IRS Launches Private Aircraft Audit Campaign

The Internal Revenue Service (IRS) has announced the Business Aircraft Campaign targeting business aircraft usage of large corporations, large partnerships, and high-income taxpayers.  All businesses that own an airplane should carefully consider their current record keeping practices and prepare for an IRS examination.

Two specific areas have been identified as high-risk areas of non-compliance: the deductibility of costs related to personal travel, and the required income inclusion for personal use of business aircraft.

Companies with aircraft need to review compliance practices for determining and documenting flight records, passenger lists, flight purpose (business related, personal use, entertainment, charter), imputed income, expenses, and deductions.

Entertainment Expenses

Section 274(a) disallows a deduction for expenses related to entertainment activities. Regulations provide special rules for aircraft used for entertainment. If used for entertainment, businesses must allocate aircraft expenses to non-deductible entertainment expense using a permissible allocation method, such as occupied seat hours, miles method, or the flight-by-flight method.

Bonus Depreciation

Aircraft qualify for bonus depreciation if placed into service after September 27, 2017, through 2026. But aircraft are also considered “listed property.” If qualified business use of listed property falls below 50% in a year, much of the bonus depreciation must be clawed back into income in the following year.

As part of its examination campaign, the IRS is scrutinizing business use percentage to determine if a portion of depreciation must be recaptured. This can pose a problem for businesses renting aircraft to related parties; renting an aircraft to a 5-percent owner or related party is not considered qualified business use, unless at least 25% of the total use otherwise qualifies as business use.

Imputed Income for Personal Use

Personal use of business aircraft is considered a taxable fringe benefit and included in income unless the employee reimburses the company. The value of personal flights for the employee, including a partner, other family members, and personal guests, is generally included in the employee's gross income. Fringe benefit imputed income must also be reported to non-employee contractors, such as partners, directors, independent contractors, and former employees.

General valuation rules (the charter rate) or Standard Industry Fare Level (SIFL) can be used to determine the value of these benefits. The value of each flight is imputed separately and is determined on a passenger-by-passenger basis. The IRS examinations review the valuation method and imputed income reporting for compliance with the tax rules.

Other Considerations

Other areas that may be considered as part of the Business Aircraft Campaign could include the deduction allowance and limitation rules of Section 183 “hobby loss” rules, federal excise tax obligations, and passive activity regulations.

Next Steps

The IRS intends to aggressively audit businesses that own aircraft.  Maintaining detailed aircraft records, including purchase documents, maintenance logs, and aircraft usage logs is imperative. It is critical to keep records of every aircraft expense, every flight, and every passenger to substantiate the allocation between business and personal use.

Eide Bailly can help review compliance with recordkeeping and procedures to ensure preparedness should the IRS review a company’s practices.  Please contact Elyse Katz, Partner, Tax Controversy and Procedure, or Bill Hopkins, Senior Manager, National Tax Office.