Aircraft Purchase, Ownership and Operation: Protecting the Interests of a Family Business Owner – Part 1 Access to private aircraft can provide productivity and other benefits for a family-operated business and improve the quality of life for the business owner and his family. However, purchasing, owning and operating a private aircraft requires careful consideration of a number of business, legal, tax and regulatory issues. These issues make it imperative that a small business owner consult with legal and tax counsel to ensure that the owner’s interests are properly represented in the purchase of the aircraft, that the owner purchases and operates the aircraft in a tax-advantaged structure, and that the owner operates the aircraft in strict accordance with the rules and regulations of the Federal Aviation Administration (FAA). This blog post provides an overview of several of the numerous issues that should be considered when purchasing, owning and operating a private aircraft and will be followed by additional blog posts providing a more detailed discussion on each of the issues raised below.

Initial Purchase of Aircraft

The first step in purchasing a private aircraft is often the preparation of a letter of intent (LOI) or other similar non-binding document setting forth the proposed terms for the purchase and sale of the aircraft.  The LOI is typically prepared by the purchaser and presented to the seller for consideration. Once the parties reach agreement on the general terms for the purchase and sale of the aircraft, the LOI is signed and legal counsel for the parties will prepare the aircraft purchase agreement (APA). The APA is particularly important to the purchaser as it provides the purchaser with rights to perform a thorough pre-purchase inspection and to perform other due diligence to ensure that the aircraft is in the condition represented by the seller or the seller’s broker.

Compliance with FAA Regulatory Requirements (Parts 91 and 135 Operations)

Privately owned aircraft are operated under either Part 91 or Part 135 of the FAA rules. Part 91 governs the operation of private aircraft for non-commercial, private carriage uses (e.g., flights for business and personal and family flights). Part 135 governs the use of private aircraft for charter flights and other commercial uses. Failure to comply with the FAA rules for the operation of a private aircraft can result in significant fines and liabilities, including the loss of insurance coverage for the owner and operator of the aircraft.

Liability of Owner/Operator of Aircraft

Owning and operating a private aircraft have the potential to expose an owner/operator to catastrophic loss. Many owners and operators are surprised to learn that they can be held liable for incidents of loss even when they are not piloting—or even onboard—the aircraft. Most risks associated with the ownership and operation of a private aircraft are not mitigated simply by titling the aircraft in the name of a separate legal entity, such as a corporation or limited liability company. Rather, the FAA extends legal and regulatory responsibility for flight operations to anyone who has “operational control” of the aircraft.

Sharing an Aircraft

Owners of private aircraft may enter into various types of arrangements to share ownership and/or use of an aircraft with others. Examples of such arrangements are leases, time sharing agreements, joint ownership, and charters. Each arrangement presents certain FAA regulatory compliance issues, risk allocation issues, and federal and state tax issues. This is true irrespective of whether the owner is sharing the aircraft with related parties (e.g., a subsidiary company, family members, etc.).

This is Part 1 in a series of blog posts by Wood Herren addressing various issues pertaining to the purchase, ownership and operation of private aircraft by family business owners. Stay tuned for Wood’s next post in this series, which will address other protections that an aircraft purchase agreement may provide a purchaser.

I recently met with my friend Matthew Whitaker, the owner of gkhouses, to learn more about the advisory board he established in 2017. With over 1,500 homes currently under management, gkhouses is a regional property management firm for single family homes and is the largest property management firm in Birmingham, with additional offices in Nashville, Chattanooga and Little Rock.

Frederic: Why did you decide to form an advisory board?

Matthew Whitaker from gkhousesMatthew: I was actually “advised” to form an advisory board (pun intended). In mid to late 2017, I was meeting with a number of people to discuss next steps for gkhouses and heard from multiple people who I respected that an advisory board would really help me. I thought it would make a lot of sense given I was taking so much time at these meetings getting people (advice givers) up to speed and that it would be much more efficient to find board members who already knew a lot about my business — or that I could at least teach them just one time.

 

Frederic: How did you select your advisory board members?

Matthew: I read a number of books on putting together a board. But in the end, I decided on people who I thought were a few steps ahead in doing what I’m trying to do – who all had different skillsets. I really wanted to cover the broad range of skills we needed to excel in order to be successful: IT, sales, finance, M&A, etc. I also wanted to pick people who made me a little nervous when I spoke to them so that it would force me to be prepared and to respect their advice when they gave it.  I don’t think it makes a lot of sense to have a board of people you don’t really respect.  There is a ton of effort that goes into having these meetings, and you need to extract as much value out of the time investment as possible.

 

Frederic: How often does your advisory board meet, and how do you conduct meetings?

Matthew: Our board meets on a quarterly basis for three hours. I try to make it as convenient as possible for the board members, so we do it late in the day on a weekday (typically 3:00 to 6:00 p.m.). I have snacks for them. We’ve also done one over lunch, which I think works very well. They have to eat.

I have a meeting schedule that I follow to run the meetings. There were some more traditional schedules out there (in the books I consulted). But I didn’t feel like a formal schedule was the right move for us. We follow an agenda very similar to the meetings we have here at the office. If you are familiar with the book Traction by Gino Wickman or the EOS (entrepreneurial operating system) model, then you will know the agenda. And it’s very important to me that we start on time and end on time.

I also send out a three-page update at least 48 hours before the meeting. It isn’t required reading for the meeting, but it gets their head in the right place when they show up. I even tell them what issues we are going to discuss. Some people need longer to process than others and giving them 48 hours to think about my problems usually gets some better advice.

 

Frederic: How has your advisory board added value to your business?

Matthew: I’m just getting started but feel like I’ve already received a ton of value. First, it forces me to zoom out and look at the business on a quarterly basis. Second, it forces me to simplify what we are doing, so that I can communicate clearly to them in the allotted time (a very healthy exercise). And last, I believe their advice has led to some pretty cool changes and ideas for future changes at gkhouses.

 

Frederic: What advice do you have for other business owners who may be considering an advisory board?

Matthew:  I was actually thinking about this the other day, and I came up with four things.

  1. Ask people who intimidate you a little bit. And be willing to take a “no” to get some great people.
  2. Be prepared. Don’t waste the advisory board members’ time. If you’ve asked the right people, you have busy people on your board who can see straight through you “faking” a meeting. One way to do this is writing down issues when you think about them between meetings.
  3. If the board gives you advice, either do it or explain to them why you didn’t do it at the next meeting. There is nothing that gets the board more excited than to see their ideas implemented or at least considered. We have a “to do” list that comes out of every meeting and going through those items is on our list of topics to review at the beginning of each meeting.
  4. Give them the reality. If you have the right people on the board, you have a tendency to want to impress them with how well the business is doing. I try to push the ego aside and tell them the unfiltered truth. No matter how good business is going, all of us have some serious issues that you need help solving. I think they actually appreciate it when you are transparent with them.

New Limitations on Deductions for Interest Payments May Impact Many Family BusinessesThe new Tax Cuts and Jobs Act limits the ability of many businesses to deduct interest payments. Under prior law, any interest expense was generally deductible. Now, many businesses are prohibited from deducting any interest expense that exceeds 30 percent of adjusted taxable income.

Before January 1, 2022, the formula for calculating net taxable income generally approximates EBITDA. Beginning in 2022, the formula will generally approximate EBIT. The EBIT formula will make the limitation even more restrictive for capital intensive businesses that finance equipment acquisitions with debt because they will be prohibited from adding back depreciation and amortization expenses to earnings for purposes of calculating the 30 percent limitation. When the EBIT formula becomes effective, it will apply to all debt regardless of whether incurred before or after 2022.

Several key points concerning the new limitation include:

  • The limitation does not apply to businesses with less than $25 million in average gross receipts for a trailing three-year period.
  • The gross receipts of related businesses are combined for purposes of the $25 million test. If the combined receipts exceed $25 million, the 30 percent limitation applies to each business.
  • Real property businesses (including development, construction, rental, management, leasing and brokerage businesses) are allowed to make an irrevocable election out of the business interest deduction limitation, but if so electing must use the alternative depreciation system for their nonresidential real property, residential rental property, and qualified improvement property.
  • Disallowed interest expenses may be carried forward indefinitely.

Family businesses subject to the new limitation should reassess their current debt profile. Beginning in 2022, family businesses in capital intensive industries may have little or no ability to deduct interest payments. In addition, family businesses that are looking to make a debt-financed acquisition, or that are considering a sale of their business, may be negatively impacted by the new limitation. It is generally anticipated that the limitation will raise the cost of debt-financed acquisitions.