800.999.1109 - Aviation Insurance & Risk Management Magazine
800.999.1109 - Aviation Insurance & Risk Management Magazine 800.999.1109 - Aviation Insurance & Risk Management Magazine
egardless of lack of abusive intent. Another important characteristic of partnerships is that treatment of property as business or personal is determined at the partnership level, not the individual partner level, which means that personal use by one partner may result in disallowance of deductions to other partners who use the aircraft only for business. Th e sale of an interest in a partnership that holds an aircraft will generally result in ordinary income treatment to the extent that the tax depreciation claimed on the aircraft exceeds its economic depreciation. Subject to certain partnership elections, the purchaser of a partnership interest will generally be entitled to step up the basis of the underlying purchased aircraft interest and begin depreciating his proportionate cost, regardless of the remaining bases of the other partners. A corporation taxed under Subchapter S provides for fl ow-through taxation to the owners rather than entity-level taxation. Although, in this regard, S corporations are similar to partnerships, an important diff erence is that S corporations cannot allocate specifi c elements of income and loss among the shareholders/co-owners; all elements are allocated proportionately. Th e sale of stock of an S corporation that holds an aircraft will generally result in capital gain tax, rather than ordinary-income recapture by the seller. Th e purchaser, however, will not generally be allowed to step up the basis of the underlying aircraft to his new purchase price. A co-owned LLC is normally taxed as a partnership. However, the LLC may elect to be taxed as a corporation, either under Subchapter C, or Subchapter S. CO-OWNERSHIP BY ELECTING OUT OF SUBCHAPTER K OF THE INTERNAL REVENUE CODE Aircraft co-owners utilizing a co-ownership, partnership, or a limited liability company often have an opportunity for an alternate method of taxation accomplished by electing out of Subchapter K. Th e election out of Subchapter K, eliminates the problem of one co-owner’s personal use creating disallowance to the other partners, as well as certain anti-abuse provisions that may result in unintended adverse tax consequences. Th e decision should be made in close consultation with your tax adviser, but if an entity or co-ownership is formed merely to hold title to property for the benefi t of its owners, by electing out of Subchapter K it may be possible to treat each partner as holding an undivided interest in the aircraft itself. Such treatment requires an election under Regulation §1.761-2 of the Internal Revenue Code and prohibits the joint conduct of a trade or business. Th is treatment will be particularly appropriate 28 | Aviation Insurance & Risk Management
when one co-owner chooses to use his share of the aircraft for business and another co-owner uses the aircraft personally. Th e business partner would be entitled to depreciate his share of the aircraft, while the personal user will preserve his income tax basis to minimize any gain upon ultimate sale. SALES TAX CONSEQUENCES Th e sale of a co-ownership interest in property is treated as a sale of tangible personal property and generally is subject to state sales or use tax. x. Each time a portion of the aircraft is sold, a taxable event occurs, and sales ales tax may be due at least on that portion of the property. Several states have exemptions for casual sales of aircraft, but the majority will tax each individual dividual transfer. If the ownership interest is held in an entity, then it is the partnership artnership interest, corporate stock, or membership interest that is sold, not the underlying derlying asset. When sold, entities are generally considered intangibles exempt from sales l tax. LIABILITY ISSUES RELATING TO JOINTLY OWNED AIRCRAFT Individuals are always subject to liability for their own negligence. Under the Uniform Partnership Act, they are also liable for the negligence of their partners. If the aircraft is held in a general partnership (whether the underlying partnership agreement is written or unwritten), partners generally hold themselves responsible for one another. Co-ownership may be treated as a partnership operation as well; therefore, it provides little if any increase in liability protection. Both limited liability company ownership and corporate ownership do provide signifi cant protection from a joint owner’s negligence. Because adequate liability insurance is generally unavailable for aircraft operations, except in the case of professional fl ight departments, liability should play a major factor in the design of aircraft joint ownership. BE WARY OF FAA LIMITATIONS Although joint owners of aircraft may make reasoned choices within a wide selection of vehicles, the FAA does impose some surprising, if not totally irrational, limitations on co-ownership. Consider the following: 1. A nonresident alien can own an aircraft individually, or as a co-owner, but not as a partner in a partnership. 2. A nonresident alien can be a signifi cant shareholder in a corporation within certain limitations but not a member in a limited liability company. 3. A corporation can be a member in a limited liability company but not a partner in a partnership. 4. A foreign corporation can own an aircraft within certain limitations but not a foreign LLC. Of course, there are other limitations as well, so when deciding among alternative arrangements, FAA regulations are often determinative. MERELY AN OVERVIEW Th e outline above represents only a cursory overview. Due to the interaction of federal and state tax laws, liability considerations, and FAA regulations, it is essential that you receive professional legal advice before entering into a joint ownership transaction involving an aircraft. � Advocate Consulting Legal Group, PLLC is a law fi rm whose practice is limited to serving the needs of aircraft owners and operators relating to issues of income tax, sales tax, federal aviation regulations, and other related organizational and operational issues. IRS Circular 230 Disclosure. New IRS rules impose requirements concerning any written federal tax advice from attorneys. To ensure compliance with those rules, we inform you that any U.S. federal tax advice contained in this article is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under federal tax laws, specifi cally including the Internal Revenue Code, or (ii) promoting, marketing, or recommending to another party any transaction or matter addressed herein. Fall 2009 | 29
- Page 1 and 2: Territorial Limitations Revisited F
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when one co-owner chooses to use his share of the aircraft for business<br />
and another co-owner uses the aircraft personally. Th e business partner<br />
would be entitled to depreciate his share of the aircraft, while the<br />
personal user will preserve his income tax basis to minimize any gain<br />
upon ultimate sale.<br />
SALES TAX CONSEQUENCES<br />
Th e sale of a co-ownership interest in property is treated as a sale of tangible<br />
personal property and generally is subject to state sales or use tax. x.<br />
Each time a portion of the aircraft is sold, a taxable event occurs, and sales ales<br />
tax may be due at least on that portion of the property. Several states have<br />
exemptions for casual sales of aircraft, but the majority will tax each individual dividual<br />
transfer. If the ownership interest is held in an entity, then it is the partnership artnership<br />
interest, corporate stock, or membership interest that is sold, not the underlying derlying asset.<br />
When sold, entities are generally considered intangibles exempt from sales l tax.<br />
LIABILITY ISSUES RELATING TO JOINTLY OWNED AIRCRAFT<br />
Individuals are always subject to liability for their own negligence. Under the Uniform Partnership Act, they are also liable<br />
for the negligence of their partners. If the aircraft is held in a general partnership (whether the underlying partnership<br />
agreement is written or unwritten), partners generally hold themselves responsible for one another. Co-ownership<br />
may be treated as a partnership operation as well; therefore, it provides little if any increase in liability protection. Both<br />
limited liability company ownership and corporate ownership do provide signifi cant protection from a joint owner’s<br />
negligence. Because adequate liability insurance is generally unavailable for aircraft operations, except in the case of<br />
professional fl ight departments, liability should play a major factor in the design of aircraft joint ownership.<br />
BE WARY OF FAA LIMITATIONS<br />
Although joint owners of aircraft may make reasoned choices within a wide selection of vehicles, the FAA does impose<br />
some surprising, if not totally irrational, limitations on co-ownership. Consider the following:<br />
1. A nonresident alien can own an aircraft individually, or as a co-owner, but not as a partner in a partnership.<br />
2. A nonresident alien can be a signifi cant shareholder in a corporation within certain limitations but not a member in<br />
a limited liability company.<br />
3. A corporation can be a member in a limited liability company but not a partner in a partnership.<br />
4. A foreign corporation can own an aircraft within certain limitations but not a foreign LLC.<br />
Of course, there are other limitations as well, so when deciding among alternative arrangements, FAA regulations are<br />
often determinative.<br />
MERELY AN OVERVIEW<br />
Th e outline above represents only a cursory overview. Due to the interaction of federal and state tax laws, liability considerations,<br />
and FAA regulations, it is essential that you receive professional legal advice before entering into a joint<br />
ownership transaction involving an aircraft. �<br />
Advocate Consulting Legal Group, PLLC is a law fi rm whose practice is limited to serving the needs of aircraft owners and operators<br />
relating to issues of income tax, sales tax, federal aviation regulations, and other related organizational and operational<br />
issues.<br />
IRS Circular 230 Disclosure. New IRS rules impose requirements concerning any written federal tax advice from attorneys. To<br />
ensure compliance with those rules, we inform you that any U.S. federal tax advice contained in this article is not intended or written<br />
to be used, and cannot be used, for the purpose of (i) avoiding penalties under federal tax laws, specifi cally including the Internal<br />
Revenue Code, or (ii) promoting, marketing, or recommending to another party any transaction or matter addressed herein.<br />
Fall 2009 | 29
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