IRS concedes deductions for company aircraft.

• Author: Smith, Annette B.

Earlier this year, the IRS acquiesced in the Eighth Circuit's decision in Sutherland Lumber-Southwest, 255 F3d 495 (2002):

Acquiescence relating to whether a taxpayer that provides vacation flights to employees and includes the value of the flights in the employees' income using the SIFL rates of Treas. Reg. Section 1.61-21 (g) may then deduct the full (higher) cost of providing the flights, notwithstanding the deduction disallowance provisions of I.R.C. section 274(a).

Background

The Service first addressed this issue in Letter Ruling (TAM) 9715001. In that ruling, an employee and his spouse were provided use of taxpayer-owned aircraft for a personal vacation. On a Form W-2, the taxpayer properly reported the vacation flights' value ($26x) as compensation, pursuant to the Regs. Sec. 1.61-21(g) noncommercial-flight valuation rules.

The taxpayer's costs for operating the aircraft during the vacation flights were $340x. The IRS took the position that Sec. 274(a) precluded the taxpayer from deducting that amount, on the grounds that the exception in Sec. 274(e)(2) does not allow a deduction to exceed the amount included in the employee's income. The Service allowed the employer to deduct the amount actually reported in the employee's income ($26x), reasoning that to allow the full deduction would undermine Congress' intent in enacting Sec. 274, which was to prevent taxpayers from deducting personal expenses as business expenses.

Sutherland

Sutherland provided its president and vice-president with use of its company-owned aircraft for a variety of nonbusiness flights, including work for other businesses and charities and for vacation. Because the nonbusiness flights were "fringe benefits," Sutherland reported their value as compensation to its officers by using the Regs. Sec. 1.61-21(g) special-valuation rules.

On its 1992 and 1993 returns, Sutherland deducted all the expenses related to maintenance and operation of its aircraft that it incurred in providing the nonbusiness flights. In disallowing the full deduction, the IRS interpreted Sec. 274(e)(2) as relating to deductions for expenses incurred in providing employees with vacation flights on a corporate-owned aircraft, limited to the amount reported as employee compensation, as it had held in TAM 9715001.

The Tax Court held (114 TC 197 (2000)) that deductions for an employer's expenses incurred for use of an entertainment facility (although the court did not address whether the aircraft was...