HQ 545361 - Payments for the right to use trademarks, trade names and technical data; assists; royalties; condition of sale; proceeds; related parties - United States International Trade Commision Rulings

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HQ 545361

July 20, 1995

VAL R:C:V 545361 CRS

CATEGORY: VALUATION

Ronald W. Gerdes, Esq.
Sandler, Travis & Rosenberg
1341 G Street, N.W.
Washington, D.C. 20005-3105

RE: Payments for the right to use trademarks, trade names and technical data; assists; royalties; condition of sale; proceeds; related parties

Dear Mr. Gerdes:

This is in reply to your letter dated June 25, 1993, on behalf of your client, ************** (the "licensee"), in which you requested a ruling on the dutiability of royalty payments made in respect of the right to use certain trademarks, trade names and technical data. A further submission enclosing a copy of a draft license agreement was made under cover of a letter dated March 18, 1994, and a meeting was held with members of my staff on September 15, 1994. Pursuant to your request for confidential treatment, the name of your client will be deleted from all published versions of this ruling. We regret the delay in responding.

FACTS:

The trademark holder (the "licensor") is a foreign manufacturer. In the course of its business, the licensor has developed certain trademarks, trade names and technical data used in the manufacture of the products it sells.

The licensor and licensee contemplate entering into an agreement that would allow the licensee to use the licensor's trademarks, trade names and technical data. The draft license agreement provides that the licensee will be granted a license to manufacture products using technical data, drawings, designs, specifications and manufacturing information (the "technical data") supplied by the licensor. Moreover, the agreement gives the licensee the right to affix the licensor's trademarks/trade names to the products, the right to sell the products to third parties on an exclusive basis within a given territory, and the right to use the licensor's trademarks/trade names on certain "trademark retail shops" in the specified territory. Finally, the agreement gives the licensee the right to sub-license the trademarks and trade names, the right to authorize subcontractors anywhere in the world to manufacture the licensed products, and the right to authorize subcontractors to affix the licensor's trademarks and trade names to products manufactured by the subcontractors for the licensee.

In return for the rights conferred by the licensor, the agreement provides that the licensee will pay a royalty based on a percentage of the net sales price of all products it manufactures (or causes to be manufactured) and sells that use the licensor's trademarks, trade names and/or technical data. The net sales price is defined as the licensee's wholesale invoice price to its customers less customary discounts, sales taxes and any allowed credits or returns. Sales of second quality or defective goods are not included in the royalty calculation. In the event that the licensee opens trademark retail shops, i.e., franchised shops bearing the licensor's trademarks and/or trade names and stocking only trademarked goods, an additional percentage royalty payment would be due on the sale of all products sold thereto. Part of the royalty represents a payment for the use of the technical data; the balance, and by far the larger portion, is for the right to use the licensor's trademarks and trade names. The share of the royalty attributable to each is tracked by the licensee's accounting system.

You have advised that the licensee may purchase and import merchandise manufactured by the licensor, by a company related to the licensor, or by an unrelated company. In addition, the licensor and licensee may, in some instances, be related companies, while in others, they may be unrelated. You have asked that we consider the dutiability of the royalty payments in light of each of these scenarios.

ISSUE:

The issue presented is whether the payments in question are included in the transaction value of the imported merchandise.

LAW AND ANALYSIS:

Merchandise imported into the United States is appraised in accordance with section 402 of the Tariff Act of 1930, as amended by the Trade Agreements Act of 1979 (TAA; 19 U.S.C. ? 1401a). The preferred method of appraisement under the TAA is transaction value, defined as the price actually paid or payable for the merchandise when sold for exportation to the United States, plus certain enumerated additions thereto, including the amount of royalties and proceeds. 19 U.S.C. ? 1401a(b)(1). However, imported merchandise will be appraised under transaction value only if the buyer and seller are not related, or if related, the circumstances of sale indicate that the relationship did not influence the price actually paid or payable, or the transaction value approximates certain test values. 19 U.S.C. ? 1401a(b)(2)(A)-(B). Although we have assumed for purposes of this ruling that transaction value is the appropriate basis of appraisement, no evidence has been provided to justify its use.

For purposes of this ruling we have also assumed that the payment of the royalty at issue is distinct from the price actually paid or payable of the imported merchandise. Consequently, we have addressed the issue of the whether the subject payments are included in transaction value solely from the perspective of whether they constitute additions to the price actually paid or payable.

Section 402(b)(1) of the TAA provides for five additions to the price actually paid or payable of which three are relevant for purposes of this ruling. These include: the value, apportioned as appropriate, of any assist; any royalty or license fee related to the imported merchandise that the buyer is required to pay, directly or indirectly, as a condition of the sale of the imported merchandise; and the proceeds of any subsequent resale, disposal, or use of the imported merchandise that accrue, directly or indirectly, to the seller. 19 U.S.C. ? 1401a(b)(1)(C)-(E).

Technical Data

The first of the relevant additions to the price actually paid or payable is for the value, apportioned as appropriate, of any assist. The term "assist" refers to an item that is supplied directly or indirectly by the buyer, and free of charge or at a reduced cost, for use in connection with the production or sale for export of the imported merchandise. There are four categories of assists, including "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)(iv).

The draft agreement gives the licensee the right to use the licensor's technical data in connection with the manufacture by, or on behalf of, the licensee, of the products covered by the agreement. The technical data consist of drawings, designs and specifications; accordingly, we find that they are within the scope of the elements covered by section 402(h)(1)(A)(iv) of the TAA. In those situations where the licensee buys and imports merchandise from a seller other than the licensor, and the licensee has supplied the technical data to the seller in connection with the imported merchandise, the data constitute an assist to the extent they were supplied free of charge or at a reduced cost and represent work undertaken elsewhere than in the U.S. Based on the information submitted, the technical data represent work undertaken outside the U.S., and the licensee supplies the technical data to the seller free of charge.

You have advised that the royalty payment consists of two elements: an amount for the right to sell the products using the licensor's trademarks and trade names; and an amount for the right to manufacture the products using the technical data supplied by the licensor. The allocation of the royalty as between compensation for the use of the technical data, and compensation for the right to use trademarks and trade names, is maintained by the licensor and can be identified through accounting records. Consequently, the value of the assist provided by the licensee to the seller of the imported merchandise is that portion of the royalty paid to the licensor for the right to use the technical data.

Trademarks and Trade Names

The royalty at issue also represents in part an amount paid by the licensee for the right to use the licensor's trademarks and trade names in connection with the products. In regard to the dutiability of royalties and license fees, the Statement of Administrative Action (SAA) provides in relevant part:

Additions for royalties and license fees will be limited to those that the buyer is required to pay, directly or indirectly, as a condition of sale of the imported merchandise for exportation to the United States. In this regard, royalties and license fees for patents covering processes to manufacture the imported merchandise will generally be dutiable, whereas royalties and license fees paid to third parties for use, in the United States, of copyrights and trademarks related to the imported merchandise, will generally be considered as selling expenses of the buyer and therefore will not be dutiable. However, the dutiable status of royalties and license fees paid by the buyer must be determined on a case-by-case basis and will ultimately depend on: (i) whether the buyer was required to pay them as a condition of sale of the imported merchandise for exportation to the United States; and (ii) to whom and under what circumstances they were paid. For example, if the buyer pays a third party for the right to use, in the United States, a trademark or copyright relating to the imported merchandise, and such payment was not a condition of the sale of the merchandise for exportation to the United States, such payment will not be added to the price actually paid or payable. However, if such payment was made by the buyer as a condition of sale of the merchandise for exportation to the United States, an addition will be made. As a further example, an addition will be made for any royalty or license fee paid by the buyer to the seller, unless the buyer can establish that such payment is distinct from the price actually paid or payable for the imported merchandise, and was not a condition of the sale of the imported merchandise to the United States.

Statement of Administrative Action, H.R. Doc. No. 153, 96 Cong., 1st Sess., pt 2, reprinted in, Department of the Treasury, Customs Valuation under the Trade Agreements Act of 1979 (October 1981), at 48-49; 19 C.F.R. ? 152.103(f).

In a general notice (the "notice") on the dutiability of royalty payments, Customs set forth a three step analysis for determining whether royalty payments are dutiable. 27:6 Cust. B. & Dec. 1 (February 10, 1993). The analysis is founded on the following questions: (1) was the imported merchandise manufactured under patent? (2) was the royalty involved in the production or sale of the imported merchandise? (3) could the importer buy the product without paying the fee? 27:6 Cust. B. & Dec. at 9-11. Negative responses to the first and second questions, and an affirmative response to the third, point toward non-dutiability.

You have posited a number of different scenarios in regard to the payments that will be made by the licensee to the licensor. These are: that the licensee imports trademarked merchandise manufactured by a company unrelated to the licensor; that the licensee imports trademarked merchandise manufactured by the licensor; or that the licensee imports trademarked merchandise manufactured by a company related to the licensor. In addition, you have asked that we consider the royalty payments from the perspective of the licensor and licensee being unrelated within the meaning of 19 U.S.C. ? 1401a(g), as well as from the perspective of their being related.

Assuming first that the parties are unrelated you have asked whether royalty payments by the licensee to the licensor of the products would be dutiable under sections 402(b)(1)(D)-(E) of the TAA if: (1) the licensee purchases and imports merchandise from a seller unrelated to the licensor; (2) the licensee purchases and imports merchandise from the licensor; and/or (3) if the licensee purchases and imports merchandise from a seller related to the licensor.

A. Royalties

Under the first scenario, the licensee/buyer purchases and imports trademarked merchandise manufactured and sold by a seller unrelated to either the licensor or the licensee. In addition, the licensee pays the licensor a royalty based on a percentage of the selling price of the imported merchandise. The SAA states that royalties and license fees paid by the buyer to a third party for the right to use trademarks related to the imported merchandise generally will be considered to be selling expenses of the buyer and therefore not dutiable; however, this is true only to the extent that the payment is not a condition of sale of the merchandise. In order to determine whether the payment of the royalty is a condition of sale, it is necessary to apply the three-question analysis set forth in the notice. The first question posed by the notice is whether the imported merchandise, i.e., the products, are manufactured under patent. Based on the information submitted, the imported merchandise is not manufactured under patent.

The second question to be answered is whether the royalty is involved in the production or sale of the imported merchandise. This question expands the analysis of question one. 27:6 Cust. B. & Dec. at 10. Under the terms of the agreement, the royalty at issue will be paid in consideration for the right to affix the licensor's trademarks and trade names to the products, to sell the products in the designated territory, and to use the trademarks and trade names on trademark retail shops, rather than for the right to manufacture the imported merchandise. These rights bear no relation to the actual production process by which the imported merchandise is manufactured. Thus, based on the information presented, it is our position that the royalty will not be paid for rights associated with processes to manufacture the imported merchandise.

Moreover, there is no indication that the royalty payment will be subject to the terms of the sale for exportation to the U.S. Cf., Imperial Products, Inc. v. United States, 425 F. Supp. 852, 77 Cust. Ct. 66 (1976) (holding that a royalty paid on imported brush heads for the exclusive right to manufacture and sell a product using the imported brush heads in the U.S. was a right separate from the purchase price of the merchandise and therefore not dutiable), aff'd, 570 F.2d 337, 65 CCPA 38 (1978). In addition, in Headquarters Ruling Letter (HRL) 544436, dated February 4, 1991, we held that a royalty was involved in the sale of imported merchandise because the individual sales agreements and purchase contracts were subject to the terms of the royalty agreement. Here, the right to use the licensor's trademarks, etc., is not only separate from the production process, but also, given that the licensor and seller are unrelated, from the sale for exportation to the U.S. Accordingly, while we have not examined any sales agreements or purchase contracts, it does not appear that the royalty will be involved in the sale of the imported merchandise. Consequently, based on the information presented, the second question also yields a negative response.

The third question posed by the notice is whether the importer could buy the imported merchandise without paying the royalty fee, i.e., whether the payments are a condition of sale. While royalties paid to third parties for the use, in the U.S., of trademarks related to the imported merchandise are generally not dutiable, the SAA provides that such payments will nevertheless be treated as dutiable if they represent a condition of the sale for exportation. SAA, reprinted in, Dep't Treas., Customs Valuation under the TAA at 49. Payments that must be made for each imported item are a condition of sale. In a pre-TAA case, BBR Prestressed Tanks, Inc., Frank P. Dow Co., Inc., of L.A. v. United States, 60 Cust. Ct. 885, R.D. 11536 (1968), aff'd, 64 Cust. Ct. 787, A.R.D. 265 (1970), the buyer of imported merchandise was required to pay a lump-sum royalty in addition to the f.o.b. price. The court held that such a mandatory payment was dutiable, based primarily on the fact that the payment went to the seller. 27:6 Cust. B. & Dec. at 11. Under the TAA, such payments may be dutiable as royalties, as part of the price actually paid or payable, or as proceeds. Id. at 11. Royalty payments are also a condition of sale when they are paid on each and every importation and are inextricably intertwined with the imported merchandise; but if the payments are optional and not inextricably intertwined with the imported merchandise, or are paid solely for the exclusive right to manufacture and sell in a designated area, they are not a condition of sale. Imperial Products, 425 F. Supp. at 854.

In the instant case, the royalty payment is not optional, that is, it must be paid to the extent that the licensee earns revenue by reselling the products. On the other hand, the royalty is not paid to the seller, nor has any evidence been presented which would suggest that the royalty is linked to individual sales agreements or purchase contracts for the imported merchandise, e.g., a requirement by the seller that the buyer pay the royalty to the licensor. If there were evidence, however, which established that it was the payment of the royalties by the licensee that enabled the licensed products to be manufactured, we would regard this as an indication that the payments were a condition of sale. Nevertheless, this is not the case in the first scenario. Indeed, to the contrary, it appears that the buyer can purchase the imported merchandise from the seller of the goods without having to pay the royalty. 27:6 Cust. B. & Dec. at 11. Since the royalty does not appear to be a condition of sale, a plain reading of both the statute (the TAA) and the legislative history (the SAA) lead to the conclusion that the payment is not dutiable. Consequently, it is not an addition to the price actually paid or payable under section 402(b)(1)(D) of the TAA.

In the second scenario, the licensee purchases and imports merchandise from the licensor. As noted above, the SAA states that an addition will be made for any royalty paid by the buyer to the seller unless the buyer can establish that the payment was not part of the price actually paid or payable and was not a condition of the sale of the imported merchandise for exportation to the U.S. SAA, reprinted in, Dep't Treas., Customs Valuation under the TAA at 49. Although we have assumed above that the royalty payment is distinct from the price actually paid or payable, it is still necessary to determine whether the payment is a condition of sale. Repeating the three-step analysis, the first and second questions once again return negative responses.

However, in this situation, where the licensor and the seller are the same person, and the payment is made to the licensor/seller, we consider the royalty to be a condition of the sale of the merchandise for exportation to the U.S. The payment is not optional, but must be made to the licensor in its capacity as seller of the merchandise. The agreement provides that the licensee/buyer must pay an amount equal to a percentage of the net sales price of all products that use the licensor/seller's trademarks and trade names, and an equal percentage amount on the net sales price of all products sold to trademarked retail shops. Draft License Agreement at 5. Therefore, to the extent that the products described by the draft agreement are imported, the payment of the royalty is a condition of sale and as such, an addition should be made to the price actually paid or payable.

In the third scenario, you ask whether the royalty would be dutiable if the licensee were to purchase the imported merchandise from a seller related to the licensor. Under section 402(b)(1)(D) of the TAA, royalties payments are included in transaction value if the buyer is required to pay them, directly or indirectly, as a condition of sale. 19 U.S.C. ? 1401a(b)(1)(D); see also, SAA, reprinted in, Dep't Treas., Customs Valuation under the TAA at 49. In this scenario, it is our position that the royalty is paid indirectly as a condition of the sale for exportation to the U.S. Cf., HRL 542984, dated April 8, 1983 (a payment by the buyer to a third party, required as a condition of sale, was included in transaction value as part of the price actually paid or payable). The instant payment is not optional. Under the terms of the agreement it must be made to the licensor. Although in this particular scenario the payment is made to the licensor in respect of merchandise purchased from a seller related to the licensor, we find that it is no less a condition of sale than in the second scenario since the agreement provides that the licensee/buyer must pay the royalty on all products, to include the imported merchandise, that use the licensor's trademarks and trade names, or that are sold to the trademarked retail shops.

B. Proceeds

Section 402(b)(1)(E) of the TAA provides that an addition to the price actually paid or payable should be made for the proceeds of any subsequent resale, disposal or use of imported merchandise that accrue directly or indirectly to the seller. Here, the agreement requires that a royalty be paid based on a percentage of the net sales price of all products manufactured and sold by the licensee using the trademarks/trade names and technical data, as well as an additional percentage based on the net sales of trademarked products sold to trademarked retailers.

Consistent with the above analysis, where the licensor and seller are unrelated, we do not consider the payment to be an addition to the price actually paid or payable under section 402(b)(1)(E) since, under the facts presented, the payments are not made to the seller of the imported merchandise. If, however, the licensor and the seller are the same legal person, or if the seller is related to the licensor, it is our position that the payment would constitute a proceed of a subsequent resale, disposal or use within the meaning of section 402(b)(1)(E) of the TAA. The result would be the same if the seller were related to the licensor unless the buyer/importer could establish that no portion of the proceeds accrued directly or indirectly to the seller.

Finally, you have also asked whether the payments at issue would be dutiable if the licensor and licensee were related. Customs considers that the above analysis applies irrespective of any relationship between the licensor and licensee. Consequently, where a relationship exists, our response would in every instance be the same as that set forth in the above scenarios.

HOLDING:

Pursuant to the foregoing, and assuming that transaction value is the appropriate method of appraisement, payments by the licensee in respect of the technical data supplied by the licensor constitute an addition to the price actually paid or payable under section 402(b)(1)(C) of the TAA. Payments made by the licensee to the licensor/seller, or to the licensor in respect of merchandise purchased from a seller related to the licensor, for the right to use the licensor's trademarks and trade names, constitute additions to the price actually paid or payable within the meaning of either section 402(b)(1)(D), or section 402(b)(1)(E), of the TAA. Payments made by the licensee to the licensor in respect of merchandise manufactured and sold by a third party seller unrelated to the licensor do not constitute additions to the price actually paid or payable under sections 402(b)(1)(D)-(E).

This holding is based on the information presented, in particular, the draft agreement. Nevertheless, as noted above, the dutiable status of royalties and license fees paid by the buyer will be determined on a case-by-case basis and will ultimately depend on: (i) whether the buyer was required to pay the royalty as a condition of sale of the imported merchandise for exportation to the U.S.; and (ii) to whom and under what circumstances it was paid. Consequently, if any of the facts should change in any material respect, a different result may obtain.

Sincerely,

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