pays a third party for the right to use, in the United States, a trademark or copyright relating to the imported merchandise, and such payment was not a condition of the sale of the merchandise for exportation to the United States, such payment will not be added to the price actually paid or payable. However, if such payment was made by the buyer as a condition of the sale of the merchandise for exportation to the United States, an addition will be made. As a further example, an addition will be made for any royalty or license fee paid by the buyer to the seller, unless the buyer can establish that such payment is distinct from the price actually paid or payable for the imported merchandise, and was not a condition of the sale of the imported merchandise for exportation to the United States. In General Notice, Dutiability of Royalty Payments, Vol. 27, No. 6 Cust. B. & Dec. at 1 (Feb. 10, 1993) [hereinafter General Notice], CBP articulated the following three factors or questions that assist in determining whether the royalty payments in question are related to the imported merchandise and are a condition of sale such that they are dutiable: Was the imported merchandise manufactured under patent? Was the royalty involved in the production or sale of the imported merchandise? and, Could the importer buy the product without paying the fee? Affirmative answers to questions one and two, and a negative answer to question three suggest that the payments are dutiable. Otherwise, the payments are non-dutiable. When analyzing the factors identified in the above-cited General Notice, CBP has taken into account certain considerations, which flow from the language set forth in the SAA, such as: the type of intellect