The study takes off from an earlier inquiry on the effects of HCV (home consumption value) valuation. This study is intended to assist policymakers as well as the private sector in their task of deciding whether to implement or postpone the adoption of the GATT Valuation Code (GVC) by January 1, 2000. Under the GVC, the dutiable base for imports is defined as the "transaction value"--i.e., "the price actually paid or payable for imported goods." The findings of the study support the argument that trade liberalization in the form of lower tariffs will reduce the incidence of underinvoicing.transaction value

Medalla, Erlinda M.

Panganiban-Castro, Leah

English

Research Papers in Economics

No. 2000-05 May 2000
Philippine Institute
for Development Studies
Erlinda M. Medalla*
Policy Notes
PIDS Policy Notes are observations/analyses written by PIDS
researchers on certain policy issues. The treatise is wholistic in ap-
proach and aims to provide useful inputs for decisionmaking.
Ms. Jennifer Liguton helped in repackaging this Notes based on
PIDS Discussion Paper Series No. 2000-01 entitled "The Effects of
Shifting to Transaction Value and Other Issues" by Dr. Medalla and
Leah Panganiban-Castro. The views expressed are those of the au-
thors and do not necessarily reflect those of PIDS or any of the study's
sponsors.
Shifting the Country's
Customs Valuation System
to Transaction Value:
What Can We Expect?
__________
*The author is Senior Research Fellow at the Institute.
he new millennium brings along many changes,
one of which is the shift in the customs valua-
tion base. From the Brussels Definition of Value
(BDV)-like export value to the GATT-WTO transaction value
system. Alongside with this is the expiration of the Société
Générale de Surveillance's contract to do customs inspec-
tion assessment in March 2000. So, what can we expect
from these changes?
In the first place, why is the issue of which customs
valuation base to use so crucial? Is it not only logical and
reasonable to use whatever is the actual value of the im-
port transaction as the basis for customs valuation for the
purpose of collecting taxes and/or duties? Indeed, this is
what is intended by the tariff and customs code. The prob-
lem, however, is that authorities are often doubtful that "true"
and actual values are being declared by importers, espe-
T
cially during a regime of high tariffs. Because of this, a sys-
tem of verifying and valuing imports has to be followed.
Tracing the history of the Philippines' customs
valuation
The Philippines started to use the so-called home
consumption value (HCV) as the basis for customs valua-
tion in 1972. The main reason for its use was the percep-
tion that it was easier to verify, thus facilitating customs
ascertainment of the truthfulness of import declarations.
As the name implies, HCV, in simplest terms, is defined as
the value of the goods being imported in the exporter's
home market. At the outset, though, many flaws could al-
ready be discerned in this method since the value of the
goods could easily deviate from actual transaction value.
Nonetheless, since the overriding objective at that time was
to prevent fraud and maximize tariff revenue collection, said
customs valuation system was adopted.
Two standards of customs valuation have been for-
mulated in different international fora. One is the Brussels
Definition of Value (BDV) and the other is the GATT Valua-
tion Code (GVC). The BDV system is based on some no-
tional value of what the export price of goods on sale would2
Policy Notes
May 2000
be in the open market under specified conditions while the
GVC proposes the use of the transaction value (TV).
Between these two abovementioned systems of cus-
toms valuation, the HCV system used in the Philippines is,
in practice, similar in application to the BDV system although
they have different theoretical bases. This is because both
depend on an independent valuation, quite apart from what
has been declared as the invoice value, and employ similar
procedures.
In anticipation of the GATT/WTO requirement of hav-
ing all customs valuation conform with the GVC by the year
2000, Republic Act (RA) 8181 was passed in 1996. This RA
called for the shift in the country's valuation base from the
HCV to Export Value (EV) during the transition period cover-
ing until December 1999. This system is a BDV-like system
of using the export price of the goods in question. By Janu-
ary 1, 2000, however, the final customs valuation base
should henceforth be the transaction value (TV), in confor-
mity, as mentioned, with the GVC.
The effectiveness of either the HCV or EV system in
deterring undervaluation of goods critically depends on the
existence of an efficient value-gathering mechanism within
the territory of the country's trading partners. Before 1987,
this mechanism operated mainly as a collateral function of
a handful of the Philippines' finance attachés deployed
abroad. Not surprisingly, this proved to be ineffective. Thus,
starting in February 1987, this function was contracted out
to the Société Générale de Surveillance (SGS). Initially, the
coverage of the SGS was limited to a few countries, namely,
nearby countries like Hongkong, Japan and Taiwan. In March
1992, however, the SGS inspection system was globalized.
On top of the need to comply with the World Trade
Organization (WTO) provision, the Philippines started to re-
assess its valuation system in the early 1990s. This reas-
sessment was in consistence with the outward-looking
development strategy that the country had opted to pursue.
One of the primary considerations was the distortion that
the former valuation system created. In practice, the BDV or
HCV system can dictate the price of an imported good for
purposes of customs valuation and may substantially differ
from what was actually paid or payable. In this sense, both
systems could easily be perceived as arbitrary.
Evaluating the impact of the system used
Previous studies have attempted to look into the im-
pact of the two particular customs valuation systems adopted
and used by the country insofar as implications on revenues
earned for the government and costs to society are con-
cerned. Said studies measured the gap between the cus-
toms valuation under the HCV or EV system and the de-
clared invoice value (IV) of the importer. The most recent of
these studies is by Medalla and Panganiban in 1999 which
specifically measured the gap through the HCV/IV or EV/IV
ratio. The extent by which the ratio deviates from one (1) is
interpreted as a measure of (a) the relative "dishonesty" of
the importer, or (b) an implicit additional tax on the importer.
Table 1 shows the gap ratios grouped by those falling
under 1; equal to 1; and more than 1. Those with ratios less
than 1 mean that the importers were honest in the declara-
tion of the true value of their imports and submitted the
correct invoice amount. As such, there is no need for an
additional tax to be imposed on them. Similarly, those ra-
tios equal to 1 mean that the correct values of the imports
were declared. On the other hand, the ratios greater than 1
mean that the importers undervalued their imports and
submitted fraudulent invoices lower than the actual value.
Medalla and Panganiban had expected to find ratios
of more than 1 since the natural tendency of importers1
would be to undervalue or submit fraudulent invoices lower
than the actual values. The results of their computation as
seen in Table 1, however, proved to be very surprising.
In the first place, the estimated gap which reflects the
average uplift in customs valuation base or where additional
taxes would have been imposed as a result of the valuation
inspection is low, averaging at around 1.06 during the five-
year period and even dropping to a low 1.01 after the switch
from HCV to EV in July 1996 before recovering to 1.06 in
————————
1Special imports used as inputs for exports as in export processing
zones and bonded manufacturing warehouses where import duties were
zero, were not included in the study.3
Policy Notes
No. 2000-05
1999. Second, there is an unexplainably high proportion of
imports with a ratio whose value is even less than one. And
third, even dismissing this high proportion as a result of
human error in encoding data, this still leaves only around
43 percent of imports whose values have been uplifted or
those with ratios greater than 1.
Implications
What do these findings imply, especially in connec-
tion with the shift to the transaction value (TV) system and
to the issue of whether the previous services of the SGS
are still needed or not? What is the implication to the rev-
enue program of the government and to society as a whole?
On the revenue implication, while there will be pos-
sible revenue losses in the process of shifting to the new
TV system of customs valuation due to the usual transi-
tional costs, the losses, however, would not be that great.
This is because more than half of our imports covered by
the SGS have, as earlier shown in Table 1, already been
assessed by their invoice value showing their "true" cus-
toms value (as reflected by ratios less than 1). As such,
there is not much room for additional tax uplift to be in-
curred anymore.
In terms of actual value, the decline in government
revenues, possibly during the initial year of implementation,
will range from around 3.3 percent or roughly P3.2 billion to
5.2 percent or P5.2 billion (based on projected imports and
average tariffs). While definitely not an insignificant amount,
this is not very much larger than the cost of hiring the SGS'
services which ranges from P1.5 billion2 to P3 billion3 annu-
ally.
Which brings us to another question. What does this
imply in terms of the hiring of services of the SGS?
The benefit from the SGS is the increase in revenue
that it has generated through the customs value uplift its
inspection system had applied. Assuming that all the uplift
made by the past valuation system was achieved through
the SGS services, then the amount of its contribution would
correspond to the amount of revenue decline to be incurred
by the government with the shift to the TV system, i.e., from
P3.2 billion to P5.2 billion in the initial year.
If we look at it from the point of view of society, the
social benefit (value to society) of the increase in revenue
generated by the SGS is the premium of money in the hands
of the government.4 On the other hand, though, there is
also a cost to the hiring of SGS' services. The direct cost is
the payment of half a percent of the total value of imports
covered by SGS, estimated to be around half of total im-
ports. The cost to society, however, is more than this direct
cost, due to at least two factors. One is that it entails for-
eign exchange which is valued at a premium by society. And
two, part of this payment could have been invested, which
again is valued at a premium by society. Suppose the total
premium amounts to 15 percent (a low amount considering
previous estimates of the shadow price of foreign exchange
at around 1.15 and shadow price of investment of around
1.5), then the cost to society of hiring SGS would be the
direct cost of paying it plus the cost of the premium of the
opportunity cost of the money paid to the SGS.
————————
2Philippine Daily Inquirer, Business Section, December 31, 1999.
3Based on estimated value of imports covered by SGS (around half
of total imports) and the 0.5 percent SGS fee.
4One practice in social project evaluation is to equate the value of
money in the hands of the government to the shadow price of investment.
This has been estimated to be around 1.5 (Medalla et al. 1993), or a
premium of 50 percent.
July 94-June 95 21.67 28.68 49.64 1.08
July 95-June 96 19.08 26.98 53.94 1.09
July 96-June 97 48.93 27.78 23.29 1.01
July 97-June 98 32.48 32.48 35.04 1.02
July 98-May 99 18.58 40.82 40.61 1.06
All periods 27.39 29.30 43.31 1.06
Period R<1 R=1 R>1 Average
Coverage Ratio
SGS Data
Table 1. Percent Share of Imports by CRF/IV
Ratio and Average Ratio by Period4
Policy Notes
May 2000
BOC Report R<=1  R>1
(random sample of import shipments) 51.10 48.90 1.05
Before GCISS (Sept. 91-Feb. 92) 48.00 52.00 1.09
After GCISS (Mar. 92-Sept. 92)
SGS Data  R<1  R=1  R>1
HCV regime (July 94-June 96) 25.90 30.07 44.03 1.09
EV regime (July 96-May 99) 42.32 32.41 25.27 1.02
All periods 32.85 31.06 36.09 1.06
SGS Data at BOC for 20 imports
Mar. 98-Dec. 99 73.91 6.26 19.83 0.91
Note:
To recheck the data, other sources were looked into. One source is an earlier
study of Medalla, Aldaba and de Dios using a random sample of more than
2,600 import shipments from BOC documents. A more recent data set is from
the SGS data forwarded to the BOC. The results do not alter the estimates.
The more recent estimates based on SGS data submitted to BOC for the top
20 imports yield estimate of the average ratio which is even less than one. The
share in imports with uplift in value (R>1) is much lower at only around 20
percent. A most probable explanation is that the EV figures lifted were in f.o.b.
while the invoice value is in c.i.f. However, even adjusting the estimates by
c.i.f. average of around 10 to 15 percent would bring up the estimated ratio
to only around 1 to 1.05, consistent with the estimates using the SGS data. In
other words, it would not suggest tripling or even doubling the estimate of the
percentage uplift in the value of imports.
Period % Share of Imports Average
Coverage by CRF/IV Ratio Ratio
Conclusion
This author made some computations, looking at the
benefit and cost ratio, regarding the effect to the govern-
ment and society of the shift in the customs valuation sys-
tem to transaction value and the implications of the expira-
tion of the SGS' contract to verify and valuate import trans-
actions. The results show that for the former, the gap ratio
computations for imports indicate that there are more
grouped under the less than 1 and equal to 1 than those
under more than 1. Meaning that there is little room for
further increases in the uplift of the valuation or in terms of
getting more taxes for the government.
And for the cost of hiring the SGS, the author's fig-
ures show that the cost to society of hiring the SGS is greater
than the benefits to be gained in hiring its services. Even if
the data are counterchecked with a previous study by
Medalla, Aldaba and de Dios as well as with the more re-
cent data set forwarded by the SGS to the Bureau of Cus-
toms, the results do not meaningfully alter our benefit-cost
ratios. (Please refer to Appendix Table 1 for a summary of
said estimates by various sources.)
The bottomline is that the results could only tip the
balance in favor of the SGS if the estimated uplift in im-
ports (i.e., where ratios are greater than one)—and corre-
spondingly, the increased revenue—would be considerably
higher such as two or three times the ratios estimated. As it
is, though, the summary estimates show that there is no
evidence indicating that the percentage uplift in the value of
imports (or additional taxes/revenues) could be tripled or
even doubled.
Finally, under the transaction value system, the type
of service provided by the SGS is no longer necessary since
under the new system, casting doubt on the import value
alone upon entry is not enough to establish fraud and dic-
tate an uplift of the customs valuation base. What would be
needed more would be post-audit procedures, a service to-
tally different from what SGS provided in the past.  4 4
References
Medalla, E. and L. Panganiban-Castro. 2000. The effects of shifting to
transaction value and other issues. PIDS Discussion Paper Series
No. 2000-01. Makati City: Philippine Institute for Development
Studies.
———, L.C. de Dios and R.M. Aldaba. 1994. An evaluation of the
home consumption value. PIDS Discussion Paper Series No. 94-
02. Makati City: Philippine Institute for Development Studies.
———, V. Pineda and E. Tan. 1993. Estimation of shadow prices for
the Philippines. Asian Development Bank.
——— et al. 1990. Reestimation of shadow prices for the Philippines.
PIDS Working Paper Series No. 90-16. Makati City: Philippine
Institute for Development Studies.
For further information, please contact
The Research Information Staff
Philippine Institute for Development Studies
NEDA sa Makati Building, 106 Amorsolo Street
Legaspi Village, Makati City
Telephone Nos: 8924059 and 8935705;
Fax Nos: 8939589 and 8161091
E-mail: emedalla@pidsnet.pids.gov.ph,
jliguton@pidsnet.pids.gov.ph
The Policy Notes series is available online at
http://www.pids.gov.ph
Appendix Table 1. Percent Share of Imports
by CRF/IV Ratio: Various Sources

An evaluation of the home consumption value.

Estimation of shadow prices for the Philippines. Asian Development Bank.

Reestimation of shadow prices for the Philippines. PIDS Working Paper Series No. 90-16. Makati City: Philippine Institute for Development Studies. For further information, please contact The Research Information

The effects of shifting to transaction value and other issues.

Shifting the Country's Customs Valuation System to Transaction Value: What Can We Expect?

http://dirp4.pids.gov.ph/ris/pdf/pidspn0005.pdf

Shifting the Country's Customs Valuation System to Transaction Value: What Can We Expect?

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