HQ 545147 - Payments; price actually paid or payable; Generra; assists; tools, dies, molds and similar items; pattern maker - United States International Trade Commision Rulings

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HQ 545147

November 4, 1994

VAL CO:R:C:V 545147 CRS

CATEGORY: VALUATION

District Director
U.S. Customs Service
1000 Second Avenue
Seattle, WA 98104-1049

RE: Payments; price actually paid or payable; Generra; assists; tools, dies, molds and similar items; pattern maker

Dear Sir:

This is in response to your request for internal advice, submitted under cover of a CF 387 dated November 12, 1992, concerning issues raised in a consumption entry audit of M&L International Company, L.P. (the "buyer"), conducted by the Chicago Branch, Regulatory Audit Division, North Central Region (the "auditors"). The audit findings are contained in audit report no. 311-91-CEO-003, dated September 25, 1992 (the "audit report"). A memorandum from the concerned import specialist was attached to the CF 387, as was a letter dated April 6, 1992, submitted by Rode & Qualey, counsel for the buyer, in response to a draft version of the audit report. Additional submissions were made by counsel under cover of letters dated May 16, 1994, and September 14, 1994. A supplement to the audit report was made by the auditors in a memorandum dated April 13, 1993. Finally, meetings with counsel were held at Headquarters on April 8, 1994, and August 11, 1994. We regret the delay in responding.

FACTS:

The buyer imports jackets, ski suits, snowsuits, beachwear, outerwear and other garments from various foreign manufacturers, including Unidex Garments (Philippines), Inc. (the seller), a related party company in which the buyer held a thirty percent interest as of December 31, 1990. Approximately eighty-nine percent of the buyer's imports are supplied by the seller; the balance are supplied by manufacturers in Bangladesh, Thailand and Taiwan. Commercial importations are entered through the port of Seattle; imports of samples are entered through the port of Chicago. The imported merchandise is sold to large retailers in the U.S. The following discussion applies only to the transaction between the buyer and the seller.

The seller supplies the buyer with sample garments based on the latter's design specifications. When and if a particular style is selected for full production, the buyer negotiates the price of the garment with the seller and generates a purchase order for that style. It then purchases fabric from foreign vendors and consigns it to the seller. In addition, the buyer advances funds to the seller to cover the cost of manufacturing the garments.

The audit report concludes that the buyer advances bulk payments to its foreign vendors for fabric purchases and labor costs. While these amounts would allegedly be used by the seller to cover the production costs of future purchase orders, the audit determined that there were significant discrepancies between the amounts advanced to the buyer via letters of credit and the price of the imported merchandise as stated on the accompanying invoices. The audit report also observes that while the buyer commonly advances payments to its other foreign vendors, in the instant case a permanent balance of approximately $********* is maintained with the seller. The audit report concludes that the excess payments should be considered indirect payments for the imported merchandise in accordance with section 152.103(2), Customs Regulations (19 C.F.R. § 152.103(2)). The auditors also cite Headquarters Ruling Letter (HRL) 544375 in support of their position that the entire amount of the payments by the buyer to the seller should be regarded as part of the price actually paid or payable for the imported merchandise, including the amount of any "excess" payments.

Counsel, in its submission in response to the draft audit report, contends that the advances made by the buyer in excess of the invoice price of the imported merchandise include amounts in respect of a loan or loans made by the buyer to the seller. Moreover, counsel states that the loan amounts are separate from the price of the imported merchandise and are properly accounted for in the audited financial statements of the buyer and seller. The auditors take issue with this assertion in their supplementary memorandum of April 13, 1993. They note that the advances are not separately distinguishable as payments for imported merchandise on the one hand, and loan amounts on the other. Furthermore, they state that the financial statements and accounting records of the buyer and seller do not support the contention that amounts allegedly in excess of the price of the imported merchandise are in fact loans. In this regard the April 13th memorandum states that the excess payments are recorded in the buyer's accounts as a current asset and are designated on its financial statements as "advances to affiliates." On the seller's books the excess payments are recorded as "export packing credits" rather than as a loan.

In addition, the audit report states that the buyer furnished the seller free of charge with a machine used in the production of the imported garments known as a "Lectra pattern maker." The audit report describes the equipment as a "fabric cutting machine" the provision of which is characterized as a tooling assist valued on a cost basis at $*******, but according to the import specialist, neither the audit report nor counsel's submission describe the machine's actual function. Moreover, the import specialist observes that there is a discrepancy between the auditors' description of the article as a fabric cutting machine, and the attorney's statements that: (1) the machine is not used in the actual production of the merchandise; and (2) that it does not work a physical change on the merchandise during production.

However, the import specialist determined that the buyer imported a model E54 color graphic workstation in 1990; this was confirmed by an employee of the buyer who stated that the particular model is known as a "Marker Maker and Pattern Grader." The import specialist also obtained advertising material prepared by Lectra Systems in regard to the E54 states that "Lectra's E54 high resolution color graphics workstation is the one screen that can apply advances technology to all of your computer aided design needs." Among the software functions available with the E54 are sketching, alterations, grading, and pattern creation and modification.

The pattern maker/grader is used in the following manner. First, an original garment pattern is cut from fabric, and then electronically scanned and digitized by a machine other than the pattern maker/grader or E54). The resulting digital pattern is sent to the pattern maker/grader, in essence a graphic workstation, or computer, which recreates the original pattern in different sizes. These patterns are used in the fabric cutting process. In this operation a mechanic uses the pattern maker/grader electronically to display a length of fabric. The pattern maker/grader electronically displays fabric pieces which are superimposed over the fabric in order to produce the most efficient cutting arrangement possible. When this is accomplished, the result is sent to a plotter (large width printer) which produces a printout, or "marker," in the exact dimensions of the fabric. An actual length of fabric is then cut to the ideal specification as determined by the E54 pattern maker/grader. The machine does not cut fabric; other machines, which accept output from the pattern maker/grader, actually cut the fabric. The audit report concludes that the "Lectra pattern maker" is a tooling assist and should be included in the appraised value of merchandise imported by the buyer. Counsel's submission of April 6, 1992, does not address this issue; however, it was raised in a separate submission, dated March 27, 1991, to the District Director, Seattle.

ISSUE:

The issues presented are: (1) whether the payments by the buyer to the seller are part of the price actually paid or payable for the imported merchandise; and (2) whether the Lectra pattern maker constitutes an assist such that it should be added to the price actually paid or payable.

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 (19 U.S.C. § 1401a; TAA). The preferred method of appraisement is transaction value, which is defined as the "price actually paid or payable for [imported] merchandise when sold for exportation to the United States," plus certain enumerated additions including the value, apportioned as appropriate, of any assist. 19 U.S.C. § 1401a(b)(1). However, where the buyer and seller of the imported merchandise are related, transaction value is an acceptable basis of appraisement only if the circumstances of sale indicate that the relationship did not influence the price actually paid or payable, or the transaction value closely approximates certain test values. 19 U.S.C. § 1401a(2)(B).

Section 402(g) of the TAA defines related persons as, inter alia, "any person directly or indirectly owning, controlling, or holding with power to vote, 5 percent of more of the outstanding voting stock of any organization and such organization." 19 U.S.C. § 1401a(g)(F). The buyer holds a thirty percent equity interest in the seller. Accordingly, the buyer and seller are related within the meaning of section 402(g) of the TAA. In the instant case no information has been presented to the effect that the relationship influenced the price actually paid or payable and therefore we do not reach this issue.

Price Actually Paid or Payable

Section 402(b)(4) of the TAA provides in relevant part that "the term 'price actually paid or payable' means the total payment (whether direct or indirect . . .) made, for imported merchandise by the buyer to, or for the benefit of, the seller." 19 U.S.C. § 1401a(b)(4)(A). In Generra Sportswear Co. v. United States, 905 F.2d 377 (1990), the court held in regard to quota payments that:

[a]s long as the . . . 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 focus of transaction value is the actual transaction the buyer and seller . . . .

Id. at 380. As a general matter, it is therefore Customs' position that all payments to a seller are part of the price actually paid or payable for imported merchandise. See also HRL 544640 dated April 26, 1991.

The auditors contend that excess payments made by the buyer to the seller and recorded on the buyer's balance sheet as of December 31, 1990, and December 31, 1989, as "advances to affiliates," should be considered payments for the imported merchandise. In support of this the auditors have provided the financial statements of both the buyer and the seller for 1989-1990, and the buyer's 1989 tax return. In addition, the auditors have submitted workpapers prepared by the buyer relating to its 1989-1990 shipments, the buyer's open letter of credit report (the "L/C report") dated January 8, 1991, which reflects L/Cs issued by the buyer to the seller in 1990, and the monthly detail of the buyer's advances to suppliers (the "advances to suppliers account") for 1989-90.

Counsel maintains that the "excess payments" identified by the auditors are loans rather than payments for imported merchandise, and that "Customs is not free to reject Unidex's and M&L's accounting methods which treat the advances as loans by M&L to Unidex." Letter of April 6, 1992, at 3. However, quite to the contrary, the auditors do not reject the buyer's accounting methods, nor do they question that the accounts were prepared in accordance with generally accepted accounting principles. Instead, the auditors base their argument entirely on the audited financial statements and the underlying workpapers prepared by the buyer and the seller. According to counsel, the payments in question are loans because:

The payments to Unidex for the imported merchandise are the amounts reflected on the invoices submitted to Customs on which duties have been paid. The additional sums advanced to Unidex are not paid to Unidex for the imported merchandise but have been advanced to them as a loan and have been carried on the books and records of both companies as such.

Letter of April 6, 1992, at 5. While counsel correctly notes that the amounts in question are not indirect payments for merchandise as set forth in 19 C.F.R. § 152.103(2), e.g., the settlement by the buyer of a debt owed by the seller, the financial statements of the buyer and the seller do not support counsel's contention that the amounts were advanced to the seller as a loan.

Indeed, the financial statements and other documentation support the auditors' position that the payments in question are part of the price actually paid or payable for the imported merchandise. The buyer's L/C report serves as a starting point in this inquiry. The L/C report identifies, on an annual basis, the amounts of individual letters of credit drawn in favor of the seller. In addition to the letter of credit amounts, the L/C report also reflects a category identified as "import cost," which is always equal to the letter of credit amount. The advances to suppliers account, on the other hand, compares monthly letter of credit totals, verifiable from the L/C report, with the dollar amount of monthly shipments received from the seller. In any given month the dollar value of advances may exceed the value of shipments, or vice versa; however, during the period covered by the audit report, advances to the seller exceeded the value of shipments received. Together, the L/C report and the advances to suppliers account establish that payments to the seller for imported merchandise were made by letter of credit and that advances exceeded the value of shipments received.

Counsel acknowledges that "additional sums" were advanced to the seller but maintains that these amounts were loans. However, this assertion is contradicted by the financial statements of the buyer and the seller. The amounts by which the payments to suppliers discussed above exceeded the value of imported merchandise is shown as a current asset on the buyer's balance sheet as of December 31, 1989, and December 31, 1990, under the heading of "advances to affiliates." There is no indication in the buyer's financial statements that these amounts represent loans.

Other than asserting that the amounts in question represent loans, counsel does not state how the amounts are treated in the buyer's accounts. Excluding partnership capital and subordinated debt, the liability side of the buyer's balance sheet shows various bank debt, while the asset side contains an amount representing the investment in and advances to foreign affiliates. The payments at issue are neither bank debt nor investments in foreign affiliates. Note 5 to the financials details the various credit arrangements entered into by the buyer. None bear any relation to the payments to the seller. Similarly, note 4 to the financials addresses the buyer's investments in foreign affiliates. It states that the buyer has informal agreements with its affiliates to provide financing and guarantees for commercial letters of credit when needed. However, the auditors advise that the manner in which the advances are accounted for indicates that they are not loans. Furthermore, pursuant to note 4, only thirty percent of the total of the buyer's investments in affiliates applies to the seller. Finally, the amount of the buyer's investments in affiliates bears no relation to the amount of the excess payments identified by the auditors. Accordingly, the buyer's financials contradict counsel's assertion that the payments to the seller in excess of the value of imported merchandise constitute loans.

Counsel's assertion is also refuted by an examination of the seller's financials statements. The liability side of the seller's balance sheet presents only two categories of debt into which payments by the buyer might fall. The first is long term debt. Note 5 to the seller's certified financial statements indicate that the long term debt reflected on the seller's books consists of foreign currency loans from the Industrialization Fund (IFU) for developing countries. The amount of long term debt therefore bears no relation to payments by the buyer. Similarly, the only other item on the seller's balance sheet that could potentially be considered a loan from the buyer is also ruled out upon further examination. Note 4 to the financials state that amounts recorded as "export packing credits" represent credits with the Land Bank of the Philippines against letters of credit. Once again, there is no relation between these amounts and the excess payments by the buyer.

Funds transferred by the buyer to seller were advanced by letters of credit. The letters of credit were issued on behalf of the buyer as consideration for imported merchandise purchased from the seller (see the advances to suppliers account). The amount of these payments exceeded the invoice value of the merchandise. Neither the financial statements of the buyer nor those of the seller support the view that the "excess" amounts of the payments are loans in the instant case, the company's books do not support this view. It is therefore our position, under Generra, that the payments are part of the price actually paid or payable.

Tools, dies and molds

The audit report states that the "Lectra pattern maker," or E54 workstation, was provided free of charge by the buyer to the seller and that it constitutes an assist. Section 402(h) of the TAA provides in pertinent part:

(1)(A) The term "assist" means any of the following if supplied directly or indirectly, and free of charge or at a reduced cost, by the buyer of imported merchandise for use in connection with the production or sale for export to the United States of the merchandise:

(ii) Tools, dies, molds, and similar items used in the production of the imported merchandise . . . .

19 U.S.C. § 1401a(h)(1)(A)(ii). Thus the audit report characterizes the E54 workstation as a tooling assist and concludes that its value should be added to the price actually paid or payable.

In contrast, counsel cites, inter alia, HRL 543064 dated June 1, 1983, for the proposition that certain pattern making activities are not assists. In contrast to the instant case, HRL 543064 concerned the services of a foreign pattern maker who disassembled sample garments, made paper patterns thereof, cut new samples based on instructions from the importer/buyer, and made adjustments to the new samples. The final patterns were then provided free of charge to the foreign manufacturer as an aid in the production of the imported merchandise. The issue was whether the activities of the pattern maker were in the nature of development, design work, or plans and sketches such that they constituted an assist under section 402(h)(1)(A)(iv) of the TAA. HRL 543064 held that the pattern-making functions did not constitute a design or development assist because the activities of the pattern maker instructed the manufacturer what to produce rather than how to produce it. Here the issue is whether an item of equipment constitutes a tooling assist. Given that HRL 543064 concerned the issue of assists under section 402(h)(1)(A)(iv) rather than tooling assists under section 402(h)(1)(A)(ii), we find that it is not relevant to the instant case.

Customs has held that general purpose equipment such as sewing machines, ovens, drill presses, which were furnished to the seller free of charge or at a reduced rate for use in the production of imported merchandise, were assists under section 402(h)(1)(A)(ii). HRL 542122 dated September 4, 1980 (TAA No. 4). In C.S.D. 81-186 (HRL 542302 dated February 27, 1981; TAA No. 18), we stated that items that were not used in the production of the imported merchandise, e.g., telephone switching equipment, air conditioning equipment, were not assists within the meaning of section 402(h)(1)(A)(ii). 15 Cust. B. & Dec. 1099, 1100. The Court of International Trade observed this distinction in Texas Apparel Co. v. United States, 12 CIT 1002, (Oct. 25, 1988), aff'd 883 F.2d 66 (Aug. 15, 1989), in holding that the function of sewing machines was essentially or principally the same as that of tools, dies or molds. The court stated:

Customs' interpretation clearly distinguishes between machinery that works directly on the merchandise or contributes directly to its manufacture, e.g., sewing machines, drill presses and ovens, and machinery which although used by the industry is not used directly in the production of the merchandise itself, e.g., air-conditioners and emergency generators.

Id., 12 CIT 1007. See also, Aris Isotoner Gloves, Inc. v. United States, 14 CIT 693. In this instance the Lectra pattern maker/E54 workstation is akin to sewing machines, drill presses and ovens rather than to equipment such as air-conditioners and emergency generators. It contributes directly to the manufacture of the imported merchandise by recreating garment patterns in different sizes and by manipulating pattern pieces in order to produce the most efficient usage of material. It is therefore our position that it constitutes as assist within the meaning of section 402(h)(1)(A)(ii), and consequently, its value should be added to the price actually paid or payable for the imported merchandise.

HOLDING:

The payments by the buyer to the seller in excess of the invoice amount constitute payments for the imported merchandise and should be added to the price actually paid or payable.

The Lectra pattern maker/E54 workstation constitutes an assist under section 402(h)(1)(A)(ii) of the TAA such that its value should be added to the price actually paid or payable of the imported merchandise.

This decision should be mailed by your office to the internal advice requester 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, the Freedom of Information Act and other public access channels.

Sincerely,

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