April, 2016

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Some Observations on the Customs Valuation Law Status of Advertising, Marketing and Promotion Payments

Mark K. Neville, Jr.

A recurring theme in this space is the enduring paradox of the customs valuation law. It is at the same time simple and straightforward and ornate in its textual weave. To stay with a textile analogy, it offers up both the reassuring order of a herringbone pattern and the fancy of a Paisley fabric.

For the simple, guiding statement of principle we start with the preferred method for assigning a customs value under The Agreement on Implementation of Article VII of the General Agreement on Tariffs and Trade 1994 (the “GATT’s Customs Valuation Agreement (CVA)”). I refer to Transaction Value (TV), set forth at Art. 1 of the CVA and which is founded upon the price actually paid or payable when the imported goods are sold for exportation to the country of importation (the PAPP). This usually equates to the invoice price for the imported goods.

The PAPP

But we cannot stay with the invoice price for the goods in setting a Transaction Value for an Art. 1 appraisement. The PAPP is not coterminous with the invoice price. If that were the case, it would be a simple matter for an unscrupulous buyer and seller agree to artificially lower the PAPP by arranging for off-invoice payments. Instead, we will need to look beyond the invoice price to fix customs value. First, we must ascertain whether the invoice price for the goods corresponds to the PAPP, which is the full amount being paid to the seller for the imported goods. If the importer will be paid a separate additional amount for the goods beyond the invoice price, then the PAPP underlying the TV must reflect both the invoiced amount and that additional amount. That is because the PAPP is defined broadly

The price actually paid or payable is the total amount made or to be made by the buyer to or for the benefit of the seller for the imported goods.

Note both the spread and the narrow compass of the definition—the PAPP includes all payments to the seller BUT with an all important proviso—the payments must be for the imported goods. We shall have a need to refer again to this last proviso.

Art. 8 Adjustments

Even if we find that we have a firm PAPP we cannot rest. Here is where the complications begin.

We must sally forth to determine whether there are any additional complicating factors, such as the fact that the buyer and seller are related parties. In such a transfer pricing case we must prove that the relationship of the parties has not influenced the price. Going beyond that related party scenario, in all instances we must inquire whether, by virtue of Art. 8 of the CVA, there are any off-invoice elements which must be added to the invoice price in order to make customs value. Article 8 of the CVA sets forth the definitive listing of extraneous amounts that can be added to the PAPP. These include packing costs, selling agent commissions, dutiable assists, certain royalties and license fees and proceeds of subsequent resale of the imported goods accruing to the benefit of the seller. Only amounts arising from these considerations and no others may be added to the PAPP.

Advertising, Marketing and Promotion Expenses

One feature of sophisticated international commercial relationships where there is an ongoing nature to the relationship is the expenditure of money for advertising, marketing and promotion (AMP) expenses. Against this CVA background, we may look to the dutiable status of amounts specifically paid for these AMP expenses. The buyer may elect to spend those sums at its own initiative or it may agree to do so when prompted by the seller. And the buyer may pay the seller for those expenses or it may pay a third party service provider.

We might be tempted to see these AMP expenses as one more recent development of this modern age but we would be wrong to do so. The CVA itself, which was being negotiated 40 years ago, specifically referred to marketing expenses. But first, let’s set the stage by referring to a more general proposition about activities undertaken by the buyer.

The CVA establishes that

Activities undertaken by the buyer on the buyer’s own account, other than those for which an adjustment is provided in Article 8, are not considered to be an indirect payment to the seller, even though they might be regarded as of benefit to the seller. The costs of such activities shall not therefore, be added, to the price actually paid or payable in determining the customs value.

This limitation is of maximum importance. This Note informs us that activities “undertaken by the buyer on the buyer’s own account” are not indirect payments to the seller. Impliedly payments for those activities, are not dutiable under Art. 1 as they do not form part of the PAPP. Moreover, they are not dutiable as an adjustment under Art. 8 unless and until they fit within one of the categories of charges falling under Art. 8. Even a cursory reading would tell us that the only Art. 8 cost category that most of these “own account” expenses could even remotely approach would be subsequent proceeds. But for reasons to be advanced below, AMP expenses cannot generally be regarded as subsequent proceeds and they would thus escape dutiable status.

Proceeding beyond this general proposition, we find that the CVA anticipated the buyer’s AMP expenses

…if the buyer undertakes on the buyer’s own account, even though by agreement with the seller, activities relating to the marketing of the imported goods, the value of these activities is not part of the customs value nor shall such activities result in rejection of the transaction value.

AMP Defined

As an initial comment, we should be clear that the phrase “marketing” should be interpreted broadly as embracing the correlative terms “advertising and “promotion.” Indeed, one may view the term marketing as referring to a strategic plan for increasing customer demand and advertising and promotion as tactical expressions of that strategic plan.

In certain jurisdictions, there is an explicit reference to advertising within this context. In fact, in the United States, the customs regulations refer only to “expenses such as advertising” and not to marketing. Nevertheless, it appears that the terms are treated interchangeably by CBP. Moreover, the terms marketing, advertising and promotion have been used interchangeably by the WCO’s Technical Committee on Customs Valuation (TCCV). To be clear, the EU has made this interchangeability explicit. From the 1993 implementing provisions, only just replaced with the new Union Customs Code (UCC)

Article 149
1. For the purposes of point b ) of paragraph 3 of Article 29 of the Code, the term " activities related to marketing 'means all activities relating to advertising and sales promotion of the goods in the case and any activity related to securities for such goods.
2. Such activities undertaken by the buyer shall be considered as their own, even when they are the result of an obligation by the buyer under an agreement with the seller.

The newly promulgated Implementing Regulation of the UCC deals with the issue thus

Activities, including marketing activities, undertaken by the buyer or an undertaking related to the buyer on his or its own account, other than those for which an adjustment is provided in Article 71 of the Code, shall not be considered an indirect payment to the seller.

As for the notion that a seller might contract with a firm to provide AMP expenses and have the buyer make payment to the service provider, we may presume that such payments not being classed as “indirect payments” would perforce deny their status as payments of an obligation of the seller.
On buyer’s own account
It is vital to understand what is meant by the qualifying phrase “on the buyer’s own account.” Simply stated, in current English usage, this is a commercial or legal term meaning by the buyer’s own efforts or for the buyer’s own interest. Another aspect of this notion of the buyer making an expenditure “on its own account” is that the buyer is not incurring the expense on behalf of someone else and cannot look to be reimbursed. The fact that the seller may also benefit in a wider sense from such activities does not mean that the activities are not on the buyer’s own account. Of course, as we have seen, the CVA Notes disregard the notion that any benefit accruing to the seller has any effect whatever if the payments are for AMP expenses and are on the buyer’s account. You should know that there are some who interpret the phrase “on the buyer’s own account” as requiring that any payment by the buyer is at its own initiative. Those who take this approach would presumably take the view that, with an agreement between buyer and seller whereby the buyer is bound to spend a certain amount of AMP expenses, payments for AMP expenses cannot be on the buyer’s own account. Of course, proceeding as it would be from a fundamental lack of understanding of the phrase, this conclusion would be indefensible, at least if challenged in a context where there is an informed understanding of the language. We would point out that the French and Spanish versions of the CVA text are consistent with this connotation and in no way can be interpreted as referring to or requiring a voluntary or sua sponte payment by the buyer.

Beyond that understanding of the plain meaning of the text, there should be a clear understanding of commercial realities. It is a common commercial practice for the buyer of imported goods to spend money to advertise and promote its business in order to build or maintain demand for the resales of its products. We can go all the way back to Case Study 3.1 dating to1985 for a TCCV acknowledgement of that fact.

We are mindful that in some cases there is an express understanding with or commitment to the seller of the goods that the buyer will undertake those advertising and promotion efforts and in some of those cases there will be a defined target expenditure therefor. In other cases, the buyer does not make an express commitment to the seller to spend a specific amount for such activities. In the latter case, there may be a requirement “to use best efforts” to promote and grow the business. Such a commitment may be inferred when there is a specific sales target imposed on the buyer, and the buyer will not be able to meet those sales targets without expenditures for AMP.

It should be clear that no difference in treatment on dutiable status should be accorded the advertising and promotion expenditures of the buyer between express or implied commitments. In other words, there is no relevance to the fact that the seller may demand such expenditures. Such undertakings and such expenditures of the buyer are equally “on the buyer’s own account.”

Payments to Seller vs. Third Party

There is a question about the possible difference in effect between a payment for AMP expenses made to the seller and a payment made to a third party. Of course, to qualify under the PAPP the payment must be to or for the benefit of the seller AND the payment must be for the imported goods. The mere fact that a payment is made to the seller is not dispositive. Even in the United States, with the broadly stated Generra rule, all payments to the seller are only presumptively dutiable. That presumption may be rebutted by a showing that the payment is not for the imported goods.

In the case of Canada, a jurisdiction with a close focus on post-importation payments to the seller, we have another approach. One of their recently re-issued “D-Memos” speaks to this topic and, apropos our discussion, there is a separate discussion at Appendix B on AMP expenses paid directly to the seller. Such payments may be deemed nondutiable, but the buyer must be prepared to show that the payment was for what Canada terms “justified services.” In other words, the buyer must show that the payment really was for AMP costs and that the amount paid tallies with the value of the services received. In most jurisdictions, the burden of proof on these matters of customs valuation will lie with the importer, so this is not surprising. To proceed to an easy case, if the buyer paid an amount for AMP expenses but no AMP services were provided in fact, then it might be safe to conclude that the payment might be dutiable. But that would be wrong. The very definition of the PAPP presupposes that the payments to the seller cannot be “free floating” or not tied back to the goods. They must be “for the imported goods” and be tied back in some way to those specific imported products. In the case of Canada, we find that they will press for dutiable status even if there is no such tie, which appears to contradict the nature of the PAPP:

A corporate head office may provide marketing and promotional services for a vast array of products which are distributed through subsidiaries worldwide, each marketing specific, unrelated products, unique to their locations. The Canadian subsidiary may be required to contribute a lump sum or percentage of the earnings on imported goods, which were sold in Canada, to the marketing branch of the corporate head office. If the marketing fee charged cannot be related to the specific product(s), which are imported and sold in Canada, then the fees cannot be identified as legitimate services the Canadian subsidiary received. Accordingly, this type of marketing or promotional fees would be found to be an addition to the price paid or payable. [Emphasis added.]

That perspective on payments to the seller raises questions under a PAPP analysis. After all, one could argue that the importer/buyer bears the general burden of showing that any payment to the seller is not for the imported goods. But then we must heed the burden that must be met to overcome the presumption of dutiability.

I submit that the importer’s burden has been met when the payment cannot in fact be tied to specific imported goods. If there has been a payment for AMP expenses that is tied to specific goods, Canada would assert that the payment for AMP expenses has been “justified” and is nondutiable. But surely would it not be equally correct to regard any “disconnected” payments as nondutiable as well?

We must stay fixed on our definition of the PAPP and its requirement that the payment must be “for the imported good,” after all. When there have been AMP expenses incurred by the importer, is it not the case that such expenses, by their very nature, are often not tied to specific goods? For example, one could easily foresee that significant market research could be, indeed would be, undertaken prior to any goods being imported into the marketplace, or perhaps before any goods were ever manufactured. Would not the buyer and seller want to ascertain what features would be better received by the consuming public before they are imported, indeed before they are even manufactured? What if three possible variations were tested, with the idea that only one model would be imported into the customs territory? The AMP expenses connected to the other two models which were not, in fact, imported would not possibly be tied to a specific imported good. If the exemplar noted above is followed, Canada would take the view that those AMP expenses should be dutiable. Or what if the Canadian importer purchased one article from its parent company but was asked to make a contribution for AMP expenses associated with other articles? How does that become a payment “for the imported article”? Would it not simply be the case that the payment for the AMP expenses for other articles is, simply that, a payment for AMP expenses? Would it not be the case that the parties might contemplate a future importation of the articles that are the subject of the AMP expenses? Would that not be a legitimate business expense for the Canadian entity? Finally, should not the very fact that they are not “related to the specific products” itself preclude any role in the PAPP for those AMP expenses? We should note here the current CBP view:

the presumption [of dutiability] is rebutted if the evidence clearly establishes that the payments [to the seller] are completely unrelated to the imported merchandise.

To determine whether a particular payment should be included in the transaction value of the merchandise, CBP analyzes the nexus between the payment and the imported merchandise. See VWP of America v. United States, 163 F.Supp. 2d 645, 652 (CIT 2001) (“Whether a particular [payment] provokes liability for customs duties depends upon its relevance to importation.”). In particular, CBP examines the nature of the additional payments, whether the amount of the payments varies according to the value or quantity of merchandise, the timing and frequency of the payments, and whether the payments add value to the imported goods.

In this approach, does not the PAPP require that examination should begin with a payment identified as being for the imported goods, and thus presumptively dutiable, whereupon the importer has an opportunity to show that the payment is not for the goods? Payments not identified by either the customs authority or the importer as being tied to the imported goods should be disregarded. These extraneous payments should not be presumed dutiable. Apparently Canada might disagree.

And one final observation—the preoccupation with “justifying” the amounts paid for AMP and other expenses is an obvious incursion into a matter of concern and responsibility for the income tax authorities, The Canada Revenue Agency (CRA). We can sympathize with the notion that an inflated amount paid by the buyer to the seller for AMP expenses purporting to relate to the imported goods incurred by the buyer might be analyzed by customs authority lest there be a disguised additional payment for the goods to the seller subsumed in the AMP expenses. Query, what if the Canadian importer/taxpayer has been audited by the CRA and its AMP payments accepted as legitimate by the CRA, or if there has been an APA? Should the valuation of the services received by or at least benefiting the Canadian company, payments for which have been studied and deemed “justified” by the income tax authorities, be simply accepted by CBSA? Could CBSA take a diverging view? Does CBSA have the expertise and internal resources to conduct its own “justification” review? How does the importer/taxpayer contend with this potential conflict?

One wonders how, or better still, why a payment to a third party must be defended? After all, there is no way that a payment to a third party, not in satisfaction of a seller’s debt or obligation, can be a part of the PAPP nor is there any way that a such a third party payment can be dutiable as a “subsequent proceed.” You will recall that the CVA and implementing statutory texts call for “proceeds of subsequent resale of the imported goods accruing to the benefit of the seller.” If a payment for the AMP expenses is being paid to a third party, how does that payment accrue for the benefit of the seller, which is a prerequisite for dutiabilty?

I leave it to you to classify this bolt of statutory cloth as plain or fancy.

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1. CVA, Interpretative Note to Art. 1, Price Actually Paid or Payable, point 1; 19 USC § 1401a (b).

2. CVA, Art. 8.1.

3. CVA, Art. 8.4.

4. CVA, Interpretative Note to Art. 1, Price Actually Paid or Payable, point 2.

5. CVA, Interpretative Note to Art. 1, Para. 1(b), point 2.

6. We might gain additional perspective from an observation by Mark Twain (1835-1910), the noted American humorst and humespun penseur, who wrote, “Many a small thing has been made large by the right kind of advertising.” A Connecticut Yankee in King Arthur’s Court.

7. 19 CFR § 152.103 (a) (2). See ruling no. 544482 (8/30/90) (ironically the importer sought to include advertising costs within the PAPP as indirect payments; CBP rejected this approach.)

8. See ruling no. 544638 (7/1/91).

9. WCO, TCCV, Commentary 16.1, paras. 4 and 5, Case Study 3.1, para 6 (f)..

10. Commission Regulation (EEC) No 2454/93.

11. Art. 129.2.

12. Generra Sportswear Co. v. United States, 905 F.2d 377 (Fed. Cir. 1990).

13. Memorandum D13-4-13 (Mar. 31, 2015), Post-Importation Payments or Fees (Subsequent Proceeds).

14. We note that Appendix B does refer to payments to third parties as well but the majority of the discussion is focused only on payments to the parent company.

15. Id. at Appendix B, para. 4.

16. CBP, Customs Valuation Encyclopedia, at 248 (December 2010).

17. Ruling no. H242894 (12/4/13).

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