Customs valuation: a concern for unsuspecting tax practitioners.

• Author: Abad, Luis A.

A taxpayer's basis in imported goods may depend on customs valuation determinations made by U.S. Customs and Border Protection (CBP). Customs valuation often involves issues that may be unfamiliar to a tax practitioner. Yet failure to recognize this tax-customs intersection may result in unexpected additional tax (non-duty) costs. This item explains the concern and highlights certain procedures designed to coordinate tax and customs valuation.

Sec. 1059A Limitation

Sec. 1059A generally limits taxable basis or inventory cost for imported dutiable merchandise purchased from a related party to the "customs value" of the merchandise declared by the importer of record--often the taxpayer--to CBP (the Sec. 1059A limitation). Normally, full customs value must be reported on the Entry Summary document, Customs Form 7501, which is the customs equivalent of a tax return for a single import transaction. If the taxpayer inadvertently or intentionally undervalues imported merchandise subject to ad valorem customs duties, the IRS may decrease the cost basis, resulting in partial disallowance of the property's tax basis or increased taxable income.

Customs law values imported merchandise based on specified costs or value elements enumerated in the statute (19 U.S.C. Section 1401a). For instance, the statutorily preferred and most commonly used method of customs valuation--transaction value--includes, in addition to the "price actually paid or payable" for the imported merchandise:

* Packing costs;

* Selling commissions;

* Assists (i.e., production items supplied free or at reduced cost by the buyer);

* Royalty or license fees that are a condition of sale; and

* Proceeds of subsequent resale or use that accrue to the seller.

There is also a legal presumption that all payments made by the buyer of imported merchandise to the foreign seller, or to a party related to the seller, are included in customs transaction value (e.g., research and development cost-sharing payments). See Generra Sportswear Co., 905 F.2d 377 (Fed. Cir. 1990). However, these costs, payments, or value elements are often initially incorrect or omitted from Customs Form 7501 because in the normal course of business the items are not generally reflected (nor expected to be reflected) in the commercial invoices accompanying the import transaction. This in turn caps the inventory tax basis at a lower than expected amount by operation of the Sec. 1059A limitation.

For example, see the following field advice memoranda issued by the IRS:

* Royalties: In Field Service Advice (FSA) 200036015, the IRS concluded that...