Notice to Test the Use of Reconciliation for Adjustments Made to the Price of Imported Merchandise by Related Party Companies Under 26 U.S.C. 482

DEPARTMENT OF THE TREASURY

Customs Service

Notice to Test the Use of Reconciliation for Adjustments Made to

the Price of Imported Merchandise by Related Party Companies Under 26

U.S.C. 482

AGENCY: U.S. Customs Service, Department of the Treasury.

ACTION: General Notice.

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SUMMARY: This notice announces Customs plan to conduct a test regarding

the use of reconciliation for those related party importers which have

reason to believe upward adjustments may be made to the price of

imported merchandise for tax purposes pursuant to 26 U.S.C. 482. This

notice invites public comments concerning any aspect of the planned

test, informs interested members of the public of the eligibility

requirements for voluntary participation in the testing of

reconciliation, for this purpose, and describes the basis on which

Customs will select participants.

DATES: The test will commence no earlier than October 1, 1995, and will

run until December 31, 1996. Comments concerning the methodology of the

reconciliation prototype must be received on or before (insert date 30

days from publication in the Federal Register). To participate in this

reconciliation test, the application must be filed and approved by

Customs on or before October 1, 1995.

ADDRESSES: Written comments regarding this notice, and information

submitted to be considered for voluntary participation in this test

should be addressed to Mr. William F. Inch, Director, Office of

Regulatory Audit, Office of Strategic Trade, U.S. Customs Service, 1301

Constitution Avenue NW., Room 2311, Washington, D.C. 20229-0001.

FOR FURTHER INFORMATION CONTACT: Matthew Krimski 202-927-0411.

SUPPLEMENTARY INFORMATION:

Background

Section 1059A of the Internal Revenue Code

Section 1059A of the Internal Revenue Code provides that in related

party transactions the amount of any costs--

[[Page 35106]]

(1) which are taken into account in computing the basis or

inventory cost of such property by the purchaser, and

(2) which are also taken into account in computing the customs

value of such property shall not, for purposes of computing such basis

or inventory cost for purposes of this chapter, be greater than the

amount of such costs taken into account in computing such customs

value.

The legislative history of section 1059A indicates that Congress

intended to preclude the ``whipsaw'' effect on U.S. revenue which

occurs when a party is allowed to claim a price for ``computing the

customs value of such property by the purchaser'' that is lower than

the price claimed for tax purposes.

When section 1059A was enacted, Congress was aware that the Customs

value statute recently had been amended to make price paid the critical

cost factor taken into account by the Customs Service in valuing goods

for duty purposes. The legislative history of section 1059A also

indicates that Congress wanted section 1059A to address this situation

by attempting to place a ceiling on ``the amount of any [such] costs''

that can be claimed for tax purposes. All of the applicable legislative

reports indicate, without exception, that Congress intended that

section 1059A would instill some uniformity on the amount of costs

which may be claimed to the IRS for tax purposes by limiting the amount

of such costs to the amount claimed to, and taken into account by, the

Customs Service in computing the Customs value.

The legislative history did state that appropriate adjustments may

be made in cases where customs pricing rules differ from appropriate

tax rules--as, for example, with the inclusion or exclusion of freight

charges. Finally, the history states section 1059A applies to transfer

prices subject to section 482 of the Internal Revenue Code.

In July of 1994, the Internal Revenue Service (IRS) issued final

regulations implementing 26 U.S.C. 482. The IRS subsequently began

considering whether and to what extent the 1059A regulations should be

amended in the context of the new section 482 regulations. The section

482 regulations, specifically 26 CFR 1.482-1(a)(3), permits a

controlled taxpayer, if necessary to reflect an ``arm's length

result'', to ``report on timely filed U.S. income tax return (including

extensions) the results of its controlled transactions based upon

prices different from those actually charged.'' The IRS is considering

whether the 1059A regulations should be amended to allow the taxpayer,

under appropriate circumstances, to make the upward section 482

adjustment.

This document announces a test that will facilitate the IRS/Customs

decision as to whether reconciliation procedures provide a viable and

appropriate circumstance for a taxpayer/importer to make a post entry

upward adjustment to the price of imported merchandise.

Customs Value Law

For Customs purposes the appraised value of imported merchandise is

determined pursuant to section 402 of the Tariff Act of 1930, as

amended by the Trade Agreements Act (TAA) of 1979. Transaction value is

the primary basis of appraisement. Transaction value is defined in

section 402(b)(1) as the ``price actually paid or payable for the

merchandise when sold for exportation to the United States'' plus

specified statutory additions.

Pursuant to section 402(b)(2)(A)(iv) the transaction value of

imported merchandise shall be the appraised value only if the buyer and

seller are not related, or if the buyer and the seller are related, the

transaction value is acceptable under 402(b)(2)(B). Section

402(b)(2)(B) provides that transaction value between a related buyer

and seller is acceptable if the buyer demonstrates that the declared

transaction value meets one of the following two tests: 1)

Circumstances of the Sale or 2) Test Values.

The reconciliation test, announced in this document, is designed

for participants that engage in related party transactions.

Related Party Transactions

Under section 402(g) of the TAA the following persons are treated

as related:

(1) Members of the same family, including brothers and sisters

(whether by whole or half blood), spouse, ancestors, and lineal

descendants.

(2) Any officer or director of an organization and such

organization.

(3) An officer or director of an organization and an officer or

director of another organization, if each such individual is also an

officer or director in the other organization.

(4) Partners.

(5) Employer and employee.

(6) Any person directly or indirectly owning, controlling, or

holding with power to vote, 5 percent or more of the outstanding voting

stock or shares of any organization and such organization.

(7) Two or more persons directly or indirectly controlling,

controlled by, or under common control with, any person.

For purposes of 402(g)(G), the phrase ``two or more persons

directly or indirectly controlling, controlled by, or under common

control with, any person'' is understood to cover the following

situations:

(1) where one of them directly or indirectly controls the other;

(2) where both of them are directly or indirectly controlled by a

third person; or

(3) where together they directly or indirectly control a third

person.

For purposes of this test, Customs will consider the fact that the

related party importer has reason to believe that an upward adjustment

may be made to the price as evidence that the relationship may have

affected the price actually paid or payable for the imported

merchandise. Therefore, transaction value may not be acceptable.

Rather, the merchandise may be appraised under section 402(f). The

appraised value pursuant to section 402(f) will be derived from the

transaction value method. That is, the appraised value will be the

price for the imported merchandise after the upward section 482

adjustment is undertaken by the importer/taxpayer plus the applicable

statutory additions: packing, selling commissions, assists, royalties/

license fees and proceeds of subsequent resale. In order to participate

in the test, the importer/taxpayer must agree that 402(f) is the proper

basis of appraisement, in the event an upward section 482 adjustment

is, in fact, claimed for tax purposes.

Title VI of the North American Free Trade Agreement Implementation Act

In order for the importer to comply with Customs value law, when

making upward adjustments, a mechanism must be established that permits

the importer to submit information related to the upward adjustment

after the time of entry. Customs has determined that the reconciliation

provisions of the North American Free Trade Agreement Implementation

Act (the Act) create a possible vehicle permitting these circumstances.

Specifically, Title VI of the Act, Public Law 103-182, 107 Stat. 2057

(December 8, 1993), contains provisions pertaining to Customs

Modernization (107 Stat. 2170). Subtitle B of Title VI establishes the

National Customs Automation Program (NCAP), an automated and electronic

system for the processing of commercial importations. Section 637 in

Subtitle B of the Act amends Section 484 of the Tariff Act of 1930 by

establishing a new subsection (b) entitled ``Reconciliation''.

Reconciliation is a planned component of the NCAP. Section 631 of the

Act authorizes tests of planned NCAP components. Section 101.9(b) of

the

[[Page 35107]]

Customs Regulations, provides the regulations governing the testing of

NCAP components. See T.D. 95-21 (60 FR 14211, March 16, 1995).

This test is established pursuant to those regulations.

Reconciliation

Reconciliation will allow an importer to provide Customs with

information not available at the time of entry summary filing and which

is necessary to ascertain the final appraisement of imported

merchandise. The reconciliation must be filed no later than 15 months

from the date of the first entry summary filed under that

reconciliation.

A reconciliation permits the liquidation of an entry summary/

summaries despite the fact that undetermined information will be

transmitted to Customs at a later time through the reconciliation

process. Assuming there are no other outstanding issues, the entry

summaries will be liquidated for all purposes other than that which is

identified by the importer as pending reconciliation. The

reconciliation will be liquidated in accordance with 19 U.S.C. 1500.

The liquidation of the reconciliation may be protested, in accordance

with 19 U.S.C. 1514, but the protest may only pertain to issues covered

by the liquidated reconciliation.

Description of Test

This test will be limited to participants who meet the eligibility

criteria set forth below. It will cover entry summaries filed by those

participants from October 1, 1995 to March 31, 1996 or the end of the

participant's tax year, whichever comes first. By statute,

reconciliation must be filed within 15 months of the entry summary. For

purposes of this test, participants must file the reconciliation within

15 months of the filing of the first affected entry summary or by

December 31, 1996, whichever comes first.

Application

Applications will be submitted to Mr. William F. Inch, Director,

Office of Regulatory Audit, United States Customs Service, 1301

Constitution Ave. N.W. Room 2311, Washington D.C. 20229-0001. All

applicants will be notified in writing of approval or disapproval

regarding test participation. All applicants who meet the eligibility

criteria will be chosen to participate in this test. The application

must address the ability to meet the eligibility requirements. The

applicant must consent, in the application, to all the conditions set

forth in the description of this test and eligibility criteria. The

applicant must set forth in the application the date on which the

applicant's tax year ends.

By applying, applicants agree that the value for merchandise

covered by all entry summaries filed by them or on their behalf on or

after October 1, 1995 until the end of the tax year or March 31, 1996,

whichever comes first, shall be finally determined by the liquidation

of the reconciliation filed in accordance with the test. The Office of

Regulatory Audit will review the application to determine that the

applicant has met all eligibility requirements.

Documentation Required To Support Reconciliation

The approved participant shall maintain and produce upon Customs

request all relevant documentation to support the change in the entered

value. The reconciliation shall include the following information:

1. The entry numbers and dates of all entries filed with Customs

during the period.

2. A cumulative list of units imported by classification number and

the change (final entered value) to that entered value.

In order to support the reconciliation, the approved applicant

shall maintain and produce upon Customs request all relevant

documentation to support the change in entered value. The approved

applicant may be required to provide any or all of the following

documentation:

1. The IRS Schedule M-1, and the Form 1120 Corporate Tax Return.

2. Any and all other supporting documentation filed along with the

M-1 and the Form 1120 that was furnished to the IRS.

3. Any or all IRS documents or communications with the participant

regarding the relevant 482 adjustment.

4. Any and all documentation including any books and records or

computerized data to relate the 482 adjustment to the entries filed

with Customs.

Such information and supporting material should be provided in a

format or electronic media commonly in use. Examples are an IBM

compatible computer 3.5 disk utilizing a software product such as

Access or Excel or other similar spreadsheet or database application

such as Lotus 1, 2, 3.

Verification

Customs Regulatory Audit, in conjunction with other Customs

disciplines, will determine if any verification effort is necessary to

establish the accuracy of the details submitted. The extent of the

verification will be determined by Regulatory Audit, and if an audit is

required, established Regulatory Audit procedures will be followed.

Eligibility Criteria

In order to qualify for this test of reconciliation, importers must

have reason to believe they may invoke the IRS regulations to make

upward adjustments to the price of the imported merchandise. Importers

must have the capability to provide, on an entry-by-entry basis, the

electronic entry of merchandise and the electronic entry summary of

required information (ABI). Other requirements and conditions are as

follows:

1. The test only applies to the related party transactions engaged

in by participants who qualify under Internal Revenue Service Section

482 requirements to make upward adjustments and which are not subject

to Antidumping/Countervailing Duty proceedings.

2. Participants' tax year must end between October 31, 1995 and

March 31, 1996.

3. Customs decision to allow a company to participate in the test

program will be made in consultation with the Internal Revenue Service.

4. Each participant must provide U.S. Customs with the methodology

that will be used to arrive at the final price of the imported

merchandise.

5. Each participant agrees that appraisement is under section

402(f) of the Tariff Act of 1930, as amended by the Trade Agreements

Act of 1979, if, in fact, an upward section 482 adjustment is made for

tax purposes.

6. Entries involving merchandise under this test will not be

eligible for drawback.

Selectivity Criteria

The Office of Regulatory Audit, in conjunction with other Customs

disciplines, will review the application to ensure the eligibility

requirements are met. All applicants who meet the eligibility criteria

will be allowed to participate, provided no other Customs office

objects.

Objectives of the Test

The objectives of this test are:

1. To work with the trade community to further compliance in the

value area regarding related party transactions.

2. To allow companies intending to make Internal Revenue Service

Section 482 adjustments, which may ultimately result in an upward

adjustment to the price for merchandise, the opportunity

[[Page 35108]]

to reconcile their business operations regarding U.S. Customs and

Internal Revenue Service requirements applicable to related party

transactions.

3. To determine if reconciliation is a viable method to ensure a

coordinated and consistent Customs response to Internal Revenue Section

482 adjustments which result in the upward adjustment of the Customs

valuation under Section 1059A.

5. To test the type of information needed by Customs to process a

reconciliation.

Test Evaluation Criteria

The criteria which will be used to evaluate whether or not

reconciliation is a viable means to allow importers which make upward

adjustments to the price of imported merchandise will be based on

measurable outcomes which include:

1. The number of participants;

2. Customs resources expended to administer and monitor the

program;

3. Customs resources expended to verify final reconciliation entry

claims and the methodologies applied;

4. Amount of additional revenue collected;

5. Survey of participants on the conduct of the test and its affect

on their business operations; and

6. IRS and Census satisfaction with the results of the test.

Dated: June 28, 1995.

Karen J. Hiatt,

Acting Assistant Commissioner, Office of Strategic Trade.

[FR Doc. 95-16406 Filed 7-3-95; 8:45 am]

BILLING CODE 4820-02-P