The addition of royalty payments to the assessable value of imported goods has long been a contentious issue. As per Rules 9(1)(c) and 10(1)(c) of the Customs Valuation Rules,(1) read with the interpretative note thereto, the amount paid for the right to reproduce imported goods in the country of import will not be added to the assessable value of the imported goods. In a recent case,(2) it was held that the lump sum royalty paid to the supplier for the grant of cinematic rights (screening of films), television rights (broadcasting) and video rights (sale of videos and DVDs) of films and programmes could be included in the assessable value of the master tapes of the films and programmes.
The appellant, Star Entertainment Pvt Ltd, had imported master tapes containing feature films and programmes. The master tapes were imported by courier and the appellant had discharged duty liability only on the value of the tapes, as declared on the invoice issued by the foreign supplier. On investigation, Customs alleged that the licence fee paid to the supplier for the cinematic rights, television rights, video rights and ancillary rights in respect of the films and programmes was to be included in the assessable value of the imported master tapes, under Rules 9 and 10 of the Customs Valuation Rules. A demand was raised invoking a longer limitation period. It was also proposed that penalties should be imposed on the goods and that they should be confiscated.
At the adjudication stage, the demand was confirmed and the appellant was ordered to pay differential customs duty, along with interest, a penalty (including a personal penalty on the managing director) and a redemption fine in lieu of confiscation. At the appellate stage, there was a difference of opinion among the members of the tribunal.
The technical member of the tribunal held that Rules 9(1)(c) and 10(1)(c) exclude only the amount paid for the right to reproduce the imported goods. In the case at hand, the supplier had granted the appellant several rights, including cinematic, video, television and ancillary rights. The appellant was required to:
- translate the script and dialogues into Indian languages;
- insert subtitles in local languages;
- undertake dubbing; and
- produce the videos and DVDs.
The technical member held that the Indian product was not an exact reproduction of the imported goods, and thus the royalty paid in respect of such new goods could not be excluded under Rules 9 and 10 of the Customs Valuation Rules.
In addition, the royalty amount was a fixed lump sum, and thus did not relate to the number of copies produced post-importation. Further, the royalty was payable before the goods were delivered. As per the terms and conditions of the agreement, it was clear that the payment of royalty was a condition of the sale and supply of the master tapes.
The technical member also held that, as per the rationale laid down in Indo Overseas Films v Commissioner of Customs,(3) unless the amounts payable for the rights and licences were broken up – and given that, without the right of exploitation, the films and programmes could be of no use to the appellant – no exclusion could be granted in respect of the royalty and licence fee paid. The technical member looked to the Supreme Court judgment in Living Media (India) Ltd,(4) which held that customs duty was payable on the entire value of pre-recorded cassettes (inclusive of royalty), as the terms of the agreement made clear that the royalty was due and payable as soon as the cassettes were distributed and sold.
With regard to the extended limitation period, the member also held that it was the appellant's responsibility to declare to Customs whether it had made payments above the invoice value; the courier was the agent and thus was not responsible for disclosing such information.
The technical member also found unconvincing the appellant's claim that, in view of the tribunal decisions in Living Media India Ltd(5)and Sony BMG(6) (which were reversed by the Supreme Court only in 2011), it was under a genuine belief that the royalty paid need not be included.
The judicial member, on the other hand, found in favour of the appellant, both on the merits and with regard to the extended limitation period.
The judicial member found that, as per Rules 9(1)(c) and 10(1)(c) of the Customs Valuation Rules, read with the interpretative notes, the amount paid for the right to reproduce imported goods in the country of import should not be added to the assessable value of the imported goods.
The judicial member also held that the appellant's royalty payment related to the reproduction and manufacture by exploitation of the copyright, which was separate and distinct from the right to import the master tape. Thus, the royalty payment could not be considered a condition of sale. The right of public performance equalled the right of production in the country of import.
Furthermore, the judicial member held that if the tapes were imported under licence by some other mode (eg, the Internet), the royalty would still have been payable to the licensor. The member also referenced the authoritative commentary(7) on General Agreement on Tariffs and Trade valuation, where it was noted that the right to reproduce in the country of import relates not to the imported goods, but rather to the goods manufactured in the country of import. As these goods do not exist at the time of valuation, they cannot be added to the assessable value. Where the imported work is an exemplar only, intended as a basis for reproduction, only the value of the carrier of information is taxable.
The legal provisions provide no separate treatment for royalty payment on a lump-sum basis or upon actual exploitation later on.
Finally, the judicial member held that there was no suppression, fraud or contumacious conduct in the case at hand and hence the extended limitation period could not be invoked.
On reference, the third member found against the appellant on the merits, but found in favour of the appellant with regard to the extended limitation period.
The third member held that, as per the agreements, the royalty and licence fee had been charged on a flat lump-sum basis or on a minimum guarantee basis, and were a condition of sale of the goods.
The third member also held that the issue at hand had already been settled by the Supreme Court in Living Media (India) Ltd (Supra), whereby the royalty was included in the price of the imported goods.
With regard to the extended limitation period, the third member found that when the goods were imported, there were certain decisions(8) in favour of the appellant, thus establishing the appellant's good faith. Therefore, the third member found that the allegation that the appellant had suppressed information in order to evade paying duty was unsustainable.
As a result of the majority's view, the royalty and licence fees were included in the assessable value of the master tapes, but the demand was found to be time barred.
The issue of adding royalty payments is fact specific, and must be determined in accordance with the terms of the agreement between the supplier and the importer.
In the case at hand, when considering the agreement between the parties and the Customs Valuation Rules, the judicial member and third member held that payment of the royalty was a 'condition of sale' and hence was to be included in the assessable value of the master tapes. The judicial member and the third member likely reached this conclusion on the following facts:
- The goods under consideration were master tapes containing films and programmes, which were of no use to the appellant and had no utility without the various rights of exploitation.
- A royalty was payable to the supplier before delivery of the goods.
- The amount of the royalty was not related to the number of copies reproduced.
- There was no break-up of the amount payable for each of the rights and licences granted.
In such cases, Customs may thus seek to include the royalty payable for broadcast or reproduction in the assessable value of the imported goods.
However, it is possible to distinguish the rationale laid down in this decision from cases where the royalty paid clearly relates to, and is contingent on, the number of copies reproduced in India, or where the imported goods have independent utility and value without the rights of further exploitation.
Contracts should separately demarcate payments for various rights in order to ensure that, at a minimum, the right to reproduce the imported goods will not be added to the assessable value.
For further information on this topic please contact Ranjeet Mahtani or Divya Jeswant at Economic Laws Practice by telephone (+91 22 6636 7000), fax (+91 22 6636 7172) or email (email@example.com or firstname.lastname@example.org).