Commissioner
of Customs Vs. M/S Ferodo India Pvt. Ltd [2008] Insc 234 (21 February 2008)
S.
H. Kapadia & B. Sudershan Reddy
CIVIL
APPEAL NO. 8426 OF 2002 with Civil Appeal Nos. 8417/03, 981/06, 3076/06,
3203/06 and 284/07. KAPADIA, J.
This
batch of civil appeals is filed by the Department and is directed against the
orders passed by the Customs, Excise & Gold (Control) Appellate Tribunal
("CEGAT") whereby and whereunder the appeals filed by the
respondents-importers herein stood allowed. They arise from assessment
proceedings and not from show cause. The adjudicating authority has held that
M/s Ferodo India Pvt. Ltd. ("buyer" in short) is a subsidiary of M/s
T & N International Ltd., UK and are
thus related, which finding is not in dispute.
2. For
the sake of convenience we state the facts occurring in Civil Appeal No.
8426/02 Commnr. of Customs v. M/s Ferodo India Pvt. Ltd.
3. The
buyer is the manufacturer of brake liners and brake pads in India.
On
8.9.1995, a technical assistance and trade mark agreement ("TAA" for
short) was entered into between the respondent (buyer/licensee) and M/s T &
N International Ltd., UK (foreign collaborator/licensor).
Under the said agreement, the licensor claimed to be in possession of certain
secret processes, formula and information. Under the agreement, the licensor
agreed to permit manufacture of brake liners and brake pads (licensed products)
by the licensee. Under the agreement, the licensor agreed to disclose the
relevant secret processes, formula and information to the licensee. Under the
agreement, the licensee was required to import/buy raw material and capital
goods from the licensor. Under the agreement, the licensee was obliged to pay a
licence fee along with royalty, based on the net sales value of licensed products
sold, consumed or otherwise disposed of.
4.
Vide order dated 22.9.1999 the adjudicating authority held that, technical
know-how fees and royalty were related to the imported goods and were a
condition of sale for the import thereof and consequently, the adjudicating
authority loaded the CIF value of the imported goods with the proportionate
amount of know-how fees and royalty. In this connection, reliance was placed on
the judgment of this Court in CoC v. Essar Gujarat Ltd. reported in 1996 (88)
ELT 609 (SC). This order was confirmed by the Commissioner (A). However, by the
impugned order dated 12.2.2002, the Tribunal held that the know-how fees and
the royalty payments stood related to the brake liners and brake pads to be
produced in India and not to the imported goods.
Hence,
this civil appeal by the Department.
5. In
this case, we are required to lay down the scope of rule 9(1)(c) and rule
9(1)(e) of CVR, 1988, which are quoted hereinbelow:
"9.
Cost and services.-
(1) In
determining the transaction value, there shall be added to the price actually
paid or payable for the imported goods,-
(a) (b)
(c) Royalties and licence fees related to the imported goods that the buyer is
required to pay, directly or indirectly, as a condition of the sale of the
goods being valued, to the extent that such royalties and fees are not included
in the price actually paid or payable.
(d) (e)
All other payments actually made or to be made as a condition of sale of the
imported goods, by the buyer to the seller, or by the buyer to a third party to
satisfy an obligation of the seller to the extent that such payments are not
included in the price actually paid or payable."
6. At
the outset, it may be stated that, this is not the case of rejection of
transaction value, though it is held to be a related party transaction. In this
matter we are concerned with adjustment/addition to the price of the imported
goods under rule 9(1)(c) or in the alternative under rule 9(1)(e).
7.
Under Section 14 of the Customs Act, 1962, the assessable value of imported
goods is deemed to be the price at which such or like goods are ordinarily sold
or offered for sale for delivery at the time and place of importation or
exportation, as the case may be, in the course of international trade, where
the seller and the buyer have no interest in the business of each other and the
price is the sole consideration for the sale or offer of sale.
8. The
Customs Valuation (Determination of Price of Imported Goods) Rules, 1988
("CVR, 1988" for short) recognises the fundamental principle of arm's
length price while dealing with transaction value. The Rules provide for the
determination of the correct price of goods that are imported in the country or
exported out of the country uninfluenced by relationship between the
transacting parties.
9.
Transaction Value, Deductive Value, Computed Value and Residual Value Methods
are the methods prescribed in the Rules, to be followed sequentially in that
order in the matter of determination of arm's length pricing.
10. To
determine the assessable value for the levy of customs duty on imported goods,
Section 14 of the 1962 Act has to be read with the provisions of CVR, 1988
because under Section 14(1) there is reference to a deemed price of goods
imported and under Section 14(1A) such deemed price is to be determined in
accordance with the CVR, 1988.
11.
Rule 3 of the CVR, 1988 inter alia provides for six methods of determination of
the price of imported goods. The six methods are:
Method
1 Transaction
Value (Rule 4) The primary basis for customs duty is "transaction
value", as defined in rule 4(1) of CVR, 1988, which is the price actually
paid or payable for the goods when sold for export to India, adjusted in
accordance with the provisions of rule 9.
Adjustments
to the price actually paid or payable are required in cases where certain
specific elements which form part of the value for customs purposes are
incurred by the buyer but are not included in the price actually paid or
payable for the imported goods. Rule 9 embodies the principle of attribution of
certain costs to the price of the imported goods. Rule 9 also provides for
inclusion of certain considerations which passes from the buyer to the supplier
in the form of specified goods or services, other than in the form of money.
Method
2 TV of Identical
Goods (Rule 5) Rule 5 through rule 7A provides for four alternate methods of
determining the customs value whenever such value cannot be decided under the
provisions of rule 4.
Under
Rule 5, the value of imported goods shall be the transactional value of
identical goods sold for export to India if the goods are:
(i) the
same in all respects (including physical characteristics, quality and
reputation);
(ii) produced
in the same country as the goods being valued; and
(iii) produced
by the producer of the goods being valued.
Method
3 TV of Similar
Goods (Rule 6):
Under
this method, the value of imported goods is the transaction value of similar
goods if:
(i) goods
closely resemble the goods being valued in terms of components, materials and
characteristics;
(ii) goods
which are capable of performing the same functions and are commercially
interchangeable with the goods being valued;
(iii) goods
which are produced in the same country and by the producer of the goods being
valued.
Rule
6A provides for determination of value when transaction value cannot be
determined under rules 4, 5 and 6.
In
such cases, the following two methods are envisaged on the request of the
importer and subject to the approval of the proper officer, i.e., under rules 7
and 7A.
Method
4 Deductive Value
(Rule 7) Rule 7 provides that when customs value cannot be determined on the
basis of transaction value of the imported goods or identical or similar goods,
the value of the imported goods shall be based on the unit price at which the
imported goods or identical goods or similar goods are sold to an unrelated
buyer in the country of importation in the greatest aggregate quantity.
The
starting point in calculating the deductive value is the same price in the
country of importation. Various deductions are necessary to reduce that price
to the relevant customs value. These deductions are:
(i) commissions
usually paid or agreed to be paid, profits and general expenses added in connection
with sales;
(ii) usual
transport cost and corresponding insurance are to be deducted from the price of
the goods when these costs are usually incurred within the country of
importation;
(iii) the
customs duty and other national taxes payable in the country of importation by
reason of importation;
(iv) value
added by further processing, wherever applicable.
Method
5 Computed Value
(Rule 7A) Computed value determines the customs value on the basis of the cost
of production of the goods being valued plus an amount for profit and general
expenses usually reflected in sales from the country of exportation to the
country of importation of goods of the same class or kind. It is, therefore,
the total sum of production cost and profit and general expenses.
Method
6 Fall-Back Method
(Rule 8) When the customs value cannot be determined under any of the previous
methods, it has to be determined using reasonable means consistent with the
principles and general provisions of the CVR, 1988 and Section 14(1) of the
1962 Act and on the basis of data available in India. To the great extent
possible, this method is based on previously determined values and methods with
a reasonable degree of flexibility in their application.
Basis
of CVR, 1988
12.
Article 7 of GATT, 1994 is the foundation of the CVR, 1988. The said Article
brought in the concept of arm's length price in customs valuation to test
values arrived from sale of identical or similar goods and in cases where such
values were not available, it provided for deductive and computed value
methods, which methods are akin to resale price method and cost plus method
under the transfer pricing in the Income-tax Act, 1961.
Role
of Interpretative Notes to CVR, 1988
13. At
the outset, it may be stated that rule 9(1)(c) has to be read with the
Interpretative Notes and when so read it authorises the Customs to add the
royalties/licence fees to the assessable value only in certain conditions,
namely, when the royalties/licence fees are related to imported goods; that,
when the buyer is required to pay to the seller, directly or indirectly, as the
condition of the sale of the goods being valued, such royalties and licence
fees are not included in the transaction value.
14.
One more significance of the Interpretative Notes is that it has placed the
burden on the importer/buyer to prove the correctness of the price of the
imported goods in terms of the means prescribed in rule 4(3)(a) and rule
4(3)(b). In other words, the CVR mandates the hierarchy of valuation methods to
be applied in the event of the transfer price being rejected.
Analysis
of Rule 9(1)(c)
15.
Rule 9(1)(c) extends the quantum of levy under rule 4. Rule 9(4) mandates that
there can be addition to the transaction value except as provided in rule 9(1)
and (2). Hence, addition for cost can only be made in situations coming under
rule 9(1) and (2). Rule 9(1) and (2) is based on the principle of attribution.
Under Customs law, valuation is done on pricing whereas in the case of transfer
pricing under Income-tax Act, 1961, valuation is profit based. The principle of
attribution of certain costs (including royalty and licence fee payments) to
the price of the imported goods is provided for in rule 9 under situations
mentioned in rule 9(1) and (2). In transfer pricing, the arm's length price is
inferred from various methods to avoid profit-shift from one jurisdiction to
another and it is here that principle of allocation of profits comes in (i.e.
in the case of transfer pricing).
16.
Under rule 9(1)(c), the cost of technical know-how and payment of royalty is
includible in the price of the imported goods if the said payment constitutes a
condition pre-requisite for the supply of the imported goods by the foreign
supplier. If such a condition exists then the payment made towards technical
know-how and royalties has to be included in the price of the imported goods.
On the other hand, if such payment has no nexus with the working of the
imported goods then such payment was not includible in the price of the imported
goods.
17. In
the case of Essar Gujarat Ltd. (supra) the condition pre-requisite, referred to
above, had direct nexus with the functioning of the imported plant and,
therefore, it had to be loaded to the price thereof.
18.
Royalties and licence fees related to the imported goods is the cost which is
incurred by the buyer in addition to the price which the buyer has to pay as
consideration for the purchase of the imported goods. In other words, in
addition to the price for the imported goods the buyer incurs costs on account
of royalty and licence fee which the buyer pays to the foreign supplier for
using information, patent, trade mark and know-how in the manufacture of the
licensed product in India. Therefore, there are two concepts which operate
simultaneously, namely, price for the imported goods and the royalties/licence
fees which are also paid to the foreign supplier. Rule 9(1)(c) stipulates that
payments made towards technical know-how must be a condition pre-requisite for
the supply of imported goods by the foreign supplier and if such condition
exists then such royalties and fees have to be included in the price of the
imported goods. Under rule 9(1)(c) the cost of technical know-how is included
if the same is to be paid, directly or indirectly, as a condition of the sale
of imported goods. At this stage, we would like to emphasis the word indirectly
in rule 9(1)(c). As stated above, the buyer/importer makes payment of the price
of the imported goods. He also incurs the cost of technical know-how. Therefore,
the Department in every case is not only required to look at TAA, it is also
required to look at the pricing arrangement/agreement between the buyer and his
foreign collaborator. For example if on examination of the pricing arrangement
in juxtaposition with the TAA, the Department finds that the importer/buyer has
misled the Department by adjusting the price of the imported item in guise of
increased royalty/licence fees then the adjudicating authority would be right
in including the cost of royalty/licence fees payment in the price of the
imported goods. In such cases the principle of attribution of royalty/licence
fees to the price of imported goods would apply. This is because every
importer/buyer is obliged to pay not only the price for the imported goods but
he also incurs the cost of technical know- how which is paid to the foreign
supplier. Therefore, such adjustments would certainly attract rule 9(1))(c).
Application
of Rule 9(1)(c) to the facts of the present case
19.
Applying the above tests to the facts of the present case, we find that the
adjudicating authority had not examined the pricing arrangement between the
foreign collaborator and the buyer. It has only examined the royalty/TAA.
20. Be
that as it may, in the present case, on reading TAA we find that the payments
of royalty/licence fees was entirely relatable to the manufacture of brake
liners and brake pads (licensed products). The said payments were in no way
related to the imported items. In the present case, no effort was made by the
Department to examine the pricing arrangement.
No
effort was made by the Department to ascertain whether there exists a price
adjustment between cost incurred by the buyer on account of royalty/licence
fees payments and the price paid for imported items. No effort was made by the
Department to ascertain enhancement of royalty/licence fees by reducing the
price of the imported items. In the circumstances, we find no infirmity in the
impugned judgment of the Tribunal. In this case, the Department has gone by TAA
alone. On reading TAA in entirety, we are of the view that there was no nexus
between royalty/licence fees payable for the know-how and the goods imported
for the manufacture of licensed products. The Department itself has invoked
rule 9(1)(c).
21. In
the alternate, it has invoked rule 9(1)(e). This rule 9(e) cannot stand alone.
It is a corollary to rule 4. There is no finding in the present case that what
was termed as royalty/licence fee was in fact not such royalty/licence fee but
some other payment made or to be made as a condition pre-requisite to the sale
of the imported goods. It is important to bear in mind that rule 9 refers to
cost and services. Under rule 9(1), the price for the imported goods had to be
enhanced/loaded by adding certain costs, royalties and licence fees and values
mentioned in sub-rules 9(1)(a) to 9(1)(d). It refers to "all other
payments actually made or to be made as a condition of sale of the imported
goods." In the present case, the Department invoked rule 9(1)(c) on the
ground that royalty was related to the imported goods, having failed it cannot
fall back upon rule 9(1)(e) because essentially we are concerned with the
addition of royalty etc. to the price of the imported goods. Further, in the
present case, the Department has accepted the transaction value of the imported
goods.
22. In
the case of Essar Gujarat Ltd. (supra), the buyer had entered into a contract
with TIL for purchase of Direct Reduction Iron Plant ("the plant").
The entire agreement was for import of the plant. The agreement was subject to
two conditions-
(a) approval
of G.O.I. and
(b) obtaining
transfer of licence from M/s Midrex, USA. Without the licence from Midrex, the imported plant
was of no use to the buyer.
Therefore,
it was essential to have the licence from Midrex to operate the plant.
Therefore, it was held by this Court that procurement of licence from Midrex
was a pre- condition of sale which was specifically recorded in the agreement
itself. In view of specific terms and conditions to that effect in the
agreement, this Court held that payments made to Midrex by way of licence fees
had to be added to the price paid to TIL for purchase of the plant. There is no
such stipulations in the TAA in the present case. Therefore, in our view, the
adjudicating authority erred in placing reliance on the judgment of this Court
in Essar Gujarat Ltd. (supra).
23. In
the case of Matsushita Television & Audio India Ltd. v. CoC reported in
2007 (211) ELT 200 (SC) the question which arose for determination was whether
royalty amount was attributable to the price of the imported goods. In that
case, the appellant was a joint venture company of MEI, Japan and SIL for
obtaining technical assistance and know-how.
Under
the agreement, the appellants were to pay MEI a royalty @ 3% on net ex-factory
sale price of the colour TV receivers manufactured by the appellants for the
technical assistance rendered by MEI. The appellants were to pay a lump-sum
amount of U.S. $ 2 lakhs to MEI for transfer of technical know-how. It was the
case of the appellant that payment of royalty was not related to imported goods
as the said payment was made for supply of technical assistance and not as a
condition pre-requisite for the sale of the components.
24.
One of the questions which arises for determination in this civil appeal is
whether reliance could be placed by the Department only on the Consideration
Clause in the TAA for arriving at the conclusion that payment for royalty was
includible in the price of the important components.
25.
Rule 4(3)(b) of the CVR, 1988 provides for an opportunity for the importer to
demonstrate that the transaction value closely approximates to a
"test" value. A number of factors, therefore, have to be taken into
consideration in determining whether one value "closely approximates"
to another value. These factors include the nature of the imported goods, the
nature of the industry itself, the difference in values etc.. As stated above,
rule 4(3)(a) and rule 4(3)(b) of the CVR, 1988 provides for different means of
establishing the acceptability of a transaction value. In the case of
Matsushita Television (supra) the pricing arrangement was not produced before
the Department. In our view, the Consideration Clause in such circumstances is
of relevance. As stated above, pricing arrangement and TAA are both to be seen
by the Department. As stated above, in a given case, if the Consideration
Clause indicates that the importer/buyer had adjusted the price of the imported
goods in guise of enhanced royalty or if the Department finds that the buyer
had misled the Department by such pricing adjustments then the adjudicating
authority would be justified in adding the royalty/licence fees payment to the
price of the imported goods.
Therefore,
it cannot be said that the consideration clause in TAA is not relevant.
Ultimately, the test of close approximation of values require all circumstances
to be taken into account. It is keeping in mind the Consideration Clause along
with other surrounding circumstances that the Tribunal in the case of
Matsushita Television (supra) had taken the view that royalty payment had to be
added to the price of the imported goods.
26.
For the aforestated reasons, we find no infirmity in the impugned orders of the
Tribunals. Accordingly, the civil appeals filed by the Department are hereby
dismissed with no order as to costs.
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