July, 2017

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Customs Valuation Precepts

Mark K. Neville, Jr.

Every now and then it is important to refresh and return to the basics. Last year we revisited tariff classification1 and with this presentation we turn to customs valuation, a topic that speaks to the nature of customs duties as an indirect tax and that brings us closer to other tax disciplines. This might be a companion piece to that earlier high level discussion.

Hierarchy of Methods

Under the customs valuation law2 there is no one single method for the imposition of duty but rather a hierarchy which must be followed in strict order. In actual fact, the overwhelming majority—on the order of perhaps 98%--of import transactions are appraised under Transaction Value (TV), the preferred method. The reason for the hierarchy is that not all import transactions fall will qualify for a TV appraisement.3

Transaction Value

TV is defined as the price actually paid or payable when the goods are sold for exportation to the US—often shortened to “the PAPP”—plus certain statutory adjustments.4 These adjustments, discussed below, are really in the nature of additions to the PAPP. This TV appraisement based on the actual price for the goods, no matter how derived, supplanted notional “marketplace” valuation methodologies. These were the features of both the Brussels Definition of Value, which was the foundation of many countries’ valuation systems, and the US statutory system, where the primary basis for customs valuation was “export value,” the price at which the goods would be “freely offered for sale” that were “in the usual wholesale quantities” and “in the ordinary course of trade.”

An easy way to think about a TV appraisement is that it is based on the invoice price for the goods on an FOB basis.5

Sale for Export

Let’s be clear. You will have noticed the definition of TV is premised on there being a sale for exportation to the US. In the absence of a sale for export, there cannot be a TV appraisement. This would be the case for both consignments6 and leases.7

Conditions for Use of TV

To be sure, there are circumstances that will preclude a TV appraisement even if there is a sale for export. The statute imposes certain limitations, or conditions for the use of TV. The importer must show that
  1. there are no restrictions on the disposition or use of the imported merchandise by the buyer other than restrictions that are imposed or required by law, limit the geographical area in which the merchandise may be sold, or do not substantially affect the value of the merchandise;
  2. the sale price is not subject to some condition or consideration for which a value cannot be determined;
  3. no part of the proceeds of any subsequent resale, disposal or use of the goods will accrue directly or indirectly to the seller unless an appropriate adjustment is made (in the nature of an addition to the PAPP); and
  4. the buyer and seller are not related or, if they are related, the TV is shown to be acceptable because the relationship did not influence the price or if the TV closely approximates one of the “test” values.
Let’s look at these limitations.

Restrictions on Disposition

The Technical Committee on Customs Valuation of the World Customs Organization (WCO) has noted that the first two exceptions noted would not normally create problems. The TCCV proceeded to observe that, as for the restrictions that substantially affect value, however, a number of factors may have to be taken into consideration.8

A restriction placed on the buyer of the imported merchandise that does not substantially affect its value will not prevent the TV from being accepted. As an example, the regulations offer the case of a seller requiring a buyer if automobiles not to sell or exhibit them before a fixed date that represents the beginning of a model year.9 A further example cited by the TCCV was a requirement that importer/purchasers of cosmetics agree that the cosmetics must be sold to consumers exclusively through individual sales representatives in door-to-door sales.10

The TCCV offered as an example of a disqualifying restriction the sale of a machine at a nominal price in condition that the buyer uses it only for a charitable purpose. The line was drawn at whether the restriction is “usual for the trade concerned.”11

Sale Subject to Condition or Consideration of Indeterminable Value

The customs regulations provide three interpretative note examples where a sale price will not be accepted as a basis for TV because the value of a condition or consideration cannot be determined. These include where the price of the imported merchandise
  • is established on the condition that the buyer will also buy specified quantities of other merchandise, a “tie-in” sale.
  • is dependent upon the price or prices at which the buyer will sell merchandise to the seller, a “barter” trade or reciprocal transaction.
  • is established on the basis of a form of payment extraneous to the merchandise, such as where the buyer is to further process semi-finished merchandise and the seller has been promised that he will receive a specified quantity of the finished goods.12

Subsequent Proceeds

The valuation law contemplates that if there are proceeds of subsequent resales and they are quantifiable, then the PAPP must be adjusted to capture their effect. On the other hand, if the proceeds cannot be quantified, then TV will be rejected.13 You will recognize that this would be akin to a form of consideration not being determinable, the limitation discussed immediately above.

Related Parties

And now we turn to transfer pricing, those instances when the buyer of the goods is related to the seller. The fact that the buyer and seller are related14 is not in itself grounds for rejecting a TV appraisement but the price must be justified. Of course, not all related party transactions need be reviewed automatically, as Customs and Border Protection (CBP) may not have doubts abut the price. The regulations address this point.15

But if CBP does have doubts, then the importer must meet the task of showing that the relationship did not influence the price. The statute sets up two ways to do that. The first is that the importer/buyer can show that the circumstances of sale (COS) demonstrate that there was no influence on the price. The statute provides three exemplars under this COS test
  1. showing that the parties dealt with each other as if they were unrelated
  2. the prices are settled in a manner consistent with normal pricing practices in the industry
  3. the price is adequate to ensure recovery of all costs plus a profit that is equivalent to the firm’s [usually applied by CBP to the seller] overall profit realized over a representative period of time in sales of the same class or kind.
Note that these are illustrative examples only—there may be other means of showing that the COS test is met. In this context, it is important to realize that the importer may seek to make use of transfer pricing studies and Advance Pricing Agreements. The CBP position is clear—such works prepared for income tax purposes will not be determinative, even if they meet Internal Revenue Service approval. They may be useful, however, but only on a case-by-case basis.16 If the importer elects to do so,17 the importer can also show that the price is acceptable for a TV appraisement even if the price has been influenced by showing that the price “closely approximates” one of the “test values.” The test values are the
  • TV of identical or of similar merchandise in sales to unrelated buyers in the US
  • Deductive or computed value of identical or similar merchandise.
The values used for comparison must relate to merchandise exported to the US at or about the same time as the imported merchandise. Further, the values used for comparison purposes may be adjusted to take into account differences in commercial levels, quantity, statutory additions [discussed below] and costs borne by the product.18

You should also know that the test values must have been previously accepted by CBP.19

Statutory Additions

The reason for the additions is that it is awfully easy for a buyer and seller to arrange for separate payment for elements of value that should be included within the purchase price for the goods. While the number of elements with the potential for conferring value to a seller is potentially limitless, the statute limits their number to five—and no others. These five are:
  • Packing costs
  • Selling commissions20
  • Dutiable assists
  • Certain royalties or license fees
  • Proceeds of subsequent resales.21
Of these, perhaps we should further define some of these. The term “dutiable assists” is defined as including any of the following that are supplied free or at reduced cost for use in connection with the production or sale of the imported merchandise:
  • Materials, components, etc. incorporated in the imported merchandise
  • Tools, dies, molds, etc, used in the production of the imported
  • Merchandise consumed in the production
  • Engineering, artwork, design work undertaken other than in the US or by a US person on temporary foreign assignment.
The issue of dutiable assists is one that normally arises in the context of a US-designed product that is produced by a foreign contract manufacturer. CBP can be counted on to closely scrutinize any such scenario.

As for royalties or license fees, dutiable status will follow if the payment is related to the imported goods and is a condition of their sale.

Finally, subsequent proceeds is normally narrowly defined to refer back to the resale or disposition of the imported goods in a direct manner. A number of payments, such as dividends paid by an importer to a foreign parent, will not be dutiable.22

Statutory Exclusions

In the same way that there are certain elements that are always dutiable, and must be added to the PAPP to make dutiable value if they are separately provided for, there are certain elements that are always non-dutiable. If they are separately provided for, and there is no need to “unbundle” or net them out of the invoice price, the following do not form part of the dutiable value:
  • Post-import erection or installation costs
  • Customs duties or taxes paid on the imported merchandise23
In addition, as noted above, the US imposes duty on an FOB basis; thus, transportation charges for the international movement of the goods or for the post-import movement (as in a Delivered Duty Paid (DDP) sale) will be non-dutiable and may be backed out to get to a price stated on an FOB basis. Finally, in the case of interest charges, CBP has had a longstanding rule24 that interest payments will be nondutiable if they meet these criteria
  • In writing
  • Agreement followed by the parties
  • Separately stated from the purchase price and booked as an interest expense by the buyer
  • At normal rates of interest (do not exceed the prevailing rate in country where the loan was made)
  • Paid to seller

Conclusion

Of course we have addressed in earlier articles many of the discrete customs valuation issues raised here, such as royalty payments, dutiable assists, transfer (related party) pricing, interest payments, buying commissions and others. But the last time we looked at customs valuation at this high level was in 2006.

And it is only if one takes the time to review it from a certain height that the logic inherent in the customs valuation law, one that actually matches that of tariff classification, emerges. Hopefully, the foregoing will support you in your high level review.

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1. Neville, “Tariff classification lessons,” 27 JOIT No. 8 (Aug. 2016) at 24.

2. 19 USC § 1401a. The US statute implements and closely tracks the WTO Customs Valuation Agreement, the official title of which is Agreement on Implementation of Article VI of the General Agreement on Tariffs and Trade 1994 (Valuation Agreement).

3. The alternative bases for appraisement (valuation methods) are the TV of identical merchandise, the TV or similar merchandise, deductive value, computed value and a “fallback” method (“value if other values cannot be determined or used”). 19 USC §§ 1401a (c)- (f). These alternative methods are outside the scope of this discussion but I do emphasize that the statute expressly prohibits certain measures for customs valuation such as arbitrary or fictitious values or minimum values. 19 USC 1401a (f) (2), Valuation Agreement, Art. 7. For a full treatment of the valuation statute, see chapter 5 in the treatise, Neville (ed.), International Trade Laws of the United States: Statutes and Strategies.

4. 19 USC § 1401a (b).

5. The US and Canada are two countries which apply TV based upon an FOB basis—most other countries apply duty on the cost of the goods plus international freight and insurance, a CIF sale in other words. Countries have the option under Art. 8.2 of the Valuation Agreement to include these other elements in dutiable value or not.

6. See ruling no. 546602 (1/29/97).

7. See ruling no. 542996 (3/4/83).

8. The TCCV’s Commentary 12.1, para. 2.

9. 19 CFR § 152.103 (k) (1) (i). This tracks the Valuation Agreement, Interpretative Note to Art. 1, para. 1 (a) (iii).

10. TCCV, Commentary 12.1, para. 3.

11. Id at para. 4.

12. 19 CFR §§ 152.103 (k) (2) (i)–(iii). These, too, track the Valuation Agreement, Interpretative Note to Art. 1, para. 1 (b).

13. See ruling no. 543281 (8/9/84). Cf. ruling no. 542701 (4/28/82) (mere fact that amount is quantifiable only after importation is not sufficient to reject TV) with ruling no. 542928 (1/21/83) (where amount if proceed is not determinable within a reasonable time, TV is rejected).

14. “Related parties” is defined in the statute at 19 USC § 1401a (g) (1). Besides family relationships, ownership and control will trigger this status. Note that a share ownership of as little as a 5% holding is sufficient.

15. 19 CFR § 152.103 (l) (1). See Valuation Agreement, Interpretative Note to Art. 1, para. 2.

16. Informed Compliance Publication, Determining the Acceptability of Transaction Value for Related Party Transactions (2007). See also, TCCV, Case Study 14.1, Use of Transfer Pricing documentation when examining related party transactions under Article 1.2 (a) of the Agreement (2016).

17. Note that some customs authorities insist on the importer meeting a test value test. This is directly contrary to the Valuation Agreement, which states that it is only the importer’s initiative that triggers a test value analysis. Valuation Agreement, Art. 1.2 (c).

18. 19 CFR § 152.103 (j) (2) (ii).

19. This is in accord with the Valuation Agreement, Interpretative Note to Art. 1.2 (b)

20. Buying commissions are not dutiable. Note that any payment by an importer to an intermediate party that is purporting to act as a buying agent is potentially problematic as it could be determined to be dutiable as a payment to a selling agent or to a principal.

21. 19 USC § 1401a (b) (1).

22. 19 CFR § 152.103 (g); TCCV, Case Study 2.2.

23. 19 USC 1401a (b) (3).

24. TS 85-111, (7/17/85); See also Luigi Bormioli v. United States, 304 F. 2d 1362 (Fed. Cir. 2002) and ruling nos. 545984 (5/16/95) and 546030 (6/13/95).

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