Beyond SIFL: Advanced Personal Use Considerations Friday, January 17, 2014 10:30 a.m. 11:45 a.m. PRESENTED BY: Joanne Barbera, Barbera & Watkins, LLC Doug Stewart, Aircraft Logs Schedulers & Dispatchers Conference New Orleans, LA January 14-17, 2014
Circular 230 Treasury Circular 230 Disclosure Treasury Circular 230 Disclosure: To ensure compliance with requirements by the IRS in Circular 230, we inform you that, unless we expressly state otherwise in this communication, any tax advice contained in this communication 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 other matter addressed herein. 2
Questions are welcome during the presentation 3
Beyond SIFL: Advanced Personal Use Considerations 1. IRS entertainment use disallowance 2. SEC reporting rules for public companies 3. Strategies for reducing disallowance or perk 4. Note on aircraft use policies 5. Discussion of examples 4
IRS Entertainment Use Disallowance Background IRS tax issues with aircraft personal use SIFL and Entertainment Use Disallowance SIFL Income to employee? Deduction/ disallowance- Expense deduction for company? This presentation 5
IRS Entertainment Use Disallowance Background Additional level of tax compliance at the company level Effective since October 2004 Final regulations issued in 2012 For expenses associated with the aircraft, deductions for specified individuals personal entertainment use are disallowed To the extent the expenses exceed the amount treated as compensation or reimbursed 6
IRS Entertainment Use Disallowance Expenses Tax view: flight department = expenses Aircraft price and other acquisition costs Refurbishment/outfitting/modernization/major repairs Interest payments Maintenance/inspection Hangar, security and utilities Insurance Pilots, flight attendants, maintenance technicians, schedulers and any other salaries, benefits and training Management fees Trip expenses and handling 7
IRS Entertainment Use Disallowance Impact of Deductions Deductions offset gross income to reduce taxable income Compare: Annual costs with no deductions allowed No expenses or depreciation deductions available Example: Annual costs and potential depreciation of $6 million Annual costs with 100% deductions allowed Expense and depreciation deductions available Example: Assuming annual costs and potential depreciation of $6 million and 35% tax rate, potential savings of $2.1 million in taxes Bottom line: entertainment use disallowance makes portion of flight department non-deductible 8
IRS Entertainment Use Disallowance Requirements for Deduction Data collection and good, contemporaneous recordkeeping Track all expenses and all use For each passenger, each leg Identify passenger and type (control/non-control, specified individual) Describe purpose if business or personal non-entertainment Trip information for calculations Leg hours Leg statute miles Live and deadhead legs 9
IRS Entertainment Use Disallowance Specified Individual Applies to personal entertainment flights by specified individuals Specified individual = every officer, director and beneficial owner of 10% of any class of any equity security Includes family members and guests Includes a specified individual of a related party Note: All Specified Individuals are (SIFL) Control Employees but not all Control Employees are Specified Individuals 10
IRS Entertainment Use Disallowance Specified Individual Question Which of the following is a specified individual? a. A 49% partner in a 2-person partnership b. The paid nanny for the Board Chairwoman s child? c. The brother of the CFO d. The spouse of the CEO e. All of the above 11
IRS Entertainment Use Disallowance Personal Entertainment Use Objective test for entertainment, amusement or recreation Narrower than fringe benefit rules personal Proposed rules comment: Entertainment does not include nonemployer business, medical purposes, attending funerals, charitable activities Use primary purpose test Formal rule only example is attending funerals Includes entertainment flights under a security plan Deadheads count 12
IRS Entertainment Use Disallowance Three Buckets of Flights Personal Entertainment Personal Non-Entertainment No SIFL Deductible Report SIFL Disallowed Report SIFL Deductible 13
IRS Entertainment Use Disallowance Simple Example CEO and CFO fly on the company s large-cabin business aircraft, on roundtrip flights from HPN to DAL (5 hours each way) for business 10 times during the year. CEO and CFO are specified individuals Occupied Seat Hours for each trip = 20 (2 passengers x 5 flight hours x 2 flights) Business Occupied Seat Hours = 200 (20 Occupied Seat Hours for each trip x 10 trips) Business flights are deductible, don t trigger disallowance 14
IRS Entertainment Use Disallowance Simple Example (cont.) CEO s family (7 guests) accompany CEO on the company s largecabin business aircraft, for a roundtrip flight from HPN to ASE (4 hours each way) for a holiday vacation. CEO is a specified individual CEO s family would be considered entertainment by a specified individual and so the deduction is disallowed Result: Business Occupied Seat Hours = 200 Occupied Seat Hours for flight = 64 (8 passengers x 4 flight hours x 2 flights) Annual Occupied Seat Hours = 264 hours Percentage Business Occupied Seat Hours = 76% (200 Business Occupied Seat Hours / 264 Annual Occupied Seat Hours) Percentage Entertainment Occupied Seat Hours = 24% (64 Entertainment Occupied Seat Hours / 264 Annual Occupied Seat Hours) 15
IRS Entertainment Use Disallowance Calculation of Disallowance 4 Calculation Methods Occupied Seat Hours Occupied Seat Hours for each flight = total flight hours x number of passengers Cost per occupied seat hour = annual aircraft expenses / annual occupied seat hours Disallowed Deduction = Disallowed Occupied Seat Hours per flight x cost per hour Occupied Seat Miles Occupied Seat Miles for each flight = total flight miles x number of passengers Cost per occupied seat mile = annual aircraft expenses / annual occupied seat miles Disallowed Deduction = Disallowed Occupied Seat Miles per flight x cost per mile 16
IRS Entertainment Use Disallowance Calculation of Disallowance 4 Calculation Methods (cont.) Flight by Flight Method by Hours Cost per hour = annual aircraft expenses/annual flight hours Expenses for the flight = cost per hour x flight hours The expenses for the flight are then allocated to the passengers on the flight per capita Flight by Flight Method by Miles Cost per mile = annual aircraft expenses/annual flight mile Expenses for the flight = cost per mile x flight miles The expenses for the flight are then allocated to the passengers on the flight per capita 17
IRS Entertainment Use Disallowance Multi-Leg Trips and Deadheads Multi-leg trips involving entertainment and business legs The entertainment cost of a multi-leg trip is the total cost of the flights over the cost of the flights that would have been taken without the entertainment segment or segments. Deadhead Treated as having the same number and character of passengers as the leg of the trip to which the deadhead relates 18
IRS Entertainment Use Disallowance Personal Entertainment Use Question Which trip most likely creates a deduction limitation? a. Two district managers traveling to play gulf on empty seats of a business trip. 3 seats are occupied for business. b. The CEO, spouse, child, and paid nanny travel to Omaha to attend a board meeting of another company. c. The brother of the CFO accompanies the business passengers to the Kentucky Derby d. All of the above e. None of the above 19
SEC Reporting Rules for Public Companies What is a Proxy Statement? Required when soliciting shareholder votes Published before annual shareholder meetings Reporting by publicly-traded companies regulated by the SEC Provides key information to shareholders: Background of executives and the BOD Specific compensation details of Named Executive Officers (NEO s) Compensation for the BOD Related party transactions over $120,000 20
SEC Reporting Rules for Public Companies Executive Perquisites ( Perks ) Personal aircraft use is reportable 21
SEC Reporting Rules for Public Companies SEC Disclosure Rules Must Disclose the Value of Aircraft Personal Use for each Named Executive Officer (NEO) Amounts exceeding $10,000 must be disclosed Amounts exceeding the greater of $25,000 or 10% of total perks require separate footnote explanation Value = Aggregate Incremental Cost (AIC) of Providing the Compensation. Significant variations in calculations across reporting companies. Just one non-business round trip between LAX and Teterboro can trigger footnote explanations 22
SEC Reporting Rules for Public Companies Aggregate Incremental Cost? Those costs which the company would not have incurred if there had been no personal use of the plane by an NEO or their guests Easy for out & back flights, where the whole trip is personal Complicated for multiple destinations and mixed use Complicated for deadheads and repositioning You can Make the Call, but This is filed on the Internet 23
SEC Reporting Rules for Public Companies SEC Reporting is Subjective Comparison of Reporting Requirements IRS Disallowance IRS SIFL SEC AIC Are There Rules? Yes Yes Yes Are Affected Parties Defined? Specified Individuals Control Employees NEO s Is the Basis of Cost Defined? Yes SIFL rates published No Is There a Prescribed Formula? Yes (4 of them!) Yes No Guidance for Mixed Purpose Flights? Yes (Follows Passenger) Yes (Follows Passenger) No Guidance for Deadheads? Yes Yes No 24
SEC Reporting Rules for Public Companies Common Practices Use of actual operating costs Inclusion of variable costs (fuel, trip-related expenses) Exclusion of fixed costs (salaries, depreciation, maintenance) Use of an hourly rate, plus trip expenses Published hourly rate for the specific aircraft, or A company-specific hourly average Estimating the Incremental flight hours caused by personal legs: less: equals: Total Trip Hours Hypothetical Business Only Hours Incremental Hours from Personal Use 25
SEC Reporting Rules for Public Companies Sample Footnote (Phillip Morris) The amounts shown are the incremental cost of personal use of Company aircraft to Phillip Morris and include the cost of triprelated crew hotels and meals, in-flight food and beverages, landing and ground handling fees, hourly maintenance contract costs, hangar or aircraft parking costs, fuel costs based on the average annual cost of fuel per hour flown, and other smaller variable costs. Fixed costs that would be incurred in any event to operate Company aircraft (e.g. aircraft purchase costs, depreciation, maintenance not related to personal trips, and flight crew salaries) are not included. 26
SEC Reporting Rules for Public Companies Don t Separate SIFL and AIC Decisions Three Buckets of Flights Personal Entertainment Personal Non-Entertainment No SIFL Deductible Report SIFL Disallowed Report SIFL Deductible For NEO s, these flights are reportable 27
SEC Reporting Rules for Public Companies Hand in Hand - SIFL and SEC For NEO s, the AIC disclosure is closely related to SIFL Flights which trigger SIFL for NEO s are compensatory SIFL can be disclosed for informational purposes, but does not satisfy AIC disclosure requirements The incremental cost is generally much greater than SIFL Sample Round Trip LAX & TEB 9 hours Gulfstream G-IV SIFL: $4,261 / person Incremental Cost: $33,300 $3,700/hour Retail Charter: $60,000 28
SEC Reporting Rules for Public Companies Question TRUE or FALSE: Aggregate incremental costs are the amount associated with a personal flight perk reportable in the Executive Compensation Table of the company s proxy Statement. 29
Strategies for Reducing Disallowance or Perk Generally Increase business use and business passengers (helps reduce disallowance) New plane strategy Generally, big depreciation in first year Avoid personal entertainment use by specified individuals in first year Reimbursements, to the extent permitted by FAA 30
Strategies for Reducing Disallowance or Perk Reimbursements FAA Part 91 Time Sharing Agreements Reimbursements can reduce SIFL to zero and approximate aggregate incremental cost, reducing the magnitude of the other compensation disclosure. May require disclosure of a related party transaction or 8K filing Only partly offsets IRS personal entertainment use disallowance Reimbursement under the Nichols Interpretation Up to full reimbursement under specified circumstances (executive must be on board for personal purposes, spouse/dependents notwithstanding) May require Form 8K filing Should reduce SIFL to zero May offset personal entertainment use disallowance An emerging trend is for executives to reimburse the company via time sharing agreements. 31
Strategies for Reducing Disallowance or Perk Reimbursements Time Sharing Costs Two Times Fuel : Under FAR 91.501(c)(1) & (d), a time sharing agreement allows an aircraft operator to be reimbursed for a limited set of costs for a flight. Fuel, oil, lubricants, and other additives. Travel expenses of the crew Hangar and tie-down costs away from home base Insurance for a specific flight Landing fees, airport taxes, and similar assessments. Flight-specific customs, foreign permits, and similar fees In-flight food and beverages. Passenger ground transportation. Flight planning and weather contract services. An additional charge equal to 100 percent of the expenses listed in item 1 (fuel) 32
Strategies for Reducing Disallowance or Perk SEC Time Sharing Example NEO s AIC Disclosure of Time Sharing Agreement with NEO 33
Strategies for Reducing Disallowance or Perk Reimbursements FAA Part 135 Specified individual/neo/director pays for aircraft charter 34
Strategies for Reducing Disallowance or Perk Reimbursements Question What is the maximum allowable time share reimbursement amount? a. Two times the SIFL amount b. Fully allocated costs of owning and operating the aircraft for the flight including crew and depreciation expense c. Whatever the CEO says d. Direct expenses of the flight, excluding crew costs plus an additional 100% fuel e. The fair market charter rate 35
Note on Aircraft Use Policies Company Aircraft Use Policy Compliance tool (not required) Who may request a flight For what purpose Information and approvals Special arrangements (i.e. personal use allowances) No plane no gain aircraft use policy resource http://www.noplanenogain.org/images/1255958488.pdf_copy1.pdf 36
Note on Aircraft Use Policies Company Aircraft Use Policy Question TRUE or FALSE: Every company is required by federal law to have a written aircraft use policy in place prior to non-business use of its aircraft. 37
Examples 38
Profile of Our Company. Washington (HEF) Corporate HQ: Washington DC Major office in Fort Lauderdale (FXE) CEO lives in Washington DC area Vacation home in Palm Beach (PBI) West Palm (PBI) Ft. Lauderdale (FXE) Falcon 900 at Manassas (HEF) DOC s $3,600/hour Two hour flight to either PBI or FXE 91.501d Time Sharing Agreement ( TSA ) reimbursing 2X fuel, plus expenses It s never just about the destination. It s the facts & circumstances of a trip. 39
Example #1: Textbook Spring Break (Personal Entertainment) West Palm (PBI) Washington (HEF) Ft. Lauderdale (FXE) A week on the beach! Aircraft drops CEO s family at PBI Aircraft picks them up next week CEO drives to Fort Lauderdale for afternoon meeting (always working!) Four Impacts: IRS SIFL for occupied legs IRS Disallowance on all legs SEC incremental cost reporting on all legs Optional TSA reimbursement? Afternoon meeting was insignificant This is easy and most CEO s would self declare if asked whether this was personal entertainment. 40
Example #2: Textbook Overnight Meeting in Fort Lauderdale Day-Long Meeting in Fort Lauderdale Monday night: Aircraft drops CEO a PBI CEO sleeps at vacation home Aircraft stays PBI while CEO attends meeting in Fort Lauderdale Tuesday evening: CEO drives to PBI for aircraft pickup and return to HEF No Reporting Impacts: All business flights Sleeping in PBI home incidental to trip All business.but Palm Beach could create skepticism 41
Example #3: In the Gray Area Monday Meeting in Ft. Lauderdale Facts & Circumstances Friday drop-off : CEO and spouse in PBI Aircraft returns HEF CEO works in Fort Lauderdale on Monday Both return HEF on Monday evening Gray Area Topics SIFL for spouse (relatively clear) Disallow spouse seats (probably) SEC: Any incremental cost to company? (deadheads) Which came first: PBI or the meeting? Time sharing triggered? What s the CEO s view of this trip? 42
Example #4: In the Gray Area Weekend Planning Retreat in Ft. Lauderdale Facts & Circumstances CEO & 3 VP s participate Spouses ride along on Friday night departure; aircraft & crew stay as well Executives meet all day Saturday at office CEO & spouse entertain team both nights at their home Full aircraft returns HEF on Sunday Gray Area Topics SIFL for spouses (relatively clear) Disallow spouse seats? (depends on activities) CEO & VP s? Consider Ordinary & Necessary rules. Tell me about the Fort Lauderdale office again. 43
THANK YOU 44