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Earlier sale concept available for U.S. importers.

On Dec. 28, 1992, the Court of Appeals for the Federal Circuit handed down a decision overturning a Court of International Trade (CIT) ruling in Nissho Iwai American Corp. The case involved the "sale for export issue," a very unsettled area in the past. The Court of Appeals held that the manufacturer's price, rather than the price from the middleman to the purchaser, could be used as the basis for determining transaction value in certain situations, provided the merchandise was clearly destined for export to the United States. Similarly, the CIT, citing the Court of Appeals, held on Jan. 12, 1993 that duties were owed only on the price the importer paid the foreign exporter, not the importer's resale price to the ultimate buyer.

These decisions, if not limited by the U.S. Customs Service to the individual commodities involved, may provide substantial reductions in the value of imported merchandise for many corporations in the future.

The transaction value of imported merchandise is defined in 19 U.S.C. Section 140la(b)(1) as the "price actually paid or payable for the merchandise when sold for exportation to the United States," (emphasis added) subject to certain additions and deductions. The statute further provides that merchandise may not be valued on the basis of "a system that provided for the appraisement of imported merchandise at the higher of the two alternative values."

However, it is not always clear when the sale for exportation to the United States actually takes place. For example, a foreign manufacturer sells to a middleman, who then sells to a U.S. customer. Should the "first sale," between the manufacturer and middleman, or the "second sale," between the middleman and the U.S. customer, be considered the sale for export when determining the transaction value for U.S. Customs purposes?

The CIT ruled in Nissho Iwai American Corp. that the transaction value of imported merchandise (in this case, subway cars) was based on the price of the sale from the middleman to the ultimate U.S. purchaser; this was the sale that caused the merchandise to be exported to the United States.

Previously, the Court of Appeals for the Federal Circuit held in E.C. McAfee Co., 842 F2d 314, that the price paid by a Hong Kong distributor to a Hong Kong tailor (the manufacturer) of made-to-measure clothing was the relevant sale for exportation to the United States for valuation purposes, not the sale from the Hong Kong distributor to a U.S. customer. The court based its decision on the finding that, at the time of the transaction between the distributor and the tailor, the reality of the transaction indicated that the goods clearly were destined for exportation to the United States. The U.S. Customs Service later issued a ruling limiting the application of McAfee specifically to made-to-measure clothing.

In order to determine the proper transaction value, the court in McAfee looked at two questions: (1) whether the sale between the manufacturer and the middleman involved merchandise that was "for exportation to the United States" and, if so, (2) which of the two possible sales prices was proper for valuation purposes.

Generally, merchandise manufactured for a U.S. customer which meets specific requirements for that customer will be considered as intended "for exportation to the U.S.," especially if no alternative destination existed. Additionally, as long as both prices (the manufacturer's as well as the middleman's) are statutorily viable transaction values (i.e., sales negotiated at arm's length, free from any nonmarket influences and involving goods clearly destined for export to the United States), the importer is entitled to the benefit of the lower valuation.

Both the CIT and the Court of Appeals overturned the "most direct cause of exportation" test used by Customs, finding nothing in the legislative history to support such a test. Furthermore, the test compels the use of the middleman-retailer price whenever the retailer's order causes the middleman to complete a sale with the manufacturer, thus creating a system requiring the use of the alternative higher price, in conflict with 19 U.S.C. Section 1401a(f)(2)(b).

The first sale rule does not apply to every three-tiered distribution transaction. The first sale rule will apply only ff there is a legitimate choice between two statutorily "viable transaction values." In order for a price to be a viable transaction value, the goods must be destined for export to the United States and the manufacturer and middleman must deal with each other at arm's length. This determination can only be made on a case-by-case basis.

Prior to any restructuring (or structuring) of transactions, approval should be requested from the U.S. Customs Service in the form of a binding ruling to ensure the intended results.

It should be noted that when any transaction restructuring is considered for U.S. Customs purposes, the income tax implications must also be evaluated to ensure that any benefits derived from a potentially favorable customs treatment are not offset by negative income tax ramifications. For example, if related parties are involved, the effects of Sec. 1059A must be taken into consideration when planning such transactions. Sec. 1059A requires that a U.S. taxpayer who imports property into the United States in a related-party transaction cannot claim, for purposes of computing the property's basis or inventory cost, a cost greater than the amount declared to U.S. Customs.
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Author:Page, Morlene L.
Publication:The Tax Adviser
Date:Apr 1, 1993
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