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AIRCRAFT LEASING TAX ISSUES By Daniel Cheung, aviationtaxconsultants.com
General aviation has experienced an extended growth period throughout the past decade. The generous income tax incentive available for a business use aircraft has contributed to this growth. Taxpayers that utilize a business aircraft in their trade or business can realize significant tax deductions that can help offset the cost of ownership.
ome taxpayers elect to enter into aircraft leasing transactions to generate revenue to help defray operating costs. In addition to Federal Aviation Administration regulations, aircraft leasing faces various income, sales and use, and federal excise tax issues that should be addressed. In this article, we will discuss the depreciation benefits available for aircraft ownership, and some of the tax issues that will affect the deductibility of a business aircraft.
Income Tax Benefits Depreciation deduction provides the most immediate tax benefits to aircraft owners. The depreciable life for a business aircraft is five years for a Part 91 operator and seven years for Part 135 operators. The return of bonus depreciation in 2008 and 2009 allows a taxpayer to deduct 50% of the cost of the new aircraft in the year of acquisition. In addition, fixed and variable operating expenses are deductible. Below is a table illustrating the depreciation deduction percentage by year, based on the Modified Accelerated Cost Recovery System (MACRS) method of depreciation: Regular MACRS Depreciation
Part 91 Operator
Part 135 Operator
M AY / J U N E 2 0 1 0
Bonus depreciation allows a taxpayer to write off 50 percent of the acquisition cost of a new business aircraft in the year of acquisition, in addition to regular depreciation deductions. Below is a table illustrating the depreciation deduction percentage by year, including 50% bonus depreciation: Bonus Depreciation
Part 91 Operator
Part 135 Operator
Passive Activity Loss Passive activity is a trade or business activity in which the taxpayer does not materially participate. In general, all rental activities are passive activities. You materially participate in an activity if you are involved in the operation of the activity on a regular, continuous, and substantial basis.
A construction company operates in multiple states. The owner determines that a business aircraft will expand the geographical coverage of the business and will improve the efficiency of his construction managers. It is determined that the aircraft will be owned and operated by a special purpose entity that will serve as a leasing company. The main reasons for this structure are to manage the liability exposure of the aircraft, to comply with financial reporting requirements and to manage state sales tax. The aircraft is owned by a leasing company and a lease is drafted for the construction company to use the aircraft. The aircraft is utilized in the furtherance of the active business of the construction company. The owner expects the aircraft deductions to offset the business income from the construction company. The Internal Revenue Service, however, can consider the aircraft deduction to be “passive” due to the fact that aircraft entity is a leasing business. The net result to the taxpayer could be disastrous: the taxpayer will have higher taxable income due to the expansion of the construction business but the aircraft deductions will not be allowed to reduce this taxable income due to the passive activity loss rules or related party rental rules for business aircraft.
Exceptions to Passive Activity The tax code does provide some exception to this passive activity treatment. These include:
Internal Revenue Code Section 469 states that, generally, losses from passive activities that exceed the income from passive activities are disallowed for the current year. Unused passive losses are carried forward to all future years. This code section can result in some unexpected and unpleasant income tax consequence for the taxpayer that leases a business aircraft.
1. Average period of customer use is seven days or less: think of Blockbuster video rental
Here’s a scenario illustrating how Passive Activity Loss can negatively affect the desired tax results on the purchase of a business aircraft.
3. Extraordinary personal services are provided as part of the rental: think of a charter rental transaction when you are renting an aircraft, but the
2. Average period of customer use is 30 days or less, and significant personal services are produced: think of a hotel stay when you are renting a hotel room, but significant services are provided by the hotel during your stay.