HQ 546433 - Reconsideration of HRL 546033/Internal Advice Request 25/95; Dutiability of license fees/ royalties paid to party related to seller for trademarks on imported and domestically produced merchandise; HRLs 544991, 545035, 545752, 545841 - United States International Trade Commision Rulings

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HQ 546433

January 9, 1998

VAL RR:IT:VA 546433 LPF

Port Director
U.S. Customs Service
JFK Airport - Bldg #77
Jamaica, NY 11430

RE: Reconsideration of HRL 546033/Internal Advice Request 25/95; Dutiability of license fees/ royalties paid to party related to seller for trademarks on imported and domestically produced merchandise; HRLs 544991, 545035, 545752, 545841

Dear Director:

This decision concerns a request made by Follick & Bessich on behalf of their client, 546033, issued March 14, 1996 concerning the dutiability of license fees paid for the use of the [*******************] (company) trademark and trade name on imported jewelry, watches and silver. In this decision, it was determined that the license fees paid by the importer to the related party licensor were to be added to the price actually paid or payable for the imported merchandise and constitute part of its transaction value pursuant to ?402(b)(1)(D) of the Tariff Act of 1930, as amended by the Trade Agreements Act of 1979 (TAA), codified at 19 U.S.C. 1401a.

Since the issuance of HRL 546033, counsel has submitted additional information concerning the subject license fees. A meeting also was held with counsel and the importer on May 28, 1997. We have reviewed HRL 546033 in light of the newly submitted information and evidence. The proper appraisement is as follows. As set forth in counsel's July 8, 1997 letter we continue to grant the request for confidential treatment of the identities of the importer and other parties named in counsel's submission, consistent with that provided for in HRL 546033. We have excised, in the public version of this decision, the bracketed confidential information below.

FACTS:
watches to the importer.

In accordance with an April 30, 1988 agreement, the importer pays the licensor a license fee calculated as a percentage of the importer's net sales prices for the use of a trademark or trade name on the products that it sells in the U.S. The licensor grants the importer the right to use the trade name and trademark in the operation of its New York store as well as the right to sell products in the store. Therefore, one license enables the importer to use the trade name in its operation of the retail store and the other authorizes the importer to sell jewelry, silverware, watches and other products in the store, purchased by the importer from the sellers of the merchandise.

Counsel provides that the payments are not made with respect to merchandise not sold at the retail level to consumers in the importers' own stores, such as sales to affiliates or to independent franchise retailers of the trademarked products. Notwithstanding the language in the license agreement which appears to limit the resale of trademarked products to company stores, counsel submits that the importer has been selling the company watch collection to independent, unrelated department and jewelry stores, the subsequent resale by independent retailers of which was not subject to the payment of royalties. Counsel adds that by 1996, selected company jewelry lines also were being sold to independent retailers by the importer and neither the importer's sales at the wholesale level, nor those made by the independent retailers were subject to any payment of royalties to the licensor.

A table was submitted setting forth annual figures for purchases from 1993 through 1996 indicating that on average approximately 89% of the importer's purchases actually were imported while approximately 11% were purchased locally in the U.S. It is our understanding from a telephonic conversation held with counsel on August 27, 1997 that the latter goods are produced in the U.S., often from imported gems or other components. Of all the imported merchandise, 20% was sold at wholesale and no royalty was required by the importer or the purchaser. However, any product sold to a third party from the retail store, whether imported or purchased locally was subject to the royalty payment. We understand that the products purchased locally always are sold at retail.

As evidence of the substantial quantity of wholesale level sales a portion of a schedule reporting the importer's sales of the company's products at both retail and wholesale levels was provided. In order to substantiate these figures derived from the importer's General Ledger trial balance, the following were provided: copies of the importer's General Ledger balance from its computerized financial records, the company's Consolidated Income Statement and watch distribution Income Statement and the importer's royalty payment wire transfer to the licensor as well as a bank statement excerpt. A listing of independent retailers, the sales to whom were not subject to royalties as "wholesale" sales also was submitted. Counsel submits that this evidence establishes that a significant portion of the merchandise sold in the U.S. by the importer are made at the wholesale level to independent retailers, are not subject to the obligation to pay royalties and thus that the sale of the merchandise for export and the requirement to pay the royalty are not "tied together," but rather are "exclusive" of each other.

While all concerned parties recognize that the importer is related to both sellers and to the licensor as provided in ?402(g) of the TAA, we cannot verify the acceptability of the related party price. However, for purposes of this decision we only will address the questions posed to our office concerning the dutiability of the subject license fee payments, assuming transaction value to be the appropriate method of appraisement.

ISSUE:

Whether the license fees paid by the importer to a party related to the seller for the use of a trademark and trade name on imported and domestically produced merchandise when sold at retail in the importer's stores, are included within the transaction value of the imported merchandise.

LAW AND ANALYSIS:

As you are aware, the preferred method of appraising merchandise imported into the U.S. is transaction value pursuant to ?402(b) of the TAA. Section 402(b)(1) provides, in pertinent part, that the transaction value of imported merchandise is the "price actually paid or payable for the merchandise when sold for exportation to the United States" plus the enumerated statutory additions, including the value of any royalty or license fee related to the imported merchandise that the buyer is required to pay as a condition of the sale for export to the U.S. (?402(b)(1)(D)) and the proceeds of any subsequent resale, disposal or use of the imported merchandise that accrue to the seller (?402(b)(1)(E)).

The Statement of Administrative Action (SAA), adopted by Congress with the passage of the TAA, explains that:

[a]dditions for royalties and license fees will be limited to those that the buyer is required to pay, directly or indirectly, as a condition of the 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 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.

Statement of Administrative Action, H.R. Doc. No. 153, Pt. II, 96th Cong., 1st Sess. (1979), reprinted in Department of the Treasury, Customs Valuation under the Trade Agreements Act of 1979 at 48-49 (1981).

In the General Notice, Dutiability of Royalty Payments, Vol. 27, No. 6 Cust. B. & Dec. at 1 (February 10, 1993), commonly known as "Hasbro II," Customs articulated three factors, based on prior court decisions, for determining whether a royalty was dutiable. These factors were whether: 1) the imported merchandise was manufactured under patent; 2) the royalty was involved in the production or sale of the imported merchandise; and 3) the importer could buy the product without paying the fee. Affirmative responses to factors one and two and a negative response to factor three would indicate that the payments were a condition of sale and, therefore, dutiable as royalty payments.

When analyzing the Hasbro II factors, Customs, in its more recent ruling decisions, has taken several considerations into account which follow from the language set forth in the SAA. These include, but are not limited to:
i) the type of intellectual property rights at issue (e.g., patents covering processes to manufacture imported merchandise generally will be dutiable);
ii) to whom the royalty is paid (e.g., payments to the seller or party related to the seller more likely are dutiable than payments to an unrelated third party);
iii) whether the purchase of the merchandise and payment of royalties are inextricably intertwined (e.g., provisions in the same agreement for the purchase of the merchandise and payment of royalties; license agreement refers to, or provides for, the sale of the imported merchandise or requires the buyer's purchase of the merchandise from the seller/licensor; termination of either the purchase or license agreement upon termination of the other or termination of the purchase agreement due to failure to pay royalties); and
iv) payment of royalties on each and every importation.

See Headquarters Ruling Letter (HRL) 544991, issued September 13, 1995, and cases cited therein.

Based on the information provided, we find the subject payments to constitute dutiable royalties comprising part of the transaction value of the merchandise. First, it is our understanding that the imported merchandise is not manufactured under patent. Rather, the subject licensing agreements address the payment of royalties in connection with trademark and licensing rights.

Second, we find that the royalty is involved in the production or sale of the imported merchandise. We reiterate as stated in HRL 546033 that, "the license agreement is replete with requirements regarding the sale of the imported merchandise." Specifically, with regard to the license agreement we note:
a) "whereas" clauses in the preamble providing that the licensor is engaged in the business of designing, manufacturing and the sale of the products;
b) Article 1.1 defining "products" as objects bearing the company's trademark and providing the licensor with the right to designate other suppliers or withdraw them;
c) Article 2.1 where the licensor grants the importer the right to sell products in its store based on conditions in the licensing agreement;
d) Article 5.1 where the importer agrees to place orders in accordance with the licensor's marketing guidelines and the range of products are to be determined under the licensor's discretion;
e) Article 5.2 where the importer agrees to purchase minimum amounts;
f) Article 5.3 where orders are to be placed in Rome via the licensor's purchase schedule;
g) Article 5.4 stating that no products may be purchased outside the purchase schedule;
h) Article 5.5 where the licensor has the right to forward products to the importer to retain them on deposit for sale under terms and conditions determined by the licensor;
i) Article 6.1 stating that all orders are subject to the licensor's terms and conditions;
j) Article 10.3 stating that the licensor is to provide recommended prices, and the importer is to scrupulously adhere to these prices;
k) Article 12.1 where the licensor has the right to terminate the agreement if payment delays occur with respect to the agreed payment schedule, the importer does not purchase minimum quantities as set forth in Article 5.2, or there is a breach of the importer's obligation to adhere to prices to the public as indicated by the licensor; and
l) Article 13.1 stating that upon termination of the license fee agreement, the importer ceases to sell products and use the company name in any form.

This language demonstrates that the license fee and rights pertaining to the trademark and trade name relate to the sale of the merchandise, as imported. Without the licensing agreement and license fees it appears the imported merchandise could not have been sold by the foreign sellers.

Finally, it continues to be our position that the importer could not buy the imported merchandise without paying the fee. This likewise is demonstrated from the language included in the license agreement. Although counsel provides that the agreement is not strictly adhered to and many of the clauses are not contractual obligations but merely statements of the relative positions of the parties, the importer recognizes that they still are bound by the terms of the agreement.

Furthermore, based on the language provided in the agreement, it is apparent that the purchase of the merchandise and payment of the license fees are inextricably intertwined and the payment of the royalties is, in fact, closely tied to the purchase of the merchandise. Contrary to counsel's assertions, the licensor appears largely in control of the amount, conditions, supply, type, and payment with regard to the sale of the imported merchandise. Moreover, the fact the payments are made to a party related to the foreign sellers further indicates that the royalties are closely tied to the purchase of the merchandise and, therefore, are a condition of sale. While we recognize that the fact royalty payments are made to parties related to the seller, who may not actually sell the products, does not necessarily serve as prima facie evidence of a condition of sale, the submitted evidence does not warrant a finding of non-dutiability consistent with the Hasbro II factors as well as the four considerations enumerated above. This remains the case regardless that the licensor only realizes the benefits of payment of the license fees once the U.S. consumers purchase the product and pay the fees as part of the purchase price upon resale of the merchandise. It continues to be Customs' position that the method of calculating a royalty is irrelevant in determining whether a royalty or license fee is dutiable. Hasbro II at 12.

For the reasons previously articulated, we find the license fees to constitute a condition of sale of the imported merchandise regardless of the number of sales conducted at the wholesale level (other than in the importer's stores) on which license fees do not accrue. However, it is appropriate to consider the fact that a portion of the license fees are paid on merchandise manufactured in the U.S. Several decisions issued after Hasbro II particularly are telling in this regard.

In HRL 545752, issued April 1, 1996, the seller, a Japanese company, designed, produced, and exported cycling apparel and accessories distributed under its own trademarks. The buyer, an unrelated U.S. company, sold cycling apparel and accessories which it imported and at times produced. The parties entered into various Technology and Trademark License as well as Distribution Agreements. One type of royalty payment granted the buyer the exclusive right and license to use the seller's technical information to produce, and then sell, cycling products at its plant and also granted the buyer an exclusive right to use the seller's trademark. In the other agreement, where royalties were paid based upon quarterly sales, the buyer was appointed the sole and exclusive distributor of the products manufactured by the seller and agreed to devote himself to marketing, promoting and selling the products. This agreement contained provisions regarding royalties as well as the terms of sale concerning the purchase of the imported products.

With regard to the first agreement, Customs found that the fees were not involved in the production or sale, nor were a condition of sale of the imported merchandise since they related exclusively to products manufactured by the buyer. On the other hand, the payments subject to the second agreement were found to be closely tied to the purchase of the imported products insofar as the agreement included specific provisions covering both the purchase price of the goods and the license fees and also provided that the seller could terminate the agreement if the buyer failed to make any such payments.

Furthermore, in HRL 545035, issued August 23, 1995, an importer intended to purchase alcoholic beverages from its parent company/seller, which would be marketed worldwide under a well-known trademarked brand name. The importer and seller were related parties. The U.S. trademark rights for the product were owned by another related company. The licensor and importer proposed to enter into an agreement under which the licensor would grant to the importer the right to use the trademark in connection with the promotion and sale of such trademarked liquor products, for the payment of a royalty. Under the agreement, royalty payments were calculated on the basis of the "gross margin" on the sale of the licensed products, or the amount excluding the cost or value of the imported liquors, realized by the importer on the sale of the licensed products. Additionally, minimum quarterly and monthly payments specifically were to be made regardless as to whether any liquors were imported during the applicable period.

Customs noted that the method of calculating the royalty was not relevant in determining its dutiable status and found that the fact that liability for the payment of the trademark royalty was triggered by the resale of the products after importation did not preclude a finding that the payments were dutiable. Further, in light of the fact that the royalties were to be paid to a party related to the seller of the imported liquor, Customs did not find the sale of the liquor for exportation to the U.S. to be entirely separate from the payment of the royalty. Customs ruled that to the extent that the licensed products were imported, the royalties were dutiable, but if there were no importations of the licensed products, the payment of minimum royalties would have no duty consequences.

Based on the evidence presented in this case, we find it consistent with HRLs 545035 and 545752 to not include the amount of the license fee payments attributable to the domestically produced merchandise as part of the dutiable license fees under ?402(b)(1)(D). Simply stated, these payments are not related to the imported merchandise nor was the importer required to pay these amounts as a condition of sale of the imported merchandise. We are able to reach this finding due to the fact that counsel has provided the annual figures for the importer's purchases, delineating the amount actually imported as opposed to purchased locally in the U.S. We do understand, however, that corporate records such as those used for accounting purposes as well as transaction documents such as invoices, purchase orders, proof or payment and the like are available which would furnish a precise percentage or breakdown of the domestically produced merchandise, consistent with the approximate figures currently provided by counsel.

HOLDING:

Based on the evidence and additional information provided, the license fees paid by the importer to the licensor for the use of the trademark and trade name, with the exception of the portion demonstrated to pertain only to domestically produced and purchased merchandise, are included within the transaction value of the imported merchandise as royalties in accordance with

Because it was appropriate to appraise the merchandise based on the information available at that time, as determined in HRL 546033, and this decision is based on additional information which was not previously available for Customs' consideration, modification or revocation of that decision pursuant to section 625, Tariff Act of 1930 (19 U.S.C. 1625), as amended by section 623 of Title VI (Customs Modernization) of the North American Free Trade Agreement Implementation Act, Pub. L. 103-182, 107 Stat. 2057, 2186 (1993), is not warranted. However, for entries on which liquidation has not become final, as well as for future entries, appraisement is to be fixed in accordance with the foregoing.

This decision should be mailed by your office to the party requesting reconsideration of the internal advice no later than sixty days from the date of this letter. On that date the Office of Regulations and Rulings will take steps to make the decision available to Customs personnel via the Customs Rulings Module in ACS and the public via the Diskette Subscription Service, Freedom of Information Act and other public access channels.

Sincerely,

Stuart P. Seidel
Assistant Commissioner
Office of Regulations and Rulings

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