A 1031 exchange allows the owner of an aircraft held in the productive use of a trade or business to defer the federal and state capital gains and recaptured depreciation taxes when selling, given the Internal Revenue Code Section 1031 Regulations are strictly followed. Even though the aircraft selling price may be lower than when it was acquired, the depreciation or bonus depreciation taken can be hundreds of thousands of dollars and deferred in a 1031 exchange. In effect, the tax deferral is an indefinite interest free loan available to all US and non-resident federal taxpayers. States can impose a sizable personal property aircraft and sales tax if the taxpayer and Qualified Intermediary (QI) are not careful.
1031 Exchange
Section 1031 of the Internal Revenue Code states “no gain or loss shall be recognized on the exchange of property held for productive use in trade or business, or for investment, if such property is exchanged solely for property of like-kind which is to be held for productive use in trade or business or for investment.”
- Eligible property implies both real and personal property held predominantly within the US for property held predominantly in the US or predominantly internationally for property held predominantly overseas.
- Aircraft, equipment, furniture, transportation vehicles, vintage cars, collectibles and livestock are considered property held for productive use in a trade, business or for investment eligible for a 1031 exchange.
- A QI is required to accommodate the 1031 exchange except in a pure exchange where the seller and the buyer want each other’s property.
- The replacement property must be equal to or greater in price than the relinquished or old property. Otherwise, a tax is imposed on the difference.
- The exchange must be completed within 180 calendar days of the first transaction, except in a reverse exchange where the replacement property acquired first is less than the old property, allowing another 180 calendar days from the sale of the relinquished property to acquire another property that as an aggregate, exceeds the sales price of the property sold.
State Personal Property Tax
In a reverse exchange, where the new aircraft is acquired before the old aircraft is sold, the Internal Revenue Service prohibits the owner to be on title to both the new and old aircraft at the same time. Enter the Exchange Accommodator Titleholder (EAT). The EAT is a single member limited liability company created by the QI to take title to either the new or the old aircraft per Revenue Procedure 2000-37. If the old aircraft is parked with the EAT, a Bill of Sale is filed with the Federal Aviation Administration along with an Aircraft Registration Form prior to acquiring the new aircraft.
The state where the EAT was organized is alerted that the EAT is the owner of an aircraft, which begins the process for the state to assess a personal property tax on the aircraft. To avoid the personal property tax, forms are filed with the state requesting an exemption based on the fact that the aircraft is hangared in another state. Exemption certificate supporting documents include either a Hangar Lease Agreement, Hangar Rent Receipts for the last eleven months or letter from the Airport Manager.
State Sales Tax
Fly-away exemptions are another tax for the aircraft owner to consider. A fly-away exemption allows the aircraft to be received and flown out of state within so many days to avoid the sales tax. Consideration of whether the state has a fly-away exemption is critical to unknowingly subjecting the aircraft receipt now subject to a sale tax that can add $60,000 to a $1,000,000 purchase price in a state with a 6 percent sales tax.
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