Prolab Nutrition Europe Ltd v The Commissioners for Revenue & Customs [2009] UKFTT 326 (TC)

FTT-Tax
Prolab Nutrition Europe Ltd v The Commissioners for Revenue & Customs
[2009] UKFTT 326 (TC) · 2009-11-27
[1]HMRC visited the Appellant in late 2005 and enquired into the terms of their business. This led to HMRC issuing a decision letter on 26 May 2006 and a post clearance demand on 1 June 2006 for £81,710 which related certain invoices for “export and trademark distribution rights” between 30 October 2003 and 16 May 2005. The decision was upheld on review on 23 August 2006. The Appellant appealed. The demand was later reduced to £77,211.94 on the grounds that the calculation was wrong as by mistake HMRC had included some product invoices in the schedule (on which duty had already been paid). Background[2]The Appellant company has been in business since the early 1990s. Its business was and still is the wholesale import of specialist sports nutritional supplements. Almost from its inception, its main supplier was Sportika Export Inc (“Sportika”) a company based in the USA which specialised in exporting these specialist nutritional supplements. The Appellant imported a number of brands but products (“Prolab goods”) manufactured by Prolab Nutrition Inc. (“Prolab Inc”) became for some years its most important line. In fact in 1993, the Appellant which had been incorporated under the name Strength Systems UK, changed its name with the consent of Prolab Inc to Prolab Nutrition Europe Ltd.[3]Sportika had created a niche for itself in US, where many of these nutritional supplements are produced, as an exporter of such products. It was for a number of brands, including Prolab, the sole exporter for the manufacturer. It was therefore in a position to give its customers exclusive distribution rights for these brands.[4]The Appellant and Sportika had a close business relationship and until 2003 there was no written contract between them for their business dealings. Mr Alden, director and owner of the Appellant was and remains a close friend of Mr White, a director of Sportika. When Sportika took on a new brand of products as an exclusive exporter, it would first offer the exclusive distribution rights in Europe to the Appellant.[5]In practice, where the Appellant took up the offer of exclusive distribution rights in Europe for that brand, Sportika would invoice the agreed price for the goods and then a few days later invoice an amount which was calculated to be almost (but not exactly) the same as the total price for the goods. Customs duty was paid on the first invoice but not the second, which was stated to be for “export and trademark distribution rights”. The post clearance demand was for duty to be paid on these export and trademark distribution rights invoices in the period 30 October 2003 to 16 May 2005. Law[6]Article 28 of Council Regulation 2913/92 (which is the Community Customs Code) provides that “the provisions of this chapter shall determine the customs value for the purposes of applying the Customs Tariff of the European Communities and non-tariff measures laid down by the Community provisions governing specific fields relating to trade in goods.”[7]Article 29 of the same Council Regulation provides that:
“1. the customs value of imported goods shall be the transaction value, that is, the price actually paid or payable for the goods when sold for export to the customs territory of the Community, adjusted where necessary, in accordance with Articles 32 and 33…..”
[8]From the above Article it can be seen that the Appellant must pay customs duty on the customs value of the imported goods. The customs value is the “transaction value”. The transaction value is “the price actually paid or payable for the goods…adjusted where necessary, in accordance with Articles 32 and 33…”[9]Article 29(3)(a) defines what is the price actually paid or payable. It is as follows:
“3(a) The price actually paid or payable is the total payment made or to be made by the buyer to or for the benefit of the seller for the imported goods and includes all payments 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…”
[10]It is therefore critical to decide whether the payments in question which were paid to Sportika were made as a condition of sale of the imported goods. That is not the end of the matter, however, as Article 29(1) states that the transaction value is the price paid or payable for the goods but “adjusted, where necessary, in accordance with Articles 32 and 33”.[11]Article 33 is a list of sums which are to be deducted from the transaction value and Article 32 is a list of items which are to be added. Article 33 deals with items such as warehousing, transport & buying commissions and it was not suggested that it has any relevance in this case. In so far as relevant, Article 32 provides:
“(1) In determining the customs value under Article 29, there shall be added to the price actually paid or payable for the imported goods… … (c) royalties and licence fees related to the goods being valued that the buyer must pay, either directly or indirectly, as a condition of sale of the goods being valued, to the extent that such royalties and fees are not included in the price actually paid or payable.”
[12]The effect of Article 32(1) is therefore to add to the price actually paid or payable additional amounts including payments of royalties and licence fees. In all cases they can only be added to the price where they are paid “as a condition of sale” of the goods in question.[13]At first glance this provision does not appear to add anything to Article 29(1) which already provides that the transaction value includes the total payment made by the buyer to or for the benefit of the seller as a condition of sale. As royalties and licence fees can only be added to the price where they are paid as a condition of sale , clause 32(1)(c) seems superfluous. A royalty or licence fee paid as a condition of sale which is therefore liable to be added to the price under 32(1)(c) would in any event have been subject to duty under clause 29(3)(a).[14]However, it may have two purposes. Firstly the reference in Article 32(1)(c) to “indirectly” might be intended to capture payments to third parties: if that is the distinction it makes no difference in this case where the disputed payments were from buyer to seller. Alternatively, its purpose may be merely to put beyond doubt that Article 29 applies to royalties and licence fees (if they are paid as a condition of sale). Ms Choudhury’s take on the word “indirectly” was that it could be referring to payments which were invoiced separately, as in this case. We do not agree. Article 29(1) applies to all payments which are made as a condition of sale of the goods in question whether or not they are invoiced separately. Liability to duty would not be affected by payments split between invoices. If confirmation of this proposition were required, the Tribunal notes that in the case of Unifert Handels GmbH v Hauptzollampt Münster C-11/89 (which was not cited at the hearing) a sum invoiced separately from the purchase amount was nevertheless held to be part of the price paid under the forerunner of Article 29.[15]Article 32(5) provides:
“Notwithstanding paragraph 1(c): (a) Charges for the right to reproduce the imported goods in the community shall not be added to the price actually paid or payable for the imported goods in determining the customs value; and (b) Payments made by the buyer for the right to distribute or resell the imported goods shall not be added to the price actually paid or payable for the imported goods if such payments are not a condition of the sale for export to the Community of the goods.”
[16]Article 32(5)(b) does not appear to add anything to Article 29, except that it is confirming that distribution rights which are a condition of the sale of the imported goods should be added to the transaction value. It was not suggested that Article 32(5)(a) had any relevance in this case: the Appellant was not reproducing the imported goods.[17]There has been an assumption by both parties at least up to the hearing that the case turned on Article 157 and 159 of Commission Regulation 2454/93 (the implementing regulation). This sets out the meaning of “royalties and licence fees” referred to in Article 32(1)(c) above. However, as can be seen from the foregoing analysis, the meaning of “royalties and licence fees” is not relevant if the payment is in any event caught under Article 29. This is because Article 32 only adds items to the transaction value: it does not allow deductions from the transaction value as ascertained in accordance with Article 29.[18]Article 157 of Commission Regulation 2454/93 provides: 1. For the purposes of Article 32(1)(c) of the Code, royalties and licence fees shall be taken to mean in particular payment for the use of rights relating: - to the manufacture of imported goods (in particular, patents, designs, models and manufacturing know-how), or - to the sale for exportation of imported goods (in particular, trade marks, registered designs), or - to the use or resale of imported goods (in particular, copyright, manufacturing processes inseparably embodied in the imported goods). 2. Without prejudice to Article 32(5) of the Code, when the customs value of imported goods is determined under the provisions of Article 29 of the Code, a royalty or licence fee shall be added to the price actually paid or payable only when this payment: - is related to the goods being valued, and - constitutes a condition of sale of those goods.”[19]Where there is a payment of a royalty or licence fee, Article 159 of Commission Regulation 2454/93 (the implementing regulation) provides for an exception under which the payment is not to be added to the price paid or payable:
“A royalty or licence fee in respect of the right to use a trade mark is only to be added to the price paid or payable for the imported goods where – - the royalty or licence fee refers to the goods which are resold in the same state or which are subject only to minor processing after importation, - the goods are marketed under the trade mark, affixed before or after importation, for which the royalty or licence fee is paid, and - the buyer is not free to obtain such goods from other suppliers unrelated to the seller.”
[20]The parties agreed that the Appellant’s payments in respect of which HMRC are demanding duty fell into the first two sub-paragraphs of Article 159 but disagree about whether the last condition applies. The Appellant’s case[21]The Appellant’s case is that although the customs value of imported goods will include royalties and licence fees which the buyer must pay as a condition of the sale of the imported goods in question, royalties and licence fees which relate to trade marks are only included in the price paid or payable for the imported goods if all three conditions in Article 159 are met. The Appellant considered that the payments at issue in this appeal were within the meaning of “royalties and licence fees”. Firstly, the Appellant considered that Article 157, which gives examples of royalties and licence fees must be taken to include distribution rights not least because Article 32(5)(b) refers to payments for distribution rights. In any event, the Appellant considered that the payments were for both distribution rights and trade mark usage. The Appellant then considered that the exception in Article 159 applied and that the Appellant was within this. In particular, although the Appellant accepted that the first two sub-paragraphs of Article 159 were met, it considered that the last one was not: the Appellant considered it was free to source goods elsewhere. HMRC’s case[22]HMRC’s primary submission was that the payments at issue in this case were a condition of the sale of the goods to the Appellant and part of its customs valuation. If they failed on that, they considered that the payments were not excepted from customs valuation because of Article 159. HMRC considered the payments were at least mainly for exclusive distribution rights and did not think they were “royalties and licence fees” and even if they were, the Appellant was not free to source goods elsewhere. Facts[23]The following are the Tribunal’s findings of fact. Mostly the facts were not in dispute but where they were we set out the dispute and our finding of fact. As stated earlier, the business relationship between Sportika and the Appellant was governed by unwritten agreements, but this changed in 2003.[24]The Appellant entered into a written agreement with Sportika on 1 August 2003. It was called “Distribution Agreement”. The terms in so far as relevant are set out below. This agreement did not set out how much Sportika would be paid either for the goods purchased or the “export trademark and distribution rights”. Clause 4.1 merely provided “All orders in respect of the products…shall be subject to the following terms and conditions – 4.1.1 the price payable for the products from time to time shall be as agreed upon by the parties….”[25]The evidence of Mr Alden and Mr White was that the purpose of that written agreement was to demonstrate to Natrol, a US based company which in 2003 bought out Prolab Inc, the closeness of the relationship between the Appellant and Sportika and in particular that Sportika already had an effective distribution chain for Prolab goods into Europe. The two men were concerned that Natrol would by-pass the two companies and sell Prolab goods directly into the UK. No other distribution agreement was entered into in respect of any other goods supplied to the Appellant by Sportika. Their evidence was even in respect of Prolab goods the terms on which they actually did business remained unchanged during the existence of the written agreement.[26]In 2005 Natrol opened a warehouse in the UK and the Appellant was directed to buy Prolab goods from there and not from Sportika. It seems the Distribution agreement was never formally brought to an end but it became defunct as the Appellant ceased to source Prolab goods from Sportika and Sportika ceased to be able to exclusively supply Prolab goods.[27]HMRC challenged the evidence that the purpose of the two agreements was window dressing to convince Natrol to leave Sportika as the sole exporter of Prolab goods, suggesting that the agreement was worthless as Natrol was not a signatory and that it failed in its stated purpose as Natrol did in the end by-pass Sportika. The Tribunal, however, accepts the Appellant’s account: there is no reason to doubt the evidence of Mr Alden or Mr White on this and indeed the account makes sense. It seems a reasonable supposition that Natrol would take a distribution chain backed up by written contracts more seriously than one without. On the other hand, if the purpose of the agreement had been simply to put the oral contract between the two companies into writing as contended by HMRC, it would not have been limited to Prolab goods. The distribution agreement[28]The agreement applied to the “products” which were defined in clause 1.1.1 as “the entire line of PROLAB Nutrition products from time to time during the currency of this agreement or any renewal thereof manufactured by or for the seller, whether bearing its trademarks or not; and as per Schedule 1”. There is no definition of “the seller”. Logically, this must be a reference to Prolab Inc (Sportika is the “exporter”). Although Prolab Inc is intended to be referred to as the “manufacturer” it is clear that elsewhere in the agreement definitions are not rigidly adhered to.[29]No Schedule has been found. Mr Alden and Mr White’s evidence was that the Distribution Agreement applied to all Prolab goods from time to time. They were unable to produce any schedule and doubted that it had ever existed. Indeed clause 1.1.1 makes complete sense without a schedule: without a schedule the “products” are all products made by (or for) Prolab Inc at any time. We find that the Distribution Agreement was intended to apply to all Prolab products manufactured at any time. On its face, it is clear that it was not intended to apply to goods other than Prolab goods and HMRC did not suggest otherwise.[30]Territory is defined in clause 1.3 as “the geographical area the exporter is granting to the importer for rights of distribution is the country of United Kingdom and the European Union”. Clause 2.1 provided “the Exporter hereby appoints the importer as a distributor for the marketing and selling of the products in the territory.” The Appellant was defined as the Importer.[31]Clause 2 dealt with the Appellant’s exclusive rights:
“During the period of this agreement the exporter shall not:- Grant any person the right to sell or otherwise deal in the course of trade with the products in the territory or itself, directly, sell or otherwise distribute or deal in the course of trade with the products in the territory without first notifying importer. Sell the products to any person outside the territory for the purpose of resale to any person inside of the territory without first notifying the importer.”
[32]Clause 3 of the Distribution Agreement provided as follows: DURATION & PURCHASE AGREEMENTS This agreement shall commence on the date of signature hereof and shall continue for a period of 1(one) year thereafter provided that if neither party has given written notice to the other to the contrary by not later than 1 (one) month prior to the expiration of the initial period, this agreement shall automatically be renewed for a further period of one year commencing on the first of the month following the end of the initial period. All orders for products have to be placed and purchased from exporter [Sportika] only. It is a violation of this agreement for importer [the Appellant] to place or purchase the products from any distributor or directly from manufacturer [Prolab Inc] without prior written consent from exporter. [the rest of the clause dealt with purchase targets][33]Clause 3.1 read as follows:
“Importer-Distributor guarantees and assures that all products purchased from exporter are destined for country designated. If at any time, products sold to importer-distributor are found to have been redirected in to the U.S. market, distributor’s rights to purchase may be terminated immediately. Exporter also has rights to explore any available legal options against importer distributor in the case diversion results in consequences to exporters business, whether financially or in reputation.”
[34]Clause 5 provided as follows: TRADEMARKS COPYRIGHT AND PATENT5.1 The exporter and importer shall promptly notify each other of any unauthorised importation of the products into the territory, any infringement of the brands trade marks, any passing off of the products or any act of unfair competition by third parties relating to the products or the seller’s trade marks in the territory, whenever such infringement or acts shall come to their attention.5.2 Importer is responsible for checking on any trademark infringement in respect to brand names, product names or formulas in its territory before beginning any importation.5.3 The exporter undertakes to take all steps reasonably and legally possible, including the institution of legal proceedings and any appeal, to protect the distribution rights granted hereunder to the importer and, in particular, to prevent the importation of products by any other party into the territory and to prevent any infringement of the seller’s trade marks passing off of its products in the territory.” Exclusivity Licensing and Trademark Agreement[35]The two companies signed an Exclusivity Licensing and Trademark agreement on 1 January 2004. The signatories were Mr White for Sportika and Mr Alden for the Appellant. This was a very short document and it read as follows:
“For consideration of the following, Sportika….grants PROLAB Europe the exclusive distribution rights and useage of trademarks for the following brands for the countries know as “EU” or “EC”; § PROLAB Nutrition and any of its sub-brands; § Muscletech R&D and any of its sub-brands § ISS Research § INSTONE Nutrition § Inner Armour & E-Max The fees charged will equal and not exceed the amount purchased in products on a yearly basis. Payment terms will be applied as the same terms as product purchases. This agreement supersedes any previous agreements and is in conjunction with purchase volume agreement as set for the [sic] by each manufacturer.”
Decision Were the payments a condition of sale?[36]The effect of Articles 29(1) and 29(3)(a) of the Community Customs Code is that the transaction value (on which customs duty is paid) is the actual price adjusted in accordance with Articles 32 and 33. The actual price includes all payments “made or to be made as a condition of sale” of the imported goods.[37]The payments at issue in this case are payments made on invoices headed “export and trademark distribution rights” normally delivered a few days after the sales invoices and in a sum roughly equal to the price of the goods. If the payments at issue are found to be made as a condition of sale of the imported goods, the Tribunal agrees with HMRC that this is the end of the matter in this case. They are part of the transaction value because they are part of the price actually paid or payable. It is true that the transaction value can be adjusted in accordance with Articles 32 and 33 but (it is agreed) Article 32 does not apply and Article 33 on its face only permits sums to be added – not subtracted – from the transaction value.[38]So were the payments at issue made as a condition of sale of imported goods? The Appellant (through its counsel) accepted that it was required to make the payments in issue as a condition of the sale of goods to it by Sportika. In her Skeleton Argument Ms Choudhury said at paragraph 19 that “The Appellant accept that it was required to make a payment in respect of distribution rights as a condition of the sale of goods to it by Sportika”. However, in her closing she qualified this to say that this concession was only made with regards to the meaning of Article 32(1)(c). However, in the view of this Tribunal the wording of Article 32(1)(c) is virtually the same as Article 29(3)(a) with respects to “condition of sale”: Article 29(3)(a) reads “the price…includes all payments made or to be made as a condition of sale of the imported goods….” And Article 32(1)(c) refers to “royalties and licence fees…that the buyer must pay, either directly or indirectly, as a condition of sale of the goods being valued”. If a payment is a condition of sale under Article 32(1)(c) it must also be so for Article 29(3)(a) – the distinction is, as mentioned above, that Article 29(3)(a) catches all payments which are a condition of the sale whereas Article 32(1)(c) only catches those which are royalties and licence fees paid directly or indirectly. But the words “condition of sale” must carry the same meaning in both contexts.[39]It must be the case that payments for exclusive distribution rights or trademark useage might not be a condition of the sale of the goods in question. For instance, the arrangement could have been that the importer paid an upfront lump sum for exclusive distribution rights to a particular territory for a particular period and then been free to buy as much or as little or the product during that period. In this case, however, the Appellant’s evidence, which was unchallenged by HMRC and accepted by the Tribunal, was that it became liable to pay a sum almost equal to the price of the goods each time it made a purchase of any goods the subject of its exclusivity agreement with Sportika. The exclusivity agreement also makes it clear in its second paragraph that the fees became due whenever products were purchased & such fees were to be paid at the same time. Purchasing the products therefore triggered the liability to pay the fees the subject of the invoices at issue in this case. Although the point was not argued as the Appellant had conceded it, in the view of the Tribunal making this payment was therefore a condition of its purchase of the goods and Ms Choudhury was right to concede that the payments at issue in this appeal were paid as a condition of sale of the goods.[40]That, therefore, is the end of this appeal. The payments at issue were part of the price actually paid or payable under Article 29(3)(a). However, in view of the fact the Tribunal’s decision might be appealed, and as the matter was argued in front of us, we record our findings on the other issues, which could only arise if we were wrong on our primary finding above. For what rights did the Appellant make the payments at issue?[41]The payments at issue would not fall to be added to the price under Article 33 unless they were “royalties and licence fees”. Notwithstanding this it was the Appellant’s case that the payments were, at least in part, and a part that could not be apportioned, made in relation to trade mark usage.[42]Ms Choudhury accepted that the payments in question, referred to on the invoice as “export trademark and distribution rights” were not made solely in respect of the right to use a trade mark and contended that the payment was for a bundle of four rights: · The right to distribute; · The right to be the exclusive distributor in Europe; · The right to use trade marks · The right to obtain goods on preferential terms.[43]Ms Choudhury’s view was that the Tribunal could not apportion the price between the distribution rights and the trademark useage rights, and cited Hurst v Picture Theatres Ltd [1915] 1 KB 1 to the effect that a theatre ticket cannot be apportioned between the right to see the show and the licence to be on the premises. That case was about a very different issue – in reality whether a licence to be on the premises to see a show could be revoked. That a theatre ticket cannot be apportioned between the right to see the show and the right to be on the premises is surely uncontroversial but we do not see that it applies here. The exclusive distribution rights and the access to Sportika’s trademark website were two rights which were not intrinsically linked – it would have been possible for Sportika to offer one but not the other. Nevertheless, Sportika charged only a single price and there was no evidence to suggest the price should properly have been apportioned nor on what basis.[44]HMRC did not agree with the Appellant’s “bundle” of rights argument. They contended that the payment was primarily for the right to be the exclusive distributor in Europe but included was a right to use trade marks.[45]The evidence from the witness statements was that Mr Alden regarded the payment as being for the exclusive distribution rights. In particular at paragraph 7 he stated “[The Appellant] was not under any obligation to pay any type of royalty to Sportika in respect of either PROLAB goods or other goods. The only payments we made to Sportika other than for the goods were for the right to be their only customers in Europe.” There is nothing in his witness statement to suggest that the payments were for the right to use trade marks. This was consistent with what he said at the hearing. When Mr Alden was asked by his counsel why he made payments for trademarks, his reply was that it was to safeguard his business. He was paying for the right to be the sole supplier in Europe:
“this is what I was paying for – I did not want to compete with other people with the same brands in UK and Europe….”
Under cross examination, when asked “You did not pay a licence fee to use the trade mark?” he replied, “No, I paid Prolab for the right to use the trademark and that meant I could use it in my advertising. I didn’t pay Sportika for this”. Mr Singh clarified this:
“No payments were made by you to Sportika for the right to use the trademark?” and the reply was “Not that I am aware of”
[46]There is nothing in the Distribution agreement either to suggest that the payment was for the right to use a trade mark. Clause 5 which deals with “Trade Marks, copyright and patents” and is about notifying trade mark infringements and protecting the Appellant’s exclusive distribution rights. It does not give a right to use a trade mark. On the contrary, the Exclusivity Licensing and Trademark Usage Agreement does grant the right to use the trademarks of the named brands:
“…grants [the Appellant] the exclusive distribution rights and usage of trademarks for the following brands….”
[47]Mr White’s witness statement did not really deal with the issue of trade marks and just stated that the Appellant “paid Sportika for these exclusive distribution rights in Europe”. At the hearing he said that “…part of what [the Appellant] pays us for is not just exclusivity and it will include trademark rights. If they did not want to pay for exclusivity they would not have access to trademarks. He is paying for access to trademarks, access to website and exclusive distribution.” His evidence was that Sportika had a password protected website containing the trademarks in a form which made it easy for customers to download the trademarks and use them in their advertising.[48]In respect of the contention that the payment was for a distribution right as distinct from exclusive distribution rights, the Tribunal does not accept this. It seems to the Tribunal that a right to distribute is very different from exclusive distribution rights. The former implies that the Appellant would need to given the right to re-sell the goods it purchased. Whereas, even where the goods have a trademark affixed, as did those in this case, the right to re-sell them in an unaltered state is normally implied, and certainly there was no suggestion in this case that the Appellant needed the manufacturer’s permission (or anyone else’s) to resell the goods in an unaltered state. As mentioned above, although Mr White did say he considered that Sportika did give trademark rights to the Appellant, that was only to reproduce the trademark in advertising and promotions undertaken by the Appellant. Exclusive distribution rights, on the other hand, are nothing to do with intellectual property rights. On the contrary they are a no-competition agreement: the vendor is agreeing not to sell to anyone else in a particular territory.[49]So although both rights use the word “distribution” in their description they are two very different things and the Tribunal found here that the Appellant paid for exclusive distribution rights, and that to the extent if any it was given distribution rights this was not what the sums at issue were paid for.[50]The Tribunal also rejects the contention that the sums at issue were paid in part to obtain goods on preferential terms. There was no evidence of preferential terms other than the rights to exclusive distribution.[51]The Tribunal’s conclusion is that the reason for the payments at issue in this appeal was to secure exclusivity in Europe for the Appellant. This was clearly a very valuable right to the Appellant. Sportika’s trademark website may have been useful to its customers if they wished to undertake advertising or sponsorship, but Mr Alden did not mention it and clearly did not consider he was paying for it. It was not mentioned in Mr White’s witness statement either. We conclude that the right to access it was very much an ancillary matter to the territorial exclusivity, and the payment should not be apportioned.[52]The Tribunal’s conclusion is that the payments in issue were not, despite the wording on the invoice, payments for trade marks usage. They were payments for exclusive territorial rights on certain brands. Are payments for exclusive distribution rights “royalties and licence fees” within the meaning of Article 32(1)(c)? We conclude not. This is because, firstly, as both parties agreed, the natural meaning of the word “royalties” relates to the exploitation of intellectual property rights. “Licence fees” has a wider meaning in general. Ms Choudhury cited Thomas v Sorrell (1674) Vaughan 330 for the proposition that a licence is the right to do something that you could not otherwise lawfully do. However, this is not apt to cover exclusive distribution rights where the payer (the Appellant) is not being given a licence to do something by the payee (Sportika). On the contrary, the payee is agreeing to limit the scope of its activities.[53]Secondly, Article 157 of the implementing regulation applies, and from the three sub-paragraphs of Article 157(1) it is clear that the authors intended to refer to payments for intellectual property rights, as that is all that is mentioned. In particular, it mentions patents, designs, models, manufacturing know-how, trade marks, registered designs, copyright, and manufacturing processes inseparably embodied in the imported goods. Although the sub-paragraphs are not exhaustive, the clear implication is that other payments are only within “royalties and licence fees” if they relate to payments for some form of intellectual property whether registered or otherwise. An agreement not to sell to competitors is not an agreement transferring intellectual property or similar rights.[54]The Appellant pointed to the fact that Article 32(5) of the Code referred to rights to distribute. But, referring back to the Tribunal’s analysis under paragraphs 48 & 49, exclusive distribution rights are not at all the same thing as distribution rights. Article 32(5) is referring to the latter as it refers back to Article 32(1)(c) which is dealing with intellectual property-type rights and appears to envisage a payment for a right to re-sell the goods. Here, however, we are here dealing with payments for the right to be free from competition.[55]The Tribunal’s conclusion is, therefore, had these payments not been a condition of sale of the imported goods within Article 29(3)(a), they would have been free from customs duty because they are not “royalties and licence fees” within the meaning of Article 32(1)(c). But, in case we are appealed and because the point was fully argued, we go on to consider the last issue which is whether, were the payments “royalties or licence fees” the exception in Article 159 would have applied. Was the Appellant free to source the goods elsewhere?[56]Certain royalties and licence fees are only to be added to the price where the three conditions of Article 159 are met. The parties are both agreed that the first two conditions are met. The third condition, about which most of the appeal centred, is that “the buyer is not free to obtain such goods from other suppliers unrelated to the seller”. HMRC considered that this condition was met and the Appellant did not.[57]However, it is only certain royalties and licence fees that are affected by Article 159 and they are those “in respect of the right to use a trade mark”. It was not therefore obvious to the Tribunal that Article 159 applied to the payments at issue in this case. Our finding of fact above was that the payments in question were in respect of the exclusive distribution rights and any trade mark rights granted were very much ancillary to this and that no part of the price should be apportioned to trade mark usage. Article 159 therefore does not apply.[58]However, in case there is an appeal, and as the point was fully argued, we go on to consider, whether, if Article 159 applied, the buyer was not free to obtain such goods from other suppliers unrelated to the seller.[59]HMRC’s position was that the distribution agreement, clause 3, showed that the Appellant was not free to source at least Prolab goods from other sources. Clause 3 provided “It is a violation of this agreement for importer to place or purchase the products from any distributor or directly from manufacturer without prior written consent from exporter”.[60]The post clearance demand relates to non-Prolab goods as well as Prolab goods. The Distribution agreement only covered Prolab goods although the Exclusivity Agreement covered some other brands as well. However, clause 3 was only a term of the Distribution Agreement and therefore only applied to Prolab goods.[61]The Appellant’s case was that the Appellant’s dealings with Sportika even after the signing of this agreement remained as they had been before, and that there was no difference in trading terms between Prolab and non-Prolab goods. The Tribunal accepted that the two agreements were entered into to demonstrate to Natrol the existence of the distribution chain for their product in Europe so that Natrol would not seek to bypass it.[62]We agree with the Appellant (and this was not challenged by HMRC) that this Tribunal is not bound to find that a written clause in a contract necessarily reflects the actual agreement between the parties. Counsel for the Appellant cited the cases of Prenn v Simmonds [1971] 1 WLR 1381(House of Lords) and Reardon Smith Line Ltd and Yngvar Hansen-Tangen v Yngvar Hansen-Tangen and Sanko Steamship Co [1976] 1 WLR 989 (House of Lords) for the proposition that a court must consider the entire circumstances surrounding a contract in order to interpret it.[63]The Prenn v Simmonds case set out as a rule of interpretation of contracts that the court must not confine itself to the internal linguistic considerations but “inquire beyond the language and see what the circumstances were with reference to which the words were used, and the object, appearing from those circumstances, which the person using them had in view…it has been clear enough that evidence of mutually known facts may be admitted to identify the meaning of a descriptive term”. The issue in that case was the meaning of the word “profits”: was the reference to the consolidated profits of a group of companies or the profits of one of the companies within that group?[64]The Reardon Smith case concerned whether the term identifying a ship was part of its description. Lord Wilberforce said “In a commercial contract it is certainly right that the court should know the commercial purpose of the contract and this in turn presupposes knowledge of the genesis of the transaction, the background, the context, the market in which the parties are operating.”[65]Ms Choudhury also relied on the case of Investors Compensation Scheme Ltd v West Bromwich Building Society [1998] 1 WLR 896 (House of Lords). The case concerned the meaning of a reservation from an assignment of a chose in action. Lord Hoffman set out 5 principles by which contractual documents should be construed following the House’s earlier decisions in Prenn and Reardon Smith and that the effect of those decisions was “to assimilate the way in which such documents are interpreted by judges to the common sense principles by which any serious utterance would be interpreted in ordinary life” .[66]We do not find any of these cases particularly relevant to the point at issue in this case. All the cases concerned the interpretation of terms in a contract. Here the issue is whether the Tribunal should disregard the plain words of a contract and decide that the parties meant the opposite of what they agreed in writing. In particular, in this case the Appellant is contending that despite the plain words of clause 3, they were in fact free to source Prolab goods from any supplier.[67]The Tribunal therefore considered whether in fact there was an unwritten agreement between the companies with terms quite different to the terms of the two written agreement. Was the Appellant in practice free to source Prolab goods and indeed non-Prolab goods from suppliers other than Sportika?[68]Both Mr Alden and Mr White’s evidence was that the reason for buying from Sportika was not that the Appellant was sticking to the terms of clause 3 or a similar unwritten term in an oral contract, but because it made commercial sense.[69]Firstly, the products were milk-based and required an import licence to be brought into the EU. The manufacturer has to provide this and as it gave exclusive export rights to Sportika, only a company buying from Sportika would be given the licence. Buying the products from a US distributor (who would not have export rights) would be pointless as an import licence would not be available.[70]Secondly, shipping costs were cheaper if the Appellant bought all its requirements from a single supplier. This was because it could fill a single container rather have to use a number of part-filled containers.[71]Thirdly, Sportika offered the best prices. In his Witness Statement Mr Alden stated that the price (including the payment for the distribution rights) was still usually 5-10% less then the price for the same goods charged by other exporters.[72]During the period covered by the post clearance demand the Appellant did not in fact buy Prolab goods from any supplier other than Sportika. Shortly thereafter, the Appellant did cease to buy Prolab goods from Sportika and instead bought directly from the manufacturer’s UK warehouse, its exclusivity agreement with Sportika having effectively ended as it seems Sportika was no longer the exclusive exporter of Prolab goods into Europe.[73]Unlike with Prolab goods, there is evidence of the Appellant buying other brands from suppliers other than Sportika. Some brands were not supplied by Sportika and had to be sourced elsewhere and the post clearance demand does not relate to these. In respect of brands supplied by Sportika and in respect of which the payments for exclusivity were made, Mr Alden’s evidence was that the Appellant only occasionally bought elsewhere and then only when Sportika could not supply quickly enough to meet the Appellant’s customers’ demands which could happen if Sportika was out of stock. There was an invoice from Tropicana Health and Fitness produced to the Tribunal which showed the ‘Muscletech’ product being purchased from Tropicana in the period to which this appeal relates. ‘Muscletech’ was also supplied by Sportika to the Appellant.[74]Mr Alden said at the hearing and in his witness statement that he did not need Sportika’s permission but that he did always tell Sportika when he was making such purchases because “I don’t want him to think I am being sneaky” and because he wanted Sportika to be “comfortable” with it. Under cross examination he was asked “what it was intended to do was to make Sportika the sole supplier?” “yes, but that means if they are my sole supplier, it means that I become protected in my area….” However, later in cross examination he says “…in my mind I am clear that I can buy from anyone at any time”.[75]Mr White (Sportika’s director) said at the hearing and in his witness statement that the Appellant did not need permission to purchase from other suppliers. However, his earlier written statements were to the contrary effect. An email from Mr White dated 10 December 2005 was put in evidence. This was a reply to correspondence from Mr Alden, in which he had faxed over letters relating to the post clearance demand from HMRC. Mr White wrote as follows:
“In reviewing the fax you sent from UK Customs I presume, SECTION 35.2, it is clear to me that the last stipulation in this section would made you exempt. In our agreement, SECTION 3, clearly states you have the right to purchase products from other suppliers with our permission. This is to prevent you from being out of stock of product in case our warehouse is out of stock we would have no intention of holding you hostage if you can source product elsewhere. You can also have products made inside the UK, such as drinks etc. that we do not have made here.”
[76]Then, presumably in response to a request from the Appellant, Mr White on behalf of Sportika wrote a “To whom it May Concern” letter on 4 January 2006 which stated “Hereby we certify that although we are entered into an agreement with PROLAB Europe, we do and have authorised them to purchase goods from other vendors when needed as not to cause financial distress due to out of stocks or other situations, and do receive compensation in return”[77]This letter was notarised by a Notary Public in the U.S. At the hearing, Mr White said that he did not read this properly before signing it and the reference to “authorised” did not in fact mean Sportika gave permission and the reference to “compensation” should only have been a reference to goodwill payments.[78]In a letter of 1 June 2006 Mr White then said:
“there have been occasions when PROLAB Europe have contacted us about the need to source products from other suppliers and we do not have any issue with such an arrangement. The trademark agreement, while stipulating that PROLAB Europe must inform us of their intent to import goods from another supplier, does not give us the right to compensation. On occasion we have received payment from the company as commission but such payments have been purely at the discretion of the directors of PROLAB Europe.”
[79]The last two of these communications on the face of them are not limited to Prolab goods. Indeed as it is his evidence that the Distribution Agreement was for show rather than actually changing the terms on which they dealt with each other, then there is no reason to suppose that in them Mr White was limiting his comments to Prolab goods.[80]The evidence from Mr Alden and Mr White was that when purchases were made elsewhere because Sportika was out of stock no compensation was paid by the Appellant. The Tribunal accepts this evidence. However, their evidence was that compensation or “commission” might be paid on a few other occasions. They disagreed whether the payments were to Sportika or Mr White personally, but in view of the fact that the Appellant’s entire relationship with Sportika was through Mr White, an owner and director of Sportika, the Tribunal concludes that even if the payments were made personally to Mr White they related to its business dealings with Sportika.[81]Commission was paid once at least on a goodwill basis when Sportika recommended a Canadian brand which it could not supply. More relevant to the case at issue here, commission was paid for the first three or four purchases the Appellant made from a Dutch company which started to supply a product called “Stacker” with which Sportika had previously supplied the Appellant. The reason for swopping supplier was that the manufacturer had set up a European distribution network and it was then much cheaper to buy from the Dutch company than from Sportika. The Appellant continued to buy from the Dutch company but let the payments to Sportika fizzle out.[82]There was also evidence in the form of a letter to HMRC from the Appellant’s shipping agents (Secure Cargo Assured PLC) in response to a request from HMRC on the terms of the importation. The Tribunal attached little weight to this evidence as HMRC did not call the writer of the letter to give evidence nor was it clear to the Tribunal how the writer would have known of the terms of dealing between the two companies. However, for what it was worth, the evidence given was consistent with the letters written by Mr White on the same subject. Secure Cargo Assured PLC wrote to HMRC on 6 January 2006 in the following terms: “We have at last managed to get to the bottom of the way they organise their trade, concerning the trademark payments. Simply, Sportika do allow Prolab to purchase elsewhere, and a commission is paid to Sportika when this occurs. I am obtaining details of these transactions dating back over the past two years, from Prolab’s accountants…. ….whilst writing please find a copy letter from Sportika confirming their allowance of such transactions.[83]Secure Cargo Assured PLC wrote again to HMRC on 17 January 2006 as follows:
“As per recent correspondence please find enclosed details of transactions made by Prolab in connection with purchasing product material from sources other than those of Sportika/Prolab in the USA, since January 2004. These transactions have been made to make sure that supply of material is uninterrupted and sanctioned by Sportika….”
[84]The Tribunal’s conclusion is that during the period covered by the post clearance demand the Appellant was not free to obtain goods subject to the exclusivity payments from other suppliers. In respect of the Prolab goods, the parties’ behaviour was consistent with the written terms of their contract and in particular clause 3. The Appellant only sourced Prolab goods from Sportika. Although the Tribunal accepts that contracting parties may agree orally to do something other than what the written contract says, in this case there was no evidence that they had agreed to do other then what the written contract said. On the contrary, clause 3 of the contract was adhered to by the Appellant.[85]In any event, the Tribunal finds that in respect of all goods supplied by Sportika (including Prolab goods) and for which the payments in issue were made the unwritten contract between the companies was based on an understanding of two-way exclusivity: Sportika would only sell to the Appellant in Europe and the Appellant would only buy from Sportika. This finding is based on the fact that the Appellant only bought elsewhere when Sportika could not supply to meet the Appellant’s customers’ demands and then only with Sportika’s knowledge. The Tribunal does not believe that the Appellant would inform Sportika (as it said it did) of the fact that it sourced goods elsewhere if the only reason it bought from Sportika was that it was the cheapest supplier. The reason must have been that they intended to maintain the exclusive relationship. The fact that the good business relationship has continued to the present day must indicate that this behaviour was within what the parties considered to be the terms of their unwritten contract.[86]Further, Mr White’s contemporary written evidence was to the same effect: permission would only be given to buy elsewhere to cover an out of stock problem (the Tribunal notes that it would have been in the interests of both companies for the Appellant to keep its own customers happy). Further, payments of money were made by the Appellant when it decided no longer to buy a particular product from Sportika (and this seems to be a case where Sportika in respect of that product could no longer give exclusivity in Europe to the Appellant). The Tribunal can see no reason for this other than the unwritten agreement between the parties was that the Appellant would effectively treat Sportika as an exclusive supplier. For all practical purposes, the tribunal finds that the Appellant was not simply free to source goods for which it made the payments in issue from an unrelated source. Conclusion[87]In conclusion, the payments at issue in this case were a condition of sale of the imported goods and were liable to duty under Article 29(3)(a). That finding concludes the appeal in HMRC’s favour. If we are wrong on this, it is difficult to see that there would be any liability to customs duty on the payments. This is because Article 32(1)(b) would not apply as, firstly, the Tribunal has found that the payments were not royalties or licences fees, and, secondly, in any event, if the payments are not a condition of sale under Article 29(3)(a) it is difficult to see how they could be a condition of sale under Article 32(1)(b). But if we are wrong on this, we would conclude that the Appellant could not rely on the exception in Article 159. Non-Prolab goods and the statement of case[88]The Statement of case served by HMRC is limited to Prolab goods “The disputed decision of the Commissioners is that certain royalty payments made by the Appellant in respect of PROLAB Nutrition products (“the goods”) imported from the USA between 30 October 2003 and 16 May 2005 should properly be included in the customs value of the said goods.” However, whether HMRC appreciated this at the time or not, the post clearance demand is calculated on invoices which relate both to Prolab and non-Prolab goods.[89]The Appellant noticed this and brought it to HMRC’s attention in August 2008, asking for the post clearance demand to be reduced by the sum (estimated by the Appellant to be £19,697-66) relating to the non-Prolab goods. HMRC refused on the grounds that the duty was due on both.[90]As can be seen from the above, we agree with HMRC that the duty ought to be paid on the entire amount of exclusivity payments made by the Appellant because the payments were made as a condition of sale of the imported goods, whether prolab or other goods were concerned. There is therefore no magic, so far as the Tribunal is concerned, in the dates 30 October 2003 and 16 May 2005: the demand could have related (but didn’t) to earlier or later periods in which similarly the payments were made as a condition of sale.[91]However, can HMRC maintain their claim for duty in relation to the non-Prolab goods when their claim to this was not made in their Statement of Case? We were not addressed on this point at the hearing. Our view is that there is a good reason for HMRC to be held to its Statement of Case: how else is the Appellant to properly prepare for the hearing if it does not understand why HMRC believes it is liable to the tax? However, the Tribunal also bears in mind that the burden of proof is on an Appellant to show that it is not liable to the tax. Further, in this particular case the Appellant knew no later than HMRC’s letter of 20 October 2008 that HMRC were claiming the duty in relation to the non-prolab goods and it knew why as HMRC stated:
“The Commissioners do not accept that the payments made to Sportika in relation to ‘non-Prolab’ goods fall to be excluded from their Customs value. In the Commissioners’ view, these payments, as with the Prolab goods, were either royalties, or payments for distribution rights, or simply part of the price of the goods within the meaning of Article 29 of the Code. The Commissioners also consider that all these payments were a condition of the sale of the goods and that your client was not free to obtain either the Prolab or the ‘non-Prolab’ goods from any other supplier.”
[92]This letter clearly puts the non-Prolab goods in issue and also explains HMRC’s case including that part of their case (on which we have found for them) that the payments were liable to duty being a condition of sale of the goods. This letter was sent nearly a year before the hearing and it would have been open to the Appellant to apply to the Tribunal if they needed further time to consider it. They made no such application, and indeed at the hearing no application was made that we should find for them on the non-Prolab goods on the basis of the inadequate Statement of Case from HMRC. In these circumstances, and in particular in view of HMRC’s letter of 20 October 2008, we consider HMRC was entitled to pursue their case for duty on both the Prolab and non-Prolab goods.[93]We therefore uphold the post clearance demand for £77,211.94. Costs[94]This was a transitional appeal, and at the Appellant’s request and without an objection from HMRC, we directed at the outset of the hearing that the old costs regime would apply. In the event the Appellant has not been successful, and as HMRC (presumably applying the Sheldon statement) did not ask for their costs, we make no order for costs. Appeal rights[95]The Appellant has a right to apply for permission to appeal against this decision pursuant to Rule 39 of the Rules. The parties are referred to “Guidance to accompany a Decision from the First-tier Tribunal (Tax Chamber)” which accompanies and forms part of this decision notice. TRIBUNAL JUDGE RELEASE DATE: 27 November 2009

Cited in 1 later judgment