OT:RR:CTF:VS H128018 BGK
Field Director
Regulatory Audit Division
U.S. Customs and Border Protection
1100 Raymond Blvd
4th Floor, Suite 402
Newark, New Jersey 07102
RE: Internal Advice, Focused Assessment Program, Royalty Payments
Dear Field Director:
This is in response to a letter forwarded from your office on October 15, 2010, requesting internal advice on behalf of [U.S. Company], regarding the dutiability of certain royalty payments. In issuing our response, we have given consideration to submissions on behalf of [U.S. Company], dated July 28, 2010 and July 27, 2010, as well as a submission from your office, dated December 7, 2010.
Due to the confidential nature of the license agreements at issue, the name of the company has been withheld.
FACTS:
[U.S. Company] was the subject of a Focused Assessment conducted by your office. This internal advice was requested because the Pre-Assessment Survey Report (PAS) contained the conclusion that certain royalty payments made to [U.S. Company’s] parent company, [the Parent] were dutiable. [U.S. Company] disagrees.
There are royalty payments made under four licensing agreements between [U.S. Company] and [the Parent] at issue. The licenses cover the technical know-how for manufacturing certain chemicals and the right to use that know-how in manufacturing the chemicals domestically. Some raw materials for each of these chemicals may be imported. The four agreements include the 1) Methionine Agreement, 2) the Hydrogen Peroxide Agreement, 3) the Isophorone Diisocyanate Agreement (IPDI Agreement), and 4) the Polyesters Agreement. All four agreements contain entirety clauses.
A. Methionine Agreement
The Methionine Agreement was signed on December 1, 1995. The agreement covers the right to “. . . manufacture, have manufactured, use, sell and have sold the Products of the Agreement” in North America. “Products of the Agreement” refers to both Methionine crystalline and Methionine liquid or dissolved. In consideration for these rights, [U.S. Company] owes [the Parent] a royalty of four percent on the “Net Sales Value” for sales of Methionine to third parties. This payment is due semi-annually. There is no minimum production requirement or minimum royalty requirement. There is also no requirement that [U.S. Company] source any raw materials from [the Parent]. In fact, only two of the ingredients used in the licensed-process are imported: antifoam and calcium stearate, and neither of the ingredients is imported from a related company.
B. Hydrogen Peroxide Agreement
The Hydrogen Peroxide Agreement was entered into on October 1, 1995, and licenses to [U.S. Company] the “. . . non-exclusive and non-transferable right (without the right to grant sublicenses) to make use of the Subject of the Agreement in the Territory of the Agreement . . ..” “Subject of the Agreement” is defined as “. . . the right to have used and use the Process of Agreement and Plant of Agreement, and to have used and use, have manufactured and manufacture, have sold and sell [hydrogen peroxide].” The Territory of the Agreement is defined as “. . . the U.S.A. with respect to the manufacture of hydrogen peroxide and the U.S.A., Mexico and Canada with respect to the use and sales of hydrogen peroxide.” In consideration for these rights, [U.S. Company] must pay [the Parent] four percent on the “Net Sales Value” for sales of hydrogen peroxide to third parties. The royalty payments are due semi-annually. There is no minimum production requirement or minimum royalty requirement.
The Agreement does not contain any obligations regarding the sourcing of the ingredients. Like the Methionine Agreement, only two of the ingredients used in the U.S. production of hydrogen peroxide are imported: tetrabutyl urea and 2-Ethyl Anthraquinone, and neither of these ingredients is imported from a related company.
C. Isophorone Diisocyanate (IPDI) Agreement
IPDI is covered by the aliphatic isocyanates agreement, which came into force on January 1, 1996. The agreement grants to [U.S. Company] the know-how and “non-exclusive and non-transferable right and licence [sic]” to manufacture the product and to use and sell the product in the NAFTA countries. “The product” is defined as “aliphatic isocyanates and their derivatives containing 100% of aliphatic isocyanates” [hereinafter IPDI]. [the Parent] maintains the right of quality control over the product produced by [U.S. Company] using the licensed know-how and process, in addition to the right to stop the sale of product that does not meet the specifications. The license also covers the right to use [the Parent]’s trademarks in the sale and marketing of IPDI.
The royalty owed to [the Parent] is one to two percent of a formula derived from the multiplication of the aggregate quantity of the product manufactured by [U.S. Company] in the calendar year and the annual turnover in US dollars, divided by the aggregate quantity sold by [U.S. Company] in the calendar year. [U.S. Company] is obligated to exploit the rights granted under the license and must pay an annual minimum royalty until the royalties total a certain amount. Royalties are due annually.
Under the agreement, [U.S. Company] is required to buy 90 percent of their requirement of isophorone (an ingredient in the production of IPDI) from [the Parent] so long as [the Parent] can meet their requirements. This has not been the case, and isophorone has been sourced domestically since 1999. While not required under the agreement, [U.S. Company] does import two other chemical ingredients from [the Parent]: catalyst “A” and catalyst “B”. It is stated that together these constitute less than 3.5 percent of the total variable costs of the IPDI.
D. Polyesters Agreement
The Polyesters Agreement came into force June 1, 2000, and grants to [U.S. Company] the right to the know-how necessary to produce saturated polyesters (polyesters), along with the non-exclusive and non-transferable right to manufacture (in the U.S. only), use, and sell polyesters in the NAFTA countries. The agreement also grants the right to use the trademarks held by [the Parent] for the product. Like in the IPDI agreement, [the Parent] maintains the right of quality control over the final product. However, unlike the other agreements, [U.S. Company] is required to pay consideration for the right to the know-how, and for the technical assistance required in setting up the U.S. plant. [U.S. Company] also owes a royalty of two percent of the result of the same formula from above (the multiplication of the aggregate quantity of the product manufactured by [U.S. Company] in the calendar year and the annual turnover in US dollars, divided by the aggregate quantity sold by [U.S. Company] in the calendar year). Like the IPDI agreement, [U.S. Company] is obligated to exploit the rights granted under the license, and must pay an annual minimum royalty until royalty payments a certain amount. Royalty payments are due annually.
Under the agreement, should the U.S. plant be unable to produce [U.S. Company]’s required quantity of the product, the company is required to purchase 90 percent of its requirement of polyesters from [the Parent] [hereinafter polyesters requirement clause]. However, it was stated by the company in their submission that “No agreement requires [U.S. Company] to purchase saturated polyesters from its parent or any other third party.” The company also stated that at no point has [U.S. Company] ever purchased polyesters from its parent or any other third party.
The agreement does not require [U.S. Company] to import any of the raw materials necessary for production, however, some are imported. The statements on the imported chemicals vary. For example, in the submission with the request for internal advice, it was stated that only four chemicals were imported, and none were imported from related companies. These are isophthalic acid, terephthalic acid, hexahydrophthalic anhydride, and solvent naptha. In a submission to your office, it was stated that adipic acid, neopentylglycol, and trimethylolpropane were also imported. Their sources were not provided. It was stated by the company that the imported chemicals (or at least the first four), constitute less than six percent of the variable costs to produce the polyesters.
ISSUE:
I. Whether the royalty payments are dutiable as part of the price actually paid or payable for the imported merchandise?
II. Whether the royalty payments are dutiable as additions to value?
LAW AND ANALYSIS:
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 (TAA) codified at 19 U.S.C. § 1401a. The preferred method of appraisement under the TAA is transaction value, defined as "the price actually paid or payable for the merchandise when sold for exportation to the United States," plus certain enumerated additions, including "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." 19 U.S.C. § 1401a(b)(1)(D) and (E). These additions apply only if they are not already included in the price actually paid or payable. For purposes of this ruling, we assume that transaction value is the appropriate method of appraisement. Although we recognize that the parties are related in some situations, this issue has not been raised in the internal advice request and we will not address it in this ruling.
With regard to royalties, 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 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.
Statement of Administrative Action, H.R. Doc. No. 153, 96 Cong., 1st Sess., Pt II, at 443 – 444 (1979).
I. Price Actually Paid or Payable
The first issue is whether the royalty payments are included in the price actually paid or payable for the imported raw materials. The “price actually paid or payable” means the total payment (whether direct or indirect, and exclusive of any charges, costs, 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)(A).
It is CBP’s position that payments made by the buyer to a party related to the seller are indirect payments made to, or for the benefit of, the seller. All such payments are included in transaction value unless it is established that they were made in exchange for something other than the imported goods. See, Generra Sportswear Company v. United States, 905 F.2d 377(CAFC 1990), and Chrysler Corporation v. United States, 17 CIT 1049 (CIT 1993).
The licensor is only the seller in the IPDI situation, and in the yet to be exercised polyesters requirement clause (which will be analyzed separately). Also, under the agreements at issue, the royalty is paid for the intellectual property rights to be able to manufacture and market patented chemicals in the U.S., not for the importation of the patented chemicals. In similar situations CBP has held that the royalties should not be included in the price actually paid or payable for the imported materials/raw ingredients. See Headquarters Ruling Letters (HRL) H024566, dated October 15, 2008; HRL W548649, dated September 15, 2006 (citing HRL 545951, dated February 12, 1988; and HRL 546660, dated June 23, 1999); and HRL H100056, dated November 15, 2010. Although in a few of the prior cases, this decision was based in part on the fact that the costs of the imported materials were backed out of the royalty’s formula, CBP has held that this factor is not determinative. See HRL W548649. Where, under the agreement, the royalty is clearly being paid for the use of intellectual property for domestic manufacturing and/or marketing of products, CBP has held that the royalty is not part of the price actually paid or payable. See HRL H024566, and HRL W548649.
In HRL 545380, dated March 30, 1995, a royalty was owed from the buyer to the seller under a license agreement which provided for the license of technical information and know-how not just for the U.S. manufacturing process, but also for the technical information and know-how for the imported components. This is distinguishable from the situation at issue because in the case at issue the technical information and know-how is only provided for the U.S. manufacturing process and finished products, not the imported components, except in the case of the polyesters requirement clause.
In the case of the polyesters requirement clause, where the U.S. company is required to purchase the polyesters if it is unable to produce the required quantity in the U.S., the royalty payment would be going to the seller for the imported polyesters. In addition, the evidence does not clearly establish that the royalty would be unrelated to the imported polyesters. The license is for the technical know-how for polyesters, and under the polyesters requirement clause, that is what would be imported. This would be similar to the situation in HRL 545380 in that the license covers the technical know-how for the imported good. Therefore, should polyesters be imported under the polyesters requirement clause from the parent company, the royalty payments made upon the sale of the polyesters are dutiable as part of the price actually paid or payable, and should be included as such.
In the agreements at issue, it is clear that the royalty is being paid for the intellectual property rights to be able to manufacture and market a finished product in the U.S. Therefore, except where the polyesters requirement clause is triggered, the royalty is not part of the price actually paid or payable. However, the royalty may still be part of the transaction value as an addition to value. See 19 U.S.C. § 1401a(b)(1)(D) and (E).
II. Additions to Value
A royalty payment may be added to the price actually paid or payable as either a royalty payment, pursuant to 19 U.S.C. § 1401a(b)(1)(D), or as a proceed of a subsequent resale, disposal, or use of the imported merchandise, pursuant to 19 U.S.C. § 1401a(b)(1)(E). Under 19 U.S.C. § 1401a(b)(1)(D), an addition to the price actually paid or payable is made for 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." As the relevant facts are different among the situations, Methionine and Hydrogen Peroxide will be analyzed separately from IPDI and polyesters.
After reviewing the language of the statute along with the legislative history and prior case law, CBP looks to the following three questions as relevant in determining whether the requirements of 19 U.S.C. § 1401a(b)(1)(D) are met: 1) Was the imported merchandise manufactured under patent? 2) Was the royalty involved in the production or sale of the imported merchandise? and 3) 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; negative answers to questions one and two and an affirmative answer to question three suggest that the payments are nondutiable. Question three goes to the heart of whether the payment is considered to be a condition of sale. See General Notice entitled “Dutiability of “Royalty” Payments,” published in the Customs Bulletin and Decisions on February 10, 1993 (the “General Notice”; also sometimes referred to as “Hasbro II”) (stating these questions in discussing previously-issued HRL 544436, dated February 4, 1991).
In analyzing these factors, CBP has taken into account certain considerations that flow from the language set forth in the SAA. These include, but are not limited to:
(i) the type of intellectual property rights at issue (e.g., patents covering processes to manufacture the imported merchandise will generally be dutiable);
(ii) 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);
(iii) 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
(iv) payment of the royalties on each and every importation.
HRL W548649 (citing HRL 546478, dated February 11, 1998; see also, HRL 546433, dated January 9, 1998; HRL 544991, dated September 13, 1995; and HRL 545951, dated February 12, 1998).
Methionine and Hydrogen Peroxide
Under both the Methionine and Hydrogen Peroxide agreements, the chemicals covered by the agreement are never imported. The agreements cover the rights to the technical know-how for manufacturing the named chemical in the U.S. In both cases the royalty is calculated based on a percent of the net sales of the finished chemical to third parties, and is paid semi-annually. Neither agreement covers anything regarding the sourcing of the raw materials necessary to manufacture the chemicals in the U.S., and the company is free to source all materials domestically, if desired. In both cases, two of the raw materials are imported, but no raw materials are imported from a related party. Methionine and Hydrogen Peroxide are never imported. It is also stated that no imported raw material is manufactured under patent. This will be assumed to be correct for purposes of this internal advice.
Question one, was the imported merchandise manufactured under patent, should be answered in the negative. It has been stated that the imported raw materials are not manufactured under patents. However, even if they were, this factor is not determinative. In HRL W548649, it was unclear whether the imported components were manufactured under patent, and although they did appear to be, it was still determined that the royalty payments were not dutiable because the other factors indicated that the royalties did not relate to the imported merchandise and were not required to be paid as a condition of sale for export to the U.S. Similarly, in HRL H024566, the imported components were manufactured under a patent, however, the royalties were not dutiable because the other factors pointed to non-dutiability. The same is true of HRL H100056; although the imported ingredient was manufactured under patent, CBP questioned whether or not this question bore much relevance when the patent for the imported component is unrelated to the royalty for the intellectual property and technical know-how for the finished product. These cases are similar to the situation at issue here. Although it has been stated that the imported raw materials are not manufactured under patent, the relevancy of this question in situations such as this may be questioned.
With regard to question two, was the royalty involved in the production or sale of the imported merchandise, counsel argues that because the license agreements are never triggered by the production or sale of the imported merchandise this question should be answered in the negative. Counsel also submits that because neither of the agreements requires [U.S. Company] to purchase the imported materials from [the Parent], any payments for the technical know-how and information made pursuant to the license agreements are separate from the payments [U.S. Company] makes when it purchases imported raw materials.
Your office argues that the payments are dutiable in accordance with HRL 545710, dated October 30, 1998. In HRL 545710, a buyer imported a patented pharmaceutical compound that was used as the active ingredient in a finished pharmaceutical product. By the terms of a license agreement, the buyer was granted the right under licensed patents and know-how to make, use and sell the licensed compound, and to make, have made, use and sell licensed product from the licensed compound. As consideration for these rights, the buyer agreed to pay the patent holder a royalty based on a specified percentage of the net sales of the licensed finished pharmaceutical products sold by the buyer or its sub-licensees or subsidiaries. In addressing the second question, CBP found that the royalties paid related to the production and sale of the imported licensed compound, because the compound was specifically covered by the license agreement. This is distinguishable from the situation at issue. In this case, the license agreement not only does not provide for the know-how related to the manufacture of the imported raw materials; it makes no mention of any raw materials.
Your office also argues dutiability is supported by HRL 544991, dated September 13, 1995, in which the importer entered into a license agreement with its parent company, which granted the importer the right to use licensed technology and a trademark in the manufacture, marketing and use of machines in the United States. The parent company supplied certain parts for the manufacture of the machines, pursuant to an agreement entered into on the same day as the license agreement. The terms and conditions pertaining to the supply of the parts required the importer to forecast its supply needs, to place purchase orders no later than three months before the scheduled shipment date, and to pay for the parts as prescribed by the supplier’s price list. In consideration for the licensed technology and technical assistance provided by the parent company and for the use of the trademark, the importer also paid royalties based on net sales of finished machines. CBP determined that the payment of the royalties was closely tied to the purchase of the imported parts, and as such was a condition of the sale for exportation of the imported parts. In the situations at issue, the agreements do not contain any language regarding the purchase of components; in HRL 544991 not only is the supply of parts provided for, it is heavily controlled. Unlike HRL 544991, the raw materials are not being provided by [the Parent], the supply of the raw materials is not governed by any agreement, and there is no specific process by which the raw materials must be procured.
In HRL W548649, Company A signed a license agreement with and agreed to pay royalties to their parent, Company B, for the right to have and use the proprietary information and trademarks for the production of industrial chemicals in the U.S. Company A also imported some of the ingredients from Company B and other related parties. CBP determined that because the royalties paid were exclusively for the know-how, trademarks, and patents that allow company A to engage in domestic manufacturing, the second question should be answered in the negative. Although in many similar cases where the royalties were not found to be dutiable because the costs of the imported ingredients had been backed out of the royalty formula, in HRL W548649, CBP determined that this was not necessary where royalties are paid for intellectual property rights to engage in domestic manufacturing.
These two situations are most similar to HRL W548649. The royalties paid are exclusively for intellectual property to allow [U.S. Company] to engage in the domestic manufacture of Methionine and Hydrogen Peroxide, and are not related to the production of the imported raw materials. These facts are even more persuasive than those in W548659 because the raw materials are not imported from a related party. Therefore, question two should be answered in the negative; the royalty was not involved in the production or sale of the imported merchandise.
The third question, whether the importer could buy the product without paying the fee, is central to the question of whether a royalty payment is a condition of sale. Payments that must be made for each imported item are a condition of sale. HRL W548659 determined that Company A could purchase the imported chemicals without paying the royalties, and therefore, the payment of royalties was not a condition of sale. In H100056 and H024566, CBP examined the activity that triggered the payment of the royalty to answer question three. In both cases, it was determined that the production and sale of the finished product triggered the payment of the royalty, not the importation of the components, and therefore, question three should be answered in the affirmative. In the situations at issue, the royalty is also triggered by the sale of the chemicals created in the U.S., not the importation of the raw ingredients. As such, it appears [U.S. Company] could buy the imported raw materials without paying the royalty.
Pursuant to the above analysis, we find that the royalty payments made under the Methionine and Hydrogen Peroxide license agreements are not additions to the price actually paid or payable for the imported raw ingredients under 19 U.S.C. § 1401a(b)(1)(D).
19 U.S.C. § 1401a(b)(1)(E) provides that "the proceeds of any subsequent resale, disposal or use of the imported merchandise that accrue, directly or indirectly, to the seller," are to be added to the price actually paid or payable. In the case of the Methionine and Hydrogen Peroxide agreements, [the Parent] is not the seller, or related to the seller, of the imported merchandise, and therefore, the royalty payments are not accruing to the seller. Therefore, we find that the royalty payments made under the Methionine and Hydrogen Peroxide license agreements are not additions to the price actually paid or payable for the imported raw ingredients under 19 U.S.C. § 1401a(b)(1)(E).
IPDI
IPDI are covered by the aliphatic isocyanates agreement, which grants to [U.S. Company] the know-how and “non-exclusive and non-transferable right and licence [sic]” to manufacture the product and to use and sell the IPDI in the NAFTA countries. [the Parent] maintains the right of quality control over the product produced by [U.S. Company] using the licensed know-how and process, in addition to the right to stop the sale of product that does not meet the specifications. The royalty is calculated based on the amount of IPDI created and sold. [U.S. Company] is obligated to exploit the rights granted under the license and must pay an annual minimum royalty until the royalties total a certain amount. All royalties are due annually.
Under the agreement, [U.S. Company] is required to buy 90 percent of their requirement of isophorone from [the Parent] as long as [the Parent] can meet their requirements. However, isophorone has been sourced domestically since 1999. While not required under the agreement, [U.S. Company] does import two other chemical ingredients from [the Parent]. It is stated that together these constitute less than 3.5 percent of the total variable costs of the IPDI.
As stated above, the three questions used to determine if the royalties are additions to value under 19 U.S.C. § 1401a(b)(1)(D) are 1) Was the imported merchandise manufactured under patent? 2) Was the royalty involved in the production or sale of the imported merchandise? and 3) Could the importer buy the product without paying the fee? In the case of the IPDI agreement, the imported products are not required to be imported under the license agreement. Although two of the raw materials (two chemical ingredients) are being imported from [the Parent], a related party, the analysis for whether the royalty payments are additions to the value of the raw materials is the same as it was for the raw materials imported to produce Methionine and Hydrogen Peroxide. As in HRL W548649, the fact that the importer and seller are related and the seller is also the licensor, will not necessarily mean the royalties are dutiable under 19 U.S.C. § 1401a(b)(1)(D). The minimum royalty and obligation to exploit the rights under the agreement will also not necessarily affect the determination that the royalties are not dutiable. The minimum royalty is owed even if all materials are sourced domestically, and [U.S. Company] must continue to exploit the rights granted under the license, no matter where the raw materials are sourced. Therefore, with respect to the merchandise currently being imported, the royalty is not an addition to value. Whether or not the royalties will be dutiable as proceeds under 19 U.S.C. § 1401a(b)(1)(E) will be discussed below.
However, the agreement also contains a requirement to source a minimum amount of isophorone from [the Parent] as long as the company is able to supply it. Currently the isophorone is being sourced domestically, and has been for over a decade. As the isophorone is not currently being imported, the royalties paid to [the Parent] under the agreement are not dutiable as additions to value under 19 U.S.C. § 1401a(b)(1)(D).
However, because 90 percent of the isophorone must be imported if [the Parent] is able to supply it, this situation is a possibility and thus will be analyzed. In regard to question one, it has been stated that none of the imported ingredients are manufactured under patent, and therefore, question one should be answered in the negative. Nonetheless, as isophorone is not currently being imported, it is unclear if this statement applies to isophorone. As stated above with regard to question one in the Methionine and Hydrogen Peroxide discussion, this factor is not determinative. In HRL W548649, HRL H100056, and HRL H024566, it was determined that even if the imported ingredient was manufactured under patent, this question is of little relevance when the patent for the imported component is unrelated to the royalty for the intellectual property and technical know-how for the finished product. Therefore, although it is unclear if isophorone is manufactured under patent, this fact will have little impact on the dutiability of the royalties at issue because the royalties are being paid for the intellectual property and technical know-how for the finished product.
Question two asks whether the royalty was involved in the production or sale of the imported merchandise. As stated above, the rulings cited by your office are distinguishable from the situation at issue, primarily because the agreement at issue does not provide for the intellectual property rights and technical know-how related to isophorone, the imported agreement. Compare HRL 545710. Also there are not extensive controls placed on the importation of the isophorone, apart from the required sourcing when possible. Compare HRL 544991. Like in HRL W548649, the royalties relate to the technical know-how to enable [U.S. Company] to manufacture IPDI in the U.S., therefore the royalties are not linked to the production and sale for exportation of the imported isophorone. This is further supported by the fact that although the isophorone has been sourced domestically for over a decade, [U.S. Company] continues to owe royalty payments to [the Parent] for the manufacture of IPDI in the U.S.
Question three asks whether the importer can buy the product without paying the fee, which as stated above, is central to the question of whether the royalty payment is a condition of sale. In H100056 and H024566, CBP examined the activity that triggers the paying of the royalty to answer question three. In both cases, it was determined that the production and sale of the finished product triggered the payment of the royalty, not the importation of the components, and therefore, question three should be answered in the affirmative. In this situation, the royalty is also triggered by the sale of the IPDI created in the U.S., not the importation of the isophorone. This is made clear by the fact that [U.S. Company] has been able to source isophorone domestically, and still has not owed the royalty until IPDI has been manufactured in the U.S. As such, it appears [U.S. Company] could buy the isophorone without paying the royalty.
Therefore, pursuant to the above analysis, we find that the royalty payments made under the IPDI license agreement are not additions to the price actually paid or payable for the imported raw ingredients under 19 U.S.C. § 1401a(b)(1)(D), even when the isophorone is being imported pursuant to the 90 percent exclusivity clause.
As the royalty payments paid pursuant to the IPDI license agreement are not dutiable as royalties in either situation, it is necessary to determine if the payments are dutiable as proceeds pursuant to 19 U.S.C. § 1401a(b)(1)(E) where the 90 percent exclusive supply provision is, or is not, exercised. 19 U.S.C. § 1401a(b)(1)(E) provides that "the proceeds of any subsequent resale, disposal or use of the imported merchandise that accrue, directly or indirectly, to the seller," are to be added to the price actually paid or payable. “CBP has held that payments based on the resale of a finished product made in part from the imported merchandise are not dutiable as proceeds under section [1401a(b)(1)(E)].” HRL W548649 (citing HRL 544656, dated June 19, 1991; HRL 545770, dated June 21, 1995; HRL 545951, dated February 12, 1998; and HRL 546660, dated June 23, 1999).
With regard to proceeds, the SAA provides that:
Additions for the value of any part of the proceeds of any subsequent resale, disposal, or use of the imported merchandise that accrues directly or indirectly to the seller, do not extend to the flow of dividends or other payments from the buyer to the seller that do not directly relate to the imported merchandise. Whether an addition will be made must be determined on a case-by-case basis depending on the facts of each individual transaction.
Statement of Administrative Action, H.R. Doc. No. 153, Pt. II, 96th Cong., 1st Sess. (1979), reprinted in Department of the Treasury, Customs Valuation under the Trade Agreements Act of 1979 at 49 (1981).
In C.S.D. 92-12, 26 Cust. Bull. 424 (1992), HRL 544656, dated June 19, 1991, royalties were paid on the invoice sales price of machines made from both imported and domestic components. In that decision, Customs determined, with regard to the issue of proceeds, that the payments were not based on the resale of the imported product, but, instead, were based on the resale of a finished product that included U.S. components. Because Customs found that a substantial portion of the payments were based on components that were not imported, the payments were not dutiable as proceeds.
This is analogous to the situation at issue. Not all the components are imported, and the royalty is being paid for the intellectual property and technical know-how related to the finished product, not the imported raw materials. Therefore, the royalty payment at issue, paid pursuant to the IPDI agreement, is not dutiable as a proceed under 19 U.S.C. § 1401a(b)(1)(E).
Polyesters
The Polyesters Agreement grants to [U.S. Company] the right to the know-how necessary to produce polyesters, along with the non-exclusive and non-transferable right to manufacture (in the U.S. only), use, and sell polyesters. Unlike the other agreements, [U.S. Company] is required to pay consideration for the right to the know-how, and for the technical assistance required in setting up the U.S. plant. [U.S. Company] also owes a royalty based on the quantity of saturated polyesters produced and sold. Like the IPDI agreement, [U.S. Company] is obligated to exploit the rights granted under the license, and must pay an annual minimum royalty, until royalty payments equal a certain amount. Royalty payments are due annually.
Unlike the other agreements, under the polyesters agreement, if the U.S. plant is unable to produce the required quantity of the product, the U.S. company is required to purchase 90 percent of its requirement of saturated polyesters from [the Parent]. However, it was stated by the company in their submission that “No agreement requires [U.S. Company] to purchase saturated polyesters from its parent or any other third party.” This statement appears to contradict the language of the contract; however, this contractual provision is not required to be exercised, and the company’s statement has been read in light of this fact. The company also stated that at no point has [U.S. Company] ever purchased saturated polyesters from its parent or any other third party.
While the agreement does not require [U.S. Company] to import any of the raw materials necessary for production, some of the raw materials are imported. In the submission with the request for internal advice, it was stated that only four chemicals were imported, and none were imported from related companies. These are isophthalic acid, terephthalic acid, hexahydrophthalic anhydride, and solvent naptha. In a submission to the Regulatory Audit Division, it was also stated that adipic acid, neopentylglycol, and trimethylolpropane were also imported. Their source was not provided. It was stated by the company that the imported chemicals (or at least the first four), constitute less than six percent of the variable costs to produce the polyesters. For purposes of this analysis, it will be assumed that the submission to Regulatory Audit is more accurate with regard to the chemicals being imported as it is more detailed in its listing.
As it has been determined that the royalty payments should be included as part of the price actually paid or payable when polyesters are being imported under the polyesters requirement clause, it is unnecessary to determine if they would be additions to the price actually paid or payable. However, it must be determined if the royalty payments are additions to the price actually paid or payable where only raw materials and no polyesters are imported.
Regarding the three questions used to determine if the royalties are additions to the price actually paid or payable under 19 U.S.C. § 1401a(b)(1)(D), as with Methionine, Hydrogen Peroxide, and IPDI, the currently imported raw materials are not required to be imported under the license agreement. As in the IPDI scenario, neither the minimum royalty requirement nor the obligation to exploit the rights granted under the license affect the dutiability of the royalty payments under 19 U.S.C. § 1401a(b)(1)(D), when only raw materials, not required to be imported under the agreement, are imported. Therefore, we find the royalty payments being made pursuant to the polyesters agreement are not additions to value under 19 U.S.C. § 1401a(b)(1)(D) in the current situation.
Pursuant to the proceeds discussions above for Methionine, Hydrogen Peroxide, and IPDI, the royalty payments made pursuant to the polyesters agreement, where only raw materials and no polyesters are imported, are not dutiable as proceeds under 19 U.S.C. § 1401a(b)(1)(E).
HOLDING:
The royalty payments made pursuant to the above agreements are not dutiable as part of the price actually paid or payable, nor are they additions to value as royalties, pursuant to 19 U.S.C § 1401a(b)(1)(D), or proceeds, pursuant to 19 U.S.C. § 1401a(b)(1)(E), in any of the current situations. Should polyesters be imported pursuant to the polyesters requirement clause of the fourth agreement, the royalty payments would be dutiable as part of the price actually paid or payable.
You are directed to mail this decision to the internal advice applicant, no later than 60 days from the date of this letter. On that date the Office of 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 public methods of distribution.
Sincerely,
Monika R. Brenner, Chief
Valuation and Special Programs Branch