Spring 2013 issue of Horizons

There are many good business reasons for a company to own an aircraft or otherwise have access to one, and you may be among those who enjoy the benefits of avoiding TSA security lines, flying comfortably, and according to your own timetable.

In addition to the perks, companies can greatly benefit from the efficiencies achieved by owning or chartering a private aircraft.

But many companies, beginners and veterans alike, tend to overlook or mismanage an important aspect of tax planning, and a potentially expensive one as far as the IRS is concerned. You guessed it: failing to account properly for the income tax issues associated with personal travel. Last summer, the IRS issued final regulations with regard to the tax treatment of an employer with respect to certain personal use of an employer-provided aircraft. The final regulations adopt the 2007 proposed regulations with some notable additions and clarifications. Background IRC Section 274(a) does not allow deductions for activities considered to be entertainment, amusement, or recreation, unless they are directly associated with the active conduct of the taxpayer’s trade or business. There are several exceptions to the general rule. However, the application of these exceptions by taxpayers created a great deal of scrutiny from the IRS, especially with regard to personal use of an employer-provided aircraft. Prior to the law change, taxpayers have interpreted these exceptions such that if the employer included the value of the entertainment travel as compensation (calculated using the SIFL rules which value employer-provided flights on non-commercial aircraft) in the employee’s income, then the taxpayers would be able to deduct all of the expenses associated with the entertainment travel. However, the amount calculated under SIFL and included in income was normally a great deal less than the actual expenses associated with the entertainment travel (operating expenses and fixed costs, such as depreciation) that the taxpayers deducted. This discrepancy between the two amounts allowed the taxpayers to take a large deduction. The IRS contended that a taxpayer’s deduction should not exceed the amount of expenses that the taxpayer included in income under SIFL. The issue culminated with the tax court in Sutherland Lumber-Southwest, Inc. v. Commissioner where the court ruled against the interpretation of the IRS and in favor of the taxpayer. This was an enormous win because the taxpayer obtained a significant tax benefit from deducting 100% of the expenses of operating the aircraft despite a large use of the aircraft for entertainment travel. The IRS ultimately acquiesced in the finding. However, the American Jobs Creation Act of 2004 included a provision that repealed the ruling in the Sutherland Lumber Case for certain individuals. IRS Notice 2005-45 was the initial guidance used by taxpayers until the IRS issued the proposed regulations in June 2007.

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