Inclusion of License Payments in Customs Value in Russia & EAEU

 

July 31, 2023

BRACE Law Firm ©

 

The customs value of goods imported into a country’s customs territory includes the cost of the goods, transportation, and insurance, as well as additional charges. These include license and other similar payments for the use of intellectual property, such as royalties, patent payments, trademarks, and copyrights that relate to the imported goods and which the buyer has made or must make, directly or indirectly, as a condition of sale of the imported goods for export to the EAEU customs territory [1], in an amount not included in the price actually paid or payable for these goods. [2]

A similar rule is established in the Agreement on Implementation of Article VII of the General Agreement on Tariffs and Trade 1994. Pursuant to paragraph 1 of Article 8 of this Agreement, when determining the customs value, royalties and license fees related to the goods being valued that the buyer must pay, directly or indirectly, as a condition of sale of the goods being valued, shall be added to the price actually paid or payable for the imported goods, to the extent that such royalties and fees are not included in the price actually paid or payable.

However, when determining the customs value of imported goods, the following should not be added to the price actually paid or payable:

• payments for the right to reproduce (replicate) the imported goods within the EAEU customs territory; [3]
• payments for the right to distribute or resell the imported goods, if such payments are not a condition of sale of the imported goods for export to the EAEU customs territory.

Modern practice in concluding agreements for the granting of rights to use the results of intellectual activity (intellectual property) is characterized, among other things, by the granting of rights to use results of intellectual activity (intellectual property) that are not contained on (not incorporated in) the imported goods for which the customs value is being determined.

The most common examples of agreements granting rights to use intellectual property not contained on (not incorporated in) imported goods include license agreements for the use of computer programs, secrets of production (know-how), and commercial designations — including those providing for the use of commercial designations on signs, letterheads, invoices, and other documentation, in announcements and advertisements, on goods or their packaging, or on the Internet — and franchise agreements.

To develop uniform approaches to including license and other similar payments for the use of intellectual property in the customs value of goods imported into the EAEU customs territory, the Board of the Eurasian Economic Commission developed the Position on Adding License and Other Similar Payments for the Use of Intellectual Property to the Price Actually Paid or Payable for Imported Goods (the "Position on Adding License and Similar Payments"). [4]

Adding License and Other Similar Payments to the Customs Value of Goods

Importantly, international treaties, international treaties and acts constituting EAEU law, and the legislation of EAEU member states regulate legal relations in the field of intellectual property.

License and other similar payments for the use of intellectual property [5] include any payments for the use of results of intellectual activity and equivalent means of individualization. These include [6] works of science, literature, and art, phonograms, inventions, utility models, industrial designs, secrets of production (know-how), trademarks, and other intellectual property (the "License Payments"). The Supreme Court of the Russian Federation expressed its position on the need to include paid license fees in the customs value of imported goods. [7] According to this position, if a declarant uses imported goods when assembling a final licensed product from components declared under a customs declaration, the license fee the licensee pays for each licensed product assembled in this manner constitutes a license payment for the right to use a secret of production (know-how). [8]

Furthermore, the obligation to pay license payments is part of the contractual relationship between the licensee and the right holder (licensor), [9] which may be formalized through:

• a license agreement;
• a sublicense agreement;
• a franchise agreement;
• a sub-franchise agreement;
• other types of agreements.

When concluding a license agreement, the right holder grants the licensee certain rights to use intellectual property. In international trade, license payments may be paid to either the seller of the goods or a third party who is not the seller. When deciding whether to include license payments in the customs value of goods, it does not matter whether the right holder is a person from a member state or a foreign person. [10]

To verify compliance with the conditions established by Russian legislation and to decide whether license payments should be added to the price actually paid or payable for imported goods, one must analyze the terms of the license agreement and the foreign trade contract under which the goods are sold for export to the EAEU customs territory, as well as other documents related to the sale of the goods and the payment of license fees. For example, in one court case, the customs authority stated in a cassation appeal that two conditions must be met to include license payments in the customs value:

• the license payments must relate to the imported goods (Condition No. 1);
• the payment of license fees must be a condition of sale of the imported goods (Condition No. 2). [11]

The decision on whether license payments relate to the valued (imported) goods is made based on a study and analysis of which rights to use the intellectual property were granted to the licensee under the license agreement and how the licensee uses those rights. The most common situation where license payments may be considered as relating to the valued (imported) goods is when the valued (imported) goods contain intellectual property or were produced using intellectual property for which rights were granted under a license agreement. [12]

When determining whether the payment of license fees is a condition of sale of the valued (imported) goods, [13] the main criterion is the buyer's (licensee's) inability to purchase the valued (imported) goods without paying the license fees. The inability of the buyer (licensee) to purchase the valued (imported) goods without paying license fees is evidenced by a provision in the foreign trade contract under which the goods are sold for export to the EAEU customs territory, stating that the buyer must pay license fees as a condition of such sale. Such a provision is decisive in determining whether the license fees were paid as a condition of sale of the valued (imported) goods.

The dependence of the sale of valued (imported) goods on the payment of license fees may also exist when the foreign trade contract does not contain a direct instruction regarding the payment of license fees as a condition of sale, especially when the right holder and the seller are different persons. However, according to Letter of the Ministry of Finance of Russia No. 27-0121/7570 dated February 5, 2021, when the contractual relationship between the right holder and the licensee-buyer of the goods does not show which portions of the license and similar payments for intellectual property use (including royalties, payments for patents, trademarks, and copyrights) do not meet the conditions for inclusion in the customs value of goods [14] regarding parts subject and not subject to inclusion, the situation applies where current legislation contains no norms allowing for the allocation of total royalty amounts. [15]

In all cases, the decision on whether the payment of license fees is a condition of sale of the valued (imported) goods should be made considering an analysis of all factors and circumstances accompanying the sale and import of these goods. [16] The following factors may be considered:

• the presence of provisions regarding the payment of license fees in the foreign trade contract or other documents related to the sale of such goods;
• the presence of provisions regarding the sale of the valued (imported) goods in the license agreement;
• the presence of provisions in the foreign trade contract and/or the license agreement regarding the possibility of terminating the foreign trade contract if the buyer (licensee) fails to pay license fees to the right holder;
• the presence of a condition in the license agreement prohibiting the manufacturer (seller) from manufacturing and/or selling goods created using the right holder's intellectual property to the buyer in the event of non-payment of the corresponding remuneration;
• the presence of a condition in the license agreement allowing the right holder to exercise control over the production of goods or their sale by the manufacturer (seller) to the buyer (sale of goods for export to the EAEU customs territory) that goes beyond quality control.

License payments are categorized into the following types:

• For the right to use a trademark, which is a designation protected under the legislation of member states and international treaties to which member states are parties, serving to individualize the goods of some participants in civil circulation from those of others. [17] Under the legislative acts of member states, verbal, graphic, three-dimensional, and other designations or combinations thereof may be registered as trademarks.
• For the right to reproduce (replicate) imported goods within the EAEU customs territory. The concept of "reproduction (replication)" means not only copying imported goods (e.g., importing a product sample to create a template for exact copies), but also reproducing an invention, work, concept, or idea embodied in the imported goods. This also applies to originals and copies of scientific works, originals of literary works, prototypes, models, standards, etc. The mere acquisition of goods that are intellectual property or contain such objects does not grant the buyer the right to reproduce (replicate) them. In most cases, such a right is transferred through a license agreement. However, for example, when using film stock under license and distribution agreements, the decision on customs value must consider additional charges to the invoice cost of the film for transportation to the place of arrival in the Russian Federation, as well as commission fees to the agent (intermediary), which in this case are distribution fees (license fees). This amount may be calculated based on information available to the declarant under the submitted contracts. [18]
• For the right to use secrets of production (know-how), which are defined as information of any nature (manufacturing, technical, economic, organizational, etc.), including information on the results of intellectual activity in the scientific and technical sphere and methods of professional activity, which have actual or potential commercial value because they are unknown to third parties who lack lawful access to them, and for which the holder has introduced a commercial secrecy regime. When granting the right to use know-how in a license agreement, it may be established that the know-how is used, for example, in the production of imported goods, in the production of products or performance of work/services using imported goods (ingredients, components, equipment, etc.) within the EAEU territory, or in implementing organizational solutions. If know-how is used in the production of imported goods or is incorporated in them, [19] license payments for its use are included in the customs value of the imported goods, as the know-how is considered part of the imported goods. [20]

Royalties in the Structure of the Customs Value of Goods

Payments for the use of intellectual property (the "Royalties") not included in the price actually paid or payable for imported goods are considered additional charges under Article 40 of the EAEU Customs Code (EAEU CC) if two requirements are met collectively: these payments relate to the imported goods and the payment of royalties is a condition of sale of the valued goods (directly or indirectly) for their export to the EAEU customs territory.[21]

If these requirements are met, the fact that an agreement is concluded with a right holder other than the seller does not prevent the inclusion of royalties paid under such an agreement in the customs value of the valued goods. [22]

Furthermore, royalties and license payments are taken into account for the customs valuation of imported goods as a component of the customs value when determined by the first method (transaction value) to the extent that they affect their economic value. However, the absence of a provision in the sale contract requiring the conclusion of other agreements regarding intellectual property does not exclude the possibility of considering license payments for customs valuation purposes. This is because payments for the use of intellectual property may be an implied condition of sale, without which the importer cannot purchase the goods and the exporter will not be ready to sell them. [23]

When deciding whether to include license and similar payments for the use of intellectual property not contained on (not incorporated in) imported goods in the customs value as additional charges to the price actually paid or payable (the "PAPP"), the following must be considered. [24]

Subparagraph 7 of paragraph 1 of Article 40 of the EAEU CC establishes that two conditions must be met simultaneously to include royalties in the customs value as additions to the PAPP:

• The relationship of royalties to the imported goods (the "Condition 1"). Regarding Condition 1, the Position on Adding License and Similar Payments notes that while the most common situation is when imported goods contain intellectual property or were produced using intellectual property under a license agreement, this is not the only scenario where Condition 1 is met.

Thus, royalties relate to imported goods not only when the intellectual property is incorporated in the goods but also in other situations.

Using the example of royalties for the right to use know-how within the EAEU territory, the Position on Adding License and Similar Payments notes that if know-how is related to production or services using imported goods, the decision to include royalties is based on whether the terms for using the know-how require using imported goods.

Accordingly, if right holders do not establish requirements for using imported goods when using intellectual property, the royalties may be considered as not relating to the imported goods. Those who receive rights to use intellectual property should have the right to purchase any goods from any suppliers at their discretion, subject to the right holder's quality requirements. If the right holder establishes requirements exceeding quality control — such as the need to purchase goods from specific suppliers or use goods with specific trademarks — Condition 1 is considered met.

• Payment of royalties as a condition of sale of the imported goods for export to the Union territory (the "Condition 2"). The provisions of subparagraph 7 of paragraph 1 of Article 40 of the EAEU CC, viewed in connection with the transaction value method (Method 1), [25] indicate that Condition 2 is not met if the buyer can purchase the goods on the same terms without using the intellectual property and without paying royalties.

If the ability to purchase and use goods for their intended purpose (e.g., their sale in a retail chain functioning under a franchise agreement) is conditioned on paying royalties, Condition 2 is considered met.

During customs control, based on information in the customs declaration, a customs authority may have grounds to assume that license agreements have been concluded and Conditions 1 and 2 are met, but royalties were not included in the customs value.

In such cases, commercial, accounting, and other documents or information, including written explanations, must be requested to establish the accuracy and completeness of the declared information.

Determining the customs value in foreign trade remains a relevant and controversial issue. Despite established practice and guidance from executive authorities, the need to include license payments in the structure of the customs value remains complex. Nevertheless, compliance with legislation regarding license payments allows counterparties to avoid administrative liability. [26]

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References

[1] Determination of the Supreme Court of the RF dated October 12, 2022 No. 310-ES22-9639 in case No. A09-1751/2021 On the Review in Cassation Proceedings of Judicial Acts in a Case for the Annulment of Customs Authority Decisions to Amend (Supplement) Customs Declarations. Decision: The case was transferred to the Judicial Chamber for Economic Disputes of the Supreme Court of the RF because the customs authority's arguments deserve attention — specifically that the dependence of the sale of goods on the payment of license fees may exist even when the contract does not explicitly state that such payment is a condition of sale. Additionally, customs legislation directly indicates the need to include part of the income (dividends) related to imported goods in their customs value.

[2] Subparagraph 7 of paragraph 1 of Article 40 of the EAEU CC.

[3] Resolution of the Arbitration Court of the Volga-Vyatka District dated December 7, 2022 No. F01-6483/2022 in case No. A43-3620/2022 On Declaring a Customs Authority Decision Invalid. Circumstances: A company determined the customs value of imported goods (animal products) based on the transaction value. The customs authority changed the value, stating it failed to include license payments, and assessed additional customs duties. Decision: The claim was denied because it was established that under the license agreement, the company was granted the right to produce and use production technology for genetically high-quality breeding pigs, rather than the right to reproduce (replicate) the imported goods.

[4] Recommendation of the Board of the Eurasian Economic Commission dated November 15, 2016 No. 20 On the Position on Adding License and Other Similar Payments for the Use of Intellectual Property to the Price Actually Paid or Payable for Imported Goods.

[5] Resolution of the Arbitration Court of the Urals District dated July 12, 2023 No. F09-3040/23 in case No. A60-46267/2022 On Declaring Illegal the Decisions of the Customs Authority to Amend Information Declared in Customs Declarations. Circumstances: The customs authority pointed to an undervaluation of imported electric train components due to the unlawful non-inclusion of license payments. Decision: The claim was denied as the payment of license fees is a condition of sale for the disputed goods; the applicant (licensee) cannot purchase the disputed goods without access to the database of articles and suppliers and the payment of license fees for such access.

[6] Decision of the Arbitration Court of the Smolensk Region dated May 27, 2021 in case No. A62-7816/2020 On Declaring the Decisions of the Smolensk Customs Invalid. Decision: The claim was granted.

[7] Determination of the Supreme Court of the RF dated June 29, 2020 No. 302-ES20-9682 in case No. A74-1006/2019 On the Review in Cassation Proceedings of Judicial Acts in a Case to Declare a Customs Authority Decision Illegal. Result: The claim was partially denied because the company's payment of a license fee for each manufactured licensed product relates to license payments for the right to use a secret of production (know-how), subject to inclusion in the customs value. However, the calculation must be based on the fee established by the sublicense agreement, not the license agreement to which the company is not a party. Decision: Transfer of the case to the Judicial Chamber for Economic Disputes of the Supreme Court of the RF was denied.

[8] Resolution of the Arbitration Court of the Povolzhsky District dated January 31, 2023 No. F06-28027/2022 in case No. A55-7782/2022 On Declaring Invalid the Decisions to Amend Information Declared in a Customs Declaration. Circumstances: The customs authority changed the declared value of imported goods due to the non-inclusion of license fees paid to foreign counterparties under franchise agreements. Decision: The claim was denied because the payment of the license fee is a condition for the import and sale of the disputed goods in the EAEU territory and must be added to the price.

[9] Decision of the Arbitration Court of the Nizhny Novgorod Region dated February 16, 2023 in case No. A43-6422/2022. Claim: To declare illegal and annul the decisions of the Nizhny Novgorod Customs. The applicant claimed the agreement provided for reproduction (replication) rights for a fee, but this condition was absent from both the supply and license agreements. Decision: The claim was denied.

[10] Resolution of the Arbitration Court of the East Siberian District dated March 16, 2020 No. F02-649/2020 in case No. A74-1006/2019 On Declaring a Customs Authority Decision Illegal. Circumstances: The customs value adjustment was based on the conclusion that payments under a sublicense agreement must be included. Decision: The claim was partially denied; royalties for each manufactured licensed product relate to the right to use know-how and must be included in the customs value, but the calculation must follow the sublicense agreement.

[11] Determination of the Supreme Court of the RF dated October 10, 2022 No. 310-ES22-8937 in case No. A09-1129/2021 On the Review in Cassation Proceedings of Judicial Acts in a Case to Declare Illegal Customs Authority Decisions to Amend Information in Customs Declarations. Decision: The case was transferred to the Judicial Chamber for Economic Disputes of the Supreme Court of the RF, as the customs authority's argument regarding the calculation of additional charges based on documents provided by companies without distortion of facts deserves attention.

[12] Resolution of the Eleventh Arbitration Appeal Court dated October 4, 2022 No. 11AP-13589/2022 in case No. A55-7782/2022. Claim: To declare invalid the decision of the customs authority to amend information in a customs declaration. Decision: Claim denied.

[13] Paragraph 9 of the Position on Adding License and Similar Payments.

[14] Subparagraph 7 of paragraph 1 of Article 40 of the EAEU CC.

[15] Resolution of the Eleventh Arbitration Appeal Court dated April 3, 2023 No. 11AP-1234/2023 in case No. A55-18703/2022 On Declaring Illegal the Decisions of the Customs Authority to Amend Customs Declarations. Decision: Claim denied.

[16] Resolution of the Arbitration Court of the Central District dated December 1, 2020 No. F10-4610/2020 in case No. A23-7331/2019 On Declaring Customs Authority Decisions Invalid. Circumstances: The decisions amended information on the price of imported goods. Decision: The claim was denied as license payments were not included in the customs value.

[17] Paragraph 11 of the Treaty on the Eurasian Economic Union.

[18] Letter of the Ministry of Finance of the RF dated March 20, 2009 No. 03-10-07/28.

[19] Resolution of the Arbitration Court of the Povolzhsky District dated January 31, 2023 No. F06-28027/2022 in case No. A55-7782/2022.

[20] Paragraph 18 of the Position on Adding License and Similar Payments.

[21] Paragraph 17 of the Resolution of the Plenum of the Supreme Court of the RF dated November 26, 2019 No. 49 On Certain Issues Arising in Judicial Practice in Connection with the Entry into Force of the Customs Code of the Eurasian Economic Union.

[22] Determination of the Judicial Chamber for Economic Disputes of the Supreme Court of the Russian Federation dated December 2, 2022 No. 310-ES22-9639 in case No. A09-1751/2021 On Declaring Customs Authority Decisions Illegal. Circumstances: The customs authority identified the non-inclusion of license fees and dividends paid to a participant in the customs value. Decision: The case was remanded for a new trial because the courts failed to consider that the company’s activity consisted exclusively of distribution and that net profit from the sale of goods imported under contracts with suppliers who are also participants in the company may be included in the customs value.

[23] Resolution of the Arbitration Court of the Far Eastern District dated May 15, 2023 No. F03-1201/2023 in case No. A59-4101/2022 On Declaring Illegal the Decisions of the Customs to Amend Information Declared in Customs Declarations. Circumstances: A declarant failed to include license payments for intellectual property in the customs value of imported tableware. Decision: Claim denied; the non-inclusion was unlawful.

[24] Letter of the Ministry of Finance of Russia dated January 28, 2022 No. 27-01-04/5790 On Including License and Other Similar Payments for the Use of Intellectual Property in the Customs Value of Goods.

[25] Paragraph 1 of Article 39 of the EAEU CC.

[26] Resolution of the Arbitration Court of the Moscow District dated April 28, 2023 No. F05-6047/2023 in case No. A40-141462/2022 On the Annulment of a Resolution on Liability under Part 2 of Article 16.2 of the CAO RF for Declaring Incorrect TN VED Codes. Decision: Claim denied as the violation was confirmed.