• HQ H296075
• Mar 06, 2025

• Type : Valuation • HTSUS :
•  Related:   545998; 543512; 547148; 548095; 542261; 546998; W563404; H242894; H239496; H302184; H032883; H256779; H106603; H065015; H065024; H037375; H292850   

OT:RR:CTF VS H296075 RMC

Mitchel Landau
Assistant Center Director
Apparel, Footwear, & Textile
Center of Excellence and Expertise
Office of Field Operations

Re: Internal Advice Request; Dutiability of E-Tailing Franchise Fees; Related Parties; Test Values; Circumstances of the Sale

Dear Mr. Landau:

This is in response to your undated request seeking internal advice to determine whether any part of “e-tailing franchise fee” payments that [ ] (the Buyer) makes to its parent seller company should be included in the transaction value of imported goods purchased from its parent company, and whether, in fact, transaction value is the appropriate method of appraisement for those import transactions.

We determined that certain information submitted in connection with this internal advice request should be treated as confidential. Therefore, pursuant to the requirements of 19 C.F.R. §177.2(b)(7), the information contained within brackets and all attachments to this internal advice request, forwarded to our office, will not be released to the public and will be withheld from published versions of this decision.

FACTS:

1. Background

The Buyer is an online retailer of high-end apparel products to customers in the North American market; specifically, women’s and men’s clothing, handbags, shoes, accessories, lingerie, and beauty products. The Buyer is the U.S. subsidiary of [ ] (the Seller). The Seller initially launched in an overseas market and developed the know-how, procedures, and operating expertise to successfully run the business. This know-how and expertise includes creating a website and ordering system; establishing supplier relationships and a customer base; and acquiring management, pricing, and marketing knowledge.

With the rapid expansion of the online retailing market and recognition of the international customer base, the Buyer was established to serve the North American market as a warehousing and resale operation. The Buyer purchases goods from both U.S. and foreign vendors, relying primarily upon supplier relationships developed by the Seller. These goods are then resold to retail customers who place orders on the Buyer’s website, after which the goods are dispatched to the customer from its US warehouse. Although the Buyer purchases goods from both unrelated foreign vendors and from the Seller, this internal advice request concerns only merchandise that it purchased directly from the Seller, rather than from unrelated foreign vendors.

2. Trade and Regulatory Audit Review of the Buyer’s Import Activity

In 2016, the Trade Regulatory Audit Directorate (“Regulatory Audit”) within U.S. Customs and Border Protection (“CBP”) completed a review of the Buyer’s import activity for its fiscal year ending March 31, 2014. As part of that review, Regulatory Audit examined the level of risk presented by the Buyer in the areas of customs valuation, entry of merchandise, and tariff classification. With regard to customs valuation, in its report dated January 19, 2016, Regulatory Audit concluded that the Buyer’s activities related to the use of the transaction value method presented an unacceptable risk to CBP. Specifically, Regulatory Audit raised concerns about the dutiability of so-called “e-tailing franchise fees” identified on the general ledger and not included in the customs value of imported goods. According to the finding sheet attached to Regulatory Audit’s report, the Buyer did not document what the e-tailing franchise fee was for, who received it, or how it was calculated. Regulatory Audit also stated its future intention to perform a follow-up audit focused on transaction value to determine whether the Buyer had improved its practices and reduced the risk to a level acceptable to CBP.

The methodology and procedures for the follow-up report included, among others, conducting interviews with the Buyer and the Seller’s staff, analyzing the terms of an “e-tailing franchise agreement” between the Buyer and the Seller, and sampling and testing a series of the Buyer’s import transactions to determine compliance with CBP laws and regulations for customs valuation. In its report of February 12, 2018, Regulatory Audit concluded that its review of the “etailing franchise agreement” revealed that the franchise fee that the Buyer paid included both dutiable and nondutiable costs that had been commingled. Regulatory Audit’s view was therefore that transaction value was inapplicable for the transaction under review. Because the importer disagreed with these findings, Regulatory Audit indicated that it would refer the matter to the Regulations and Rulings Directorate for internal advice pursuant to 19 C.F.R. § 177.11.

3. The Buyer’s Submissions and Documentation

During our review of this matter, the Buyer provided extensive documentation and numerous follow-up submissions in support of its argument that the e-tailing franchise fee payments should not be included in the transaction value of the imported goods, including: (1) the E-tailing Franchise Agreement between the Buyer and the Seller; (2) a transfer pricing analysis conducted by Deloitte LLP (“Deloitte”) examining the arm’s length nature of the e-tailing franchise fee; (3) a memorandum from Deloitte outlining the purpose and calculation the e-tailing franchise fee; and (4) 2 for the period from 2014 to 2016, information on the total value of merchandise purchased by the Buyer from all suppliers, and separately, the total value of merchandise that the Buyer purchased from the Seller.

In addition, because the transactions in question occurred between related parties, we also requested information to confirm that the relationship between the Buyer and the Seller had not influenced the price, and that transaction value remained an acceptable method of appraisement for the imported goods. The Buyer also provided extensive documentation on this issue, including: (1) for fiscal years 2016 and 2017, financial statements for the Seller and trial balances for the Buyer; (2) invoices, purchase orders, proof of payment, shipping documents and other relevant entry documentation for 10 sample entries selected for testing by Regulatory Audit; and (3) invoices, purchase orders, and entry documents for a list of 19 Product Identification codes (PIDs) that involved purchases by the Buyer from unrelated suppliers.

a. E-Tailing Franchise Fee Documentation

Under the terms of the E-Tailing Agreement, the Seller agreed to grant the following rights to the Buyer:

Subject to and in accordance with the terms and conditions of this Agreement, the Franchisor hereby grants to the Franchisee for the Term the exclusive right to operate the Business in the Territory and the following additional rights relating thereto:

A non-exclusive right to access and use the Website and Ordering System;

A non-exclusive right to use and benefit from the Franchisor’s commercial management, strategic management, accounting, information technology, pricing, and marketing knowledge and experience; and

A non-exclusive right to use the Intellectual Property Rights including the Trade Marks and Trade Name in connection with the Business in the Territory subject to the provisions of this Agreement.

Provided that the Franchisee shall be entitled to sell (but not to actively market) the Products to customers in any countries outside the Territory.

According to the Agreement, the e-tailing franchise fee is calculated primarily by applying a benchmarked Berry Ratio (i.e., the ratio of gross profit to operating expenses) to the Buyer’s budgeted financial results at the start of each accounting period. If the e-tailing franchise fee calculated in this manner does not cause the Buyer’s budgeted operating margin to fall within a benchmark arm’s-length range, an upfront adjustment to the e-tailing franchise fee is made in order to bring the budgeted operating margin to the nearest edge of this range.

The Deloitte memorandum provides further insight into the purpose and calculation of the e-tailing franchise fee. Deloitte states that “the franchise fee is necessary because the Buyer depends extensively on the Seller for the provision of many services and for its operating model including

3 related processes and procedures.” The memorandum outlines the following services that the Seller provides to the Buyer:

• Retail and Buying: The Seller determines what products and what quantities will be stocked and conducts negotiations with designers. The Buyer’s activities are limited to coordinating with the supplier for delivery. • Technology: The Buyer is an exclusively online retailer, and the Seller has developed a unique technological infrastructure to manage the entire sales order process. The Buyer uses this technology for sales to its U.S. customers. • Marketing: The Seller is responsible for undertaking the Buyer’s marketing activities on a global basis, including in North America. • Operations: As of December 2015, the Buyer leased and operated a warehouse facility in the United States where staff follow operating and customer packing methods developed by the Seller. • Creative: The Seller is responsible for the photography, artwork, and associated commentary that is used on the website. • Head Office and Finance: The Seller has a team of employees that perform head office service functions such as financial and taxation compliance and human resource activities. These employees provide services on behalf of both the Buyer and the Seller.

The Deloitte memorandum also highlights the licensed intangible assets that the Buyer uses in its business, including:

• Technology Intangibles: The Seller developed, owns, and operates the web-based technology that manages the entire sales ordering process. • Marketing Intangibles: The Seller is the registered owner of the websites and has registered its trademark in its home market, the United States, and other markets. Photographs and other creative content on the website is subject to copyright owned by the Seller. Furthermore, before being sent to customers, all merchandise is packed in a branded box, which the Seller has authorized the Buyer to use.

Finally, the analysis clarifies the scope of intragroup transactions. Specifically, the memorandum clarifies that the imported goods do not carry the Seller’s and do not otherwise contain its intellectual property. Instead, the products carry the trademark or other intellectual property of the third-party designer or producer.

The transfer pricing analysis, also prepared by Deloitte, highlights that the e-tailing franchise fee was “paid by the Buyer as compensation for the intangible assets made available and ancillary support services provided by the Seller pursuant to an intra-group franchise agreement.” The analysis therefore goes on to analyze the arm’s-length nature of the services that the Seller provided to the Buyer under the agreement. Regarding the transfer of tangible property (i.e., merchandise)—as opposed to intangible services—between the Seller and the Buyer, the analysis states that:

4  The Buyer acquires merchandise directly from external suppliers rather than from the Seller; as a result, only very minimal transfers of merchandise occurred between group entities during FY15. The transfers that did take place . . . took place quarterly and were based on decisions made by the central Retail and Buying team in order to optimize inventory by locations. The global pricing policy of the intercompany transfers is that they are transferred at cost, and this policy is applied consistently to flows in and flows out of the Buyer. . . . As the policy is applied globally in a consistent manner, is for the benefit of the Buyer’s stock optimization and the amount involved on a net basis is relatively small, no further work has been undertaken to document the arrangements.

Emphasis added.

In order to quantify the intercompany sale of merchandise, which was characterized as “minimal” in the Deloitte transfer pricing analysis, the Buyer provided additional information, for the period from 2014 to 2016, on the total value of merchandise that the Buyer purchased from all suppliers. According to this document, the Buyer’s purchases from the Seller amounted to $782,553.99 for the year ended March 31, 2014; $1,868,639.71 for the year ended March 31, 2015; $1,265,673.86 for the nine months ended March 31, 2016; and $2,031,546.10 for the year ended December 31, 2016. These purchases represented 0.48%, 0.88%, 0.65%, and 0.74%, respectively, of the Buyer’s total purchases of merchandise over those periods. All other merchandise was purchased domestically in the United States or purchased and imported from unrelated third-party suppliers.

b. Related-Party Price Documentation

During the course of the internal advice process, this office raised the issue of whether transaction value was the appropriate method of appraisement for the related-party transactions between the Buyer and the Seller. On that issue, Regulatory Audit issued two memoranda to assist Regulations and Rulings with its review of the all-costs-plus profit test to determine whether the relationship had influenced the price. The calculations indicated that, for the sample transactions with the Buyer, the Seller earned a profit of 0.68% compared to its average operating profit margin of 17.22% over the period of CY 2016-2017. Regulatory Audit therefore concluded that the Buyer had not demonstrated the arm’s-length nature of its transactions with the Seller.

In the memorandum of December 11, 2020, Regulatory Audit considered additional documentation and arguments provided by counsel for the Buyer. Based on this information, Regulatory Audit revised its profit calculations: it was determined that the Seller earned a profit of 0.78% in the sampled transactions and 6.14% over the period of CY 2016-2017.

In response, the Buyer submitted several rebuttal submissions providing alternative arguments on the acceptability of the related-party prices. It pointed out numerous perceived flaws and inadequacies in Regulatory Audit’s calculations, including taking issue with the use of the net operating profit on the Seller’s financial statements in applying the all-costs-plus profit test. Furthermore, it claimed that the average profit that the Seller earned in the sample transactions was substantially higher than Regulatory Audit calculated (2.09%). 5  In addition to the profitability calculations, the Buyer also supplied information that it considered relevant to the circumstances of the sale method and test values methods of demonstrating the acceptability of the related-party price as transaction value for the merchandise. In particular, the Buyer examined the same transactions and identified instances in which it had purchased identical merchandise from both the Seller and from unrelated third parties (either domestically or in import transactions). The Buyer claims that the prices for the goods in these transactions were equal to, or less than, the prices it paid for identical goods in its transactions with the Seller, which “demonstrates that the relationship did not influence the price” under the circumstances of the sale method, and that “the prices paid by the Buyer to the Seller closely approximate the transaction value of identical merchandise in sales to an unrelated buyer in the United States . . ., as provided for in 19 C.F.R. § 152.103(j)(2)(i)(A).”

ISSUES:

1. With respect to merchandise that the Buyer purchases from the Seller, whether any part of etailing franchise fee payments that the Buyer makes to the Seller should be included in the price actually paid or payable or added to the price as a statutory addition; and

2. Whether transaction value is an acceptable method of appraisement for the imported merchandise.

LAW AND ANALYSIS:

Merchandise imported into the United States is appraised for customs purposes 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—such as certain royalty or license fees—to the extent not otherwise included in the price actually paid or payable. See 19 U.S.C. § 1401a(b)(1). When transaction value cannot be applied, the appraised value is determined based on the other valuation methods in the order specified in 19 U.S.C. § 1401a(a).

1. Dutiability of the E-Tailing Franchise Fee

The first issue in this case is whether the e-tailing franchise fee that the Buyer pays to the Seller should be included in the transaction value of the goods that it purchases from the Seller. The franchise fee could be dutiable in three ways, each of which is examined below: (1) as part of the price actually paid or payable for the imported merchandise; (2) as an addition to the price actually paid or payable for certain royalties or license fees; or (3) as an addition to the price actually paid or payable for certain proceeds of subsequent resale, disposal, or use of the imported merchandise.

a. Price Actually Paid or Payable

As stated above, transaction value 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

6 enumerated additions. 19 U.S.C. § 1401a(b)(1). Under 19 U.S.C. § 1401a(b)(4)(A), the term “price actually paid or payable” means:

the total payment (whether direct or indirect, and exclusive of any costs, charges, or expenses incurred for transportation and related services incident to the international shipment of the merchandise from the country of exportation to the place of importation in the United States) made, or to be made, for imported merchandise by the buyer to, or for the benefit of, the seller.

In the transactions at issue in this case, the Buyer makes the e-tailing franchise fee payment to the Seller. We must therefore examine whether the fee forms part of the “total payment . . . for imported merchandise.”

Regarding the scope of the term “total payment,” in Luigi Bormioli Corp., Inc. v. United States, 304 F.3d 1362, 1367 (Fed. Cir. 2002), the Court of Appeals for the Federal Circuit explained that:

We have interpreted the term “total payment” in the “price actually paid or payable” definition to be “all-inclusive.” Generra Sportswear Co. v. United States, 905 F.2d 377, 379 (Fed. Cir. 1990). Therefore, we have held that the “price actually paid or payable” includes payments made by the buyer to the seller in exchange for merchandise even if the payment “represents something other than the per se value of the goods.” Id. at 379-80 (holding that quota payments were properly included in the “price actually paid or payable”). This interpretation is consistent with the broad definition of “price actually paid or payable” adopted by the GATT.

Although the total payment is “all inclusive,” it does not encompass payments that are totally unrelated to the imported merchandise. In Chrysler Corp. v. United States, 17 C.I.T. 1049 (1993), the importer challenged Customs’ decision to include “shortfall” and “special application fees” in the price actually paid or payable for imported automobile engines. The contract between the importer and the seller specified that the fees were payable if the importer failed to meet purchasing requirements. The Court found that the obligation to pay both fees arose from the plaintiff’s failure to purchase engines and noted that “[a]n expense arising from the failure to purchase certain merchandise is not a component of the price paid for the acquisition of other products.” As a result, the expenses were not part of the price actually paid or payable for the imported engines.

However, as the Court of Appeals for the Federal Circuit noted in Generra, 905 F.2d 377:

Congress did not intend for the Customs Service to engage in extensive factfinding 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 (Fed. Cir. 1990), the “straightforward approach [of section 1401a(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]. 7  Thus, if the importer seeks to exclude payments to the seller from the “total payment . . . for [the] imported goods,” it carries the burden of establishing that the payments are totally unrelated to the imported merchandise. See, e.g., Headquarters Ruling (“HQ”) W563404, dated March 3, 2006.

Whether a payment made to the seller is “for imported merchandise” (and thus included in the price actually paid or payable) or totally unrelated to the imported merchandise (and thus excluded from the price actually paid or payable) depends on the nexus between the payment and the imported goods. See VWP of Am. v. United States, 25 C.I.T. 1056, 1062 (2001) (“Whether a particular [payment] provokes liability for customs duties depends upon its relevance to importation.”). In particular, CBP examines the nature of the additional payments, whether the amount of the payments varies according to the value or quantity of merchandise, the timing and frequency of the payments, and whether the payments add value to the imported goods. See, e.g., HQ H242894, dated December 4, 2013.

CBP has therefore generally held that service fees that are entirely separate from the amounts paid for the imported merchandise are not part of the price actually paid or payable. For example, in HQ 545998, dated November 13, 1996, CBP held that a “co-promotion” fee that the importer paid to a related licensor was not part of the “total payment . . . for imported merchandise.” In that case, the importer purchased an active pharmaceutical ingredient from an unrelated company in Belgium. Upon importation, the importer combined the product with other ingredients of U.S. origin to produce Zyrtec. Among the five agreements that the buyer entered into was a “co-promotion” agreement which permitted the related licensor to assist the importer in marketing Zyrtec in the United States by making sales presentations to licensed prescribers of medications. In exchange for its marketing and promotion efforts in the U.S., the licensor earned a “co-promotion” fee in accordance with a formula in the contract.

CBP agreed with the importer’s argument that the co-promotion fees were not payments associated with the sale for exportation of the imported merchandise. The evidence indicated that the co-promotion fees resulted from specific undertakings of the licensor in promoting the sale of the product in the United States and that the amount the licensor received under the agreement directly related to those specific undertakings. As a result, the price actually paid or payable was “entirely separate from any amounts that the importer/buyer pays to the licensor as a result of the latter’s participation in marketing events.” Thus, even though the payments were made to a party related to the seller, they were not part of the price actually paid or payable for the imported merchandise.

Similarly, in HQ H239496, dated March 13, 2015, CBP held that an “administrative fee” that the importer paid to the related seller was not part of the price actually paid or payable for imported jewelry. The administrative fee, which was calculated as a percentage of net sales, was designed to compensate the seller for marketing, sales support, administration, information technology, finance, legal, human resources, and logistics arrangements. CBP agreed with the importer that the administrative fee was not part of the price actually paid or payable because the fee was not connected to the imported merchandise, but was paid for specific undertakings of the seller in the United States. See also HQ 543512, dated April 9, 1985 (holding that fees paid by the buyer to the related seller for accounting, financing, planning, management, marketing, and clerical services “were

8 not tied to the sale for exportation of any specific merchandise” and thus were not “for” the imported merchandise).

In HQ H302184 dated December 7, 2021, the importer paid the seller (its related parent company), on a cost-plus-10% basis, for the following services to “assist the Importer in the proper and efficient conduct and control of its business” in the United States: business development and marketing, finance and legal, human resources, and product management. In holding that the fees were not dutiable as part of the price actually paid or payable for imported goods, we emphasized that the amount that the importer paid for the services did not appear to be tied to the sale for exportation of the merchandise. The service agreement did not mention products to be purchased and imported or create any obligation for the importer to purchase goods from the parent company. Accordingly, the service fee was designed to compensate the parent company for providing specific undertakings on behalf of the importer in the United States. The payments therefore were not “for imported merchandise” under 19 U.S.C. § 1401a(b)(4)(A).

Here, the e-tailing franchise fee payment at issue between the Buyer and the Seller covers services including retail and buying, technology, marketing, operations, creative (i.e., photography, artwork, etc. used on the website) and head office/financial services. The e-tailing franchise fee agreement does not create any obligation for the Buyer to purchase goods from the Seller. These fees are similar in scope and nature to those that CBP held not to be part of the price actually paid or payable in HQ H239496 and HQ H302184. We note that, in both those decisions, the buyer made the payments to the seller of the merchandise. Nonetheless, we concluded that the payments were for something other than the imported goods—namely, specific undertakings of the seller related to the resale of merchandise in the United States. That is also the case here, as evidenced by the description of the fees provided in the Deloitte transfer pricing analysis (the fee was “paid by the Buyer as compensation for the intangible assets made available and ancillary support services provided by the Seller . . .”). In other words, the fees at issue relate to services that assist Buyer to resell goods at retail—both imported and acquired domestically—in the United States.

The separate nature of these fees is also supported by the lack of nexus between the e-tailing franchise fee payments and the production or sale of the merchandise. According to the information provided, the Seller does not produce any merchandise. Instead, it acquires merchandise from unrelated third parties, none of whom receive any portion of the e-tailing franchise fee payment. Moreover, more than 99% of the Buyer’s purchases of merchandise occur with unrelated third parties, and the transactions at issue appear to have been conducted for purposes of stock optimization. The fees are not payable when goods are purchased and imported from the Seller, but instead as compensation for services rendered after importation. The fees are based on the Buyer’s overall profitability and must be paid to the Seller regardless of the existence or volume of any intercompany sales. Because the e-tailing franchise fee payments are not “tied to the sale for exportation of any specific merchandise,” (HQ 543512), we find that they are “entirely separate,” (HQ 545998), from the price the Buyer pays for the imported goods. Accordingly, they do not form part of the price actually paid or payable.

b. Dutiability as an Addition for Royalties or License Fees

Although we have determined that the e-tailing franchise fee payments are not part of the price actually paid or payable of the imported merchandise, it is still necessary to consider whether 9 such payments would constitute a dutiable addition to the price actually paid or payable as royalties under 19 U.S.C. § 1401a(b)(1)(D).

19 U.S.C. § 1401a(b)(1) provides 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 amounts equal to . . .

(D) 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 for exportation to the United States . . .

With regard to the statutory addition for royalties and license fees, Statement of Administrative Action (“SAA”) to the TAA, H.R. Doc. No. 153, 96 Cong., 1st Sess. (1979), reprinted in Department of the Treasury, Customs Valuation under the Trade Agreements Act of 1979 (1981), at 48-49, states, in pertinent 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 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 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 were they 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 for exportation to the United States.

In General Notice, Dutiability of Royalty Payments, Vol. 27, No. 6 Cust. B. & Dec. at 1 (Feb. 10, 1993), CBP articulated the following three factors or questions that assist in determining whether the royalty payments in question are related to the imported merchandise and are a condition of sale such that they are dutiable:

1. Was the imported merchandise manufactured under patent?

10  2. Was the royalty involved in the production or sale of the imported merchandise? And

3. Could the importer buy the product without paying the fee?

Affirmative answers to questions one and two, and a negative answer to question three suggest that the payments are dutiable. Otherwise, the payments are non-dutiable.

When analyzing the factors identified in the above-cited General Notice, CBP has taken into account certain considerations, which flow from the language set forth in the SAA, such as:

i. the type of intellectual property rights at issue (e.g., patents covering processes to manufacture the imported merchandise will generally be dutiable);

ii. to whom the royalty was paid (e.g., payments to the seller or a party related to the seller are more likely to be dutiable than are payments to an unrelated third party);

iii. whether the purchase of the imported merchandise and the payment of the royalties are inextricably intertwined (e.g., provisions in the same agreement for the purchase of the imported merchandise and the payment of the royalties; license agreements which refer to or provide for the sale of the imported merchandise, or require 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 the failure to pay the royalties); and

iv. payment of the royalties on each and every importation.

See, e.g., HQ 547148, dated September 12, 2002.

To answer these questions and other considerations, it is necessary to understand the nature of the intellectual property rights and various other services covered by the franchise fee payment under the E-Tailing Franchise Agreement. The Agreement provides that the Seller will grant the Buyer access to its internet platform, the Seller’s buying and marketing staff expertise, access to supplier relationships developed by the Seller, access to the customer database, and use of the intellectual property developed by the Seller. In general terms, the e-tailing franchise fee payment under the Agreement compensates the Seller for the Buyer’s use of its expertise and intellectual property to run its business in North America.

Regarding the Seller’s intellectual property, the Agreement clearly defines these intellectual property rights as the trademarks, copyrights, and intellectual property related to the website and ordering system, which include details of existing customers, the systems used to process customer orders, and creative content featured on the website, such as photographs, designs, and narratives. As described in Section 2.1 of the Agreement, the Seller provides a non-exclusive right to the Buyer to access and use the website and ordering system, as well as a non-exclusive right to use the Seller’s intellectual property in connection with its right to sell and distribute branded goods purchased from third party vendors. Most relevant here, the intellectual property rights covered under the

11 Agreement do not relate to the production or manufacture of any goods. Under its business model, both the Buyer and the Seller purchases branded goods from third party designers to sell on their website; neither designs or develops any merchandise of its own. As noted in the Deloitte memorandum, the imported merchandise does not carry the the Seller’s trademark or otherwise contain its intellectual property. Instead, the products carry the trademark or other intellectual property of the third-party designer or producer.

Moreover, the Agreement contains no provisions regarding payments (including royalty, license or design fees) to third party suppliers, and Regulatory Audit’s findings did not identify any instances of supplemental payments to a supplier. As noted above, sales between the Seller and the Buyer are extremely limited, and occur in order to optimize inventory by location.

Turning to the first question under the General Notice analysis, the answer is “no,” as the intellectual property rights conferred under the E-Tailing Franchise Agreement do not involve any patents to produce the imported merchandise. As for the second question, the answer is also “no” because the agreement does not contemplate any royalties involved in the production or sale of the imported merchandise. While the use of the Seller’s intellectual property does broadly relate to the Buyer’s ability to purchase, sell, and distribute branded merchandise to retail customers based in North America, they are not directly related to the actual production, manufacture or sale of the goods by third-party producers and vendors.

Finally, the third question posed by the General Notice, namely, whether the importer could buy the merchandise without paying the fee, is central to the question of whether a royalty payment is a condition of sale. Here, the obligation to pay the license fee does not appear to arise from the Buyer’s purchase and importation of merchandise from the Seller. Instead, the fees appear to be independent from the purchase of the goods from the Seller, as the Agreement does not condition payment of the e-tailing franchise fee on transactions between the Buyer and the Seller, and the Buyer must pay the e-tailing fees regardless of whether it purchases any goods from the Seller. Accordingly, the answer to the third question appears to be “yes.”

Regarding four considerations that “flow from” the language set forth in the SAA, only the second (i.e., to whom the license fee is paid) supports a finding that the royalties should be added to the price actually paid or payable under 19 U.S.C. § 1401a(b)(1). Here, the license fees are paid to the Seller, which means that they are “more likely to be dutiable than are payments to an unrelated third party.” On the other hand, the first factor (the type of intellectual property at issue) weighs against dutiability, as the licensed rights here do not include patents covering a process to manufacture the imported merchandise. Similarly, none of the examples listed in the third factor (whether the purchase of the imported merchandise and the payment of the royalties are inextricably intertwined) apply in this case; there is no purchase contract, mutual termination clause in any agreement, or any requirement for the Buyer to purchase merchandise from the Seller. Finally, regarding the fourth factor, the e-tailing fees at issue here are not paid each and every importation. Instead, the license agreement provides that payments are made periodically based on a benchmarked Berry ratio and the Buyer’s financial results.

As a result of our analysis of the three factors set forth in the General Notice and the four factors that flow from the SAA, we conclude that the e-tailing fees do not relate to the imported merchandise and are not required to be paid as a condition of the sale for export to the United 12 States. Accordingly, they should not be added to the price actually paid or payable as an addition under 19 U.S.C. § 1401a(b)(1)(D).

c. Dutiability as an Addition for Proceeds

Finally, we consider whether the e-tailing franchise fee is a dutiable addition to the price actually paid or payable as “the proceeds of any subsequent resale, disposal, or use of the imported merchandise that accrue, directly or indirectly, to the seller.” See 19 U.S.C. § 1401a(b)(1)(E). CBP regulations clarify that “[d]ividends or other payments from the buyer to the seller which do not relate directly to the imported merchandise will not be added to the price actually paid or payable. Whether any addition would be made will depend on the facts of the particular case.” See 19 C.F.R. § 152.103(g).

In this case, the e-tailing fees are paid to the Seller. However, they do not result from the subsequent resale, disposal, or use of the merchandise. Instead, they result from the Seller’s provision of services—namely, retail and buying, technology, marketing, operations, creative (i.e., photography, artwork, etc. used on the website) and head office/financial services—that do not relate directly to the imported merchandise. The calculation methodology, which depends on the Buyer’s overall financial results, confirms the lack of direct connection between the payment and the imported merchandise. We therefore find that the e-tailing fees are not dutiable as proceeds under 19 U.S.C. §1401a(b)(1)(E).

2. Acceptability of the Related-Party Price as Transaction Value

Having determined that the e-tailing fees are not dutiable, we must also consider the special rules applicable to the use of transaction value in related-party transactions. These rules apply where, as is the case here, the buyer and seller are related parties, as defined in 19 U.S.C. § 1401a(g). While the fact that the buyer and seller are related is not in itself grounds for regarding transaction value as unacceptable, where CBP has doubts about the acceptability of the price and is unable to accept transaction value without further inquiry, the importer is given the opportunity to supply such further detailed information as may be necessary to support the use of transaction value. See 19 C.F.R. § 152.102(l)(1)(i); see also VWP of Am. v. United States, 175 F.3d 1327, 1337 (Fed. Cir. 1999) (“A sale by a corporation to ‘a subsidiary’ cannot serve as the basis for transaction value unless (i) the parent corporation and the subsidiary properly qualify as ‘persons who are related’ under 19 U.S.C. § 1401a(g)(1)(F) and (ii) the acceptability of the sales price as a transaction value is established by one of the methods set forth in 19 U.S.C. § 1401a(b)(2)(B).”).

The importer may substantiate the use of transaction value in a related-party transaction if it satisfies one of two tests: (1) circumstances of the sale; or (2) test values. See 19 U.S.C. § 1401a(b)(2)(B); 19 C.F.R. § 152.103(l). More specifically,

Section 1401a(b)(2)(B) establishes two methods for determining whether the value of a transaction between a related buyer and seller may serve as the basis for appraising imported merchandise. Under the first method, if an

13  examination of the circumstances of the sale of the imported merchandise indicates that the relationship between the related parties did not influence the price, the transaction value is acceptable for purposes of § 1401a(a)(1)(A). The second method involves comparing the transaction value between the related buyer and seller to determine whether it “closely approximates” either the transaction value of identical or similar merchandise in sales to unrelated buyers in the United States or the deductive or computed value for identical or similar merchandise. See 19 U.S.C. §§ 1401a(b)(2)(B)(i-ii). These two methods for determining the acceptability of the value of a transaction between related parties are intended to “insure that a particular transaction is bona fide and ‘at arm’s length’ before the transaction value standard will apply.” See S. Rep. No. 96-249, at 115, 1979 U.S.C.C.A.N. at 501.

VWP, 175 F.3d at 1335.

In our review of this internal advice request, we raised doubts about the acceptability of the prices between the Buyer and the Seller which required further inquiry. In response, the Buyer provided additional information relevant to both the “test values” method and the “circumstances of the sale” method for demonstrating that transaction value was acceptable in the related-party transactions at issue.

a. Test Values

As noted above, the Buyer identified instances in which it purchased identical merchandise from both the Seller and from unrelated third parties (either domestically or in import transactions). The Buyer claims that the prices for the goods in these transactions were equal to, or less than, the prices it paid for identical goods in its transactions with the Seller, which demonstrates the arm’slength nature of the transactions “as provided for in 19 C.F.R. § 152.103(j)(2)(i)(A).”

19 C.F.R. § 152.103(j)(2) provides that:

(i) The transaction value between a related buyer and seller is acceptable if an examination of the circumstances of sale indicates that their relationship did not influence the price actually paid or payable, or if the transaction value of the imported merchandise closely approximates:

(A) The transaction value of identical merchandise; or of similar merchandise, in sales to unrelated buyers in the United States . . .

The transaction value of identical merchandise, or of similar merchandise, is:

“the transaction value (acceptable as the appraised value under § 152.103 but adjusted under paragraph (e) of this section of imported merchandise that is—

14  (1) With respect to the merchandise being appraised, either identical merchandise, or similar merchandise; and

(2) Exported to the United States at or about the same time that the merchandise being appraised is exported to the United States.”

See 19 C.F.R. § 152.104(a).

Here, the information provided does not establish valid transaction values of identical or similar goods that may be used as test values for purposes of demonstrating the arm’s-length nature of the transactions under review. Most significantly, in the first three sample transactions provided, the comparison transaction consisted of purchases of merchandise from sellers within the United States. The information provided for these three transactions also states that these goods were “Made in USA,” “Country of Origin: USA,” or “Manufactured in the USA.” In other words, the goods were not “imported,” and no transaction value (or any other customs value) exists for these transactions. Although other merchandise in the sample transactions indeed appears to have been imported, no information was provided that its exportation to the United States occurred “at or about the same time” as the merchandise being appraised or that the other statutory requirements (such as having been conducted at the same commercial level) have been met. Accordingly, the Buyer has failed to substantiate its claim under the “test values” method.

b. Circumstances of the Sale

Under the circumstances of the sale approach, the transaction value between related parties will be considered acceptable if the parties buy and sell from one another as if they were unrelated, meaning their relationship did not influence the price actually paid or payable. See e.g., HQ H032883 dated March 31, 2010. All relevant aspects of the transaction are analyzed including: (1) the way the buyer and seller organize their commercial relations, and (2) the way that the price was determined. Id.; see also 19 C.F.R. § 152.103.

The three examples to demonstrate that a relationship did not influence the price under 19 C.F.R. § 152.103(l) are as follows: (i) the price was settled in a manner consistent with the normal pricing practices of the industry in question; (ii) the price was settled in a manner consistent with the way the seller settles prices for sales to buyers who are not related to it; or (iii) the price is adequate to ensure recovery of all costs plus a profit that is equivalent to the firm’s overall profit realized over a representative period of time in sales of merchandise of the same class or kind.

In this case, the Buyer argues that the information provided satisfies each example in 19 C.F.R. § 152.103(l).

i. Price Settled in a Manner Consistent with the Normal Pricing Practices of the Industry in Question

Example (i) of the circumstances of the sale test—namely, that the price was settled in a manner consistent with the normal pricing practices of the industry in question—first requires the importer to provide objective evidence of the normal pricing practices of the industry in question. 15 See, e.g., HQ 548095, dated September 19, 2002 (holding that the importer had failed to provide objective evidence detailing the normal pricing practices of the industry in question, assuming such a practice even exists in the relevant industry). Second, the importer must show that the related-party price was in fact settled consistent with that industry standard. See id.

Here, the information that the Buyer uses to support its claim focuses on the prices that it pays to unrelated parties for identical merchandise. For example, as discussed above, it claims that it also bought many of the same goods directly from unrelated third-party vendors, and that the prices in those transactions are equal to or less than the prices in its transactions with the Seller. However, this does not establish any “normal pricing practice” in the industry or shed light on how the Seller sets prices in the related-party transactions. If anything, the only relevant information that the Buyer provided in this context—namely, the Deloitte transfer pricing analysis indicating that “the global pricing policy of the intercompany transfers is that they are transferred at cost”—strongly suggests a preferential pricing practice for related buyers. Therefore, the Buyer has not provided sufficient evidence to substantiate its claim under the first example of the circumstances of the sale test.

ii. Price Settled in a Manner Consistent with the Way the Seller Settles Prices for Buyers Who Are Not Related to It

Example (ii) of the circumstances of the circumstances of the sale test—namely, that “the price was settled in a manner consistent with the way the seller settles prices for sales to buyers who are not related to it”—first requires the importer to provide objective evidence of the seller’s pricing practices. See, e.g., HQ 542261, dated March 11, 1981. Second, the importer must then show that the seller applied these pricing practices consistently in sales to both related and unrelated buyers. See, e.g., HQ H256779, dated January 20, 2016.

Here, the Buyer again focuses its claim on the prices that it pays to unrelated parties for identical merchandise. As with the “normal pricing practices” example of the circumstances of the sale test, however, the reliance on these transactions is misplaced. The initial focus of the “manner of setting prices” test is the way that the seller sets prices. And, once again, the only information about how the Seller here sets prices for related party transactions indicates that goods are sold at cost. No information has been provided to confirm that the Seller also sells to unrelated buyers at cost. As a result, the Buyer also has not provided sufficient evidence to substantiate its claim under the second example of the circumstances of the sale test. iii. All Costs Plus a Profit

Regarding example (iii) of the circumstances of the sale test, also known as the “all costs plus a profit” test, Interpretative Note 3, at 19 C.F.R § 152.103(l)(1)(iii) states that:

If it is shown that the price is adequate to ensure recovery of all costs plus a profit which is equivalent to the firm’s overall profit realized over a representative period of time (e.g., on an annual basis), in sales of merchandise of the same class or kind, this would demonstrate that the price has not been influenced. 16  An important consideration in the “all costs plus a profit” method is the “firm’s” overall profit in sales of merchandise of the same class or kind. In applying the “all costs plus a profit” test, CBP normally considers the “firm” to be the parent company. If the seller of the imported goods is a subsidiary of the parent company, the price must be adequate to ensure recovery of all the seller’s costs plus a profit that is equivalent to the parent company’s overall profit in sales of merchandise of the same class or kind. See HQ 546998, dated January 19, 2000. In this case, the relevant “firm” is the Seller, which was also the seller of the merchandise. Although the CBP regulations do not define “equivalent profit,” if the profit that the seller earns in a related-party transaction equals or exceeds its overall profitability in sales of the same class or kind, the purchase price would not be artificially low for Custom’s purposes. See, e.g., HQ H106603, dated July 25, 2011; HQ H065015, dated April 14, 2011; and, HQ H065024, dated July 28, 2011. Further, although CBP regulations do not define what type of profit should be considered, it usually considers operating profit because it is a more accurate measure of what the company actually earns on sales once associated expenses have been paid. See, e.g., HQ H037375, dated December 11, 2009.

Finally, an all costs plus profit claim should be supported by information and documentation regarding both the seller’s costs and the firm’s profit. [T]he importer should be prepared to provide records and documents of comprehensive product related costs and profit, such as financial statements, accounting records including general ledger account activity, bills of materials, inventory records, labor and overhead records, relevant selling, general and administrative expense records, and other supporting business records. See, e.g., HQ H292850, dated December 13, 2018.

With respect to this internal advice request, we reviewed Regulatory Audit’s calculations for purposes of this test along with a series of replies and rebuttals between Regulatory Audit and the Buyer. Among other arguments, counsel asserts that Regulatory Audit’s calculation of an operating profit from the Seller’s financial results is “not an appropriate benchmark for the sales to the Buyer as the Seller’s financial results do not reflect sales at the same commercial level of sale.” Counsel also objects to Regulatory Audit’s profit calculations for the sample transactions, which it asserts is actually 2.09%.

Even assuming that the Buyer has correctly calculated the profit earned on the sample transactions, it has not provided the corresponding profitability for the Seller, despite objecting to Regulatory Audit’s methodology. Moreover, the only information provided about how the Seller sets intercompany prices is contained in the Deloitte memorandum analyzing the transfer pricing practices relevant to the e-tailing franchise fee. This document states, in relevant part, that “the global pricing policy of the intercompany transfers [of merchandise] is that they are transferred at cost, and this policy is applied consistently to flows in and flows out of the Buyer.” In other words, the documented policy is for the Seller to sell to related parties at zero profit. Although the Buyer did not provide the Seller’s overall profitability, no information suggests that the Seller operates as a nonprofit entity in its sales of goods of the same class or kind. Accordingly, after considering all the information provided, the Buyer has also not met its burden of demonstrating that the price was adequate to ensure recovery of all costs plus a representative profit under 19 C.F.R § 152.103(l)(1)(iii), and transaction value is not an acceptable method of appraisement for the merchandise.

17  3. Alternative Methods of Appraisement

When imported merchandise cannot be appraised on the basis of transaction value, it is appraised in accordance with the remaining methods of valuation, applied in sequential order. 19 U.S.C. § 1401a(a)(1). The alternative bases of appraisement, in order of precedence, are: the transaction value of identical or similar merchandise (19 U.S.C. § 1401a(c)); deductive value (19 U.S.C. § 1401a(d)); computed value (19 U.S.C. § 1401a(e)); and the “fallback” method (19 U.S.C. § 1401a(f)).

The transaction value of identical merchandise or similar merchandise is based on sales, at the same commercial level and in substantially the same quantity, of merchandise exported to the United States at or about the same time as the merchandise being appraised. See 19 U.S.C. § 1401a(c). As explained above, the Buyer attempted to locate transaction values of identical or similar merchandise to use in the context of the test values method. In the transactions reviewed for purposes of this internal advice request, the comparison transactions either did not have a transaction value or no information was provided to establish compliance with the other requirements of this method of appraisement. However, we suggest that you provide the Buyer with an opportunity to provide additional information to establish valid appraisements under this method where feasible. Otherwise, if insufficient information is available, the imported merchandise must be appraised under the next method of appraisement.

Under the deductive value method, imported merchandise is appraised on the basis of the price at which it or identical or similar merchandise is sold in the United States in its condition as imported and in the greatest aggregate quantity either at or about the time of importation, or before the close of the 90th day after the date of importation. 19 U.S.C. § 1401a(d)(2)(A)(i)-(ii). This price is subject to certain enumerated deductions. 19 U.S.C. § 1401a(d)(3). See also 19 C.F.R. § 152.102(c). Here, provided the required information is available and the technical requirements have been satisfied, the deductive value method is an appropriate method of valuing the imported merchandise.

If the requirements of the deductive value method cannot be met, the next method of appraisement is computed value. Computed value is defined as the sum of, inter alia: the cost or value of the materials and the fabrication and other processing of any kind employed in the production of the imported merchandise; and an amount for profit and general expenses equal to that usually reflected in sales for export to the United States by producers in the country of exportation, of merchandise of the same class or kind. 19 U.S.C. §1401a(e)(1). Here, as the Seller does not manufacture the imported merchandise, it is unlikely to have access to the information required for a computed value calculation. Nonetheless, we recommend that you provide the Buyer with the opportunity to do so.

Finally, if the customs value of imported merchandise cannot be determined under the methods set forth in 19 U.S.C. § 1401a(b)-(e), it may be determined on the basis of the “fallback” method in 19 U.S.C. § 1401a(f). This method provides for appraisal on the basis of a value derived from one of the previous methods, reasonably adjusted to the extent necessary to arrive at a value. For example, if the merchandise is not sold in the United States within 90 days of importation, “the ‘90 days’ requirement for the sale of merchandise referred to in 19 C.F.R. § 152.105(c) may be administered flexibly.” See 19 C.F.R. § 152.107(c). As the imported merchandise at issue appears to have been imported for resale to North American customers, such a flexible application of the 18 deductive value method may be appropriate here. We note, however, that certain limitations exist under the fallback method. For example, merchandise may not be appraised on the basis of the price in the domestic market of the country of export, the selling price in the United States of merchandise produced in the United States, minimum values, or arbitrary or fictitious values. See 19 U.S.C. § 1401a(f); 19 C.F.R. § 152.108.

HOLDING:

No part of the e-tailing franchise fee payments that the Buyer makes to the Seller should be included in the price actually paid or payable for the merchandise or added as a statutory addition. However, because the Buyer has not established that transaction value is acceptable for the relatedparty transactions, an alternate method of appraisement must be used to establish the customs value of the imported merchandise.

You are to mail this decision to the internal advice requester no later than 60 days from the date of the decision. At that time, the Office of Trade, Regulations and Rulings will make the decision available to CBP personnel, and to the public on the Customs Rulings Online Search System (CROSS) at https://rulings.cbp.gov/ which can be found on the U.S. Customs and Border Protection website at http://www.cbp.gov and other methods of public distribution.

Sincerely,

Monika R. Brenner, Chief
Valuation and Special Programs Branch

19