HQ 548386 - Transfer pricing; reconciliation; remittances pursuant to corporate transfer pricing policy not related to imported merchandise - United States International Trade Commision Rulings

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HQ 548386

November 26, 2003

VAL RR:IT:VA 548386 CRS

CATEGORY: VALUATION

Jeremy Ross Page, Esq.
Sandler, Travis & Rosenberg, P.A.
200 West Madison Street
Suite 2670
Chicago, IL 60606

RE: Transfer pricing; reconciliation; remittances pursuant to corporate transfer pricing policy not related to imported merchandise

Dear Mr. Page:

This is in reply to your request, dated August 26, 2003, on behalf of your client, ******************************************************************** [the importer], for a ruling on the calculation and reporting of certain value information for purposes of reconciliation. Your request that identity of your client and its parent company be treated as confidential has been approved.

FACTS:

The importer, a subsidiary of ************ [Foreign Parent Corporation (FPC)], represents the manufacturing, marketing, sales and product support headquarters of FPC in North America. The importer participates in the ACS Reconciliation Prototype, with the company’s blanket flag currently extended through September 30, 2004. The blanket flag covers three importer numbers. Imports under these numbers consist principally of finished machines from Sweden, Germany, France, Poland, South Korea and Brazil; after sales parts from Sweden, Germany, France and South Korea; and components used in the manufacture of construction equipment from Sweden, Brazil and various European countries.

Merchandise, including machinery, parts and components, imported into the U.S. by the importer is currently being appraised under the transaction value method. In some cases, the importer purchases goods and services from FPC or a FPC affiliate. In other cases, the importer purchases goods and services from unrelated foreign sellers, or from domestic vendors. The importer’s purchases account is central to the company’s proposed method for reporting information for purposes of reconciliation.

The importer’s participation in the reconciliation prototype is triggered by the FPC’s corporate transfer pricing policy. That policy is based on a distinction between those business entities that maintain ownership over business intangibles and assume significant business risk and those that simply provide services to the business owners. The importer is a service provider in that it provides contract manufacturing, research and development, sales and support services to the importer’s distributor, customer and after-market universe on behalf of FPC. As a service provider, the importer is expected to realize a certain return on the operating capital employed for that service. The anticipated return for any such service is based on tax advice, consistent with Internal Revenue Service regulations, provided by the importer’s external tax advisor.

The importer’s transfer price is based on the comparable profits method.

For example, in calendar year 2002, that advice resulted in a determination that the appropriate rate of return on the importer’s manufacturing-related services was 13.2 percent. The annualized rate translates to a 1.1 percent monthly return on operating capital. If actual operating income for the month exceeds the targeted return, the “excess funds” are transferred to FPC. If actual operating income for the month is less than the targeted return, funds are transferred from FPC to the importer to cover the “shortfall.” The application of these calculations leads to a determination of the flow of funds into or out of the importer which, in turn, leads to the reconciliation filings which the company is required to make under the prototype. As these figures cannot be determined until sometime after the month’s production and/or sales activities have been reviewed and calculated, they will not be available at the time of entry. The figures can be analyzed within a couple of months, thus enabling the importer to make the appropriate adjustments to entered values through the reconciliation program.

As illustrative of the manner in which the transfer pricing policy would operate you have provided the following example. Assume the importer has operating capital of $10,000,000 and operating income of $2,000,000. Application of the monthly targeted return of 1.1 percent to the importer’s assumed operating capital results in an anticipated operating income for the month of $110,000. The assumed operating income of $2,000,000 exceeds the targeted amount by $1,890,000. It is this amount ($1,890,000) of “excess income” that forms the basis of the remittance to FPC and is used for purposes of calculating the variance that the importer is required to report in connection with its annual reconciliation filing. Were the operating income to fall below the targeted level, for example, if operating income were only $60,000, then funds would flow instead from FPC to the importer. Again, this amount would be considered in determining the value to declare for reconciliation reporting purposes.

As the result of a recent review of the importer’s transfer pricing calculations, the importer has determined that some portion of its remittances to FPC is the result of the application of the transfer pricing policy to purely domestic purchases that are unrelated to the importer’s imports. An additional portion of the remittances to FPC is the result of the application of the importer’s transfer pricing policy to foreign purchases from sellers other than FPC or a FPC-related company. The importer’s purchases account will be the basis for apportioning the remittances between import and non-import related transactions.

ISSUE:

The issue presented is whether remittances made by the importer to FPC pursuant to the corporate transfer pricing policy are included in the transaction value of imported merchandise where those payments relate to purely domestic purchases, or result from foreign purchases from sellers other than FPC or FPC-related companies.

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 primary method of appraisement is transaction value, which is defined as “the price actually paid or payable for the merchandise when sold for exportation to the United States,” plus amounts for certain statutorily enumerated additions to the extent not otherwise included in the price actually paid or payable. The additions include amounts equal to the value of 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)(E).

Transaction value is an acceptable basis of appraisement, inter alia, only if: the buyer and seller are not related; or, if related, an examination of the circumstances of sale indicates that the relationship did not influence the price actually paid or payable; or the transaction value of the merchandise closely approximates certain "test values." 19 U.S.C. § 1401a(b)(2)(B). While the fact that the buyer and seller are related is not in itself grounds for regarding transaction value as unacceptable, where Customs has doubts about the acceptability of the price and is unable to accept transaction value without further inquiry, the parties will be given the opportunity to supply such further detailed information as may be necessary to support the use of transaction value pursuant to the methods outlined above.

In the instant case, you have advised that merchandise imported by the importer from related parties is being appraised under the transaction value method. However, we have not reviewed the FPC-importer transfer pricing policy, nor has sufficient information been submitted in this regard. Accordingly, we are unable to determine whether transaction value is the appropriate basis of appraisement for purposes of related party transactions. Nevertheless, assuming that transaction value is the appropriate basis of appraisement, the following constitutes our position in regard to the issue presented. See generally, Headquarters Ruling Letter 547672, dated May 21, 2002, wherein we held that the information presented was insufficient to establish that sales between Volvo Car Corporation and Volvo Cars Europe Industry NV could be used to establish the transaction value of automobiles imported by Volvo Cars of North America, inasmuch as the information did not support a finding that there was an arm’s length sale.

Under transaction value, all payments made by the buyer to the seller in exchange for imported merchandise are presumed to be part of the price actually paid or payable, even if the payments represent something other than the per se value of the merchandise. Generra Sportswear Co. v. United States, 905 F.2d 377 (Fed. Cir. 1990). However, this presumption may be rebutted by evidence that clearly establishes that the payments are totally unrelated to the imported merchandise.

In Chrysler Corporation v. United States, 17 Ct. Int’l Trade 1049, 1054-1055 (1993), the court applied the Generra standard and determined that certain shortfall and special application fees paid by the buyer to the seller were unrelated to the price of the imported merchandise. Instead, the court found that the evidence established that the fees were independent and unrelated costs that were assessed because the buyer failed to purchase other products from the seller. Consequently, the fees were not part of the price actually paid or payable for the imported merchandise. Furthermore, as noted above, an addition to the price actually paid or payable will be made for the proceeds of any subsequent resale, disposal or use of the imported merchandise that accrue directly or indirectly to the seller. However, no addition will be made for dividends or other payments from the buyer to the seller which do not relate directly to the imported merchandise. 19 C.F.R. § 152.103(g).

Based on the information in your submission, the application of the corporate transfer pricing policy leads to a flow of funds into or out of the importer which, in turn, leads to the reconciliation filings that the company is required to make under the ACS Reconciliation Prototype. As noted above, the intercompany transfers ensure that amounts in excess of the importer’s monthly targeted return of 1.1 percent on operating capital are remitted to FPC or, in the case of a shortfall, that funds are transferred to the importer. For purposes of reconciliation, the importer seeks to distinguish remittances that arise from domestic purchases from remittances related to the importer’s imports. In addition, the importer seeks to distinguish remittances that relate to foreign purchases from sellers other than FPC or a FPC affiliate from purchases that relate to purchases from FPC or a FPC affiliate. The amounts remitted by the importer in this regard do not inure to the benefit of the foreign seller, i.e., the unrelated party that sold goods to the importer, and are tendered solely on the basis of the corporate transfer pricing policy discussed above. To summarize, the importer contends that only that portion of the remittances that relates to purchases of imported goods from FPC or a FPC affiliate should be reported for purposes of reconciliation.

In the above example, the importer has operating income for the month of $2,000,000. The targeted return under the transfer pricing policy is $110,000; consequently, the importer remits $1,890,000 to FPC. For reconciliation purposes, the importer proposes to allocate the $1,890,000 based on the company’s purchases account. Assume, for example, that the importer’s purchases for the month, from all sources, totaled $1,000,000, and that the value of imported goods purchased from FPC or a FPC affiliate was $500,000. On this basis, i.e., an allocation of related party import purchases to total purchases of 50 percent, the amount to be reported to Customs and Border Protection for reconciliation reporting purposes would be $945,000, or 50 percent of $1,890,000.

In accordance with Chrysler, amounts paid by the buyer to the seller that are not a component of the price of the goods are not included in transaction value as part of the price actually paid or payable for imported merchandise. The importer makes remittances to FPC pursuant to corporate transfer pricing policy. The remittances represent the excess of actual operating income over targeted operating income. As such, the remittances reflect income that is unrelated to the purchase of imported merchandise, e.g., it may reflect a return on domestic inputs or imports from unrelated third parties not subject to the transfer pricing policy. The importer, through its purchases account, can establish the ratio of imported goods purchased from related parties to total purchases. The resulting percentage, applied to the monthly remittance figure, yields the portion of the total remittance attributable to the purchase of imported merchandise from FPC or a FPC affiliate. Accordingly, It is our position, subject to acceptable documentation prepared in accordance with generally accepted accounting principles, that only this amount of the remittance needs to be reported for purposes of reconciliation, since it is only this portion that is subject to duties and fees. The remaining portion of the remittance is totally unrelated to imported merchandise purchased from FPC. Chrysler, 17 Ct. Int’l Trade at 1054-1055; 19 C.F.R. § 152.103(g).

As a final matter, please note that section 177.9(b)(1), Customs Regulations provides that “[e]ach ruling letter is issued on the assumption that all of the information furnished in connection with the ruling request and incorporated in the ruling letter, either directly, by reference, or by implication, is accurate and complete in every material respect.” Accordingly, the application of a ruling letter by a Customs Service field office to the transaction to which it is purported to relate is subject to the verification of the facts incorporated in the ruling letter, a comparison of the transaction described therein to the actual transaction, and the satisfaction of any conditions on which the ruling was based. 19 CFR § 177.9(b)(1). See also, n. 2, supra.

HOLDING:

In conformity with the foregoing, remittances from the importer to FPC pursuant to corporate transfer pricing policy are reportable for purposes of reconciliation only to the extent that they relate to the purchase of imported merchandise from FPC or a FPC affiliate. This finding is based on the assumption that transaction value is an acceptable basis of appraisement; however, it should be noted that this decision makes no determination relative to that issue.

Sincerely,

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