• HQ H034062
• Mar 03, 2007

• Type : VALUATION • HTSUS :
•  Related:   547148; 548552; 546675; 547134; W563382   

OT:RR:CFT:VS H034062 RSD

Peter T. Middleton, Esq.
50 Mall Road
Suite 205
Burlington, MA 01803-4508

RE: Dutiabilty of royalty payments; Licensing agreements, Trademark and Copyrights

Dear Mr. Middleton:

This is in reference to your letter of July 21, 2008, requesting an advance ruling from the U.S. Customs and Border Protection (CBP) on whether certain royalty payments are dutiable.

FACTS:

The importer in this case is New Balance Athletic Shoe, Inc., (New Balance) of Boston, Massachusetts. New Balance is a domestic footwear manufacturer and an importer of finished athletic footwear and components thereof. The company has entered into a licensing agreement with the Sesame Workshop for the non-exclusive rights to use certain licensed characters on their athletic footwear for infant, pre-school, and grade school children in sizes 2 through 7. The Licensor, the Sesame Workshop, is a non-profit New York corporation which is the creator and producer of the television series “Sesame Street”. It has granted a non-exclusive license to New Balance to be able to depict some of the famous Sesame Street characters on New Balance’s children’s athletic footwear including, “Big Bird”, “Bert”, “Ernie”, “Cookie Monster”, “Oscar the Grouch,” “Elmo”, “Grover”, “The Count”, “Zoe”, etc. The footwear will be produced in China by factories that are unrelated to New Balance or the Sesame Workshop.

The licensing agreement requires New Balance as the licensee to pay to Sesame Workshop, as the licensor, a license fee on ”the net invoice billings” of the licensee for the total quantity of the products sold in the United States containing the “License Elements”. The license fee is set at 6% of the net invoice billings and is payable each calendar quarter for the term of the agreement. The licensing agreement also provides for a guaranteed payment of $125,000 for the term of the contract to be paid installments of $25,000 every six months. This advanced payment is credited against the fee resulting from the calculation of the 6 percent of the net invoiced billings for each quarter. The advance payment is designed to help even out the cash flow of the licensor over the term of the agreement with the expectation that the 6 percent of the net invoice billings in any given six months period will likely be greater than the advance payment.

There is also a license fee of 12 percent assessed on the FOB sales direct from China to third countries. The 12 percent fee is not credited to the semi-annual guaranteed payment. The royalty payment is due after the products are sold in the United States and only when the products are sold. It is not payable at the time of the export of merchandise and the license fee is not a requirement for production of the products in China. Similarly, the importation of the finished products into the United States does not require the payment of the license fees. There are no patents involved in the agreement. No design work will be performed outside of the United States with relation to the Sesame Street depictions used on the footwear.

An addendum to the license agreement contains provisions in which the licensor agrees to require all third party manufacturers of the licensed products to follow certain conduct codes regarding the treatment of their employees.

ISSUE:

Whether the royalty fees or the license payments under consideration constitute an addition to the price actually paid or payable for the imported merchandise under 19 U.S.C. 1401a(b)(1)(D)(E)?

LAW AND ANALYSIS: The preferred method of appraising merchandise imported into the United States is the transaction value method as set forth in section 402(b) of the Tariff Act of 1930, as amended by the Trade Agreements Act of 1979 (TAA), codified at 19 U.S.C. §1401a. Section 402(b)(l) of the TAA provides, in pertinent part, 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 for the enumerated statutory additions. In order for imported

merchandise to be appraised under the transaction value method it must be the subject of a bona fide sale between a buyer and seller, and it must be a sale for exportation to the United States. For purposes of this decision, we have ascertained that transaction value is the appropriate basis of appraisement. The enumerated statutory additions include the following items: the packing costs incurred by the buyer with respect to the imported merchandise;

any selling commissions incurred by the buyer with respect to the imported merchandise;

the value, apportioned as appropriate, of any assist;

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

the proceeds of any subsequent resale, disposal, or use of the imported merchandise that accrue, directly or indirectly, to the seller.

Regarding the dutiability of royalty payments, the Statement of Administrative Action (“SAA”), which forms part of the legislative history of the TAA, provides in relevant 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 for patents covering processes to manufacture the imported merchandise will generally be dutiable, whereas 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 were they 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 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.

Statement of Administrative Action H.R. Doc. No. 153 96 Cong., 1st Sess., pt. 2, reprinted in Department of the Treasury, customs Valuation under the Trade Agreements Act of 1979 (October), at 48-49.

In Headquarters Ruling (HQ) 548552 dated August 19, 2004, we explained that in light of the above, if a buyer pays a third party for the right to use a trademark in the United States relating to the sale of merchandise, and the payment was not a condition of sale of the merchandise for exportation to the United States, the payment will not be added to the price actually paid or payable.

In an effort to clarify the TAA and the SAA, U.S. Customs and Border Protection ("CBP") published General Notice, Dutiability of Royalty, Vol. 27, No. 6 Cust. B. & Dec. at 1 (February 10, 1983). This issuance is commonly referred to as "Hasbro II." In the General Notice, CBP articulated three questions to assist in determining whether royalty or license fees should be dutiable additions to the price actually paid or payable. The questions are:  

Was the imported merchandise manufactured under patent? Was the royalty involved in the production or sale of the imported merchandise?  Could the importer buy the product without paying the fee?

The General Notice indicates that affirmative answers to the first and second questions, and a negative answer to the third, points to dutiability. The answer to the third question goes to the heart of whether a payment is considered to be a condition of sale. When analyzing the factors identified in the above-referenced general notice, CBP has taken into account certain considerations that flow from the language set forth in the SAA. These include, but are not limited to, the following:

the type of intellectual property rights at issue (e.g., patents covering processes to manufacture the imported merchandise generally will be dutiable); to whom the royalty was paid (e.g., payments to the seller or a party related to the seller are more likely to be dutiable than are payments to an unrelated third party); whether the purchase of the imported merchandise and the payment of the royalties are inextricably intertwined (e.g., provisions in the same agreement for the purchase of the imported merchandise and the payment of the royalties; license agreements which refer to or provide for the sale of the imported merchandise, or require the buyer’s purchase of the merchandise from the seller/licensor; termination of either the purchase or license agreement upon termination of the other, or termination of the purchase agreement due to the failure to pay the royalties); and payment of the royalties on each and every importation.

See, for example, HQ 547148 dated September 12, 2002, HQ 548552 dated August 19, 2004, and HQ W563382 dated May 25, 2006.

In the instant case, based on the information that you have provided, the responses to each of the three above-listed questions are as follows:

1.) Was the imported merchandise imported under a patent?

With respect to the first question of whether the imported merchandise was imported under a patent, we note that the licensing agreement between Sesame Workshop and New Balance concerns the right of New Balance to be able to use pictorial designs of various characters copyrighted by Sesame Workshop as well as various trademarked designs and logos also owned by the Sesame Workshop. These depictions of characters and logos will appear on athletic footwear products sold by New Balance in the United States and other countries. In addition, the depictions of the Sesame Workshop’s copyrighted characters and trademarked logos may appear in advertisements. The license does not involve a patent related to the process or the method by which the athletic footwear is manufactured. Thus, the answer to the first question is no.

2.) Was the royalty involved in the production or sale of the imported merchandise?

With respect to the second question, New Balance is paying a license fee to the Sesame Workshop for the non-exclusive rights to use the Sesame Workshops’ copyrighted designs in connection with the sale of its athletic footwear in the United States. The imported merchandise is manufactured in China by factories that are unrelated to either New Balance or the Sesame Workshop. The license fee is based on the sales of merchandise inside the United States. It is not paid for the rights associated with the process to manufacture the imported merchandise or the right to export the merchandise to

the United States. There are no restrictions in the license agreement regarding New Balance’s selection of the manufacturer of the athletic footwear or the location where the production can take place. Consequently, because the license fee is paid to a third party, who is unrelated to seller of the merchandise, we conclude that the royalty is not involved in the production or sale of the imported merchandise.

Could the importer buy the product without paying the fee?

As previously explained, the answer to the third question goes to the heart of whether a payment is considered a condition of sale. Royalty payments and license fees are a condition of sale when they are paid on each and every importation and are inextricably intertwined with the imported merchandise. If the payments are optional and not inextricably intertwined with the imported merchandise, or are paid solely for the exclusive right to manufacture and sell in a designated area, they do not constitute additions to the price actually paid or payable under 19 U.S.C. §1401a(b)(1)(D). See, HQ 546675 dated June 23, 1999.

CBP has held that when a licensee imports trademarked merchandise manufactured and sold by a company unrelated to the licensor, the royalty payment to the licensor for the right to use the trademark in connection with the merchandise is not a condition of the sale of the imported merchandise for exportation to the United States.

In the instant case, the licensing agreement contains quality control clauses to ensure that the quality of the licensed elements is upheld. In addition, the license agreement contains provisions in which the licensor agrees to require all third party manufacturers of the license products to follow certain conduct codes regarding the treatment of their employees. In HQ 547134, dated July 27, 1999, we indicated that such quality control clauses are standard in trademark license agreements, and license fees paid to third parties for use in the U.S. of trademarks are generally not dutiable. Therefore, the fact that a trademark or copyright license agreement contain provisions that allow the licensor to maintain control over the quality of the trademarked products does not in itself render the license fees stemming from that agreement to be dutiable under section 402(b)(1)(D) of the TAA as royalties. Similarly, it is our position that the same principles would apply regarding the dutiability of royalties paid pursuant to a licensing agreement that contained provisions requiring factories to follow certain employee conduct standards on how products bearing trademarks or copyrights are made. We also reiterate that, if the license fees are paid to a third party licensor unrelated to the seller then the license fees are generally not dutiable.

The facts in the instant case are similar to those described in the example in the above-mentioned Statement of Administrative Action: A buyer pays a third party for the right to use, in the United States, a trademark relating to the sale of the merchandise, and the payment does not constitute an addition to the price actually paid or payable because it is not a condition of sale of the merchandise for exportation to the United States. The royalty payments are a selling expense of the buyer rather than an addition to the price actually paid or payable.

In this particular case, the importer can purchase the merchandise without the payment of a licensing fee. Although the payment is required, in that it must be paid to the extent that the licensee earns revenue when it resells the products bearing the Sesame Workshop trademarks and copyrighted characters, the payment is not paid to the seller. It appears that New Balance as the importer can purchase the imported merchandise from the Chinese seller of the goods without having to pay the royalty to the licensor. In addition, this is a case where New Balance is importing trademarked merchandise that is manufactured and sold by a company that is unrelated to the licensor. It is our understanding that the purchase orders to the Chinese factory do not make reference to the license fees and they are not included in the price paid to the sellers. In light of the above, New Balance can purchase the merchandise from the manufacturer without paying the license fee.

Moreover, we note that the license fees that New Balance pays to the Sesame Workshop for sales of the license products based on FOB price of the goods shipped from the factory in China to third countries is not relevant here because that merchandise will not be imported into the United States. Therefore, the payment to the Sesame Workshop is not an addition to the price actually paid or payable under 19 U.S.C. § 1401a(b)(1)(D).

PROCEEDS As indicated above, under 19 U.S.C. § 1401a(b)(1)(E), the proceeds of any subsequent resale, disposal, or use of the imported merchandise that accrue, directly or indirectly, to the seller will be an addition to the price paid or payable. In the present case, the proceeds, the licensing fees paid to the Sesame Workshop do not accrue directly or indirectly to the sellers, the Chinese factories. Therefore, the proceeds are not an addition to the price paid or payable under 19 U.S.C. § 1401a(b)(1)(E). See also 19 CFR § 152.103(b)(1)(v). In light of the above, the royalty fees or payments made by New Balance to the Sesame Workshop pursuant to the above-referenced license agreement do not constitute an addition to the price actually paid or payable for the imported merchandise under 19 U.S.C. § 1401a(b)(1)(D) and (E).

HOLDING: The royalty fees or payments that New Balance pays to the Sesame Workshop pursuant to the above-referenced license agreement do not constitute an addition to the price actually paid or payable for the imported merchandise under 19 U.S.C. § 1401a(b)(1)(D) and (E). A copy of this ruling letter should be attached to the entry documents filed at the time the goods are entered. If the documents have been filed without a copy, this ruling should be brought to the attention of the CBP officer handling the transaction.
Sincerely,

Monika Brenner, Chief
Valuation and Special Programs Branch