On February 21, 2024, the Internal Revenue Service (IRS) announced that it plans to begin dozens of audits on business aircraft involving personal use, contributing to the Inflation Reduction Act’s efforts to improve tax compliance for high-income individuals and businesses. These audits will focus on aircraft usage by large corporations, partnerships, and wealthy taxpayers, and will be focusing on the allocation of business and personal use of corporate aircraft by these entities or individuals. These audits will help ensure that income tax deductions related to personal entertainment use are disallowed, and that taxable fringe benefits are properly being calculated into compensation of individuals flying for personal use.
Currently, the Internal Revenue Code (IRC) offers a potentially significant tax benefit for the use of company-provided aircraft, allowing taxpayers to deduct the cost of maintaining a corporate aircraft if it is used for business purposes. (See IRC § 280F). But, business aircraft are sometimes used for both business and personal reasons by officers, executives, shareholders, partners, and other employees. The IRS believes that many companies and individuals maintaining an aircraft for business purposes have been allowing such individuals to use corporate aircraft for personal trips, while perhaps continuing to claim the full value of those deductions. For example, if a corporate aircraft is used for the business purpose of entertaining a guest or client, then the deduction of this flight would be disallowed under the entertainment disallowance. (See IRC § 274(a)). Entertainment, for tax purposes, is any activity which is typically considered to be for entertainment, amusement of recreation. (See IRC 274(b)(1)(I)). This could include activities such as enjoying cocktails with a client, taking employees to the theater, etc. Entertainment would not include personal use of an aircraft for things such as attending the funeral of a family member.
The IRS is also concerned that individuals using corporate jets for personal trips are not reporting these trips as income. (See IRC § 61 and IRS Publication 5137, Fringe Benefit Guide). Fringe benefits are a form of pay in addition to one’s stated hourly pay, salary, etc. Under IRC § 61, all income is taxable unless an exclusion applies, so fringe benefits for employees are taxable wages unless specifically excluded by a section of the IRC. Please note that the benefits provided on the behalf of an employer to an employee is taxable even if someone other than the employee, such as a family member, receives the benefit. (See Treasury Regulation § 1.61-21(a)(4)).
Personal use of corporate jets and other aircraft have tax implications, and it’s a complex area where the IRS has stretched its resources thin. Prior to the Inflation Reduction Act being passed in 2022, the IRS lacked the resources it needed to ensure that personal use of corporate aircraft wasn’t recorded for tax purposes, and the increase in purchases of aircraft for corporate use that was brought on by the COVID-19 pandemic made the task even more difficult for the IRS. With the expanded resources provided by the Inflation Reduction Act, the IRS’s work in this area will take off and is part of a larger effort that the IRS is taking to ensure that large corporations pay the taxes that they owe by reversing historically low audit rates of large corporations.
The IRS will start with a round of three to four dozen audits of corporate jet usage, focused primarily on corporations and complex partnerships. It is our understanding that the IRS is using complex data analytics to determine which aircraft to examine first, which will be applied to a database of corporate jet activity that the IRS has been developing. Its focus is already locked on 36 to 48 jets beginning this spring. The first rounds of audits’s results may in turn lead to audits of wealthy taxpayers using such aircraft.
For tax purposes, it is important to keep a clear record of all business expenses, whether they are fully or partially related to business. For someone using the company jet for personal travel, the use of the jet for personal travel could impact the business’s eligibility to deduct costs related to the personal travel. The use of a corporate aircraft must be allocated between business and personal use, but record-keeping in these cases can be challenging. The benefits that the IRC offers come with increased IRS scrutiny if the aircraft ownership is not properly structured and if the use is not compliant from a tax perspective. Although mixing business with pleasure sounds great in theory, true and accurate recordkeeping is key when it comes to staying on the IRS’s good side.