Most states offer tax exemptions for aircraft purchases, but the exemptions and qualifications for exemptions vary state to state. General characteristics of common tax exemptions are outlined below, though aircraft purchasers should exercise extreme care when utilizing these tax exemptions because they are narrowly construed and each state has its own specific requirements.
The Purchase for Resale (or Lease) Exemption
The purchase for resale exemption typically applies to aircraft purchased for subsequent resale (or lease, which is usually also considered a “resale” under state law). In this type of transaction, the purchase of an aircraft followed by the subsequent sale or lease of the aircraft to a third party may circumvent use tax. In many states, this tax exemption presents a planning opportunity for aircraft owners to establish a special purpose entity (SPE) to hold title to the aircraft and lease the aircraft back to a separate individual, entity, or entities at arms-length. Under this exemption scenario, the SPE would not be liable to pay use tax on the aircraft’s purchase but instead may collect and remit sales taxes from lessees on aircraft lease payments which are subject to sales tax.
Effectively, the tax benefit from this exemption comes from the ability to pay tax annually on lease payments over several years rather than up front in lump sum based on the entire aircraft purchase price. Break-even analyses we’ve conducted for clients show that it can take greater than 10 to 15 years to pay the same amount of tax annually on lease payments as the amount of tax paid up front in lump sum. Thus, if aircraft owners believe they will be holding an aircraft for less than this amount of time, or if they simply believe the time-value and opportunity cost of holding onto that money and putting it to work elsewhere would be greater than paying use tax up front (as many of our HNWI clients do), this is a strong exemption that can lead to significant savings.
While taking advantage of this exemption can prove lucrative, when done incorrectly, it can lead to significant negative legal consequences. A common trap (commonly known as the “Flight Department Company Trap”) can arise if the new SPE, whose sole purpose is to own and operate the aircraft, purchases the aircraft, obtains insurance, hires the pilots, and operates the business flights under FAR Part 91. The FAA considers these types of flights to be “wet leases” (or illegal charter flights) without the required air carrier certificate, subjecting the operator to fines up to $11,000 for each illegal flight, potentially triggering tax obligations, and potential loss of insurance coverage. Accordingly, special care should be taken to avoid the Flight Department Company Trap.
Common Carrier or Interstate Commerce Exemptions
Another common exemption for aircraft owners is the “common carrier” or “interstate commerce” exemption which is typically used for commercial operators of aircraft. In essence, the exemption is intended to apply to commercial operators that provide some type of service to end-users or customers. The rationale for the exemption is that taxes are levied on transactions between the commercial operator and the end-users.
Conceptually the exemption seems straightforward. However, individual states have drawn different boundaries for what constitutes “interstate commerce” or a “common carrier”. In some states, charter services and other operators providing air services may qualify for the exemption. Other states restrict the exemption to only apply to scheduled air carriers. Other states allow the exemption when the aircraft is “principally” used for commercial operations. Others require exclusive use. Others permit the exemption when used more than 50% of the time by a Part 135 operator. More complications for this exemption can arise when states are silent on the topic of commercial operators. A strict and narrow reading of the respective state’s laws is essential for determining whether this exemption may apply or whether a planning opportunity is available.
Casual, Isolated, or Occasional Sale Exemptions
In some states, a “casual sale” or “isolated sale” or “occasional sale” tax exemption may exempt an aircraft purchase from taxation when the buyer and seller are not in the business of buying or selling aircraft. The specific taxing authority determines what constitutes a “casual,” “isolated,” or “occasional” sale. As a result, the requirements for the exemption vary considerably. A casual or isolated sale in one state is not guaranteed to be determined by the same standard in another. Some states permit this exemption by carving it out for only certain types of entities, like charitable organizations. Other states may restrict the exemption to only certain family members and business associates. Other states specifically carve out aircraft from the exempt property designation, and thus tax it.
Trade-In Exemption / Credit
Trade-in credits are a straightforward exemption. In cases where an aircraft is purchased by a buyer who also trades in an aircraft, the purchaser may receive a trade-in credit, just like most automobile transactions. This credit reduces the tax burden on the newly acquired aircraft by reducing the overall purchase price of the aircraft. For example, suppose an aircraft purchaser chooses to upgrade to a new aircraft. They may trade in their old aircraft to reduce the purchase price of the new one, and sales taxes are assessed on the reduced purchased price rather than the full amount.
Flyaway Exemptions
Flyaway exemptions are frequently taken advantage of to avoid the imposition of sales tax on aircraft. Depending on the state, the exemption ordinarily allows the aircraft purchaser a specific time frame to remove the aircraft to another jurisdiction. When the purchaser removes the aircraft from the taxing authority’s jurisdiction within the allowable window, the sale of the aircraft will be exempt from sales tax. The allowable timeframe varies state to state. For example, in Kansas, the aircraft must be removed within ten days from the date of sale, whereas Colorado allows 120 days. Some states don’t use a discrete number of days, but rather qualify the fly away exemption based on the percentage of time an aircraft is “used” outside of the state or based on the assumption that the aircraft will not return to the state of purchase for some period of time.
As noted above, avoiding sales tax in one jurisdiction does not necessarily reduce the amount of use tax ultimately levied on the aircraft upon relocation to its home state. The purchaser will ordinarily be liable for use tax for whichever taxing jurisdiction bears a sufficient “nexus” to the aircraft. This “nexus” is almost always where the aircraft is ultimately hangered. That said, flyaway exemptions should almost always be taken advantage of when the purchaser can utilize a lower use tax rate in the home state. By avoiding the sale tax in the state of purchase, an aircraft purchaser pays a lower use tax in the state where the aircraft is hangered.
While inadequate planning can lead to significant tax exposure and legal liability , proper structuring and planning will lead to significant certainty related to limitation of liability and can save aircraft purchasers hundreds of thousands if not millions of dollars. Need help analyzing available tax exemptions and structuring to avoid potential pitfalls? Bizjet Law assists aircraft buyers from around the world with US aircraft tax analysis and would be glad to assist in your decision.
If you would like us to analyze tax saving opportunities for you, please call us at the number below or email us at Counsel@BizjetLaw.com.