Customs Valuation: An Introduction

What is Customs Valuation?

Custom valuation refers to the process of determining how much a product or shipment is worth at time of importation. This process has a set of defined rules that must be followed. There is a very good reason for having these rules. Value Added Tax (VAT) or Goods and Service Tax (GST) as well as Custom duties are determined according to the value determined by Customs. If the Custom officials fail to determine the true Customs value of a product, they are going to end up levying wrong taxes on imports, resulting in either a loss of tax revenue for the state or traders paying unnecessary duties and taxes.

For the reasons outlined above, the World Trade Organization (WTO) places a lot of emphasis on proper customs valuation. There are 161 members of the WTO and nearly all of these members agree on WTO’s recommended policies on Customs valuation. WTO’s policies calculate the fees and tariffs based on the value of the transaction, in other words the value of the goods plus the adjustment of other charges associated with them. In today’s world, over 90% of Customs valuation is performed based on transaction value.

Some traders may think it is a simple matter of paying taxes on invoices values presented to Customs. However, many complications arise when this method is used. For example, depending on the Incoterm of the transaction, inland delivery and destination unloading charges may be included in the invoice price. However, the basis of Customs valuation may not require these elements to be added. In other cases, the main carriage may not be included on an invoice, but the basis of Customs valuation for that country may require it to be added.

Methods of Customs Valuation

1^st Method: Transaction Value

What is transaction value?

Transaction value refers to the total money paid to the seller in return for the imported goods. This value doesn’t just include the value of the goods but also every necessary payment agreed upon as a part of the sale agreement. For instance, shipping fees and any payment made to another party as part of the agreement may also be included in the transaction value. Effectively this method captures all payments made by buyer to seller for a product.

What conditions need to be fulfilled?

Here are a few conditions that need to be fulfilled when using the transaction value method:

Sale Evidence of Sale:

There has to be physical evidence of the purchase being made for importing a product into the country. This could include invoice documents like invoices, business contracts and agreements, and purchase orders among many other similar documents. These documents could exist in electronic format.

Restrictions on the product within the country

It is important that the buyer is not restricted from the use of products he/she is importing. Some of the exceptions to this may be the following:

• Legally imposed restrictions on the importation of the product
• Restrictions that are specific to the geographical area
• Restrictions that do not considerably change the price of the product

Not subject to additional conditions

The price of the product cannot be dependent on factors for which it is hard to assign any monetary value. In other words, there should not be additional commercial conditions that affect the sale price. Some examples of cases like these include:

• The seller offering a price for the product that is dependent on the buyer also buying a certain quantity of another product as part of a larger deal.
• The buyer accepts a price for the products he/she is buying with the understanding that the seller will also buy a certain amount of his/her product as part of the deal and another deal.
• Any other case where the price of the imported goods is calculated based on a business deal that is not relevant to the particular transaction in question.

It is important to note here that the buyer cannot send any proceeds from the sale of these goods back to seller. The only way this can be done is by following the provisions set out in Article 8 of the General Agreement on Tariffs and Trade (GATT Agreement).

Although it can be a long read, it is recommended that traders read full text of the GATT at least once.

Availability of Information

If any adjustments to the price are made as per Article 8, there needs to be a certain amount of information available. This information could include things like:

• Commissions (except the buyer’s commissions)
• Packing costs, container/shipment charges
• Assists
• Licensing fees and/or royalties
• Proceeds from the sale of the goods
• If evaluation is based on the CIF Incoterm, then information about insurance charges, transportation costs and similar related charges needs to be available. CIF is a common basis of evaluation for many Customs authorities.

Costs incurred past the importation stage, such as duties, assembly costs or transportation costs cannot be a part of the transaction value.

Relationship between buyer/seller

It is important for the buyer and the seller to not be related to one another. However, if that is indeed the case, the importer will need to prove that the price wasn’t adjusted because of the relationship and that the price is close to what another test customer might be charged for the same goods. In other words the sale must be conducted at arm’s length.

It is important for the buyer and the seller to not be related to one another.

What are related parties?

Article 15 clearly defines the terms “related parties”. According to this article, the two persons involved are considered related if:

• They have a position such as manager or directors in each other’s business
• They are partners in a business
• They have an employer/employee relationship
• any one of the persons involved in the transaction owns or in any other way controls at least 5% shares or voting stock on both the companies
• One person has a direct or indirect control/authority over another person. This could be the case when one person is a subordinate of the other
• A single third person controls both the parties, either directly or indirectly.
• They are family members

If this topic interests you, you might also like our article on transfer pricing.

When do customs authorities question the accuracy of value declared by the buyer?

Since the transaction value of the goods is mainly provided by the importer, he/she may have reasons to declare a wrong value of the products. Customs authorities need to be vigilant about this and can in some cases question the declared value. Customs generally has the right to ask the buyer to provide more information so that authorities that can confirm the total value of the products the buyer intends to import.

Even after receiving more information, if the Customs authorities are doubtful, they can simply decide that the transaction value method is simply not the correct method to use in this case. Once they decide that, they need to inform the importer in writing and give him/her sufficient time to offer a response. The Customs officials must also provide the reasons why they do not believe the pricing given by the buyer is accurate or suitable for use in Customs valuation.

2^nd Method: Transaction value of identical goods

The process for calculating the transaction value of identical goods is the same, provided the goods satisfy the following conditions to be determined to be suitably identical/similar:

• The goods must be similar with respect to quality, reputation and physical characteristics such as dimensions.
• The identical goods have to be produced in the same country as the goods being valued
• The goods must have been produced by the producer of the goods that are being valued

This method can only be used if identical goods are being sold to the same importation country and the time of importation is roughly the same as the original goods that are to be valued. In reality it is very difficult to conclusively use this method of valuation.

In reality it is very difficult to conclusively use the transaction value of identical goods method for valuation. 

Possible exceptions

Some possible exceptions include:

• Identical or similar goods produced by a different entity may be considered, but only if the same producer isn’t producing any identical goods.
• If the product satisfies the definition of being identical, then minor differences in appearance can be ignored

3rd Method: Article 3 – Transaction value of similar goods

In the same way as identical goods, the transaction value can be derived from the value of similar goods, provided that:

• The products contain similarities regarding characteristics and materials used
• The products perform or are able to perform similar functions and are interchangeable due to their similarities
• The products are produced in the same country by the same producer. In addition to that, the products must also be sold to the same buyer/country. The time period of the sale also needs to be roughly the same.

4^th Method: Deductive Value

In this method, the value of the goods being imported is deduced from the value of identical or similar goods that have previously been sold. For this purpose, the unit price of recent transactions where goods were sold in the highest aggregate quantity are used for comparison. Some of the conditions that need to be fulfilled include the facts that the transaction has to have happened between people not related to one another and within a specific period of time. In case there hasn’t been a transaction in the recent past, sales that have occurred in the last ninety days can be used.

How is the greatest aggregate quantity determined?

The interpretative note attached to the Article 5.1 shows how the greatest aggregate quantity is determined. According to the note, the greatest aggregate quantity is the price point where the highest amount of units of the related product was sold, to a buyer unrelated to the seller. This does not necessarily refer to a single transaction. Usually, the customs officials would add up all the quantities sold at a particular price and compare it to the total number of units sold at every other price point. The price point at which the highest number of individual units were sold is the greatest aggregate quantity.

The deductive method does not necessarily refer to a single transaction.

How to determine the price form the greatest aggregate quantity?

The deductive value is calculated starting from the selling price in the imported country so there are a number of deductions that need to be carried out in order to bring that price down to the needed Customs value. These reductions usually involve the following:

• Any commissions that are paid or will be paid by the buyer, other expenses incurred during the sale process and the total profits need to be subtracted.
• If incurred in the imported country, the price of transportation and insurance also needs to be deducted.
• Deduction of any custom duties or taxes paid in the imported country
• Any value added due to the later processing or assembly of the products.

5^th Method: Computed Value

The method of computed value is rarely used an is also considered a very difficult method to determine the value of the imported products. It uses the production cost of the goods as well as the profits and expenses resulting in the sale from the exported country to the imported country. It consists of the following points:

1. Production Cost

This includes the cost of materials used and the costs incurred during the processing or fabrication of the goods. Material cost would usually include things like raw materials, transportation of raw materials and the assembly of prefabricated components and integrated circuits which will be assembled later. Fabrications costs includes labour cost, assembly or manufacturing cost, as well as many other indirect expenses such as costs due to factory downtime, overtime or maintenance. Expenses for the supervision of the manufacturing process are also included in the fabrication costs.

All the information that is used to determine these costs is provided by the supplier/producer of the goods. Packaging costs or any engineering works needed in the imported country are usually added to these costs but if not, they can be added separately.

2. Profit/General Expenses

General expenses consist of things like electricity, water bill, rent, or bills incurred during any legal process. These expenses are a part of the export sales price to the importing country. It is important to note here that the total amount of general expenses and profit is used, in other words the sum of both values.

3. Other Expenses

At the end, any other charges that were incurred in the process needs to be added. These charges could include, but are not limited to, transportation expenses, handling charges including loading and unloading charges and and insurance charges.

6^th Method: Fall-back Method:

What is the Fall-back method?

In the fall-back method, the customs value is determined with the help of “reasonable means”. These means should be in accordance with the guidelines laid out in the GATT as well as based on available data/information.

Customs authorities are accorded a reasonable level of flexibility in terms of the practical application of the guidelines.

What valuation criteria cannot be used in the Fall-back method?

The following criteria/considerations are not allowed to be used during the application of this method:

• The price at which the goods will be sold at in the imported country
• A system whereby if two values or more are deduced using one or more methods, the higher one is adopted. If there are several values, the lower one needs to be used
• The price at which the goods are currently being sold in the country that exported them
• The production cost of these goods cannot be used. The transaction value needs to be calculated using data available and provided by the country that imports the goods
• The price at which the goods are exported to another country. The export price of goods is not a good measure to arrive at Custom values as each country has different administrative approaches to Customs charges
• Minimum Customs value. This can only be considered if a developing country specifically makes an exception to use minimum values
• No fictitious or arbitrary value can be used. It needs to be emphasised that what actually happens in reality in the market has to reflect in the goods’ price

Special reservations for developing countries

Minimum prices are prohibited under the WTO agreement. However, developing countries are allowed to make an objection where they retain a system of minimum values established officially for a short transitional period of time. These terms have to be agreed to and approved by the WTO committee. Developing countries can refuse the importer’s request to reverse the order of computed and deductive value methods. Developing countries are allowed to value the goods using the deductive method irrespective of whether the importer requests it or not. This can be done even if the importing country further processes the goods in its own jurisdiction.