Taxes: An Ounce of Prevention is Worth a Pound of Cure
Benjamin Franklin was an extraordinary man: Founding Father, Renaissance man, polymath, and the First American. Undeniably a man of great wisdom and acumen, his aphorisms are long enduring and therefore very familiar:
He that lies with dogs shall rise up with fleas.
Fish and visitors stink in three days.
An ounce of prevention is worth a pound of cure.
When it comes to managing one’s financial dealings, it would be foolish not to heed the advice of such a remarkably sensible man. When it comes to filing one’s taxes, an ounce of prevention might well be worth two pounds of cure.
Unprepared is ill considered
Time and time again, taxpayers are denied an exemption simply because they went into the transaction unprepared. Oftentimes, the difference between a tax-exempt ruling and a tax-liability is surprisingly simple…as long as actions and documentation are handled properly out of the gate. In my experience, many aircraft owners are essentially donating hundreds of thousands of tax dollar to the Board of Equalization every year—unnecessarily.
One of the most common mistakes involves ‘first functional use’, which by its very label indicates the importance of knowing the law before making a purchase. In order to qualify for most available use tax exemptions, you must always take possession while the property is located outside of California, and you must meet the requirements of the legal definition of ‘first functional use’ before the aircraft enters California for the first time.
So what exactly is ‘first functional use’?
Unfortunately that is not a cut-and-dry answer; ‘first functional use’ is dependent upon the type of aircraft as well as your intended use.
Take for example the case of Michael, a 30-year veteran pilot-for-hire and aviation management consultant. Michael came to me after being denied an exemption due to erroneous verbal advice he received from an agent at the BOE.
Michael wisely took purchase of his aircraft in Reno, Nevada and had planned to operate it from Nevada until the 90-day waiting period qualifying his purchase as ‘out-of-state’ had been met. Seeking confirmation of some advice he’d received from a friend regarding a potential exception, Michael contacted the BOE. The auditor he spoke with advised that he could bring his aircraft into California before the 90-day waiting period, as long as the trip was for service purposes only. Unfortunately, the auditor was reading the wrong regulation and was about to cost Michael $177,000.
In looking over the record, I determined that although Michael was actually exempt under a different regulation that applies to aircraft used in interstate commerce. Regulation 1620(b)(4) states that a vehicle or aircraft purchased outside California but brought into the state is regarded as exempt from use tax if the ‘first functional use’ occurred outside California.
To our astonishment, the alternate exemption was also denied on grounds that Michael had failed to fulfill the ‘first functional use’ requirements. Airplanes are designed to fly, and for the past 30-40 years, flying one met the definition of ‘first functional use’.
With the stroke of a pen, the lead counsel for the BOE determined that any aircraft with jet engines, or turbine engines, or more than six seats was not designed to fly, but was designed to carry passengers: a requirement that would have been easy to fulfill at the time, and impossible to meet after the fact. Michael’s situation is the epitome of an ounce of prevention being worth a pound of cure.
As luck would have it…
Michael did indeed have a passenger on board when he flew into Sacramento for maintenance, and the BOE was forced to grant the exemption. The presence of single passenger, on a flight from Reno to Sacramento, saved Michael almost $200,000.
Michael is only one of the many numerous taxpayers I have consulted with for whom extremely simple actions have meant the difference between a hefty donation to the BOE and a well-deserved tax exemption.
Knowing, understanding, and meeting requirements for tax exemptions do involve a measure of investment in time and expense. However, that measure is truly insignificant when compared with the potential savings. Consulting an expert in aero-marine tax law prior to making a purchase is the only way to truly go into battle armed with the knowledge you need to save your hard-earned dollars.