The following is a list of some of the aviation related BUSINESS topics and advice Nick has given to his clients. Scroll down to topic for a brief discussion.
-Starting a Business
-Financial Statements for Lenders
-Choice of Business Entities
-Choice of States: Delaware vs. Your State
-Limited Liability Companies
-Corporate Flight Departments
-Aircraft Management Companies
–Starting a Business: There are many ways to conduct a business involving aircraft: single-plane, single-PIC charter certificates, a flying A & P or AI service, flight instruction, aerial photography, pipeline or power line patrol, wildlife count, fire watch, pilot services, aircraft restoration, sales and brokering, warbird flying, airshow performing, skydiving support, scenic flights, aircraft leasing, flight simulators, aviation art, history reenactment, private airport facilities, charitable airport facilities, residential air parks, etc.
When considering starting a business, pragmatism should prevail over passion. If you are getting close to a decision, beware of spending precious start-up money hiring attorneys and accountants to form business entities and accounting systems before you are sure someone will buy your products or services. Forming a corporation doesn’t mean you are in business. Do the hard work first, and be honest with yourself about the chances of making a profit. Also, if you need others to join you in the business, expect at some time to find yourself in some disagreement with your co-owner. It is best to have only one business owner if that is possible, but if others must join you, be sure to have corporate bylaws or LLC member operating agreements that dictate how to interact when times are good and bad. See the Conflict Resolution topic.
–Financial Statements for Lenders: Frequently before an aircraft buyer can purchase an aircraft of significant value, and especially if it is to be used in a business, the buyer must furnish the lender with financial statements, like a balance sheet and income statement. Some lenders will require only internally generated financial statements. Others may require the statements be prepared by independent accountants. There are three levels of financial statements: compilations, reviews, and certified statements. Compilations are typically mere accumulations of data presented in the form of financial statements to which CPAs disclaim any assurances. Reviews are the next level in which the CPAs explain a limited degree of attestation. Certified financial statements are the result of a certified financial audit conducted by the CPAs resulting in the CPAs attesting to the reliability of the financial statements.
–Choice of Business Entities: Asset protection is normally the primary purpose for forming a business entity separate from its individual business owner(s). Sole proprietorships are also business entities, but they are not legally separate from their owners and they offer no legal protection to the owner. Separate legal business entities, like corporations and LLCs, do serve as a protective barrier between financial adversaries of the entity and the entity’s owner(s). However, the business entity does not protect its owners for personal acts of negligence, fraud, malfeasance, etc. The choice of a business entity also has tax consequences. For aviation activity, the choice of entity should also be made in consideration of the Federal Aviation Regulations.
–Choice of States: Delaware vs. Your State: Much is made of the value of forming a business entity in Delaware, or Nevada, or Wyoming, irrespective of where the business assets are located or where the business activity is conducted. However, even though some states don’t have corporate income tax, a corporation doing business in other states is subject to the corporate tax laws of those states in which the corporations are operating. If the purpose of forming a Delaware corporation, for example, is to hide an aircraft from the state in which it is located, the ruse may work—but only as long as it remains undiscovered. The problem is that if a corporation or LLC wishes to enjoy the protections afforded their legal status, they must register with the state in which they are operating. If for example a Delaware corporation regularly uses its aircraft in business activity in Florida, the corporate owners are personally liable for acts of the corporation in Florida unless the corporation registers as a foreign corporation with the Florida Department of State. If legal liability is a concern, it is best to form a corporation or LLC in the state in which the activity is going to be conducted.
–Corporations: Corporations are often the best entities for businesses where there are several owners. Corporate law is well developed and corporations are generally understood by the public. The owners’ interests in a corporation are represented by shares of stock, which are universally understood and easily exchanged. Corporate bylaws are the internal operating rules for the corporation and its shareholders.
Some people are confused when they hear about “S” corporations or “C” corporations. Those designations are tax classifications that have no affect on the legal status of the corporation. A corporation that has elected “S” treatment will normally not pay income tax, but instead will pass through to its shareholders the corporation’s profits or losses. Corporations that don’t elect “S” treatment, i.e. “C” corporations, are subject to income tax and then the corporation’s shareholders pay tax again on dividends they receive. A third level of tax may apply to “C” corporations in what is called built-in gains tax.
–Limited Liability Companies: LLCs are still a relatively new form of entity and are not always understood by the public. An LLC generally affords its owner(s) the same legal protection as a corporation. Owners of the LLC are characterized as members and their ownership interests are often described in terms of units. The internal working rules that govern the entity and its members are contained in an operating agreement, which is tantamount to a contractual agreement between and among the member(s) and the LLC. All states allow LLCs to be formed with as few as one member. A single-member LLC is automatically treated for income tax purposes as if it were a sole proprietorship, which avoids the need to file a separate tax return for the LLC, and instead passes the activity on to the sole owner’s personal tax return. For these tax reasons, and for simplicity purposes, if a company owner doesn’t expect to have other owners join the company, a single-member LLC is often a good choice.
Registering aircraft with the FAA that are owned by an LLC requires a little more information than when a corporation or individual owns the aircraft. Foreign persons or entities that wish to own and register an aircraft with the FAA can have an LLC own the aircraft as long as a U.S. citizen controls the LLC.
–Partnerships: Partnerships can be general or limited partnerships, or variations thereof. General partnerships offer no legal protections of its owners and normally should be avoided. If there are going to be more than one owner of the company, it is probably preferable to create a corporation or LLC.
–Trusts: Trusts are separate legal entities that have been around for a long time, but are generally not understood by the public. They are essentially contracts between the trust creator and the trustee requiring the trustee to follow the instructions contained in the trust instrument. Trusts are either revocable or irrevocable, and are characterized according to what they are intended to accomplish, like an insurance trust or an education trust. Trusts can be effective in allowing foreign aircraft owners to register their aircraft in the U.S. by having the trustee be a U.S. citizen. Revocable trusts generally don’t need to file income tax returns because the IRS doesn’t recognize them as entities. Irrevocable trusts do need to file tax returns. See the Asset Protection topic for the value trusts may or may not have in protecting assets.
–Corporate Flight Departments: Businesses that have a need for air travel and that elect to not use charter aircraft can purchase (or lease) their own aircraft and form a department that conducts the flight operations. The problem with the business operating an aircraft, and hiring pilots, etc., is that the risks associated with aviation are then borne by the company since the flight department is part of the company. To avoid legal risk companies form separate entities that are subsidiaries of the company to conduct the aviation activity. The problem with this arrangement is that, even though the parent company owns the aviation subsidiary, the FAA considers the two entities to be separate from each other. The result is that the FAA requires the aviation subsidiary entity to have a charter certificate if it provides air transportation to the parent company. To solve this dilemma, some aviation subsidiaries become charter operations that provide services only to the parent company. Another way to approach the problem is to have the company own (or lease) its aircraft but then hire a separate company to manage the aircraft. By doing so, the company’s legal risks are mitigated by the management company being legally responsible for most aspects of the aviation activity. Please see the Aircraft Management Companies topic.
–Aircraft Management Companies: An aircraft management company is a separate legal entity that assumes the role of managing the aviation operations of another company. The purposes of the management company include providing aviation expertise as well as asset protection to a company that owns (or leases) an aircraft the company needs for its own travel purposes. See the Aircraft Flight Department topic.
–Flight Schools: Recently individual taxpayers attempting to avoid the adverse tax consequences of the alternative minimum tax are encouraged by their tax advisors to operate flight schools expecting losses from the activity to reduce their income tax burden. While the proposal may be viable, many issues must be considered before it should be undertaken. The first concern is the exposure to personal risk the activity engenders, especially if there are other persons involved in the activity. Choosing an appropriate entity is critical. See the Choice of Business Entities topic. Next, for the owner(s) to enjoy a tax benefit, the activity must survive an IRS hobby loss challenge. See the IRS Hobby Loss Rules topic. Finally, the owners must avoid the passive loss limitations to be able to currently deduct losses, if any. See the Passive Activity Loss Limitations topic.
–Multi-State Activity: Persons, corporations, and other entities that regularly conduct business activity in more than one state need to consult the laws of the states in which they operate. Forming an entity in one state does not avoid the laws and taxation of other states. Typically income earned in a particular state is taxable in that state. Companies that operate in several states need to apportion their income among the several states according to the income that is allocable to each state and to file income tax returns with the several states. In addition, failing to register as a foreign entity in a state in which a company is doing business can prevent the business owner from enjoying the personal legal protections normally afforded to the owners by law. Please see the Choice of States: Delaware vs. Your State topic and the Multi-State Taxation topic.
–Conflict Resolution: Statistically, when two or more persons own an aircraft or form a company, it is likely some significant conflict will arise between them. It is important that persons contemplate the good times and the bad times when doing their business planning, and that they understand their rights and obligations in good and bad times. Drafting co-ownership agreements, bylaws, and operating agreements that are thoroughly considered and understood by the parties is critical to avoiding conflict. Merely executing boilerplate documents that the parties don’t read or understand just to have something in writing is a prescription for misunderstanding and confrontation. If problems do arise, do not automatically look to lawyers and the courts to resolve differences—they can’t always be relied upon to do so satisfactorily. Practical, private solutions to problems are often better than legal, public ones.
The information contained in this web site is not intended to be used without the reader consulting competent counsel.