Modifications to Aircraft Pushed Back Plane's In-Service Date; Bonus Depreciation Deduction Denied.
(Parker Tax Publishing December 2013)

An insurance salesman who purchased a plane on December 30, 2003, and flew it to another city for a business meeting and then flew it back in early 2004 for additional modifications, was not entitled to claim bonus depreciation in 2003 because the aircraft was not placed in service until 2004. Brown v. Comm'r., T.C. Memo. 2013-275 (12/3/13).

Michael Brown was an insurance salesman who sold life insurance policies to wealthy individuals. He generally sold policies worth at least $10 million or more and had average premiums between $10 and $15 million per year. Most of his new clients were obtained through his network of CPAs and other insurance agents. To meet with prospective clients quickly on their own schedules, Michael began to charter airplanes instead of relying on commercial flights. However, Michael believed that chartering airplanes led to certain missed business opportunities. In 2001, Michael purchased a private jet, which enabled him to travel to business meetings in different states and allowed him to establish a rapport with wealthy prospective clients, most of whom owned their own airplanes.

In May 2003, Congress passed the Jobs and Growth Tax Relief Reconciliation Act of 2003, which increased bonus depreciation from 30 percent to 50 percent for certain kinds of property acquired and placed in service between May 6, 2003, and December 31, 2004. Looking to buy a longer-range aircraft and take advantage of the tax benefits of bonus depreciation, Michael began searching for a new aircraft. On December 16, 2003, Michael signed a contract with Jetcraft to buy a new aircraft for $22 million. The contract required Jetcraft to deliver the plane by December 31, 2003. However, Michael requested that certain customizations be done to the aircraft. Specifically, Michael needed a conference table installed and needed to upgrade the standard 17-inch display screens on the plane to 20-inch screens. It was estimated that the additional work would take six weeks to complete and cost an additional $240,000. Since the modifications would prevent Michael from taking delivery of the plane in 2003, the parties agreed that Michael would take delivery of the plane by the end of 2003 but would return the plane to Jetcraft to complete the modifications in January 2004. On December 30, 2003, Michael took delivery of the plane in Portland, Oregon. He claimed that, on that date, he made trips to Seattle for a business lunch with a prospective client and to Chicago to meet with another insurance agent. The plane was returned to Jetcraft on January 5, 2004, to complete the modifications.

Michael and his wife filed a joint federal income tax return for 2003 and claimed almost $11.2 million of bonus depreciation for the aircraft as an expense for his insurance business on Schedule C. Profit or Loss from Business. The IRS issued a notice of deficiency, determining that the aircraft was not placed in service until 2004 and the couple was thus not entitled to the bonus depreciation deduction taken on their 2003 tax return.

Michael argued that the aircraft was fully functional for air transportation in 2003 and the modifications provided enhancing features that were not necessary for its specific function of providing air transportation for his insurance business.

The Tax Court held that the aircraft was not available for its intended use on a regular basis in Michael's insurance business until the modifications were completed in 2004. Regarding the issue as to whether the aircraft was placed in service in 2003, the court cited Consumers Power Co. v. Comm'r., 89 T.C. 710 (1987), in which the Tax Court concluded that property was not placed in service until it was available for service on a regular basis for its specifically assigned function. The court stated that, although the aircraft was fully functional for air transportation, it was not available for a specifically assigned function for Michael's insurance business. Moreover, in his testimony, Michael confirmed that his business required the installation of the two modifications.

At the time of delivery in December 2003, the aircraft was not configured in a manner that Michael deemed necessary for his insurance business. Since the modifications were not completed until 2004, the court concluded that the aircraft was not available for its specific intended function until that time. Thus, Michael was not entitled to claim bonus depreciation on the aircraft in 2003.

Finally, although Michael was not liable for the fraud penalty, he was liable for an accuracy-related penalty for substantial understatement of tax. He failed to show that he relied on substantial authority in claiming the bonus depreciation deduction or that he acted reasonably and in good faith in claiming the deduction. For a discussion of bonus depreciation, see Parker Tax ¶94,120. (Staff Editor Parker Tax Publishing)

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