New IRS Guidance - Aircraft Management Fees Subject to Transportation Excise Taxes
March 16, 2012
In Chief Counsel Memorandum 201210026 (released on March 9, 2012 and dated February 15, 2011) (the “CCM”), the IRS concluded that control of an aircraft’s pilots is a primary factor in determining which party has possession, command and control of an aircraft for purposes of Transportation Excise Taxes imposed under Internal Revenue Code Section 4261 (“FET”). Under the facts described in the CCM, the IRS determined that virtually all fees and reimbursements paid by the owner of an aircraft to its aircraft management company are subject to FET when the aircraft management company has primary control of the aircraft’s pilots. A copy of the CCM is attached so that you can review the specific facts surrounding the IRS’s holdings. This is not a new conclusion by the IRS, but rather synthesizes and restates over 50 years of rulings issued by the IRS in a way that is explicit and, to quote a senior industry leader, “scary.”
Attached hereto are articles that GKG Law published in the July and August 2011 issues of World Aircraft Sales Magazine, as well as an article, with substantial citations, more recently published on the website of the National Business Aviation Association. In both of these articles, we explain the law concerning federal excise taxes, as well as the IRS’s audit position. Since the time that these articles were published, the only substantive change to our analysis of the issues contained in them is that the pace of IRS audits of aircraft management companies has accelerated.
The question of the day is, what should aircraft management companies do in order to eliminate FET liability on Part 91 managed aircraft operations? The most obvious answer to this question is generally unacceptable, to wit, that the managed customer should directly employ the crew, obtain its own insurance policy, acquire its own maintenance, and do a variety of other things which are normally delegated to the aircraft management company and which are essential to the traditional aircraft management relationship.
An alternative and perhaps more realistic approach is to completely overhaul the traditional aircraft management agreement to provide substantial additional rights to an aircraft owner in the specific areas which are being examined by the IRS in connection with its FET audits. GKG Law takes a creative approach in connection with redrafting traditional aircraft management agreements that addresses the issues raised by the IRS both in the CCM and prior published IRS guidance as well as in GKG Law’s extensive experience representing aircraft owners and management companies in connection with FET audits. Our approach is designed to offer additional protection against FET liability to both aircraft owners and their management companies, although no approach can guarantee absolute certainty that the IRS will not impose the FET in a particular situation.
In addition to the foregoing solutions, another recommendation, which also may not be easily adopted in the traditional management relationship, is for the aircraft owner to pay third party vendors directly, thereby minimizing amounts paid by the owner to its management company to which the IRS could apply the FET. However, keep in mind that this recommendation is primarily a “belt and suspenders” answer as it does not directly address the substantive issue of whether possession, command and control of an aircraft has transferred (as do the first two recommendations) but rather lowers the amount that is potentially subject to FET in the event the IRS concludes that possession, command and control has transferred.
The tax attorneys in the Business Aviation Group at GKG Law are well versed in the issues being raised by the IRS in its current tax audits. We have substantial experience in representing aircraft management companies and in connection with the preparation of aircraft management agreements that comprehensively address all tax issues that arise in the aircraft management relationship and in defending them against IRS and state tax audits. We also can assist aircraft owners, on a case by case basis, in revising their aircraft management agreement, if the company managing their aircraft does not first approach them with these ideas.
Please contact any of the attorneys in GKG Law’s Business Aircraft Group to assist and advise you regarding these matters.
IRS CIRCULAR 230 DISCLOSURE: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this client alert is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
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