VAL RR:IT:VA 545752 LR
Port Director
U.S. Customs Service
Great Falls, Montana
RE: Royalties; Proceeds; 402(b)(1)(D); 402(b)(1)(E) of the TAA
Dear Sir:
This is in response to the August 2, 1994, letter submitted
by the former district director regarding the dutiability of
certain royalties the U.S. importer, DashAmerica Inc., pays Pearl
Izumi, Inc., the Japanese seller. Additional information was
submitted by fax on July 17, 1995. We regret the delay in
responding.
FACTS:
Pearl Izumi Inc. (hereinafter referred to as "the seller")
is a Japanese corporation engaged in the design, production, sale
and export of cycling apparel and accessories distributed under
its own trademarks. DashAmerica, Inc. (Hereinafter referred to
as "the buyer") is an unrelated U.S. company which both imports
and sells cycling apparel and accessories and produces its own
cycling apparel for sale in the United States. In May 1989, the
companies entered into two agreements, a Technology and Trademark
License Agreement (1989 License Agreement) and a Distribution
Agreement (1989 Distribution Agreement). In January 1992, the
parties signed a Restated and Amended Technology and Trademark
License agreement (1992 License agreement) and a Restated and
Amended Distribution Agreement (1992 Distribution Agreement).
Copies of the 1989 License Agreement and the 1992 Distribution
Agreement were submitted. For purposes of this ruling we assume
that the terms of the 1992 License Agreement is similar in all
material respects to the 1989 License Agreement.
There are two royalties payments at issue. The first is
provided for in the 1989 License Agreement granting to the buyer
an exclusive right and license to use the seller's technical
information to produce cycling products at its plant and to sell
such products to customers in the specified territory. Under the
agreement, the seller also grants the buyer an exclusive right to
use the seller's trademarks on and in connection with the
advertising, promotion and sale of the products produced by the
buyer by using the seller's technical information. In
consideration of the technology and trademark license and the
rights granted, the buyer agrees to pay an initial license fee
and a running royalty to the seller based on a percentage of the
sales in the territory to be paid quarterly.
Royalties are also payable under the 1992 Distribution
Agreement, in which the seller appoints the buyer as its sole and
exclusive distributor in the specified territory for the sale of
all cycling products manufactured by the seller. Under this
agreement, the buyer agrees to devote itself to engaging in
marketing, promoted and selling and otherwise representing the
cycling products manufactured by the seller. Section 2.3.5
provides for the payment of a running royalty from the buyer to
the seller for a specified percentage on products sold in the
territory based upon all sales in the quarter. In addition to
the provision regarding royalties, this agreement also provides
the terms of sale regarding the purchase of the imported products
by the buyer from the seller. For example, it provides that the
seller shall sell and the buyer shall purchase the products at
issue, subject to the provisions of the Agreement, solely for
distribution in the Territory. The agreement covers the method
of purchase, delivery and payment and provides that "all terms
and conditions of sale, such as prices, terms of payment and
terms of delivery, shall be subject to this Agreement" unless
otherwise agreed in writing. See section 2.3, Terms of Sale.
Your position is that the royalty payments described above
are dutiable as "proceeds of a subsequent resale" pursuant to
section 402(b)(1)(E) of the TAA. The importer's position is that
they are not dutiable because they relate only to the use of the
seller's trademark and provide little, if any, tangible value to
the design, manufacture or distribution of the products it sells.
ISSUE:
Whether the royalty payments to the seller are included in
the transaction value of the imported merchandise either as
royalties or proceeds of a subsequent resale.
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; 19 U.S.C. 1401a).
The preferred basis 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. The additions to the price
actually paid or payable 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 sale of the
imported merchandise for exportation to the United States" 19
U.S.C. 1401a(b)(1)(D) and "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)(E). An
addition is to be made only to the extent these amounts are not
included in the price actually paid or payable.
Pursuant to section 402(b)(2)(A) of the TAA, transaction
value is acceptable only in certain circumstances, e.g., where
the buyer and seller are not related, or where related, the
relationship does not influence the price actually paid or
payable. Since you have advised that the buyer and sellers are
unrelated, we have assumed, for purposes of this ruling, that
transaction value is the appropriate basis of appraisement. We
have also assumed that the royalty payments are not part of the
price actually paid or payable for the imported merchandise and
our analysis is limited to whether they are additions under
section 402(b)(1)(D) or 402(b)(1)(E) of the TAA..
Royalties
Under section 402(b)(1)(D) of the TAA, 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."
The Statement of Administrative Action (SAA), H.R. Doc. No.
153, 96 Cong., St. 1st Sess., reprinted in, Department of the
Treasury, Customs Valuation under the Trade Agreements Act of
1979 (October 1981), at 48-49, which forms part of the
legislative history of the TAA, distinguishes payments to third
parties from payments to the seller of imported merchandise. It
states:
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: (1) 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 for the United States (emphasis added).
Although the SAA provides that determinations about the
dutiability of royalty payments are to be made case-by-case, it
is more likely that the royalty will be dutiable when the
licensor and seller are one and the same and the royalty is paid
directly to the seller. Under these circumstances, payment of
the royalty is more likely to be a condition of the sale for
exportation of the imported merchandise than when the royalty is
paid to an unrelated third party. See HRL 545361, July 20, 1995
(trademark royalties dutiable when paid to the seller/licensor
but not when paid to a third party unrelated to the seller).
After reviewing the language of the statute along with the
legislative history and prior case law, Customs concluded that
the following three questions are relevant in determining whether
the requirements of section 402(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. An affirmative answer to question 1 and 2 and a
negative answer to question 3 points to dutiability. Question 3
goes to the heart of whether the payment is considered to be a
condition of sale. See General Notice, Dutiability of Royalty
Payments, Vol. 27, No. 6 Cust. B. & Dec. at 1 (February 10, 1993)
("Hasbro II ruling").
In the Hasbro II ruling, we determined that the royalty,
paid to the seller, was involved in the sale of imported
merchandise because the individual sales agreements and purchase
contracts were subject to the terms of the royalty agreement. In
HRL 544991, September 13, 1995, we held that a royalty was
involved in the sale of the imported merchandise payment of the
royalty was closely tied to the purchase of the imported product.
For example, in that case, the terms and conditions related to
the purchase of the imported products were set forth in the
license agreements. See also HRL 545380, March 30, 1995 (royalty
related to the production or sale of the imported merchandise
where under the terms of the licensing agreement, importer was
required to purchase components from the seller).
Some factors which Customs has considered in answering this
question three, i.e., could the importer buy the product without
paying the fee, include to whom the royalty is paid (e.g.
payments to the seller, as opposed to a unrelated third party are
generally dutiable); whether the purchase of products and the
payment of royalties are inextricably intertwined (e.g. are they
set forth in the same agreement, do the agreements make reference
one another, is the purchase agreement terminated if the buyer
fails to pay the royalties); and whether royalties are paid on
each and every importation. See HRL's 544991, 545380; 545361;
and Hasbro II, supra.
Royalties under the 1989 License Agreement
The royalties under the 1989 License Agreement do not relate
in any fashion to the merchandise that the buyer purchases and
imports from the seller. Rather, these fees are paid in
connection with the sale of products which the buyer manufactures
at its plant utilizing technical assistance from the seller. The
fees are also paid for the right to use the seller's trademark in
connection with these products. It is our understanding that the
buyer does not use any of the products it purchases and imports
from the seller under the 1992 Distribution Agreement to
manufacture these products for which royalties are to be paid.
These fees are not involved in the production or sale of imported
merchandise and are not a condition of the sale of imported
merchandise from the seller. Inasmuch as these royalties relate
exclusively to the products manufactured by the buyer and are not
a condition of sale of the products which the buyer purchases and
imports from the seller, they are not to be included in the
transaction value of the imported merchandise as royalties under
section 402(b)(1)(D).
License fees under the 1992 Distribution Agreement
In contrast to the royalty payments discussed above, the
royalty payments covered by the 1992 Distribution Agreement are
paid by the buyer to the seller, for the right to distribute and
sell the imported products. Although there is no information
available concerning whether the imported merchandise is
manufactured under patent, as explained below, these payments
relate to the sale of the imported products and are a condition
of their sale for exportation to the United States.
Under the terms of the 1992 Distribution Agreement, the
royalty payments to the seller are closely tied to the purchase
of the imported products to the seller. Both the purchase price
and the license fees relating to the imported merchandise are
covered by the agreement. The agreement specifically provides
that all terms and conditions of sale, such as prices, terms of
payment and terms of delivery, shall be subject to the
distribution agreement unless otherwise agreed upon in writing by
the parties. The agreement indicates how the prices are to be
determined and the amount of royalties to be paid of the imported
products. Also, the agreement provides that in the event that
the buyer fails to make any and all payments the seller may
terminate the agreement. Based on these provisions, we find that
the royalties are involved in the sale of the imported
merchandise.
In addition, the royalty payment is not optional. That is,
it must be paid to the extent that the buyer earns revenue by
reselling the imported products. Moreover, the royalties paid to
the seller are inextricably intertwined with the sale for
exportation of the imported products. Each imported product will
be subject to a royalty payment upon its sale in the territory.
In other words, the buyer cannot purchase the imported
merchandise from the seller without having to pay the royalty.
And, as discussed above, the terms of sale and the payment of
royalties are set forth in the same agreement and are closely
tied together. Accordingly, Customs considers the payment of
royalties covered by the 1992 Distribution Agreement to be a
condition of the sale for exportation to the U.S. of the imported
merchandise.
Based on the above considerations, the royalty payments
covered by the 1992 Distribution Agreement are an addition to the
price actually paid or payable of the imported merchandise under
section 402(b)(1)(D) of the TAA.
Proceeds
Under 402(b)(1)(E) of the TAA, one of the additions to the
price actually paid or payable is for "proceeds of any subsequent
resale, disposal, or use of the imported merchandise that accrue,
directly or indirectly, to the seller. With regard to proceeds,
the SAA provides that:
[a]dditions 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.
SAA, 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 the Hasbro II ruling, Customs determined that the royalty
payments were dutiable either as royalties under section
402(b)(1)(D) or proceeds under section 402(b)(1)(E). The ruling
states that "Customs finds that HRL 544436 involves the type of
situation that Congress explained in the Committee reports by
stating that certain elements called royalties; may fall within
the scope of the language under either new section 402(b)(1)(D)
or 402(b)(1)(E) or both. H.R. Rep. No. 317, 96th Cong., 1st Sess
(1979) at 80 and S. Rep. No 249, 96th Cong., 1st Sess, at 120
(1979).
In that case, pursuant to a contract between the importer/buyer
and the seller, the importer/buyer was obligated to pay the
seller 7% of the resale "invoice price" of the imported
merchandise. The sales agreement between the parties, i.e., the
purchase contract, was subject to the terms and conditions of the
contract requiring the 7% payment. Customs determined that the
payments constituted proceeds of the subsequent resale of the
imported merchandise that accrued to the seller and thus dutiable
under section 402(b)(1)(E).
The royalties payable under the 1989 License Agreement do
not constitute dutiable proceeds under section 402(b)(1)(E)
because they do not relate to the subsequent resale, disposal, or
use of the imported merchandise. As discussed above, the fees
under this agreement relate to the sale of merchandise produced
by the buyer at its plant.
However, as discussed above, the royalties fees payable
under the 1992 Distribution Agreement do relate to the resale,
disposal, or use of the imported merchandise and accrue directly
to the seller. Therefore, they would be dutiable under section
402(b)(1)(E). Like the situation in Hasbro II, the buyer here
entered into an agreement with the seller of the imported
merchandise and in consideration for this right, the buyer is to
pays royalties fees which accrue to the seller upon the resale of
the imported merchandise. The proceeds here exemplify the types
of payments that section 402(b)(1)(E) was designed to cover.
HOLDING:
In conformity with the foregoing, the royalties fees covered
by the 1989 License Agreement are not included in the transaction
value of the imported merchandise under either section
402(b)(1)(D) or section 402(b)(1)(E) of the TAA. The royalties
covered by the 1992 Distribution Agreement are included in the
transaction value of the imported merchandise under either under
of these sections. .
This decision should be mailed by your office to the
importer no later than sixty days from the date of this letter.
On that date 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 to the public via the Diskette
Subscription Service, the Freedom of Information Act, and other
public access channels.
Sincerely,
Acting Director
International Trade Compliance Division