RR:IT:VA W548276 AH
Category: Valuation
Law Offices
George R. Tuttle
Three Embarcadero, California
San Francisco, California 94111
RE: Related Parties; research and design costs; prototype; heading 9802
Dear Mr. Tuttle,
This is in response to your January 22, 2003 letter wherein you requested a ruling on behalf of three related companies, namely, [ ] ("Factory''), [ ] ("Importer"), and [ ] ("Designer"). Your ruling request concerns various issues including Shipper's Export Declaration (SED) requirements, the appropriate valuation of imported merchandise and the proper classification and valuation of an imported prototype.
As your ruling request contains issues related to classification pursuant to heading 9802 and 9817.85.01, HTSUS, we requested and received, by memorandum dated April 15, 2003 [RR:CR:SM 562668 DLD], the input of the Special Classification and Marking Branch concerning these issues. Our response incorporates their analysis and conclusions.
Given the confidential nature of the information contained in this ruling request, you request that we accord confidential treatment to the names and addresses of the parties and the products involved in this case. We are accordingly bracketing this information in our response. All bracketed information will be redacted from the public version of this response and will be identified as confidential in our file.
FACTS:
You relate the facts of this case as follows.
Factory, located in [ ] is the parent company to Importer and Designer, both of which are located in the United States. Factory intends to contract with Designer to design and engineer certain items that Factory may subsequently produce and sell worldwide, including to Importer. You assert that Designer will charge Factory the same price for its services it would charge an unrelated party. The contract price will include the cost of the design and engineering work that will be electronically recorded on a CDROM, the cost of the CD-ROM itself, the cost to manufacture a prototype which will capture Designer's design and engineering work and a mark-up for overhead and profit. The prototype and the CD-ROM containing the design and engineering information will be separately exported to Factory for study and evaluation.
After Factory analyzes and tests information contained on the CD-ROM and/or prototype and after possibly making changes or modifications, Factory may use all, some, or none of the information in the subsequent foreign production of merchandise it will sell to Importer in the United States. Factory will include the cost of the contract price paid to Designer for the prototype, CD-ROM, and the design and engineering work as an overhead factor and allocate this cost across its world-wide sales on a pro-rata basis.
You argue, however, that certain deductions from the price paid by Importer to Factory are warranted in this case. You assert that Importer should be accorded a deduction for the pro rata contract price cost for Designer's work from the transaction value pursuant to Subheading 9802.00.80 or any other applicable provision.
You also anticipate that after Factory completes its analysis and testing of the prototype, Factory will likely export the prototype back, to the United States for Designer's continued testing and evaluation. However, the prototype will not be sold to Designer, but rather consigned. In your opinion, the prototype should be classified under 9817.85.01, HTSUS, duty free, and the value should only include the cost to build the prototype, plus a proportionate amount for overhead and profit. You state the value should not include the cost of the design, engineering, and the prorated overhead and profit allocable to the CD-ROM information.
ISSUES:
Whether the article returned to the United States on a consignment basis will be entitled to duty-free treatment under subheading 9817.85.01, HTSUS, as a prototype.
The appropriate appraisement of U.S.-designed and built prototypes reimported into the United States and consigned to the U.S. designer.
Whether certain costs of the imported merchandise will be entitled to duty-free treatment under subheading 9802.00.80.
Whether the cost of U.S. design and engineering information may be deducted from the price paid or payable of the imported production items under any other provision.
LAW AND ANALYSIS:
Imported Prototypes-Classification
Subheading 9817.85.01, HTSUS, allows duty-free entry of prototypes which are to be used exclusively for development, testing, product evaluation, or quality control purposes.
Chapter 98, Subchapter XVII, U.S. Note 6(a)(i), HTSUS (hereinafter "U.S. Note 6(a)(i) defines prototypes, for the purposes of the Tariff Schedule, as models or originals of articles which are in the pre-production, production or postproduction stage. Articles entered as prototypes under subheading 9817.85.01, HTSUS, must be used exclusively for the purposes of:
1. Development,
2. Testing,
3. Product Evaluation, or
4. Quality Control.
In addition, they must not be used in auto racing for:
1. A purse,
2. A prize, or
3. Commercial competition.
This ruling assumes the motor vehicles and parts are in the pre-production stage. (For prototypes in production or post production, see U.S. Note 6(a)(ii), Subchapter XVII, Chapter 98, HTSUS.) As provided in U.S. Note 6(b)(i), articles claimed as prototypes may be imported only in the non-commercial quantities which are usual in that industry. Counsel states that the design products may be put into Factory's museum (as opposed to being returned to Designer in the U.S.), which suggests the number involved would be small. Therefore, we are assuming that this requirement will be met.
U.S. Note 6(b)(ii), HTSUS, states that prototypes or their parts may not be sold after importation. Inasmuch as Factory will not be selling the returned prototypes to Designer but only be "consigning" them, they could not be resold by Designer insofar as Designer does not own them.
Pursuant to U.S. Note 6(c), articles may not be classified as prototypes if they are subject to:
1. Quantitative restrictions,
2. Antidumping orders, or
3. Countervailing duty order.
However, articles which must comply with:
1. Laws administered by agencies other than Customs,
2. Rules administered by agencies other than Customs,
3. Regulations administered by agencies other than Customs, or
4. Licensing requirements,
may be classified as prototypes if they satisfy the applicable requirements and are otherwise eligible as prototypes within the meaning of U.S. Note 6.
Therefore, a new motor vehicle and designer parts built by Designer and based on design and engineering information developed by Designer may be entered duty-free under subheading 9817.85.01, HTSUS, provided they are used solely for development, testing, product evaluation or quality control purposes, and provided the additional requirements of U.S. Note 6 are satisfied.
Imported Prototypes-Valuation
Merchandise imported into the United State is appraised in accordance with section 402 of the Tariff Act of 1930, as amended by the Trade Agreements Act of 1979 (19 U.S.C. 1401a; TAA). The primary method of appraising imported merchandise is transaction value. The transaction value of imported merchandise is defined as the price actually paid or payable for merchandise when it is sold for exportation to the United States plus certain enumerated items contained in the Trade Agreements Act of 1979 (TAA; 19 U.S.C. §1401a(b)(1)).
For Customs purposes, the word "sale" is generally defined as a transfer of ownership in property from one party to another for a price or other consideration. J.L Wood v. United States, 62 CCPA 25, C.A.D. 1139 (1974).
Counsel informs us that the prototypes will be consigned to Designer when imported into the United States, not sold. Accordingly, transaction value may not serve as the basis of appraisement for the imported prototypes. Therefore, we must choose an alternative method of appraisement from the hierarchy of appraisement methods enumerated in the TAA.
The alternative methods of appraisement in order of preference are as follows: transaction value of identical or similar merchandise (19 U.S.C. §1401 a(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)).
We assume for purposes of this ruling there will be no sales of similar or identical merchandise made at or about the same time as the merchandise imported. Consequently, it is not possible to appraise the imported merchandise on the basis of the transaction value of identical or similar merchandise. However, we note that if sales of identical or similar merchandise do exist, then transaction value of identical or similar merchandise could be the appropriate basis of appraisement.
Appraisement pursuant to the deductive method entails appraisement of imported merchandise on the basis of the price at which it is sold in the United States in its condition as imported and in the greatest aggregate quantity either at or about the time of importation, or before the close of the ninetieth day after the time of importation. 19 U.S.C. 1401a(d)(2)(A)(i)-(ii). As counsel states that the prototype will be imported solely for the purpose of testing and evaluation and will not be sold after importation into the United States, we conclude that this method of appraisement is likewise inapplicable in this case.
Counsel asserts that appraisement pursuant to computed value is the most applicable appraisement method, but also notes that appraisement pursuant to the "fallback" method may also be appropriate.
Under computed value, merchandise is appraised based on the sum of the cost or value of the materials and the fabrication and other processing of any kind employed in the production of the imported merchandise and an amount for profit and general expenses equal to that usually reflected in sales of merchandise of the same class or kind as the imported merchandise that are made by the producers in the country of exportation for export to the United States, plus any assists not included in the preceding costs, along with packing costs. 19 U.S.C. §1401a(e)(1)(A)-(D).
The TAA further stipulates the amount for profit and general expenses shall be based upon the producer's profits and expenses, unless the producer's profits and expenses are inconsistent with those usually reflected in sales of merchandise of the same class or kind as the imported merchandise that are made by producers in the country of exportation for export to the United States, in which case the amount shall be based on the usual profit and general expenses of such producers in such sales, as determined from sufficient information. 19 U.S.C. §1401a(e)(2)(B).
The facts of this case do not reflect the typical scenario in which computed value is employed. The standard by which the adequacy of the producer's profits and expenses is measured for eligibility for appraisement pursuant to this method is that of sales of merchandise of the same class or kind made by producers in the country of exportation for export to the United States.
In the instant case the imported merchandise is in fact produced in the United States, while the country of exportation when the merchandise is reimported into the United States is [ ]. These facts present a problematic scenario for the producer is actually located in the United States, not the country of exportation to the United States, thereby making it impossible to employ the TAA's standard of comparability to ensure the adequacy of the producer's profit and general expenses for purposes of appraisement pursuant to computed value.
"Modified" Transaction Value
Therefore, we must turn to the so-called "fallback" method, wherein imported merchandise is appraised if other values cannot be determined or used. Pursuant to this method, merchandise is appraised on the basis of a value that is derived from the methods set forth in the hierarchy of Customs appraisement methods, with such methods being reasonable adjusted to the extent necessary to arrive at a value. 19 U.S.C. §1401a(f)(1).
We note that 19 U.S.C. §1500, authorizes the appraising Customs officer to consider the best evidence available in appraising merchandise, and to weigh the nature of the evidence.
Based on the circumstances of this case, we conclude the best evidence available is the invoice price containing the price paid by Factory to Designer. The invoice price shall serve as the basis for appraisement as a "modified" transaction value. As the price paid pay Factory to Designer includes the cost of the design and engineering work that will be electronically recorded on the CD-ROM, the cost of the CD-ROM itself, the cost to manufacture the prototype, and a mark-up for overhead and profit, we conclude that the contract price, minus the cost of the CD-ROM itself shall serve as the basis of appraisement pursuant to a modified transaction value. Considering the unique factual situation, we believe this will serve as a reasonable basis under the "fallback" method.
Imported Production Items
Related Parties
Pursuant to section 402(b)(2)(A)(iv), the transaction value of imported merchandise shall be the appraised value of that merchandise only if the buyer and seller are unrelated; or, the buyer and seller are related, the transaction value will be acceptable insofar as the buyer is able to demonstrate that the declared transaction value meets one of the following tests: 1) the circumstances of sale test; or 2) test values.
On June 30, 1998, the Regulatory Audit Division, San Francisco ("Reg. Audit") issued a compliance assessment report of Importer's importation activities. In that report, Reg. Audit examined Importer's related party transactions with Factory to determine whether the circumstances of the sales between the related parties suggested the relationship between the parties influenced the price actually paid or payable. Reg. Audit determined that the parties conducted their transactions at arms-length and that the relationship did not influence the price actually paid or payable. Therefore, Reg. Audit concluded that the proper basis of appraisement of merchandise imported pursuant to these related party transactions was transaction value.
Accordingly, based on Reg. Audit's findings we conclude that transaction value is the appropriate basis of appraisement for the subject production items. However, our acceptance of Reg. Audit's conclusions is given with the caveat that we assume that the related parties continue to carry out their transactions at arms'-length as they did at the time of Reg. Audit's evaluation of their related party transactions.
Possible Bases for Excluding Certain U.S.-Related Costs
As stated, you argue that certain deductions are warranted for the U.S. related costs of producing the imported merchandise. Specifically, you refer to HRL 545987, dated August 28, 1995, wherein Customs ruled that the value of software produced in the United States should not be included in the transaction value of the imported merchandise.
In HRL 545987, Customs addressed the issue of whether software supplied by the buyer for use in connection with the manufacture of the imported merchandise should be included in the transaction value of the merchandise. In particular, the issue in that case was whether U.S. design work supplied to the manufacturer of the imported merchandise in the form of software constituted an assist, which the TAA defines as a dutiable addition to the transaction value of merchandise.
The TAA defines an assist as:
"Any of the following if supplied directly or indirectly, and free of charge or at reduced cost, by the buyer of imported merchandise for use in connection with the production or sale for export to the United States of the merchandise:
(iv) Engineering, development, artwork, design work, and plans and sketches that are undertaken elsewhere than in the United States and are necessary for the production of the imported merchandise. " 19 U.S.C. §1401a(h)(1)(A).
In HRL 545987, Customs noted that the software in question represented engineering and design work undertaken in the United States, which the TAA excludes from its definition of dutiable assists. See 19 U.S.C. §1401a(h)(1)(B)(i). Therefore, Customs ruled that the U.S.-design work should be excluded from the transaction value of the imported merchandise at issue.
You note that as in HRL 545987, the cost of certain U.S. design and engineering work will be included in the price paid by Importer for the imported merchandise. You query whether these U.S.-related costs may be deducted from the price paid for the imported merchandise pursuant to the same rationale contained in the above ruling.
The instant case is distinguishable in that the seller is purchasing the U.S. design and engineering work, rather than receiving it free of charge or at a reduced cost and the provider of the U.S. design and engineering work is not the buyer of the imported merchandise. The question of whether the subject engineering and design work undertaken in the United States is or is not an assist is, therefore, irrelevant to the case at hand.
More importantly, the price actually paid or payable includes the subject engineering and design work in the U.S. There is no statutory basis to deduct these costs. Consequently, we conclude that these costs, which will be included in Factory's price to Importer shall remain part of the price paid or payable for purposes of determining transaction value.
Subchapter 9802, HTSUS
As to another possible basis for excluding certain U.S. costs, you refer to the provisions contained in Subchapter 9802 of the HTSUS, wherein Congress expressed its intention to exempt from duty U.S. produced articles that are exported and subsequently returned to the United States after having been advanced in value or improved in condition by any process of manufacture or other means. You point out that Congress intended to encourage the employment of work in the United States by exempting it from duty when the products utilizing that work are returned to the United States.
You argue that Congress similarly intends to exempt from duty that portion of the price paid for the imported production item associated with U.S.related costs. Accordingly, you query whether Importer is eligible for a partial duty exemption for the pro rata contract price cost for Designer's work from the dutiable value pursuant to Subheading 9802.00.80.
In order to claim 9802.00.80, HTSUS, "fabricated components, the product of the United States" must be included in the items imported. "Design and engineering information" are not considered U.S. components. Regarding subheading 9802.00.80, detailed information will be required on the processes performed in the U.S. and abroad. As insufficient information has been submitted as to the imported production items in question, we are unable to make a determination whether the production items will qualify under a 9802 provision.
SED Requirements
In your ruling request, you also inquired as to certain Shipper's Export Declaration (SED) requirements relating to the exportation of the prototypes and CD-ROM from the United States to [ ]. Specifically, you requested a ruling concerning the SED value of the U.S.-designed and built prototypes and CD-ROMs containing the design and engineering information and whether SEDs are required (either electronically or documentary) for the U.S.-developed CD-ROMs and prototypes.
You assert that the value of the CD-ROM for SED purposes is only the cost for the CD-ROM itself, and does not include the cost for the research, design, and engineering information contained on the CD-ROM, providing the prices for each are separately shown on the invoice.
Further, you state that although an SED is required for the exportation of the prototype, the value to be stated thereon should be limited to the cost of building the prototype. You aver that the export value should not include the cost of the research, design, and engineering information.
As we discussed with you telephonically, our office does not respond to the questions you have raised regarding SED requirements. Further, we discussed the appropriate venue for a determination on SED requirements in this case and notified you that the Foreign Trade Division of the Bureau of Census responds to issues concerning SED requirements of this nature. You affirmed your awareness of the Foreign Trade Division's authority in making determinations of this kind.
Our office contacted the appropriate office and confirmed that the above office will not issue a written response in regard the issues raised, but offered informal advice to us telephonically, which was consistent with that which you recount having received. We explained that our office lacks authority to issue written responses regarding the SED requirements at issue but agreed to memorialize your attempts to receive formal advice in this regard in our response.
Please note at this juncture that 19 C.F.R. §177.9(b)(1) provides that "[e]ach ruling letter is issued on the assumption that all of the information furnished in connection with the ruling request and incorporated in the ruling letter, either directly, by reference, or by implication, is accurate and complete in every material respect. The application of a ruling letter by a Customs Service field office to the transaction to which it is purported to relate is subject to verification of the facts incorporated in the ruling letter, a comparison of the transaction described therein to the actual transaction, and the satisfaction of any conditions on which the ruling was based."
HOLDING:
New motor vehicle and parts will qualify for duty-free treatment under subheading 9817.85.01, HTSUS, as prototypes, provided the articles are used exclusively for development, testing, production, evaluation, or quality control purposes, and the additional U.S. Note 6, Subchapter XVII, Chapter 98, HTSUS, requirements are satisfied.
The appropriate method of appraisement for the imported prototype in this case shall be a modified version of transaction value, which shall include in its computation certain research and development costs.
As insufficient information has been provided, we are unable to make a determination whether the production items will qualify for entry under a 9802 tariff provision.
The cost of U.S. design and engineering information are not deductible from the price paid or payable of the imported merchandise pursuant to any other provision.
Sincerely,
Virginia L Brown
Chief, Value Branch