April, 2019
Excise Taxes as Duties
Mark K. Neville, Jr.
Most taxpayers in the United States have little familiarity with taxes other than direct taxes, i.e., income taxes. To be sure there are those pesky state and local sales taxes (SALT) but those are the only indirect taxes that are of concern for the vast majority of taxpayers. Familiarity with SALT planning and compliance is not enough. That is why so many US companies are almost clueless, or at the least need regular courses of instruction in dealing with Value Added Taxes (VAT) and Goods and Services Taxes (GST) in their foreign markets. The US is the only major developed country without a federal-level VAT.1
But wait, one group of US taxpayers comes into frequent contact with indirect taxes. Those taxpayers are importers and the indirect taxes are customs duties. By now, faithful readers of these discussions will know perfectly well that there are points of intersection between the two tax disciplines of duties and income taxes. Prominent among them are transfer pricing (AKA related party pricing), under which the importer/taxpayer must be able to demonstrate that the sale price (or amount paid for services such as buying agent services) paid to a related party meets an arm’s length standard or that that “the relationship has not influenced the price” to use the customs turn of phrase. For another, the setting up of a company as a limited risk distributor runs the risk that the buyer/importer might not be vested with enough substance and is deemed a selling agent by the customs authority.
This discussion takes a slightly different tack, focused as it is on the interplay between the customs and duty regime and other indirect taxes, federal excise taxes (FETs). There is a limited range of products that are subject to FETs. These include, inter alia, taxes on alcoholic beverages, motor fuels, tobacco products, airplane tickets, products made with ozone-depleting chemicals, some tires and sport fishing tackle. The tie-in comes at the border, as imports into the United States of products that attract the FETs are also subject to the FET, in parity with domestic-origin goods. The FET is collected at the time of entry, along with customs duty and other applicable fees, principally the Merchandise Processing Fee and, where applicable, the Harbor Maintenance Fee.
To this point, we have seen a clear distinction between duty and FET. But the line gets blurred, as we again find ourselves in the context of civil penalty actions at the Court of International Trade.2 For it is in connection with the government’s efforts to collect on Section 1592 (d) claims that the status of FETs comes into play.
As shown above Section 1592 sets out a three-tier level of culpability (negligence, gross negligence and fraud) as well as specific penalty levels associated with each culpability level.4 Apart from civil penalties, the statute provides for the recovery of customs duty. In actual fact, subsection (d) goes further, providing as follows
And here is where we get to the court case about FETs.
And that is precisely what the government alleged. There was a “special arrangement” between the importer Maverick and the putative purchaser Good Times. Maverick’s declared value was only $1 per carton over its purchase price from a Dominican Republic seller, and Good Times bankrolled and otherwise controlled the transactions. The government also alleged that clearing the entries on a transaction value basis was unlawful, as Maverick was not a stand-alone buyer and reseller and there was no qualifying sale for export to Maverick. Clearing the goods with a customs valuation basis other than transaction value would have, or at the least could have, alerted CBP to the fact that this was an extraordinary transaction. Finally, the government alleged that Good Times’ ownership of the trademarks on the imported cigars connoted ownership and control by Good Times of the transactions.
The CIT rejected a motion to dismiss for failure to state a claim on which relief can be granted brought by Maverick and Good Times.11 The court reviewed the complaint and other documents filed by the government in response to the defendants’ motion and found that a there were sufficient facts alleged that a trier of fact could determine that the purported sale price was not an arm’s length sale price and that Good Times had controlled the transactions and thus, even though it was not the importer of record, was liable for violations under Section 1592 as it had “introduced” the goods into the US.12
The government argued that there were two reasons for the court having jurisdiction: (i) the FETs are a penalty under Section 1582 (1) since the claims arise in (flow from) a penalty proceeding and the court must hold there was a violation of Section 1592 (a) and (ii) the FETs are a customs duties for the purposes of 1582 (3). The defendants argued the contrary, the government was not seeking a penalty and the customs law,19 USC § 1528, limits those taxes which may be construed as duties to only those taxes which are expressly classified as such in the statute.
In its July 2018 decision,16 the court decided that the statute conferring jurisdiction on the CIT to recover penalties embraced those cases, such as the one before it, in which the government elected not to issue penalties but only sought to recover duties, taxes and fees where there had been a violation of Section 1592. The court noted that Section 1592 (d) had been established by Congress to allow discretion to the government, and not requiring it pursue both penalties as well as unpaid duties, taxes or fees. In parallel fashion, then, Section 1582 (1) should be read as permitting a suit to recover duties, taxes and fees even in the absence of a penalty claim.
As for the FETs being customs duties, the court distinguished cases cited by the defendant and instead focused on the fact that the FETs are imposed on the merchandise at the time of entry, are collected and administered by CBP. Further, the importer’s liability at import for duties extends to internal revenue taxes which attach upon the importation of merchandise.17 As for the seeming prohibition by Section 1528, the court pointed to the fact that the section goes on to recite that it will not have the effect of restricting or limiting the jurisdiction of this Court or that of the Court of Appeals for the Federal Circuit. This contradiction was reconciled by the legislative history of the original enactment in 1938, to the effect that Section 1528 was meant to hold that the preferences and exemptions applicable to customs duties should not be construed as applying to internal revenue taxes. Finally, the court cited a 1953 appellate court decision holding that FETs are customs duties for purposes of assessment and collection.18
At the court’s direction, the jurisdictional issue was also briefed by the parties in this companion case, and the same arguments were advanced here. With the first half of the opinion the court likewise asserted jurisdiction on the same grounds as in Maverick, i.e., FETs are both a penalty and a customs duty for these jurisdictional purposes. In the second half of the opinion, the court denied defendants’ motion to dismiss on the same grounds laid out in Maverick.20
Because penalties were not sought by the government, however, the court was faced with a gap between the customs penalty statute and the jurisdictional grant to the CIT. The solution was to elasticize the jurisdictional grant so that suits by the government for FETs, and presumably other taxes and fees as well, could be heard by the CIT. In these circumstances, the CIT reasoned, the FETs can be considered to be both penalties or customs duties. The obvious solution is for Congress to expand the charter of Section 1582.
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But wait, one group of US taxpayers comes into frequent contact with indirect taxes. Those taxpayers are importers and the indirect taxes are customs duties. By now, faithful readers of these discussions will know perfectly well that there are points of intersection between the two tax disciplines of duties and income taxes. Prominent among them are transfer pricing (AKA related party pricing), under which the importer/taxpayer must be able to demonstrate that the sale price (or amount paid for services such as buying agent services) paid to a related party meets an arm’s length standard or that that “the relationship has not influenced the price” to use the customs turn of phrase. For another, the setting up of a company as a limited risk distributor runs the risk that the buyer/importer might not be vested with enough substance and is deemed a selling agent by the customs authority.
This discussion takes a slightly different tack, focused as it is on the interplay between the customs and duty regime and other indirect taxes, federal excise taxes (FETs). There is a limited range of products that are subject to FETs. These include, inter alia, taxes on alcoholic beverages, motor fuels, tobacco products, airplane tickets, products made with ozone-depleting chemicals, some tires and sport fishing tackle. The tie-in comes at the border, as imports into the United States of products that attract the FETs are also subject to the FET, in parity with domestic-origin goods. The FET is collected at the time of entry, along with customs duty and other applicable fees, principally the Merchandise Processing Fee and, where applicable, the Harbor Maintenance Fee.
To this point, we have seen a clear distinction between duty and FET. But the line gets blurred, as we again find ourselves in the context of civil penalty actions at the Court of International Trade.2 For it is in connection with the government’s efforts to collect on Section 1592 (d) claims that the status of FETs comes into play.
Section 1592 (d)3
The primary statutory regime for customs compliance arises from Section 1592 of the Tariff Act of 1930, 19 USC § 1592. Subsection (a) (1) lays out the general rule(1) General rule
Without regard to whether the United States is or may be deprived of all or a portion of any lawful duty, tax, or fee thereby, no person, by fraud, gross negligence, or negligence—
(A) may enter, introduce, or attempt to enter or introduce any merchandise into the commerce of the United States by means of—
(i) any document or electronically transmitted data or information, written or oral statement, or act which is material and false, or
(ii) any omission which is material, or
(B) may aid or abet any other person to violate subparagraph (A).
As shown above Section 1592 sets out a three-tier level of culpability (negligence, gross negligence and fraud) as well as specific penalty levels associated with each culpability level.4 Apart from civil penalties, the statute provides for the recovery of customs duty. In actual fact, subsection (d) goes further, providing as follows
(d) Deprivation of lawful duties, taxes, or fees Notwithstanding section 1514 of this title,5 if the United States has been deprived of lawful duties, taxes, or fees as a result of a violation of subsection (a), the Customs Service shall require that such lawful duties, taxes, and fees be restored, whether or not a monetary penalty is assessed.
Note that the doorway to the government’s collection of duties, taxes and fees come through the showing of a violation under subsection (a). In the absence of a proof of such a violation, that door is barred.And here is where we get to the court case about FETs.
FETs as Penalties…and Duties
The CIT was tasked with deciding the merits of a claim brought by the government under Section 1592 (d) for some $3.4 million in underpaid FETs on tobacco products.6 The defendants were Maverick Marketing, which acted as the importer of record, and Good Times USA, which was the consignee and was alleged to have directed and controlled Maverick. Because the importer had surety bonds in place, the surety was jointly and severally liable. The government also brought suit against that surety, American Alternative Insurance Company, for the face amount of the bonds, i.e., $1.9 million. The peculiarity about the tobacco FET regime is that the FET on imported cigars is levied not on the purchase price paid by the importer but rather on the sale price when the importer sells to a domestic purchaser.7 Importantly, the qualifying sale must be an arm’s length transaction.8 If the sale is not an arm’s length sale then the FET shall be computed on the price for which such articles are sold, in the ordinary course of trade, by manufacturers or producers thereof, as determined by the Secretary of the Treasury.9 And in this regard, a sale is not at arm’s length if there are “special arrangements” between the manufacturer or importer and the purchaser.10And that is precisely what the government alleged. There was a “special arrangement” between the importer Maverick and the putative purchaser Good Times. Maverick’s declared value was only $1 per carton over its purchase price from a Dominican Republic seller, and Good Times bankrolled and otherwise controlled the transactions. The government also alleged that clearing the entries on a transaction value basis was unlawful, as Maverick was not a stand-alone buyer and reseller and there was no qualifying sale for export to Maverick. Clearing the goods with a customs valuation basis other than transaction value would have, or at the least could have, alerted CBP to the fact that this was an extraordinary transaction. Finally, the government alleged that Good Times’ ownership of the trademarks on the imported cigars connoted ownership and control by Good Times of the transactions.
The CIT rejected a motion to dismiss for failure to state a claim on which relief can be granted brought by Maverick and Good Times.11 The court reviewed the complaint and other documents filed by the government in response to the defendants’ motion and found that a there were sufficient facts alleged that a trier of fact could determine that the purported sale price was not an arm’s length sale price and that Good Times had controlled the transactions and thus, even though it was not the importer of record, was liable for violations under Section 1592 as it had “introduced” the goods into the US.12
Subject Matter Jurisdiction
Two days after issuing that decision in March 2018 the court called for briefing by the parties on the question of subject matter jurisdiction. This is because, as we have seen, the statute conferring jurisdiction on the CIT for civil actions initiated by the government limits those actions to recover penalties, bonds or duties.13 The defendants had not challenged the jurisdiction of the court but Judge Kelly raised the issue herself. What prompted the call for briefings is the discrepancy between the reach of Section 1592 (d)—duties, taxes or fees—and the grant of jurisdiction in Section 1582—penalties, bonds or duties. The statutory terms are:The Court of International Trade shall have exclusive jurisdiction of any civil action which arises out of an import transaction and which is commenced by the United States—
(1) to recover a civil penalty under section 592… of the Tariff Act of 1930;
(2) to recover upon a bond relating to the importation of merchandise required by the laws of the United States or by the Secretary of the Treasury; or
(3) to recover customs duties.14
The government argued that there were two reasons for the court having jurisdiction: (i) the FETs are a penalty under Section 1582 (1) since the claims arise in (flow from) a penalty proceeding and the court must hold there was a violation of Section 1592 (a) and (ii) the FETs are a customs duties for the purposes of 1582 (3). The defendants argued the contrary, the government was not seeking a penalty and the customs law,19 USC § 1528, limits those taxes which may be construed as duties to only those taxes which are expressly classified as such in the statute.
In its July 2018 decision,16 the court decided that the statute conferring jurisdiction on the CIT to recover penalties embraced those cases, such as the one before it, in which the government elected not to issue penalties but only sought to recover duties, taxes and fees where there had been a violation of Section 1592. The court noted that Section 1592 (d) had been established by Congress to allow discretion to the government, and not requiring it pursue both penalties as well as unpaid duties, taxes or fees. In parallel fashion, then, Section 1582 (1) should be read as permitting a suit to recover duties, taxes and fees even in the absence of a penalty claim.
As for the FETs being customs duties, the court distinguished cases cited by the defendant and instead focused on the fact that the FETs are imposed on the merchandise at the time of entry, are collected and administered by CBP. Further, the importer’s liability at import for duties extends to internal revenue taxes which attach upon the importation of merchandise.17 As for the seeming prohibition by Section 1528, the court pointed to the fact that the section goes on to recite that it will not have the effect of restricting or limiting the jurisdiction of this Court or that of the Court of Appeals for the Federal Circuit. This contradiction was reconciled by the legislative history of the original enactment in 1938, to the effect that Section 1528 was meant to hold that the preferences and exemptions applicable to customs duties should not be construed as applying to internal revenue taxes. Finally, the court cited a 1953 appellate court decision holding that FETs are customs duties for purposes of assessment and collection.18
Companion Case
The record shows that Good Times was a busy crew, as the same day (July 3) that the Maverick decision was published the court denied a motion to dismiss filed by other defendants, including an importer, Gateway Import Management, that was also said to be controlled by Good Times in an identical “pass through” scheme to defraud the government of FETS on imported cigars.19 Also named as party defendants were Good Times and another surety company, Hanover. The government was seeking $1.2 million in FETs from Gateway and Good Times and $500,000 in FETs from the surety. Gateway and Good Times were defended by the same counsel as Maverick and the same legal arguments for dismissal were advanced.At the court’s direction, the jurisdictional issue was also briefed by the parties in this companion case, and the same arguments were advanced here. With the first half of the opinion the court likewise asserted jurisdiction on the same grounds as in Maverick, i.e., FETs are both a penalty and a customs duty for these jurisdictional purposes. In the second half of the opinion, the court denied defendants’ motion to dismiss on the same grounds laid out in Maverick.20
Takeaway
First, it is a mystery why the government has not pursued a civil penalty case under Section 1592 (a) against the defendants. After all, in order to prevail in its suit to recover the FETs the government must still prove that there had been a violation. If penalties had been sought then there would be no jurisdictional issue as the FETs would tag along with the grant of jurisdiction under Section 1582 (1), as Judge Kelly herself observed.Because penalties were not sought by the government, however, the court was faced with a gap between the customs penalty statute and the jurisdictional grant to the CIT. The solution was to elasticize the jurisdictional grant so that suits by the government for FETs, and presumably other taxes and fees as well, could be heard by the CIT. In these circumstances, the CIT reasoned, the FETs can be considered to be both penalties or customs duties. The obvious solution is for Congress to expand the charter of Section 1582.
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1. On the subject of VAT and border taxes in general, with a special focus on characterization as “direct” or “indirect” taxes in the context of the World Trade Organization, see Neville, “The WTO Status of the Proposed U.S. Destination-Based Cash-Flow Tax, 28 JOIT April 2017 at 25.
2. Last month’s treatment was focused on the requirement that CBP have exhausted its administrative remedies, in that case in holding requested meetings with the importer, before it could properly seek collection at the CIT.
3. The statute is referred to as either “Section 592” per its position in the Tariff Act of 1930 or “Section 1592” in consequence of its codification in Title 19. Most long-term customs professionals will use “Section 592” but either reference will be correct and will be recognized by CBP and customs professionals alike. We use Section 1592 in this discussion.
4. The penalty levels are laid out in subsection (c), which also sets forth the Prior Disclosure regime, which has the effect of lowering the applicable penalties and thereby acts as a powerful incentive for the importer or other affected party to bring the matter to CBP in the first instance.
5. Section 1514 has the effect of closing an entry for both the government and the importer once the liquidation is final. In the case of the government, that point is 90 days after liquidation, after which point no b=voluntary reliquidations can be made. For the importer, that point is reached after 180 days from liquidation unless the importer has filed a valid protest. In essence, then, this section re-opens the entry and allows the government to go back 5 years for duty, taxes and fees.
6. The government did not seek a civil penalty.
7. 26 USC §5701 (a) (2).
8. 26 USC § 4216 (b) (1); 26 CFR § 48.4216 (b)-2 (e).
9. 26 USC § 4216 (b) (1). This is shades of the American Selling Price in the pre-1979 customs valuation law.
10. 26 CFR § 48.2216 (b)-2 (e).
11. United States v. Maverick Marketing LLC et al., 42 CIT__, Slip Op. 18-16 (March 7, 2018)
12. The appellate court decision in United States v. Trek Leather, Inc., 767 F.3d 1288, 1296-99 (Fed. Cir. 2014) held that the reach of Section 1592 (a) was not limited to importers or consignees of imported merchandise but extended to all persons who “introduced” the merchandise, a term far broader than would have been the case if Congress had employed the term “entered” the merchandise.
13. 28 USC § 1582 (Section 1582).
14. Id.
15. Of course the statute does confer jurisdiction for a government suit for recovery on a bond, so there is clear jurisdiction for the court to entertain the government’s suit against the surety.
16. United States v. Maverick Marketing LLC et al., 42 CIT___, 2018 WL3246116 (July 3, 2018). 19 CFR § 141.3.
17. 19 CFR § 141.3.
18. Westco Liquor Products Co. v. United States, 38 CCPA 101, 107, C.A.D. 446 (1951).
19. Unites States v. Gateway Import Management, Inc., et al., Slip Op. 18-83 (CIT 2018).
20. There was even a third decision on FETs issued by the CIT, United States v. Mariola International Company, 42 CIT __, Slip Op. 18-93 (Aug. 3, 2018) but that was a default judgment against the defendant and no new substantive issues were raised.
2. Last month’s treatment was focused on the requirement that CBP have exhausted its administrative remedies, in that case in holding requested meetings with the importer, before it could properly seek collection at the CIT.
3. The statute is referred to as either “Section 592” per its position in the Tariff Act of 1930 or “Section 1592” in consequence of its codification in Title 19. Most long-term customs professionals will use “Section 592” but either reference will be correct and will be recognized by CBP and customs professionals alike. We use Section 1592 in this discussion.
4. The penalty levels are laid out in subsection (c), which also sets forth the Prior Disclosure regime, which has the effect of lowering the applicable penalties and thereby acts as a powerful incentive for the importer or other affected party to bring the matter to CBP in the first instance.
5. Section 1514 has the effect of closing an entry for both the government and the importer once the liquidation is final. In the case of the government, that point is 90 days after liquidation, after which point no b=voluntary reliquidations can be made. For the importer, that point is reached after 180 days from liquidation unless the importer has filed a valid protest. In essence, then, this section re-opens the entry and allows the government to go back 5 years for duty, taxes and fees.
6. The government did not seek a civil penalty.
7. 26 USC §5701 (a) (2).
8. 26 USC § 4216 (b) (1); 26 CFR § 48.4216 (b)-2 (e).
9. 26 USC § 4216 (b) (1). This is shades of the American Selling Price in the pre-1979 customs valuation law.
10. 26 CFR § 48.2216 (b)-2 (e).
11. United States v. Maverick Marketing LLC et al., 42 CIT__, Slip Op. 18-16 (March 7, 2018)
12. The appellate court decision in United States v. Trek Leather, Inc., 767 F.3d 1288, 1296-99 (Fed. Cir. 2014) held that the reach of Section 1592 (a) was not limited to importers or consignees of imported merchandise but extended to all persons who “introduced” the merchandise, a term far broader than would have been the case if Congress had employed the term “entered” the merchandise.
13. 28 USC § 1582 (Section 1582).
14. Id.
15. Of course the statute does confer jurisdiction for a government suit for recovery on a bond, so there is clear jurisdiction for the court to entertain the government’s suit against the surety.
16. United States v. Maverick Marketing LLC et al., 42 CIT___, 2018 WL3246116 (July 3, 2018). 19 CFR § 141.3.
17. 19 CFR § 141.3.
18. Westco Liquor Products Co. v. United States, 38 CCPA 101, 107, C.A.D. 446 (1951).
19. Unites States v. Gateway Import Management, Inc., et al., Slip Op. 18-83 (CIT 2018).
20. There was even a third decision on FETs issued by the CIT, United States v. Mariola International Company, 42 CIT __, Slip Op. 18-93 (Aug. 3, 2018) but that was a default judgment against the defendant and no new substantive issues were raised.
Mark K. Neville, Jr., LL.M. (International Legal Studies), NYU, is a long-time member of the Board of Advisors. He is Principal of International Trade Counsellors and may be reached at mkneville@itctradelaw.com. He has served as an adjunct professor at The University of California, Berkeley’s Haas School of Business and NYU’s Stern School. He is The Journal’s Customs & Trade correspondent.