Tax considerations for corporate aircraft.

• Author: Webb, John D., III

In recent years, the number of entrepreneurs acquiring airplanes for their business operations has increased dramatically. Often the aircraft will be placed in a separate entity for legal liability protection and other reasons. Tax advisers need to be aware of the numerous federal income tax issues that pertain to airplane operations to ensure the deductibility of the related business expenses on their client's income tax returns. This item highlights a few issues that taxpayers and their advisers should consider.

Ordinary and Necessary Test

Under Sec. 162, a deduction is allowed for all ordinary and necessary expenses paid or incurred during the tax year in carrying on any trade or business. The first consideration in this test is the reasonableness of using a personal aircraft versus the use of an alternative means of transportation. Various court cases provide guidance to taxpayers trying to determine what is reasonable. In Kurzet, 222 F3d 830 (10th Cir. 2000), the Tenth Circuit considered the number of trips taken, the value of the taxpayer's time, the time saved, and the cost of first-class airfare in evaluating the reasonableness of the taxpayer's deductions for a personal aircraft. In Palo Alto Town & Country Village, Inc., 565 F2d 1388 (9th Cir. 1977), the Ninth Circuit looked at the usefulness of owning aircraft for the taxpayer's business and compared the costs of alternative air travel arrangements in determining that the expenses were ordinary and necessary. Alternatively, the courts have found in a number of cases that there was not a substantial relationship between the aircraft use and the taxpayer's business to establish that the costs were ordinary and necessary (Barber, 55 AFTR 2d 85-765 (E.D. MO 1984); Limerick, TC Memo 1950-144; Harbor Medical Corp., TC Memo 1979-291).

Hobby Loss Rules

Larger aircraft can generate significant tax depreciation deductions. It is not uncommon for a taxpayer acquiring multiple aircraft over several years to generate tax losses for an extended period of time. In order to prevent taxpayers from taking deductions for expenses of essentially personal activities, Sec. 183, commonly referred to as the "hobby loss rules" disallows losses from an activity if the taxpayer does not have a profit motive. Sec. 183 applies to individual taxpayers and to S corporations but not to C corporations.

Nine factors are considered when determining if a profit motive exists: (1) the manner in which the taxpayer...