Additional factual information; clarification of HRL 544978; payments; royalties; engineering

HQ W546401 May 21, 1998 VAL RR:IT: VA W546401 CRS CATEGORY: Valuation Port Director U.S. Customs Service 6747 Engle Road Middleburg Heights, OH 44130 RE: Additional factual information; clarification of HRL 544978; payments; royalties; engineering Dear Sir: This is in reply to your letter of May 31, 1996, under cover of which you forwarded additional factual information, submitted to your office by counsel, concerning the dutiability of certain payments made by[************ Inc.] (hereinafter the “buyer”) to [*********** Ltd.] (hereinafter “S-1”). The additional information submitted concerns our internal advice decision in Headquarters Ruling Letter (HRL) 544978, dated April 27, 1995, which addressed the dutiability of the above referenced payments. Based on this information counsel has requested clarification of HRL 544978. However, because this request is based on supplementary information it is being treated instead as a request for a new ruling in light of the additional facts presented. Pursuant to counsel’s request, the bracketed portions of this decision will be treated as confidential and will be deleted from any published version of this decision. We regret the delay in responding. FACTS: The buyer, a joint venture between S-1 and [************] (hereinafter “S-2”), manufactures [*******] automobiles at its [********] foreign-trade subzone (FTSZ). The buyer imports production equipment such as press dies, stamping dies and injection molds (collectively the “production equipment”) from S-1 for use in the production of the automobiles, as well as automobile parts from both S-1 and S-2. The imported production equipment consists of all the equipment necessary to manufacture the finished automobiles. Production equipment was first imported in 1987; since then, new production equipment has been imported for each model year. Parts are imported continuously as needed. In accordance with various agreements and in consideration for rights granted under those agreements the buyer remits certain payments to S-1. The payments in question are: an engineering fee: an initial royalty fee; a documentation fee; and a continuing royalty. In HRL 544978, this office took the position that the payments were included in the transaction value of automobile parts and production equipment imported by the buyer While the buyer also makes certain other payments to S-2 and while these payments were also the subject of HRL 544978, the additional information submitted by counsel and, consequently, this decision, concerns only the payments made to S-1. The Agreements Four agreements between the buyer and S-1 are relevant for purposes of this decision. They consist of a Technical Assistance Agreement, a Dies and Jigs Sales Contract, a Purchase Agreement and a Parts Supply Agreement. Under the Technical Assistance Agreement dated June 6, 1989 (the “‘89 TA Agreement”S-1 granted the buyer a license to use S-1’s technical know-how and patents in order to manufacture automobiles designed by S-1 . Specifically, paragraph 2.1 of the ‘89 TA Agreement provides that S-1 grants the buyer: (1) a non-exclusive license under the Know-how to install machinery and equipment and to use the layout of manufacturing processes to manufacture the “Products and Licensed Parts”; (2) a non-exclusive license under the “Know-how” and Patents to manufacture, have manufactured., use and sell the Products; and (3) a non-exclusive license under the Parts Know-how and Patents to manufacture, have manufactured and use the Licensed Parts for the manufacture of the Products. The term “Products” refers to automobiles designed by S-1; the term “Licensed Parts” refers to component parts developed and designed and used to manufacture automobiles; the term “Know-how” is defined as any and all technical know-how and other information necessary to manufacture the products or the licensed parts. Pursuant to the ‘89 TA Agreement this includes assistance and guidance concerning plant engineering, selection of machinery and equipment, layout of the manufacturing process, and drawings, data and manuals which directly pertain to the manufacture and assembly of the products or licensed parts. The buyer and S-1 also entered into two agreements regarding the sale of production equipment. Prior to entering into the ‘89 TA Agreement, the buyer and S-1 entered into a Dies and Jigs Sales Contract (hereinafter referred to as the “D&J Sales Contract”) dated March 31, 1988, pursuant to which S-1 agreed to sell to the buyer dies and jigs for body assembly and trim fit in order for the buyer to manufacture vehicles based on S-1 licensed technology. The D&J Sales Contract required S-1 and the buyer to sign a technology support contract for vehicle production licensed by the buyer. The buyer and S-1 also entered into a Purchase Agreement (hereinafter referred to as the “‘90 Purchase Agreement”) dated June 4, 1990, pursuant to which S-1 agreed to sell the buyer dies and jigs which are necessary for the buyer to manufacture [ * * * * * *] vehicles in accordance with the ‘89 TA Agreement. The ‘90 Purchase Agreement requires the buyer to order dies and jigs from S-1 based on specifications developed in accordance with the know-how covered by the ‘89 TA Agreement. In addition, the buyer and S-1 entered into a Parts Supply Agreement (hereinafter referred to as the “Parts Agreement”) dated June 6, 1989, pursuant to which S-1 agreed to sell the buyer component parts required for manufacturing the motor vehicles which the buyer is licensed to manufacture under the ‘89 TA Agreement. Article 2 of the Parts Agreement requires S-1 to sell and the buyer to purchase parts to be used in manufacturing the vehicles in accordance with the terms and conditions of the ‘89 TA Agreement. The Parts Agreement remains in effect only for so long as the ‘89 TA Agreement is in effect. The Fees Counsel contends that the facts and presumptions relied upon by this office in HRL 544978 were materially inaccurate and that this resulted in an erroneous determination as to the dutiability of the payments in question. In its recent submission counsel provided additional information regarding the fees called for in the ‘89 TA Agreement. 1. The Engineering Fee Counsel has advised that the engineering fee was charged in order to enable S-1 to recoup the labor costs incurred by its U.S. Project Office in conducting site selection studies, creating plant layout analyses and preparing construction drawings and blueprints for the construction of the buyer’s factory in the U.S. S-1 considered the studies, drawings, etc. to be conceptual and related to the location and construction of the buyer’s factory. S-1 did not consider these costs to be connected with the dies and jigs purchased by the buyer and therefore they were not included in the price of the imported merchandise. In this regard, counsel submitted examples of the types of drawings and other efforts for which the buyer reimbursed S-1 through the engineering fee. These include a site plan for the buyer’s factory site, a description of the specific facilities to be constructed at the factory and a comparison of the advantages and disadvantages of various states as possible sites for the buyer’s factory. 2. The Initial Royalty The initial royalty fee is paid for technical know-how related to the manufacture of S-1 parts and products. There are two elements to the initial royalty payment. The first was for proprietary knowledge concerning production line techniques necessary for the buyer’s production of vehicles and parts. The amount was determined on the basis of the actual costs incurred by S-1 in erecting a temporary production line to simulate the buyer’s production line. The temporary production line consisted of press molds, jig-tooling and rigging tooling. Counsel asserts that none of these costs were related to specific production machinery. The second element of the initial royalty payment consisted of S-1’s costs in conducting preproduction runs of the assembly line process and an analysis of production line integrity in the exporting country. The costs included labor and material costs for pre-production runs but did not include any design, development or engineering work applicable to individual production equipment. Counsel states that the trial operation sometimes revealed improvements to be made to the production equipment, but that the costs for any such improvements were built into the purchase price of the goods. The price of individual production equipment purchased by the buyer from S-1 included a ten percent addition to the price in respect of the cost of any modifications resulting from testing undertaken by S-1. Counsel has provided various exhibits relating to the initial royalty including layout plans for the trial production line and breakdowns of the costs involved. 3. The Documentation Fee The documentation fee was paid in respect of translating and copying drawings for model [***] parts. The drawings are for all model [***] parts, whether purchased from S-1 or from other foreign or domestic suppliers, and are primarily for the reference use of the buyer's engineers and technicians. Counsel states that the drawings are not necessary for the production of the parts. 4. The Continuing Royalty The continuing royalty of$[****] per vehicle was designed to recover certain costs incurred by S-1 for, or to the benefit of the buyer but which were deemed inappropriate to include in the price of the imported merchandise. When these costs were recovered, the payments were discontinued. The fixed fee of $[****] per vehicle royalty consisted of three elements, the largest of which was for the recovery of the cost of vehicle design and development costs incurred by S-1 for the model [***]. The total cost of the design and development for the model [***] was allocated to the projected world-wide production of the model [***]. This element of the continuing royalty resulted in an allocation of $[***] per vehicle. The second element of the continuing royalty is a similar allocation of S-l’s costs of the U.S. Project Office, less the recovery of engineering labor time already recouped through the engineering fee discussed above. The expenses recovered by this element of the continuing royalty represent additional labor expenses incurred by S-1 in planning for and establishing the buyer's factory. These included costs for office personnel, clerical staff, maintenance, etc. The final element of the continuing royalty was for the recovery of S-1’s costs to conduct tests associated with alternate vendor sourcing of parts for the model [***] being produced in the U.S. by the buyer. Parts produced by U.S. vendors were tested for quality and homologation with the model [***] assembly. The total amount of the testing costs was apportioned to the buyer’s projected production of model [***] vehicles. Payment of the continuing royalty ceased with vehicles produced after March 31, 1993, because the costs this fee was designed to recoup had been recovered. ISSUE: The issue presented is whether in light of the additional information presented, the fees and royalty payments made by the buyer to S-1 should be included in the transaction value of the imported merchandise. LAW AND ANALYSIS: As you know, section 3(a) of the Foreign-Trade Zones Act, as amended (19 U.S.C. § 8lc), provides that articles sent into the customs territory after having been produced or manufactured in a FTZ are subject to the laws and regulations affecting imported merchandise. Merchandise imported into the United States 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. § 140la; the “TAA”). See also, 19 U.S.C. § 1500. In accordance with section 146.65 (b)(2), Customs Regulations (19 C.F.R. § 146.65(b)(2)), the dutiable value of privileged and nonprivileged foreign merchandise sent into the customs territory from a foreign-trade zone is the price actually paid or payable for the merchandise in the transaction that caused it to be admitted to the zone, plus the statutory additions enumerated in section 402(b)(1)(A)-(E) of the TAA These include an addition 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 sale of the imported merchandise to the United States.” 19 U.S.C. § 1401a(b)(l)(D). The statutory additions will be made only to the extent that amounts in respect of such items are not otherwise included in the price actually paid or payable. The term “price actually paid or payable” is defined as “the total payment (whether direct or indirect ...) made, or to be made, for imported merchandise, by the buyer to, or for the benefit of: the seller.” 19 U.S.C. § 1401a(b)(4). In Generra Sportswear Co. v. United States, 905 F.2d 377 (Fed. Cir. 1990), the issue before the court was whether quota charges paid to the seller on behalf of the buyer were part of the price actually paid or payable for the imported goods. In reversing the decision of the lower court, the appeals court held that the term “total payment” is all-inclusive and that “as long as the quota payment was made to the seller in exchange for merchandise sold for export to the United States, the payment properly may be included in transaction value, even if the payment represents something other than the per se value of the goods.” The court also stated: Congress did not intend for the Customs Service to engage in extensive fact-finding to determine whether separate charges, all resulting in payments to the seller in connection with the purchase of imported merchandise, are for the merchandise or for something else. As we said in Moss Mfg. Co. v. United States, 896 F.2d 535, 539 (Fed. Cir.1990), the “straightforward approach [of section 140la(b)] is no doubt intended to enhance the efficiency of Customs’ appraisal procedure; it would be frustrated were we to parse the statutory language in the manner, and require Customs to engage in the formidable fact-finding task, envisioned by [appellant]. Id. At 380 (brackets in original). In accordance with Generra Sportswear Co. v. United States, 905 F.2d 377 (1990), it is Customs’ position that all payments made by the buyer to, or for the benefit of, the seller, or a party related to the seller, are part of the price actually paid or payable for imported merchandise. Customs has consistently held that payments by the buyer to the seller for design and development work are part of the price actually paid or payable for imported merchandise. See, e.g., HRL 544694 dated February 14, 1995, HRL 545278 dated April 7, 1994, HRL 544381 dated November 25, 1991, HRL 544516 dated January 9, 1990, and HRL 543324 dated August 8, 1984. In Chrysler Corporation v. United States, 17 CIT l 049 (1993), the Court of International Trade applied the standard in Generra and determined that certain shortfall and Special Application fees which the buyer paid to the seller were not a component of the price actually paid or payable for the imported merchandise. The court found that the evidence established that these fees were independent and unrelated costs assessed because the buyer failed to purchase other products from the seller and not a component of the price of the imported engines. Under Generra, there is a presumption that all payments made by a buyer to a seller are part of the price actually paid or payable for the imported merchandise; however, this presumption may be rebutted by evidence which clearly establishes that the payments, like those in Chrysler, are totally unrelated to the imported merchandise. 1. The Engineering Fee Counsel notes in the submission of additional factual information that the engineering fee was charged in order to enable S-1 to recoup costs incurred by its U.S. Project Office in conducting site selection studies, creating plant layout analyses and preparing construction drawings and blueprints for the construction of the buyer’s factory in the U.S. See also HRL 544978 at 3. Counsel has submitted documentation to support its contention that the engineering fee is not part of the price actually paid or payable for the imported production equipment. The documentation includes a breakdown of the expenses incurred by the U.S. Project Office, examples of the types of drawings and engineering for which the fee was paid, and a comparison of the advantages and disadvantages of alternative locations for the buyer’s factory. In HRL 544978 we reviewed the agreements relevant to the payment of the engineering fee. We noted that the D&J Sales Contract required the buyer and S-1 to enter into a technology support agreement; the ‘89 TA Agreement required the buyer to pay the fees and royalties at issue; and the ‘90 Purchase Agreement required the buyer to order the production equipment in accordance with the technical know-how covered by the ‘89 TA Agreement. On this basis we concluded that the engineering fee was linked to the purchase of the imported merchandise in that it was paid to the seller, S-1, for design and development related to the production equipment, viz. the site selection studies, plant layout analyses, drawings, etc. referred to above. Based on Generra we determined that the engineering fee was part of the price actually paid or payable for the imported production equipment. However, in light of the additional information presented we find that the engineering fee was unrelated to the imported production equipment. The expenses recovered through the fee were incurred by S-1 for activities connected with the selection of a location for the buyer’s factory. While there is a presumption under Generra that all payments by the buyer to the seller a part of the price actually paid or payable for imported merchandise, this presumption has been rebutted by the additional information which establishes that the payments are unrelated to the production equipment. Chrysler, 17 CIT 1049, 1055-1056. Accordingly, the engineering fee is not included in the transaction value of the production equipment. 2. The Initial Royalty Counsel advises in regard to the initial royalty that the payment was made to reimburse S-l for costs it incurred in erecting a temporary production line to simulate the buyer’s production line and in conducting pre-production runs of the assembly line process and an analysis of production line integrity in the exporting country. The testing process revealed improvements to be made to the production equipment; but the cost of these improvements was built into the price of the imported merchandise. · In HRL 544978 we determined that the initial royalty was part of the price actually paid or payable for the production equipment in accordance with Generra. This remains our position with respect to the initial royalty. Customs has held that payments made by the buyer for costs incurred in testing the assembly line process are dutiable as part of the price actually paid or payable. E.g., HRL 545753 dated March 8, 1996. The evidence presented in respect of the initial royalty indicates that this payment was intimately connected with the design and development of the imported production equipment. Notwithstanding the fact that the cost of improvements was incorporated into the price of the production equipment, the actual testing expenses recovered through the initial royalty are also part of the price actually paid or payable for the imported merchandise. The initial royalty was paid by the buyer to the seller. Accordingly, in accordance with Generra we find the initial royalty to be included in transaction value as part of the price actually paid or payable for the production equipment. 3. The Documentation Fee The documentation fee was payment for the service of translating and copying “shop” drawings of certain automobile parts, whether sourced from foreign or domestic suppliers. Article 5.1(2) of the ‘89 TA Agreement provides that the fee “represents a reasonable estimate of actual costs of preparing and delivering documents for the Products and Licensed parts for the Initial Year Models”. In HRL 544978 we found that the fee was included in transaction value as part of the price actually paid or payable, but only to the extent that it pertained to imported parts as opposed to the “products”, i.e., the vehicles produced in the FTSZ. However, since the fee was paid both for parts and the finished vehicles we determined that it could be apportioned provided the buyer could establish what portion pertained to vehicles as opposed to parts. After reviewing the additional information presented in respect of the documentation fee, it remains our position that the fee is part of the price actually paid or payable for the imported parts in accordance with Generra. The fee should be apportioned as between imported parts and imported vehicles provide the buyer can establish to your satisfaction the basis for such an apportionment. See generally HRL 544694 dated February 14, 1995 (on the basis of the available evidence, it was reasonable to apportion payments for design and development of finished vehicles in accordance with the ratio of the value of the imported components to the total zone value of the vehicles at the time they were transferred from the foreign-trade zone). 4. The Continuing Royalty The continuing royalty is paid in a fixed amount per vehicle manufactured by the buyer within thirty days of the close of each calendar quarter. In HRL 544978 we found that the continuing royalty was both related to, and a condition of sale of, the imported merchandise such that it was proper to include it in transaction value as an addition to the price actually paid or payable. Specifically, we determined that the individual sales agreements, i.e., the D&J Sales Contract, the Parts Agreement and the ‘90 Purchase Agreement, were subject to the terms and conditions of the ‘89 TA Agreement. Counsel has advised that the continuing royalty of [$****] per vehicle consists of three parts. The first, totaling ($****], was for the recovery of the costs of vehicle design and development incurred by S-1 for the model [****], including expenses incurred for the manufacture of test parts and design expense for vehicles. The second element of the continuing royalty totaled [$**] and was for the allocation of S-1 ‘s costs for the U.S. Project Office, less amounts for engineering labor time recouped through the engineering fee. The expenses recovered by this part of the continuing royalty represented additional administrative labor expenses incurred by S-1 for the model [****] production facility. The final element of the continuing royalty was for the recovery of S-1’s costs for conducting tests associated with alternate vendor sourcing of parts for the model[****] vehicle. This portion of the payment was [$**]. In respect of the continuing royalty counsel also notes: All of the costs included in the computation of the continuing royalty represent [****’s] actual cost of obtaining production know-how for [***]. This know-how was allocated proportionately to finished vehicles produced world-wide or to [***’s] production of finished model [****] vehicles. When the cost were recovered, the royalty was discontinued. Submission of December 20, 1995 at 16. After reviewing the additional information submitted by counsel it remains our position that the continuing royalty is related to and a condition of sale of the imported merchandise and should be included in transaction value as an addition to the price actually paid or payable. The buyer and S-1 entered into the ‘90 Purchase Agreement, under which S-1 agreed to sell the buyer the dies and jigs necessary for the buyer to manufacture vehicles in accordance with the terms of ‘89 TA Agreement. The ‘90 Purchase Agreement required the buyer to order dies and jigs from S-1 in accordance with the know-how specified in the ‘89 TA Agreement. Under the Parts Supply Agreement, S-1 agreed to sell the buyer the component parts required to produce the motor vehicles which the buyer is licensed to manufacture under the ‘89 TA Agreement. Consequently, we find that although the royalties are based on the product finished in the U.S., and not on the value of the imported components, because the royalty is tied to the ownership of the imported merchandise, the royalty is related to, and a condition of, the sale of the imported merchandise. HOLDING: Based on the additional information submitted by counsel we find that the engineering fee is not part of the price actually paid or payable for the production equipment. Our position in respect of the other payments is unchanged. The initia1 roya1ty and the documentation are included in transaction value as part of the price actually paid or payable for the production equipment. The continuing royalty is included in transaction value as an addition to the price actually paid or payable under section 402(b)(l)(D) of the TAA. Because this decision is based on additional information which was not previously available for Customs’ consideration, modification or revocation of HRL 544978 pursuant to section 625 of the Tariff Act of 1930 (19 U.S.C. § 1625), as amended by section 623, Title VI (Customs Modernization) of the North American Free Trade Agreement Implementation Act, P.L. 103-182, 107 Stat. 2057, 2186 (1993), is not warranted. However, for entries on which liquidation bas not become final, including pending protests, as well as future entries, appraisement is to fixed in accordance with the foregoing. Sincerely, Thom as L. Lobred Acting Director International Trade Compliance Division