Airline costs allocable to vouchers issued are not deductible until vouchers are redeemed for tickets.

• Author: Fiore, Nicholas J.
• Position: Expenses

Taxpayer T is an accrual-basis commercial airline, providing passenger and cargo flight services within the U.S. To maintain customer goodwill, airlines routinely issue travel vouchers when a customer's experience has been unsatisfactory. For example, the airline may issue vouchers when customers are voluntarily or involuntarily denied boarding or when luggage is lost or damaged.

Vouchers are not tickets but are similar to discount coupons, issued in a customer's name, usually for a stated dollar amount. The customer may subsequently redeem the voucher to obtain a free ticket or to reduce its purchase price. However, there are certain restrictions on the use of vouchers; they:

* Are valid for one year from the date of issuance;

* Have no cash surrender value;

* Are not transferable;

* Are not replaceable if lost or stolen;

* Must be redeemed for a ticket;

* Must be redeemed at the airline's ticket office (and not with a travel agent); and

* May not be redeemed for tickets on certain "blackout" dates.

The use (or nonuse) of a voucher lies totally within the receiving customer's discretion, and a significant percentage of vouchers expire without being redeemed.

When T accounts for its voucher system, there are three significant events:

1. Issuance of the voucher: On issuance, T, in its financial books and records, debits the appropriate expense account an amount equal to a percentage of the voucher's face value, and credits its "travel voucher liability" expense account in the same amount.

   For Federal income tax purposes, T claims a deduction equal to this percentage of face value, for the estimated incremental cost of providing the flight that will be obtained when the customer uses the voucher.

2. Redemption of voucher for ticket: On redemption, T debits the "travel voucher liability" account by the amount previously credited and credits its "air traffic liability" account in the same amount. T also credits its "air traffic liability" account by the remaining percentage of voucher face value, matched with a percentage-face-value debit in its "passenger revenue" account.

   For Federal income tax purposes, T, in effect, deducts the remaining percentage face value of the voucher from gross income when the voucher is redeemed for a ticket.

3. Exchange of ticket for boarding pass: On the exchange of a ticket for a boarding pass (or when the ticket ages beyond 12 months), T recognizes the entire face value of the voucher as earned revenue. The...