The consequences of compensation

Understand FAA rules before accepting payment for a business jet flight.

Compensation for flights is one of the most important concepts to consider when you’re structuring the ownership and operation of a business jet. For the U.S. Federal Aviation Administration, the payment of compensation for air transportation usually makes a flight “commercial,” which requires that it be conducted under a commercial certificate.

The general rule can be stated simply: you can’t charge to carry passengers or cargo unless you have an air carrier or commercial operating certificate from the FAA or can invoke one of several basic exceptions to that requirement.

The first exception permits persons providing air transportation to candidates for elective office to receive the compensation required by election laws. The second permits a passenger to share the operating expenses of a flight with a private pilot when the trip is for a common purpose. The third, which applies chiefly to business jets, allows compensation to be received for time-sharing agreements, demo flights and other stated flights. In addition, several years ago the FAA introduced an exception allowing high-level company executives to pay to use corporate aircraft in certain cases to make it easier for them to change travel plans. [See “Paying to Fly the Company Jet,” June/July 2011, available at bjtonline.com.—Ed.]

As we shall see, the FAA is doggedly literal in its interpretation of its regulations, so an aircraft operator is allowed to charge only what an FAA exception specifically permits. A charge under a time-sharing agreement, for example, can’t exceed two times the ˚cost of fuel for the flight, plus the cost of certain incidental items listed by the FAA, such as landing fees and crew travel expenses.

Thus, you can’t charge a time-share passenger for the hourly cost of an engine program such as Rolls-Royce CorporateCare, which is not among the enumerated expenses permitted by the regulations. However, if there are FAA-approved expenses that you aren’t charging for, such as crew travel expenses actually incurred, you could charge the time-share passenger for those expenses in an amount not to exceed the Rolls-Royce CorporateCare expense of the flight. The difference is not in the amount, but in the characterization of the expense.

Note that I said the cost must be an actual expense: the FAA says you can’t charge two times fuel cost in a time share using “average fuel consumption for a type of aircraft and an average fuel price.” If you took on 600 gallons for a flight at $6 a gallon and actually used 400, you can charge up to 400 times $6 times two, or $4,800.

Aircraft operators frequently run afoul of FAA restrictions on payment of compensation by failing to understand how the agency defines “compensation.” The most common misconception is that if there’s no profit motive, payment doesn’t qualify as “compensation,” as in “I only wanted to recoup my costs, not make a profit.” Noble as this sentiment may be, any remuneration received for transporting someone in your airplane, whether profitable or not, constitutes compensation for FAA purposes, a position confirmed by the National Transportation Safety Board. The conclusion is the same if the compensation is a “gift”; the FAA told a pilot transporting ministers to provide church services in far-flung locations that voluntary donations from the churches represented compensation.

Nor does the compensation have to be in cash. If the FAA exhibits any spark of creativity in interpreting its regulations, it is not in trying to forestall illogical prohibitions, but rather in casting the widest prohibitive net possible. In one FAA Chief Counsel interpretation, the agency suggests that if a pilot builds flight time in the aircraft while performing an unpaid service for another party, that could be a form of compensation. In a case before the NTSB, the FAA successfully argued that a pilot who took an income tax deduction for providing no-charge flights for a charitable organization was receiving compensation. To sum up: just about any conceivable benefit you receive for providing air transportation will be treated as “compensation.”

The FAA, though, doesn’t hold a monopoly on creativity. Business jet owners have been equally clever in trying to dream up ways around FAA compensation strictures. One idea was to have the compensation for transporting a passenger paid by a third party instead of the passenger himself. The FAA saw through that right away.

Another is to bury the compensation where the FAA won’t find it. Suppose, for example, that a company wants to charge its CFO for the fully allocated cost of his non-business flights on the company jet. The company could enter into a time-sharing agreement with the CFO, as permitted by FAA regulations, but as noted above, full cost reimbursement under the time share would not be possible. So, instead of trying to charge the CFO for the flights as they occur, the company could simply track their costs and take them into account when determining the CFO’s year-end bonus. Although it might be hard for the FAA to uncover this scheme, there is little doubt as to what its view would be if it did. Call it what you will; the company is indirectly receiving compensation for providing air transportation to the CFO.

One question to keep in mind when evaluating the receipt of compensation is: who is transporting whom? Suppose the CEO of BigCo is scheduled to travel to a meeting in New York City and BigCo’s chairman happens to be flying there that day in her personal jet to visit her mom. If she gives the CEO a ride, can BigCo reimburse her for flight costs? I would say no, because the chairman would be providing air transportation to the company. But if you change the facts so that the chairman, not the CEO, is going to the meeting, reimbursing the chairman for her flight costs is like giving her a mileage allowance for using her own car on company business. In both cases, she is providing transportation to herself and BigCo is simply reimbursing her for her expenses in doing so.

Two final cautions. First, compensation for flights may be an issue when a service is performed by flights in the aircraft—the taking of aerial photos, for example—even though no passengers or cargo were transported. Second, whenever you receive compensation for flights, be mindful of the income and excise tax consequences. Unfortunately, the IRS has a different view about such matters than the FAA.

When It’sOK to Pay

Flights where compensation can be paid without a commercial certificate include:

• Carriage of elected officials(FAR 91.321)

• Cost-sharing by a passenger with a private pilot (FAR 61.113(c))

• Demonstration flights (FAR 91.501(b)(3))

• Certain inter-company flights(FAR 91.501(b)(5))

• Flights pursuant to time-sharing, interchange and joint-ownership agreements (FAR 91.501(b)(6))

Jeff Wieand is a senior vice president at Boston JetSearch and a member of the National Business Aviation Association’s Tax Committee.