Two people had recently asked me about buying a private jet. Neither of them had owned one before but they had both been given a similar pitch. In each case, the broad offer was: buy a plane, take 100% depreciation, charter it out and have 30-40 hours of free use. So, here’s a look at how viable this concept is.
Economics of Owning a Plane
There are multiple articles on SherpaReport about the economics of buying and owning a private aircraft. Here are some links to a few of those articles for various aircraft (note some of these were published a few years ago, so numbers will have changed, but they will give you an indicator):
The prominent items to consider if you are thinking about purchasing a private jet are as follows:
- The Fixed Costs (crew salaries, hangar, insurance, training, taxes, etc.)
- The Variable Costs (fuel, maintenance, parts, landing and parking fees, etc.)
- The Capital Cost (financing costs, cost of capital or opportunity cost).
One interesting change that is currently available is the bonus or 100% depreciation, which was enacted as part of the 2017 Tax Cuts and Jobs Act. Under this law you can fully depreciate a private plane used for business purposes in its first year. In other words, if you buy a new or used private jet for say $10m, you can fully depreciate this and take a $10m write off in the year you buy or own it. This assumes you have an appetite for this type of depreciation.
So, once you have purchased it what is it going to cost to own and operate it? The sources that you, your consultant or management company obtains the fixed and direct cost estimates for owning and operating a private jet is something to be mindful of. If they are average numbers they may not apply to a specific aircraft you are considering. Average numbers can point you in the right direction, but your numbers, for your specific plane, may and very likely will vary.
“If you don’t have a specific private jet in mind, a specific serial number or tail number, then it’s purely a loose estimate or a guess” says Bill Quinn, founder and President of Aviation Management Systems. Bill and his team have decades of experience advising buyers and sellers on how to more efficiently, own, operate and manage private jets and aviation assets and the day to day operational challenges that go along with owning and operating private jets.
“The estimated expenses depend on the particular private jet you select and where it is in its lifecycle,” he continues, “you may need to overhaul the engines, landing gear, auxiliary power unit or perform major airframe inspections, all of which can be costly and need to be taken into consideration when putting together an accurate pro-forma budget.”
So, once you know the precise aircraft, you can make a much better estimate of the costs to own and operate the aircraft. Some of the inspections and maintenance requirements are calendar driven and some are based on the hours flown or cycles or landings. “Knowing the actual tail number or serial number and where the aircraft is in its life cycle - that’s where the rubber really meets the road” says Bill.
Management Company
An aircraft management company will typically manage and oversee all the maintenance aspects for an aircraft owner. A knowledgeable management company will let you know when to plan for the scheduled maintenance events and what the estimated costs might be. This is a recognized process designed to help identify and manage an owner’s expectations. If your proposed management company does not offer this then you may be in for some expensive surprises in the days ahead.
Bear in mind, particularly if you haven’t owned a private jet before, that the aviation industry is very regulated, so if your aircraft is not properly maintained, it is not allowed to fly. The bigger management companies will encourage owners to have a dedicated maintenance manager, especially for mid-size and larger aircraft. The focus and attention of a dedicated maintenance manager will reduce costs in the long run.
Guarantee of Charter Hours
If you are thinking of purchasing a private jet with a view toward having a management company charter it, in order to generate some income to offset some of your fixed costs, then make sure to consider the track record of the management company. Some are better than others at obtaining charter hours. Bill Quinn notes that a charter management company may give you a 50 or 100 hour a year guarantee, so that you could expect to see at least this many revenue hours in a typical year. But Bill doesn’t often see larger guarantees.
That’s not to say that you can’t get more hours. Some aircraft are out there flying 500 - 600 - 700 hours a year, but that’s pretty high (unless the management company is supporting a fractional aircraft provider).
When Bill is advising a client on buying a plane he likes to do a graph showing the expenses over time, based on the assumed annual flying hours. Then he overlays this graph with any estimated revenue from charter. Overall, he ends up with a pro forma budget which would include projected costs and revenue for a specific aircraft. Most of the time he does a few scenarios – “the good, bad and ugly variations” as he put it – to cover best, worst and expected outcomes.
For most management agreements the money flows are typically based on the aircraft owner paying a monthly management fee and 100% of all the direct and fixed cost of ownership. The aircraft owner then receives a proportion, often around 85%, of the hourly charter revenue.
In other words, the management company is making a monthly management fee plus a 15% commission on the charter revenue, both of which are negotiable items. The balance of the revenue is credit to the direct and fixed costs. Any remaining revenue, if there is any, goes to the owner.
As the aircraft owner you pay for all the maintenance, inspections, improvements and upkeep of the aircraft, so your monthly cash flows may look somewhat like this:
- 1st month get a big check from the management company for charter revenue.
- 2nd month get another big check from the management company for charter revenue.
- 3rd month have to do a scheduled maintenance event or overhaul, so no check from the management company, but instead you get a bill for all the costs.
- 4th month another check from the management company, but maybe not so big because the aircraft was not available as much for charter when it was down for maintenance.
- Etc., etc., etc.
In the ownership scenario we opened with, where the owner gets 30-40 free hours a year, the implication was the management company was taking on all the costs and risks of maintaining the plane, based on its ability to generate adequate charter revenue. So, as the owner your cash flows are simply the cost of buying the aircraft, and the benefit of the 100% depreciation, plus whatever you sell it for at the end of the day.
The big questions in this scenario revolve around the following:
- The ability of the management company to generate enough charter revenue to offset the owner’s direct and fixed costs.
- The quality of the maintenance - as noted above if it’s not properly maintained it can’t fly and it loses value and revenue opportunities.
- Ensuring the management company has the financial wherewithal to handle large and/or unexpected maintenance issues, and
- The types of restrictions around your use of the plane. How much notice do you need to give? Can you use it on peak holidays when charter rates are higher? Who pays for the fuel, landing fees and other trip related expenses?
Aircraft Leasing
In our opening scenario, if you are buying the plane and then essentially leasing it to the management company, you really need to think hard as to whether you want to be in the aircraft leasing business. This is a very specialized area, which requires a lot of expertise and there are plenty of pitfalls for the uninitiated.
The starting point for this is the lease agreement. Is it structured as an operating lease or a finance lease? If it’s a finance lease, where the lessee takes on the risk and rewards of ownership, then you may find that you, as the owner (and lessor), cannot use the 100% depreciation.
If it’s an operating lease you may need to be quite hands on to ensure your plane is fully maintained, and that the lessee performs as planned (as noted above).
Aviation attorney Paul Bell has seen the outlines of a deal like this where it was essentially structured as a finance lease. The deal even included a guaranteed buy back, by the lessee, at the end of the lease. Paul noted these structures are relatively new, being driven by the recent tax changes. As a result, the depreciation availability is somewhat untested, and will depend on the exact lease structure.
Professional Costs
The other factor to bear in mind are the professional costs related to a transaction like this. Typically, there are several steps to buying an aircraft. The costs for these include:
- Sourcing the plane. Who will do the research to find an ideal aircraft and who pays for this? (maybe the lessee already has one in mind, but who is valuing this aircraft?).
- Who is doing the pre-purchase inspection and who is paying for this? This inspection looks at the plane to assess its condition and where it is in its maintenance cycles.
- There will be legal costs with structuring and reviewing the aircraft acquisition and subsequent lease or management agreement. Who is paying for these? You certainly should have your own aviation advisor and attorney.
- If you are borrowing money for part of the acquisition, the finance provider will also have fees, especially when the structure is somewhat novel.
Overall these are likely to run to many tens of thousands of dollars. And are something to bear in mind when balancing out your “free” charter hours.
Summary
In summary, could this scenario work? Maybe... Potentially ... However, as the old saying goes “buyer beware.” You clearly need the business income to be able to use the depreciation, so that’s a question for you and your tax advisor. “It’s a cutting edge idea” said aviation attorney Paul Bell “do you want to be on the bleeding edge.”
The rest of the feasibility depends on:
- The specific aircraft you buy, its age, condition and maintenance history.
- The structure and terms of the lease and/or management agreement.
- The management company and their ability to get the charter revenue (both the hours and the charter rate).
- How well the aircraft is maintained by the management company on your behalf.