• HQ 544945
• Jun 30, 1995

• Type : Valuation • HTSUS :
•  Related:   543837; 543911; 544008; 545421; 544244; 544436; 544656   

VAL:CO:R:C:V 544945


District Director
Philadelphia, Pennsylvania

RE: Protest [ ] and Application for Further Review; Related Parties; Buying Commissions; Royalties; Transaction Value; Section 402(f) of the TAA.

Dear Sir:

This is in response to the Protest and Application for Further Review dated August 6, 1991, filed by counsel on behalf of [the importer], which was forwarded by you to this office. Additional submissions, dated January 6 and August 4, 1994, were received from counsel. Pursuant to 5 U.S.C. 552(b) and 19 CFR 103.12, counsel has requested confidential treatment for the proprietary information contained in the file. Accordingly, counsel will be notified if a request is submitted under the Freedom of Information Act for the information contained in the file. Additionally, the bracketed portion of this decision will be deleted from any published version. We regret the delay in responding.

FACTS:

The importer, [], is a U.S. company 84% owned by [A], and 16% owned by [B]. [The importer] purchases a basic rotary transfer machine ("Basic Machine") from the manufacturer, [] that is owned 3% by [A], 42 % by [C] and 55% by [D]. [C], additionally, is purportedly the buying agent for [the importer] and is wholly owned by [A]. Counsel claims that neither [A], [C] nor [D] directly or indirectly controls both [the importer] and [the manufacturer] and, accordingly, that [the importer] and [the manufacturer] are not related parties as that term is defined by section 402(g)(1)(G) of the Trade agreements Act of 1979 ("TAA").

[E, D and A] jointly developed the original technology associated with the manufacture of the Basic Machine that is now produced by [the manufacturer]. [E] was granted patents covering a control valve component in the Basic Machine. Other aspects of the Basic Machine are protected as trade secrets. Pursuant to a series of agreements entered into among the three inventors, [A] acquired the right to sell the Basic Machine and related technology in North and South America and [D] acquired similar rights in the remainder of the world. [A] transferred his North and South America rights to [the importer].

After importation, [the importer] undertakes further manufacturing and engineering to customize and integrate the Basic Machine into a finished system ("Finished System"). The Basic Machine represents 55-60% of the cost of the Finished System. The 40-45% increase in value added by [the importer's] manufacturing and engineering of the Basic Machine into the Finished System is attributable to engineering and assembly labor, as well as some additional parts and components.

[A] develops the further application technology necessary to render the Basic Machines into Finished Systems, which technology is protected as trade secrets (including designs, techniques, processes, machine patterns and know-how) and has been and continues to be transferred to [the importer] under an obligation of confidentiality.

In 1982, [A and the importer] entered into an agreement, amended in 1985, pursuant to which [the importer] agreed to pay [A] a patent and engineering fee on the sales-price of all Standard Rotary Transfer-machines and contemplated a higher fee for special machines and designs. The royalty is paid for pre-importation and post-importation activities. [The importer] concedes that some portion of the fee or royalty may be attributed to the initial technology relating to the Basic Machine (as to which applicable patents are said to have expired at the time of the subject entries), but claims that the payment relates principally to the trade secrets and know-how covering the transformation and customization of the Basic Machine into a Finished System in the United States. Counsel claims that [A] does not pass along any of the royalties he receives to [], the seller and manufacturer of the Basic Machine, or to [D], one of the shareholders of [the manufacturer].

The subject entry includes two machines. At the time the subject entry was liquidated, one machine had been resold after importation and the other had not.

ISSUE:

Whether the imported merchandise was correctly appraised?

LAW AND ANALYSIS:

The primary method of appraising imported merchandise is transaction value. Section 402(b) of the TAA provides that the transaction value of imported merchandise is the price actually paid or payable for the merchandise when sold for exportation to the United States, plus amounts equal to:

(A) the packing costs incurred by the buyer with respect to the imported merchandise; (B) any selling commission incurred by the buyer with respect to the imported merchandise; (C) the value, apportioned as appropriate, of any assist; (D) 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; and (E) the proceeds of any subsequent resale, disposal, or use of the imported merchandise that accrue, directly or indirectly, to the seller.

However, imported merchandise is appraised under transaction value only if the buyer and seller are not related, or if related, the transaction value is deemed to be acceptable. Regarding related parties, section 402(g) of the TAA provides the following:

(1) For purposes of this section, the persons specified in any of the following subparagraphs shall be treated as persons who are related:

(A) Members of the same family, including brothers and sisters (whether by whole or half blood), spouse, ancestors, and lineal descendants. (B) Any officer or director of an organization and such organization. (C) An officer or director of an organization and an officer or director of another organization, if each such individual is also an officer or director in the other organization. (D) Partners. (E) Employer and employee. (F) Any person directly or indirectly owning, controlling, or holding with power to vote, 5 percent or more of the outstanding voting stock or shares of any organization and such organization. (G) Two or more persons directly or indirectly controlling, controlled by, or under common control with, any person.

Counsel provided the following information regarding ownership interests and the identity of the members of the Board of the seller, the buyer and the agent:

[] (seller/manufacturer)

[The maufacturer] is owned 42% by [C], 3% by [A] and 55% by [D]. [A] appointees to the Board of Directors are designated by "*" and [D] appointees by "**":

1989 and 1990 * [] * [] ** [] ** [D] * [A] ** []

[C]("agent")

[C] is owned 100% by [A]. The following are the members of the Board of Directors:

1989 and 1990 [A] [A's son]

[The importer] (buyer)

In 1989 and 1990, [A] was the President and [B] the Vice-President. [The importer] was owned 84% by [A] and 16% by [B]. The following are the members of the Board of Directors:

1989 and 1990 [A] [A's son] [B]

Based on the definition of related parties, quoted above, we find that [C, the importer and the manufacturer] are related parties. Pursuant to section 402(g)(1)(B) [A] is related to each company by virtue of his presence on each Board. He is further related to each company, under section 402(g)(1)(F), by virtue of his control and direct ownership interest in [C] and [the importer] and his control and indirect ownership interest in [the manufacturer] through [C]. Because each of the three companies is under the direct or indirect control or common control of [A], pursuant to section 402(g)(1)(G) [C, the importer and the manufacturer] are also related parties.

We additionally find that [A] and [D], the 55 percent owner of [the manufacturer], are related pursuant to section 402(g)(1)(G) because the two of them directly or indirectly control [the manufacturer].

It is your position that the relationship between the parties influenced the price actually paid or payable. Section 402(b)(2)(B) of the TAA sets forth two conditions under which transaction value between related parties will be deemed acceptable. The first is where an examination of the circumstances of sale indicates that the relationship between the parties did not influence the price actually paid or payable. The second is where the transaction value closely approximates certain "test" values. 19 U.S.C. 1401a(b)(2)(B).

Under the first approach, if the circumstances of sale indicate that while related, the parties buy and sell from one another as if they were unrelated, transaction value will be considered to be acceptable. In this respect, Customs will examine the manner in which the buyer and seller organize their commercial relations and the way in which the price in question was derived in order to determine whether the relationship influenced the price. If it can be shown that the price was settled in a manner consistent with the normal pricing practices of the industry in question, or with the way in which the seller settles prices with unrelated buyers, this will demonstrate that the price has not been influenced by the relationship. 19 CFR 152.103(l)(1)(i)-(ii).

Counsel maintains that the manner in which the prices were negotiated supports the validity of the transfer prices. In this respect counsel notes that from the information presented to [the manufacturer's] Board of Directors by its chief financial officer and chief manufacturing officer each year at an annual meeting the Board recommends pricing for [the manufacturer's] next calendar year. The price of the Basic Machine is then said to be determined by [the manufacturer] with a view to producing a reasonable profit, after all of [the manufacturer's] expenses for such year. Counsel states that prices for the Basic Machines are the subject of a printed price list which is not subject to negotiation by [the manufacturer's] customers during the ensuing calendar year. A page of the 1989 (prepared in 1988) price list was submitted. Supplemental prices are said to be published monthly.

According to the evidence presented, [the importer] always buys from [the manufacturer] and always goes through [C] to place the order. No evidence has been submitted that establishes that the price charged by the seller to the buyer was adequate to ensure recovery of all costs plus a profit equivalent to the firm's overall profit realized over a representative period of time. Moreover, the information submitted does not demonstrate that the transfer prices were settled in a manner consistent with the normal pricing practices of the industry, or with the manner in which the seller settles prices with unrelated buyers. Counsel states that 60 to 70 percent of the seller's output is sold into the world market, to purchasers other than [the importer] and that the prices for these sales generally are determined on the basis of world market competition and are competitive with alternative methods of production. Nonetheless, no information was submitted regarding whether these other sales are to customers "unrelated" to [the manufacturer]. Although copies of invoices from [the manufacturer] to [C] and from unrelated suppliers to [C] for delivery to [the manufacturer] were submitted, these invoices do not demonstrate that the prices charged by [the manufacturer] to [the importer] are settled in the same manner as would be if [the manufacturer] sold to unrelated buyers in the United States.

In view of the absence of adequate information to support the importer's claim, we find that the importer has not met its burden under 19 CFR 152.103(l)(1)((i)-(ii) of showing that transaction value exists. Moreover, because no information was submitted regarding the existence of previously accepted "test" values, the transaction cannot be examined under the approach set forth under 19 CFR 152.103(l)(2).

When imported merchandise cannot be appraised on the basis of transaction value, it is appraised in accordance with the remaining methods of valuation, applied in sequential order. 19 U.S.C. 1401a(a)(1). The alternative bases of appraisement, in order of precedence, are: the transaction value of identical or similar merchandise (19 U.S.C. 1401a(c); deductive value (19 U.S.C. 1401a(d)); computed value (19 U.S.C. 1401a(e)); and the "fallback" method (19 U.S.C. 1401a(f)).

There is no discussion in the evidence before us as to why appraisement under one of the alternative methods -- transaction value of identical or similar, deductive value or computed value -- does not apply. Assuming the merchandise may not be appraised using one of the alternate methods, appraisement was proper under the "fallback" method (19 U.S.C. 1401a(f)), which provides that merchandise should be appraised on the basis of a value derived from one of the prior methods reasonably adjusted to the extent necessary to arrive at a value.

Even though the imported merchandise cannot be appraised using transaction value, under section 402(f) the merchandise may be appraised based on a reasonably adjusted transaction value. (19 CFR 152.107(a)) Transaction value is defined as the price actually paid or payable for the merchandise when sold for exportation to the United States. The term "price actually paid or payable" means:

The total payment (whether direct or indirect, and exclusive of any costs, charges or expenses incurred for transportation, insurance and related services incident to the international shipment of the merchandise from the country of exportation to the place of importation in the United States) made, or to be made, for imported merchandise by the buyer to, or for the benefit of, the seller.

19 U.S.C. 1401a(b)(4).

In deriving a reasonably adjusted transaction value under section 402(f) of the TAA, you used the value declared by the importer, the packing costs, the commissions and the royalty payments to arrive at an appraised value. According to counsel, the amounts included for commissions and royalty payments are improper because [C] was acting as a bona fide buying agent and the royalties paid by the importer were not a condition of sale of the imported merchandise.

It is well settled that bona fide buying commissions are not a proper element of dutiable value. See, Pier 1 Imports, Inc. v. United States, 708 F.Supp. 351, 254, 13 CIT 161, 164 (1989); Rosenthal-Netter, Inc. v. United States, 12 CIT 77, 78, 679 F.Supp. 21, 23 (1988), aff'd, No. 88-1294 (Fed. Cir. Nov. 10, 1988); Jay-Arr Slimwear, Inc. v. United States, 12 CIT 133, 136, 681 F.Supp. 875, 878 (1988).

Examples of services which are characteristic of those rendered by a bona fide agent include: compiling market information, gathering samples, translating, placing orders based on the buyer's instructions, procuring merchandise, assisting in factory negotiation, inspecting and packing the goods, and arranging for shipment and payment. Jay-Arr Slimwear at 137; Bushnell Int'l, Inc. v. United States, 60 CCPA 157, C.A.D. 1104, 477 F.2d 1402 (1973); United States v. Nelson Bead Co., 42 CCPA 175, C.A.D. 590 (1955); J.C. Penney Purchasing Corp. et al. v. United States, 80 Cust. Ct. 84, C.D. 4741, 451 F.Supp. 973 (1978); United States v. Knit Wits (Wiley) et al., 62 Cust. Ct. 1008, A.R.D. 251 (1969); Carolina Mfg. Co. v. United States, 62 Cust. Ct. 850, R.D. 11640 (1969).

In determining whether a bona fide buying agency exists between an importer and an alleged "buying agent", the primary consideration is the right of the principal to control the agent's conduct with respect to matters entrusted to him. See, Pier 1 Imports, Inc. (quoting J.C. Penney; HRL 543837, dated February 18, 1987; HRL 543911, dated November 1, 1988; HRL 544008, dated August 17, 1988.) It is not disputed that [C] does engage in some activities indicative of an agency relationship. However, "[o]ne may submit to a degree of control by another without being [his] agent ***." Rosenthal-Netter at 79. Therefore, the actual transaction must be examined to determine whether the claimed agency relationship is bona fide. Jay-Arr Slimwear at 137.

Although the terms of the buying agency agreement reserve control in [the importer] over [C's] actions, it has long been Customs' position that "having legal authority to act as buying agent and acting as buying agent are different matters" and Customs is entitled to examine evidence which proves the latter. See, U.S. Customs Service General Notice, 11 Cust. Bull & Dec. (March 15, 1989). See also, Pier 1 Imports, Jay-Arr Slimwear Inc., Rosenthal-Netter, and HRL 545421 (August 3, 1994). Therefore, despite the existence of the agency agreement, the appraising officer must make a case-by-case determination regarding whether the agent acts as a bona fide buying agent.

In Jay-Arr Slimwear the court observed that since the agent must represent the buyer only, the agent's relationship with the seller or manufacturer is a critical factor to consider in determining whether a buying agency exists. The legitimacy of an agency relationship "may well be questioned when the ... [parties] are under common control ... [C]ommon control exists where separate legal entities are in fact controlled by the same person or members of the same family." Id. at 137. In Bushnell International v. United States, the court found that while business ties between the parties to the transaction are not necessarily determinative concerning the dutiability of commissions paid by the importer to the agent, the question must be resolved in light of the full circumstances as revealed by the evidence at hand. In the subject transaction, [A], directly or indirectly controls each party as he is (1) the sole owner of [C] (buying agent), (2) the majority owner of [the importer] (buyer), (3) the owner and indirect owner through [C] of a significant portion of [the manufacturer] (seller), and (4) related to the other two owners [(C and D)] of [the manufacturer]. Thus, whether the buyer can be said to exercise control over [C] is highly questionable.

[A's] involvement in each aspect of the transaction does not per se disqualify [C] as an actual buying agent. Indeed, as pointed out by the court in Pier One "control is but one aspect of an agency relationship." Id. at 166. Another factor to consider is whether the purported agent "is to act primarily for the benefit of the other and not for himself." However, because of the degree of [A's] interest in each party to the transaction it is impossible to ascertain whether [C's] actions were primarily in the best interest of the buyer.

Another factor examined by the court in Jay-Arr Slimwear was whether the goods could not have been imported without the intervention of the purported agent. In this regard we note that [the importer] always purchases through [C] and pays [C] a sizeable commission (25 percent of the FOB price of the imported goods) for the "specialized" services performed by [A] and for his unique expertise concerning the merchandise. This commission represents, at times, an even greater amount that the profit realized by [the importer] upon resale of the machine. In your opinion, some of these services are akin to those described in Jay-Arr Slimwear which are associated with selling or producing the merchandise, rather than ministerial functions in procuring the goods. In such instances, the expenses are dutiable. Id. at 137; also see, HRL 544244 dated June 16, 1989.

Where a fee must be paid by the importer and is associated with the production of the merchandise, it is part of dutiable value. Id. at 139. Counsel concedes that "specialized" services are performed by [C], that these services relate to the production of the imported machine and that such services are performed for the manufacturer. (Counsel's submission dated August 6, 1991, p.10.) We, accordingly, conclude that without the intervention of [A], as [C], and the payment of a "commission" to [A] for his "expertise" in helping to produce the merchandise, the merchandise could not have been imported. Under the circumstances, the commission paid to [C] is dutiable under the modified transaction value approach under section 402(f) of the TAA.

Additional factors which we have considered in reaching the conclusion that the commissions are dutiable include the degree of "discretion" exercised by [C]. As you point out, given the fact that [A] "developed" the original technology and that he travels throughout Europe in search of the best parts that will go into the basic [manufacturer]-assembled machine, it cannot be said that the "agent" was given no discretion in the purchase or production of the merchandise. Moreover, it does not appear that the "agent placed orders with the factories only after having been instructed to do so by the principal..." A blanket order dated July 2, 1988 from [the importer] to [C] reveals that [the importer] places an annual purchase order with [A] for the entire production forecasted for the following year. No factories are mentioned, nor are unit prices. A factor which negates the existence of an agency relationship is the lack of control over the choice of factories. See, Rosenthal-Netter, at 79; B.W. wholesale, 58 CCPA at 95, 436 F.2d at 1402; J.P. Penney, 80 Cust. Ct. at 95. All the "details" are at the discretion of [A]. In view of these factors, we must conclude that under the instant circumstances, [C's] actions were largely discretionary. Accordingly, under the circumstances presented, the importer has not established that the commissions are bona fide buying commissions.

With respect to the royalty payments paid by [the importer] to [A], the payments are calculated based on the resale price in the United States of the imported merchandise. As discussed above, [A] is related to the seller of the merchandise. The subject merchandise was entered prior to the effective date of the Hasbro II decision which set forth guidelines for answering questions concerning the dutiability of royalty payments. See, General Notice, 27 Cust. B. 7 Dec. No. 6 (HRL 544436 dated February 10, 1993), pp.1-13. Applying the pre-Hasbro II criteria, we find that the royalty payments made by [the importer] to [A] are dutiable for the reasons set forth below.

[A] is the licensor of the right to sell the imported machines in North and South America. Royalty agreements between [A] and [the importer] provide that [A] grants to [the importer] the right to market the machines within the designated geographical area. The agreements reveal that the royalty is paid to [A] in consideration of engineering and technology required in the manufacturing and sub-assembling of the machines and components shipped to [the importer]. These services relate to both pre-importation and post-importation services performed by [A]. The royalty is calculated on the resale price of the goods in the United States.

As stated earlier, the merchandise was appraised under section 402(f) of the TAA using a transaction value approach. Hence, we will examine whether the royalties are dutiable under the principles of transaction value. Concerning royalties described under section 402(b)(1)(D), both statute and regulation parallel the Statement of Administrative Action ("SAA"), which was adopted by Congress and has the force of law. The relevant portion of the SAA provides:

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 for patents covering processes to manufacture the imported merchandise will generally be dutiable...

SAA, H.R. Doc No. 153, 96 Cong., 1st Sess., pt 2, reprinted in, Department of Treasury, Customs Valuation under the TAA of 1979 (October 1981), at 48-49.

Section 402(b)(3) of the TAA provides that "[t]he transaction value of imported merchandise does not include any of the following, if identified separately from the price actually paid or payable and from any cost or other item referred to in paragraph (1) [of the same section]: A. Any reasonable cost or charge that is incurred for --

(1) the construction, erection, assembly or maintenance of, or the technical assistance provided with respect to, the merchandise after its importation into the United States;

Counsel cites to HRL 544656, dated June 19, 1991, as support for the claim that the royalties are not dutiable. In HRL 544656, the importer purchased components and, subsequent to importation, assembled the components to produce finished machines. In some instances, U.S. components were also used in the post importation assembly. In determining that the royalty payments were not connected to the importation or the ownership of the imported machine components, Customs noted that the payments were for technical information and know-how related to using the components in the process of assembling and manufacturing machines after importation of the components. Moreover, the royalties had to be paid to the seller regardless of whether the importer purchased any parts from the seller and were based on the "ex works" price of the finished machines and not solely on the value of the imported components.

The finding of non-dutiability in HRL 544656 does not apply to the instant facts. Unlike the facts in HRL 544656, in the instant case it is not disputed that some portion of the royalty payment is made in connection with the manufacture of the imported merchandise. Moreover, what was imported in HRL 544656 was not a substantially complete machine, but rather components which were assembled into a machine. In the instant case, although value is added to the imported merchandise in the United States subsequent to importation, the imported merchandise and the "finished product" are both rotary transfer machines. The customization occurring subsequent to importation which is designed to tailor the tooling and electricals to the specific needs of the ultimate purchaser, does not transform the machine into a new and different product. The royalties, therefore, are calculated on the imported merchandise and not on something which is no longer related to the imported merchandise.

While a portion of the royalty paid to [A] is purportedly for the right to sell the machines within a designated geographical area and for his post-importation expertise, as conceded by counsel, some of the royalty payment is also associated with the production of the merchandise. (See Counsel's submission dated August 6, 1991, pp. 10 and 11). Accordingly, the payment of the portion of the royalties associated with the production of the imported merchandise is a condition of sale of the merchandise for exportation to the United States and is dutiable. In accordance with section 402(b)(3), quoted above, if the portion of the payment associated with post importation assistance were separately identified from the price or the royalty payment, then it would not be included in this modified transaction value. However, because it is impossible to separate the dutiable portion from the total royalty payment, under section 402(b)(1)(D) of the TAA, the entire amount would be dutiable.

The subject entry covers two machines -- one resold and one not. By agreement between the parties, royalties are calculated based on a percentage of the resale price of the merchandise. Because the royalty amount for the machine which was not resold after importation was not available, you appraised the merchandise which had not been resold using an estimated royalty amount based on the royalties paid on the machine which had been resold. Counsel disputes the use of this method "to determine duties on the value of royalties".

Section 500 of the TAA is the general authority for Customs to appraise merchandise. Section 500(a), as it existed when the subject merchandise was imported, provides that the appraising officer shall:

[A]ppraise merchandise by ascertaining or estimating the value thereof, under section 1401a of this title, by all reasonable ways and means in his power, any statement of cost or costs of production in any invoice, affidavit, declaration, other document to the contrary notwithstanding...(emphasis added)

As noted in the Statement of Administrative Action:

Section 500 of the TAA authorizes the appraising officer to weigh the nature of the evidence before him in appraising the imported merchandise. This could be the invoice, the contract between the parties, or even the recordkeeping of either of the parties to the contract. For example, if information contained in an invoice is negated by sworn statements contained in affidavits, the appraising officer has the authority to appraise the merchandise based on information contained in the affidavits.

Under the circumstances presented, we find the appraisement, including the royalty calculation, to be in accordance with the above-referenced statutory authority. In keeping with section 500 of the TAA, Customs considered all the evidence available, and determined a legally sufficient value for the imported merchandise. HOLDING:

You are directed to deny the protest. For the reasons discussed above we find that the merchandise was correctly appraised.

In accordance with section 3A(11) of Customs Directive 099 3550-065, dated August 4, 1993, Subject: Revised Protest Directive, this decision should be mailed by your office to the Protestant no later than 60 days from the date of this letter. Any reliquidation of the entry in accordance with the decision must be accomplished prior to mailing of the decision. Sixty days from the date of the decision the Office of Regulations and Rulings will take steps to make the decision available to Customs personnel via the Customs Rulings Module in ACS and the public via the Diskette Subscription Service, Freedom of Information Act and other public access channels.

Sincerely,

John Durant, Director
Commercial Rulings Division