Owners and operators of business aircraft were disappointed last month when the IRS issued final regulations disallowing certain deductions for “entertainment” use of company aircraft.
The provisions were originally contained in the “American Jobs Creation Act of 2004.”
Under the new rules, the difference between the actual cost of personal entertainment flights provided for “specified individuals” and the amount included as income for the individual is disallowed as a deduction to the corporation.
The final regulations implement and reaffirm the IRS’s commitment classifying aircraft expenses based on each passenger’s reason for being on a flight, as opposed to applying a primary flight purpose test for identifying disallowed entertainment expenses.
Since passage of the jobs bill, NBAA has been meeting with IRS officials to encourage the agency to develop regulations that maintain congressional intent while not being unfair or creating an administrative burden. In May 2005 the IRS issued Notice 2005-45, which specified “occupied seat hours” or “occupied seat miles” as a means to track aircraft use and calculate deduction limitations.
Then, in June 2007, the IRS proposed regulations that NBAA said provided some improvements over the previous notice, “but were still administratively burdensome and produced unfairly skewed disallowances for many taxpayers.”
NBAA submitted extensive comments with specific suggestions for improving the proposal, such as using a primary purpose test to determine the entertainment or non-entertainment classification for a flight.
In the final regulations, the IRS did make changes dealing with the treatment of depreciation and interest expenses. The final rules provide that, in the case of a taxpayer who chooses to use the straight-line depreciation method for the purposes of calculating the disallowance, the disallowed depreciation in any year may not exceed the allowable depreciation for such year. Also, interest is now included in the costs subject to disallowance if the underlying debt is secured by or allocable to an aircraft used to provide entertainment flights.
Marianna Dyson, a compensation and deduction attorney with Washington, D.C. law firm Miller and Chevalier, said the IRS final regulations are not much different from the proposed regulations introduced in 2007. “With few and quite limited exceptions,” she said, “the final regulations fail to adopt other taxpayer comments.”
NBAA agrees with her assessment. “Unfortunately, the final regulations released by the IRS do not differ substantially from the proposed rules,” NBAA said. “While there are no significant changes, the final rules represent the formal position of the IRS and must be followed. Operators should review the rules carefully with their tax advisors to ensure that they have a strategy for compliance.”
NBAA is holding a Tax, Regulatory and Risk Management Conference in Orlando on October 28 and 29 to provide detailed strategies for implementing the final rules and minimizing deduction disallowances.