Cabotage Caveats

Sports fans panicked a couple of years ago when the Department of Transportation, the FAA's parent organization, ordered a charter service run by Air Canada to cancel sports-team flights in the U.S. With the start of the National Hockey League's regular season a few weeks away, Air Canada brought suit and the Canadian Transportation Agency quickly retaliated against the American action with a ban on U.S. sports-team flights within Canada.

While the lawyers rattled sabers and the hockey teams scrambled to make alternative travel arrangements, the regulatory authorities worked on a compromise. They resolved the dispute in a couple of weeks–no doubt some sort of record for rapid regulatory action. If ballet companies had been involved instead of professional sports teams, the mess might have dragged on for years.

One of the issues that was at stake is called cabotage. Though it sounds like an ingredient for coleslaw, it involves an important legal principle. The basic idea is that commercial air carriers in most countries are prohibited from carrying people or property between two points in a country other than their own. As set down by the 1944 Chicago Convention on International Civil Aviation, "each contracting State shall have the right to refuse permission to the Aircraft of other contracting States to take on its territory, passengers, mail and cargo carried for remuneration or hire and destined for another point within its territory."

The Air Canada charter service, called Air Canada Jetz, ran into trouble in part because, in addition to carrying Canadians, its aircraft would pick up passengers in U.S. cities and transport them (along with the sports team) to another American city. That function is supposed to be reserved for U.S. carriers, and that's why flights on air carriers based outside the country are generally not available between points within the U.S.

Cabotage is often confused with another concept: value-added tax, or VAT. Cabotage is a transportation issue relating to the owner, operator and sometimes the country of registration of the aircraft, while VAT is a tax that can be applied to the aircraft itself. Similar situations often give rise to both.

VAT bubbled to the surface recently as a result of legal changes in the United Kingdom. Until 2011, it was possible to import a business jet into the UK for free circulation in the European Union (EU) for a nominal charge, which would exempt the jet from the imposition of VAT even though the aircraft was transporting EU nationals between two points in the EU. The charge was nominal because the UK valued aircraft with a maximum authorized takeoff weight in excess of 17,500 pounds at zero for purposes of the VAT. Following the change in law, you can still import your aircraft into the UK, but it no longer has a zero valuation for VAT purposes; you now have to pay the going rate of 19.5 percent of the aircraft's value. Temporary importation at nominal expense remains a possibility, but the first step is to ask your aviation attorney whether your flights in the EU may be subject to VAT at all.

In the EU, a flight constituting cabotage can also be subject to VAT. The U.S., though, has its own customs duties and procedures and no VAT, but cabotage rules remain a significant problem for international air carriers and business jets. Don't think this isn't a problem for you because your aircraft is registered in the U.S., for cabotage rules apply to operations conducted by "foreign civil aircraft." To be a foreign civil aircraft, the airplane needs only to be "owned, controlled or operated by persons who are not citizens or permanent residents" of the U.S. A U.S.-registered aircraft owned by a corporation will flunk this test, for example, if the president of the corporation isn't a U.S. citizen or if less than two-thirds of the corporation's board of directors are U.S. citizens. Many aircraft that qualify for U.S. registration because they are held in an owner trust or are "based and primarily used" in the U.S. are thus deemed foreign civil aircraft.

Such aircraft are regulated by Part 375 of the Federal Aviation Regulations, which prohibits cabotage and the carriage of passengers and cargo for "remuneration or hire." The Department of Transportation has always taken such a broad view of remuneration or hire that it has disallowed even operations involving compensation that are considered non-commercial under FAA regulations.

Through the efforts of the National Business Aviation Association a few years back, some of these operations, such as time-sharing agreements and intra-corporate family operations (with appropriate charge-backs), are now permitted under Part 375, provided they are business (not personal) flights. Certain other operations can be allowed by obtaining a permit from the Department of Transportation, though the DOT won't grant a permit for a personal flight between two points in the U.S.

In case you were thinking of ignoring cabotage restrictions, Part 375 dryly notes that violations can be punished with fines, suspensions and revocations of permits and certificates and–if a required foreign air carrier permit was not obtained–criminal penalties under the Federal Aviation Act.

Cabotage and related rules are complicated and vary from jurisdiction to jurisdiction. Flights that appear to run afoul of regulations may be permitted by application to the regulatory authorities. Key factors in evaluating flights between two points in a country include whether there is any form of compensation; who gets on and off the airplane, where and when; whether the flight is part of a continuous trip that begins and/or ends outside the country; whether the flight is operated under Part 91, Part 135 or is a scheduled airline trip; and whether common carriage is involved. But cabotage can also arise if your aircraft is registered in another jurisdiction even if it is carrying purely local passengers and operated by a local company.

The rules can be tricky. Consult your aviation attorney about whether your aircraft is a "foreign civil" airplane or whether your operations outside the U.S. may violate local cabotage rules.