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Is FAA Funding Off Course?

The effects of aviation excise taxes on air travel.

October 25, 2007
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The U.S. Department of Transportation reports that flight delays have reached their highest level in 13 years and while some may blame factors such as weather delays and increased passenger loads, the real reason may be the way the industry is taxed (i.e., excise tax and user fees used to fund the FAA). The effects of deregulation coupled with the current taxing method have created inefficient incentives for aircraft operators to fly more planes with fewer passengers. Fortunately, this funding arrangement is set to expire on September 30, 2007, and the Federal Aviation Administration (“FAA”) has introduced two congressional bills, collectively known as the Next Generation Air Transportation System Financing Reform Act, (H.R. 1356, S. 1076, 110th Cong. (2007)) in an attempt to allay the problem.

Inasmuch as the statutory point of incidence of aviation excise tax lies with those who purchase commercial airfare, the economic point of incidence actually falls on the airline. Due to the oligopolistic environment in which the airlines operate and the soft demand for air travel, the legacy carriers have been forced to act competitively, setting their fares at marginal rates to cost and effectively absorbing the cost of the tax. Lower fares have required the airlines to reengineer themselves to use, where possible, more regional jets on mid-range domestic and trans-border flying. The hassles of modern air travel resulted in the legacy carriers’ losing many of their lucrative business travelers to private commercial jet operators. These factors have all contributed to exponential growth in the number of aircrafts being operated in the National Airspace System (“NAS”), and hence the delays.

The FAA currently receives roughly 82 percent of its funding from the Airport and Airways Trust Fund (“AATF”) established under IRC 4261. Specifically, the AATF is currently funded through: (1) a 7.5 percent passenger ticket tax; (2) a $3.30 domestic passenger segment tax; (3) a 6.25 percent tax on the transportation of domestic cargo and mail; (4) a 4.3 cent per gallon tax on commercial aviation fuel; (5) a 19.3 cent per gallon tax on general aviation gasoline; (6) a 21.8 cent per gallon tax on domestic general aviation jet fuel; (7) a $14.50 per passenger tax assessed on all international departures and arrivals; (8) a 7.5 percent tax on mileage awards; and (9) a $7.30 per passenger tax assessed on all flights between the continental United States and Alaska or Hawaii (and on flights between Alaska and Hawaii). Additionally, airports may collect up to $4.50 from each boarding passenger through a passenger facility charge.

At the crux of the problem is the current method of taxation that offers aircraft operators no incentive to use the NAS efficiently. Consider an airline that provides service between Los Angeles and San Francisco. The airline can serve the route with either one Boeing 737 per day, or three regional jets per day, and regardless of the aircraft type the average fare is $100. Further assume that the 737 has a capacity of 132 seats and each regional jet has a capacity of 48 seats. Finally, assume that only 105 passengers travel on any given date. Table 1 summarizes the revenues and costs associated with the above-referenced example.

Table 1: Excise Tax Collected on One Boeing 737 vs. Three Regional Jets

Aircraft

(1) 737

(3) CRJ-200

Number of Seats

132

144

Number of Passengers

105

105

Average Fare

$100

$100

Ticket Tax

$788

$789

Passenger Segment Tax

$348

$348

Waybill Tax

$2

$0

Fuel Tax

$40

$78

Total Tax

$1,178

$1,215

Source: U.S. Gen. Accounting Office, GAO-06-973, Aviation Finance: Observations on Potential FAA Funding Options 14 (2006).

While the costs imposed on the NAS by three regional jets would be three times the cost of one 737, the corresponding increase in tax to the airline would amount to a mere $37. To recover the corresponding costs from commercial users, the FAA proposes charging airliners en route services based solely on distance traveled, and for terminal services based on the size of the airport and the weight of the aircraft. Notably, the FAA would tax larger aircraft more heavily, because they impose higher costs and terminal airspace. A better approach may be to tax larger aircrafts less heavily, thereby promoting airlines to use larger aircrafts, which would result in a more efficient use of airspace.

For a more in-depth discussion of aviation fuel taxes access Federal Taxation of Oil and Gas Transactions and Oil, Gas, & Energy Quarterly on LexisNexis Tax Center.

Request a free copy of the Matthew Bender Treatise “Federal Taxation of Oil and Gas.”