Should Royalties be charged into dutiable value of import goods or not?

The question whether royalty should be charged into dutiable value of import goods or not still remains the top priority to overcome for China Customs Authority (CCA). Their interpretations on nature criteria, charge base and apportionment methods for the royalties also differ from multinational corporations, so a reasonable planning and effective communications in advance with CCA is of upmost importance to investors when setting up their business in China.

Most of foreign-owned production plants import raw materials or component parts from their parent company or affiliated companies to process and produce for sales in China under licensed or without licensed (process flow, drawings, etc) while still paying royalties under non-trade items to these overseas companies. Then, in what circumstances would CCA levy taxes on their royalties.

According to the Measures for Assessing and Determining the Duty-Paid Value of Imported and Exported Goods, CCA will conclude royalty as part of the dutiable value of the import goods if all of the following three conditions are met simultaneously:

  1. Royalties are related to imported goods.
  2. Royalties will be paid to overseas parties.
  3. Royalties paid constitutes the conditions for sales of the goods in China.

Case Suggestions

  1. Standardize the royalty contract in accordance with all relevant tax laws. Well tax planning and effective communications with CCA before signing the contract is necessary and sorting out into two separate list between related and non-related expenses of the import goods to avoid or reduce the risk being questioned by CCA.
  2. Make price setting carefully to include royalties for customs declaration purpose in order to avoid CCA’s challenge over goods being underpriced because royalties have been excluded.
  3. Maintain and safeguard all relevant documents including contracts, invoices, records of customs declaration and payment for CCA Inspection purpose.

The amount of royalties paid out by the company is usually large, and because CCA has the right to pursue and collect tax in arrears up to 3 years back, this could become an extra burden beyond the company’s financial strength if royalties were found to be dutiable by CCA. As such, companies are advised to regard the issue highly and handle authority’s queries carefully.