© 1998 By Michael P. Fleming

Corporate Family Use. Many Flight Departments are sharing use of the aircraft and don’t even know it. This involves allowing affiliated companies, or companies within the "corporate family," to use the aircraft. If no charge is made, no problem exists. But charging can include internal accounting entries. If any compensation is involved, read on.

Flight Department Company Prohibition. A very high number of operators run afoul of the "Flight Department Company" rule. Often advised by corporate counsel for liability purposes, they place the aircraft and flight department in a separate company that operates the aircraft for the benefit of affiliates. Sounds reasonable, but the FAA has determined that a commercial certificate is required to own and operate the company aircraft unless its operation is incidental to the business of the company. Because the Flight Department Company typically has no other business to which the operation of the aircraft is incidental, it fails this test. Typical solutions to this problem (which otherwise might actually increase liability) surround separating ownership of the aircraft from its operation (perhaps through a Dry Lease or use of an existing or spun-off external flight department styled as a Management Company) or placing the aircraft directly in the hands of the entity with the most business use.

Use Among the Affiliated Group. Even when the Flight Department Company issue has been rectified, Corporate Family use can still be somewhat tricky. Section 91.501(b)(5) allows business use among affiliates (and their officials, employees and guests) if the travel is "within the scope of, and incidental to, the business of the company." In other words, if the related company "borrowing" the plane is doing so for a legitimate business, the FAA doesn’t mind and will even allow an inter-company charge on a fully-allocated basis. However, the borrowing company must have the proper degree of affiliation.

The FAA extends this allowance to "the parent or a subsidiary of the company or a subsidiary of the parent," bureau-speak for parents, subsidiaries and brother-sister corporations, but note that companies owned by an individual do not comply (sometimes significant where flow-through entities are involved). The IRS is even more restrictive. It has determined that the "affiliated group exemption" from the FET for charges among affiliates only applies to chains of companies connected via at least 80% voting stock ownership to a common parent. For anything else, the FET applies.

Potential Planning Solutions. For parties that do not comply with these restrictions, two planning options stand out: Time Sharing and Dry Leasing. Related companies can often employ Time Sharing. Its major weakness, limitation on cost recovery, often causes no great concern, particularly if the entities are flow-throughs owned by one individual. Although the FET applies, it would in any case if the companies do not meet the "affiliated group exemption" standard. Dry Leasing (perhaps using multiple, non-exclusive Dry Leases) can also be considered, whereby an external flight department is employed (either spun-off from the internal flight department or via contract with a Management Company). Charging is liberal, the FET does not apply, and Part 91 operating flexibility is available. Be sure to comply with Truth-in-Leasing and consider disclosure and passive loss issues where flow-throughs are involved.

Personal Use. Mechanisms for handling Personal Use of the corporate aircraft can be complex and can have tax implications for senior executives (that’s a subtle way of saying get it right or it could mean your job). Section 91.501(b)(5) restricts employee use to flights within the scope of, and incidental to, the business activities of the company. If the flight is personal, the FAA prohibits any reimbursement from the employee for using the company’s aircraft under Part 91. This creates difficulties for employees that would like to use the aircraft for personal travel, but feel it is only fair to pay at least some of the expenses. Indeed, if no payment is made the IRS could view the personal use of the aircraft as a taxable constructive dividend to the employee. Any sharing below FMV could also require disclosure if the employer is a public company. The five most relevant options for handling Personal Use are: (1) Standard Industry Fare Levels (SIFL) valuation; (2) FMV valuation; (3) Dry Leasing; (4) Time Sharing; and (5) charter.

SIFL Valuation. When an employer provides property or a service, such as an aircraft or a flight, to an employee, the FMV of that property generally is considered constructive income to the employee. SIFL constitutes a regulatory valuation method in calculating the imputed income for Personal Use flights. The SIFL rules require that the employee and employer agree to value all such flights consistently for the tax period, and the IRS adjusts the rates semi-annually. "Control employees" must recognize income under an increased schedule. However, the employee is not required to recognize income for themselves or their immediate family if 50% or more of the aircraft seating capacity is used by others traveling primarily for the employer's business purposes.The SIFL rates apply to guests of the employee as well, but passengers less than two years of age are excluded. While using the SIFL rates generally reduces the imputed income to the employee (the rates are often a mere fraction of the true out-of-pocket costs), the employee is still prevented from reimbursing the employer.

SIFL potentially has an even more severe limitation. A 1997 IRS private ruling suggests that an employer’s ability to deduct aircraft operating expenses for Personal Use flights is limited to the amount the employee recognizes as income. Although the decision is under appeal, it indicates the thinking of the IRS. SIFL therefore could have negative tax consequences for the employer.

FMV Valuation. If the SIFL rules are not used and no charge is made, the general valuation rule for imputing income is applied. The IRS would impute income to the employee based on FMV, most likely using charter rates. The main advantage is that the employer would likely be able to take the entire deduction. The disadvantage is that the boss has to pay a large tax.

Time Sharing. Time Sharing might be useful for Personal Use, especially if the employee tends to travel with many guests (meaning high SIFL rates). A Time Sharing employee may reimburse for the actual out-of-pocket expenses and twice the cost of fuel and oil. Because this amount is less than FMV, the IRS could argue that the differential constitutes constructive income to the employee and (as in SIFL) disallowable expenses for the employer. However, because the differential is smaller and the amount charged is the maximum legally allowed, there is less risk, as compared to SIFL, that the IRS will take this position. Time Sharing can be conducted under Part 91, but the FET and Truth-in-Leasing apply. Note that taxpayers cannot switch easily between Time Sharing and SIFL; they must be consistent for the tax period.

Dry Lease. The employee could also Dry Lease the aircraft from the employer and contract independently for pilots. If the lease rate is at or near FMV, no income is imputed and the FET would not apply. Dry Leasing can be conducted under Part 91. This structure is particularly useful if the employer Dry Leases the aircraft from a third party, especially if it also contracts for flight crews from an independent Management Company. The employee and employer would each Dry Lease on a non-exclusive basis from the independent lessor and contract separately for crews with the Management Company.

Charter. Additionally, a certificate holder could operate the flights under FAR 135. The employee can be charged FMV or above and the FET applies. If the rate is FMV, no income should be imputed. Table 2 contains a summary of these Personal Use options.

Unrelated Third-Party Use. For occasional use among non-affiliated entities, Dry Leasing or Time Sharing might be attractive. They are particularly helpful if Occasional Relationship Users are involved. If each company has an aircraft, consider Interchange. Managed Charter (using a Management Company, which also charters out the aircraft to third parties) could also be attractive. For more intensive use, consider shared ownership options such as Co-Ownership or Joint Ownership, or perhaps chartering out. Some parties also have set up Charter Pooling arrangements, in which each party commits to purchasing a certain number of charter hours from the Charter Company that either owns or manages the aircraft.

Demonstration Flights. Special rules apply to demonstration flights. For companies in the business of selling aircraft, demonstration flights to prospective customers arguably are within the scope of and incidental to the business of the selling company, allowing fully-allocated cost recovery under §91.501(b)(5)’s provisions relating to "guests" of the company. I find this argument to be somewhat aggressive. In any case, the sales company and other parties trying to sell (or lease) their private aircraft could also rely on §91.501(b)(3)’s special provisions for demonstration flights. Like Time Sharing, they are allowed to charge twice the fuel and other allowable expenses (as long as common carriage is not involved).

Carrying Elected Officials. Yet again, special rules apply to carriage of elected federal officials. These rules reflect the tension between the Federal Election Commission regulations that prohibit the provision of products and services to elected officials at below-market rates and the FAA’s limitations on charging for use of the aircraft. While the FAA has recognized the FEC’s rules and allows operations under Part 91, the IRS considers the payments to be of a commercial nature and therefore subject to the FET.

The scenarios discussed in this section represent only a small sample of the types of situations that arise, and also grossly over-simplify the issues. Any party intending to engage in aircraft sharing should closely examine their own relevant business objectives and usage patterns to determine the best structure for them. This simply must be done on a case-by-case basis. However, Table 3 reflects my attempt to consolidate many of the issues involved in the hope that it will prove to be a useful analytical planning tool.