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Purchasing an airplane can be a significant expense. Adding to this cost are state sales and use taxes and other fees. In this article, Reed Smith's David Dorner explores the tax costs of acquiring an aircraft and how planning may help to reduce or avoid them.
By David Dorner
David Dorner is a partner and a member of Reed Smith's State Tax practice in Chicago.
I am often asked, “ Do I have to pay sales tax on the purchase of my aircraft?” This is a great question, one that should be asked and explored with a knowledgeable tax professional long before you plan to take title to, or possession of, the aircraft, to ensure that all the proper registrations and documents are in place for tax purposes at the time of closing.
The truth is that many aircraft sales are never subject to sales tax. In fact, many aircraft purchase agreements require the aircraft to be delivered to the purchaser in a “tax-friendly” jurisdiction, and will generally include language similar to the following:
Seller and Purchaser will cooperate to ensure that the Delivery Location for the Aircraft will be in a jurisdiction where no Transfer Taxes will be imposed upon the Seller, Purchaser or Aircraft arising out of the sale or transfer of the Aircraft under this Agreement .
The above condition is not intended to avoid transfer taxes all together, but mainly to shift the tax reporting and payment responsibilities to the purchaser who will still be required to pay use tax to the state where the aircraft will be based in most cases (with some exceptions noted below).
Taking delivery of the aircraft in a location that will not attract transfer taxes is easily accomplished, so long as the aircraft can be moved ( i.e., it is not undergoing repairs) and the parties are agreeable to incurring the costs and risks of relocating the aircraft for the sale. For instance, one option is to close while the aircraft is on the ground in a state that does not have a general sales tax–i.e., Alaska, Delaware, Montana, New Hampshire or Oregon. Keep in mind that certain localities in Alaska do impose local sales taxes; Delaware has a gross receipts tax (although aircraft with a certified takeoff weight of 12,500 pounds or more are exempt from the tax); and Oregon has a fixed dollar, minimum corporation excise tax measured by sales in the state, which may apply to the gross receipts derived from an aircraft sale in Oregon.
Another good option is to take delivery in one of the few states that exempt aircraft (or most aircraft) from sales tax. These states currently include Connecticut (for aircraft having a maximum certificated takeoff weight of 6,000 pounds or more), Delaware ( see above), Maine, Massachusetts, New York and Rhode Island.
Delivering the aircraft in one of the dozen or so states, including, for example, Arizona, Arkansas, California, Colorado, Florida, Georgia, Illinois, Indiana, Michigan, Texas and Wisconsin, which have enacted “fly-away” exemptions for aircraft sales, may also be a good option. To qualify for a state's fly-away exemption, the aircraft typically must be (i) based in another state after the sale; (ii) removed from the state without delay or within a set time period after the sale; and (iii) not returned to the state (with limited exceptions, e.g., repairs, training, etc.) for a period of time or set number of days. In some states, to take advantage of the fly-away exemption, the purchaser must be a nonresident of the state, or not do business in the state. Other conditions can apply ( i.e., the aircraft may have to be manufactured or assembled in the state), and these conditions vary from state to state.
In some states, the fly-away exemption is documented by the purchaser providing the seller with an exemption certificate; while in other states, the documentation a purchaser must provide to qualify for the fly-away exemption is more onerous. For instance, in some states, a purchaser must submit an exemption certificate and evidence of removing the aircraft and basing it in another state to the state tax department.
Failing to comply with a state's fly-away exemption rules requiring the removal of the aircraft from the state in a timely manner, or prohibiting bringing the aircraft back into the state for some period after the sale, can have significant tax consequences for the aircraft owner. For instance, under Florida's fly-away exemption, if the aircraft is brought back into Florida within six months of purchase (except for limited exceptions, e.g., repairs and training), the purchaser is not only subject to the unpaid sales tax, but also a penalty equal to 100 percent of the tax. The Florida Department of Revenue has used flight tracking services to monitor whether an aircraft returns to Florida within six months from its date of departure for purposes of the state's fly-away exemption.
If you do not mind paying a little sales tax, you can take delivery of your aircraft in either South Carolina or North Carolina. South Carolina's maximum sales tax on aircraft sales and leases is $300. North Carolina's maximum sales tax on aircraft sales and leases is $2,500. There are also a few states that impose reduced tax rates on aircraft sales, or tax less than 100 percent of the sale proceeds. For instance, the state tax rate on aircraft sales in Alabama and Virginia is 2 percent, and Oklahoma's aircraft excise tax is 3.25 percent. New Mexico allows for a deduction of 50 percent of the gross receipt for certain aircraft sales, and a 100 percent deduction for aircraft manufacturers and for the sale of commercial and military aircraft over 10,000 pounds gross landing weight.
No matter where you first take delivery of an aircraft, the state where the aircraft is based and, if different, the states where the aircraft is used frequently ( e.g., the states where you have a vacation home, second headquarters, manufacturing facility, etc.), may seek to impose use tax on the aircraft, unless you are fortunate enough to hangar and operate your aircraft in one or more states that do not have sales or use tax, or exempt aircraft from such taxes all together.
However, there are tax exemptions (and credits) that may be available to eliminate or reduce sales or use taxes in the aircraft's “home” state and other states of frequent use.
For example, a few states exempt aircraft that are purchased for “first use” outside the state and used for some period of time before being brought into the state. Florida, for example, does not impose use tax on an aircraft acquired by a nonresident of Florida, when the aircraft enters and remains in Florida for less than 21 days during the first six months of ownership. In California, use tax will not apply to an aircraft acquired and first used outside the state, if 50 percent or more of the aircraft's flight time during the six month period following its entry into California is “commercial flight time” ( i.e., for business purposes, including charitable and investment activities) in interstate or foreign commerce. The aircraft owner will be required to provide evidence of the aircraft's business use ( e.g., correspondence, calendar of business meetings, etc.), if ever audited by California.
Many states also exempt aircraft used in commercial operations. What constitutes “commercial” operations differs from state to state. For instance, in some states, the common carrier exemption is limited to scheduled air carriers operating under 14 C.F.R. Part 121 ( e.g., United Airlines, Southwest Airlines, etc.); while in other states, the common carrier exemption may be claimed by both scheduled airlines and on-demand charter operators operating under 14 C.F.R. Part 135. A state's common carrier exemption may also be limited to aircraft sold or leased directly to the carrier, and the exemption often requires the aircraft to be used “primarily” in interstate carriage for hire.
A purchase for resale exemption is frequently applicable to aircraft that are purchased to be leased. In a typical scenario, an aircraft is purchased with the intent to lease the aircraft (on a non-exclusive, dry-lease basis– i.e., lease of aircraft only, no crew) to a commercial operator or to other lessees. The aircraft owner (lessor) claims a resale exemption on the purchase of the aircraft and remits sales tax on the lease payments, unless the aircraft is leased for an exempt purpose or to an exempt entity, such as, respectively, to a common carrier or governmental body. This structure allows the aircraft owner to defer and potentially minimize the sale tax paid on the aircraft, because in most states the sales tax on the lease payments is paid over the term of the lease and the total tax paid on the lease payments will, in many cases, be less than the amount of tax calculated on the aircraft's purchase price. When acquiring an aircraft to lease, it is important to determine if the state where the aircraft will be used recognizes the resale exemption for leased property, and, if so, whether the state requires sales tax to be paid on the entire lease stream at the initiation of the lease, or an election to remit sales tax on the lease payments instead of the lessor's acquisition cost.
In recent years, a few states have begun to scrutinize application of the resale exemption to purchases of aircraft for lease; particularly when the aircraft is leased to one or only a few related entities ( i.e., “captive leases”), or on a non-exclusive basis to an on-demand charter operator. When reviewing such transactions, states will often look to whether the (i) business is registered as a retailer, (ii) aircraft owner is actively engaged in the business of leasing, (iii) rental rates are arm's length, (iv) parties ignored normal formalities of a lease transaction, such as not entering into a written a lease agreement, and (v) business operates to generate a profit.
See, for instance, FMG Leasing, LLC v. Mich. Dep't of Treasury, No 312448, June 26, 2014, where the court held that an aircraft acquired to lease to related parties on very favorable terms was not acquired for resale, and In Pi in the Sky, LLC et al. v. Testa, Tax Comm'r, No. 2015-2005, January 19, 2017, wherein the Ohio Board of Tax Appeals held that an aircraft purchased by a limited liability company that was formed to own and lease the aircraft to the company's sole member was not purchased for resale and was therefore subject to use tax based on the aircraft's purchase price. Other states, including Indiana, Texas and Washington, have also scrutinized such aircraft leasing structures in recent years.
Another exemption that may apply to aircraft is the occasional sale exemption. However, the majority of states exclude titled property, like aircraft, from the exemption, and the exemption may not apply if the seller held the aircraft for lease. However, if the exemption is potentially available in your state, it may be prudent to include the requirements of the occasional sale exemption as a representation and warranty of the seller in the sale agreement (e.g., that the seller is not engaged in the business of selling or leasing aircraft, or has not made any sales or aircraft within the last 12 months).
Purchasers may also be able to reduce the sales or use tax on the acquisition of a new aircraft by taking advantage of the trade-in credit. In most states, for the trade-in credit to apply, the old aircraft often has to be sold to the seller of the new aircraft, and the seller acquiring the old aircraft must be engaged in the business of selling similar property. With careful, advanced planning, a trade-in credit can also be utilized in conjunction with a like-kind exchange under Internal Revenue Code § 1031.
In addition to state sales and use taxes, a number of states require aircraft based in the state to be registered with the state, often with the state's department of transportation. An annual (or bi-annual) registration fee is generally imposed, which can be a nominal amount or something more significant, especially when the registration fee is charged in lieu of state property tax.
The acquisition of an aircraft can result in some interesting sales and use tax issues and planning opportunities. These issues should be explored early on in the process with your tax professional. Additionally, there are other tax and regulatory concerns, such as federal excise taxes and Federal Aviation Administration rules, that have to be considered when owning and operating an aircraft. Navigating these different (and sometimes competing) requirements makes consultation with professionals knowledgeable in these areas a necessity as well.
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