NAFA members, Mente Group's Jeff Dorrough, Accredited Senior Appraiser and Cole White, VP Transactions, discuss depreciation in business aviation.
In Business Aviation, there are essentially three different types of depreciation that aircraft owners need to be aware of and proactively manage. Each type of depreciation plays a different role in aircraft ownership. At Mente Group, we take the time to educate our clients on the difference and importance of each. The three types of depreciation are Tax, Book and Market.
Tax depreciation can be structured using any of the previously approved methods by the IRS. Aircraft owners can select the form of depreciation that aligns best with their needs. One Example of this form of depreciation is the Tax Cuts and Jobs Act passed in December 2017, which allows aircraft owners 100 percent bonus depreciation in year one of ownership. The purpose behind this was to incentivize individuals and business owners to purchase both new and pre-owned aircraft. However, with each administration change, there is risk of change in this policy. Another approved form of tax depreciation is MACRS (modified accelerated cost recovery system) 5 and 7 depreciation methods which are accelerated methods allowing the capitalized cost of an asset to be recovered over a specified period (5 or 7 years) via annual deductions. We encourage anyone considering the purchase of a private business jet to take advantage of the “knowns today vs. the unknowns of tomorrow.”
The second type of depreciation is for internal accounting, known as Book depreciation. Book depreciation uses the cost of a tangible asset allocated by a company over a stated useful life of the asset. Traditionally, aircraft are placed on the company’s book at some sort of straight-line method. The issue we run into many times, is that the Book depreciation percentage applied does not meet the market realities of today. Often, when a company goes to sell their aircraft, the Book Value and Market Value of the aircraft do not match. Majority of the time, the Book Value is too high as compared to Market Value of the aircraft. This forces the company to take, in some instances, a sizeable write down. In order to mitigate this risk, we work with internal accounting groups to set a more realistic Book depreciation on the front end, thus minimizing risk of the write down on the back end.
The third type of depreciation is Market depreciation and put simply is spot pricing at any given point in time. Market depreciation, unlike the previous forms mentioned, are neither prescribed nor predictable. Market depreciation is greatly affected by macro and micro economic factors such as supply and demand. Most recently the primary driver to Market depreciation has been associated with the impact from Covid-19 related issues. Many companies use Market depreciation in conjunction with Book depreciation in which you have your prescribed depreciation being augmented periodically (annually) followed by a mark-to-market adjustment. This mark-to-market adjustment re-aligns the basis periodically.
In closing, Mente provides many options to assist owners including counseling, analysis and the Mente MVP platform which optically highlights each of these forms of depreciation in one concise visual.
This article was originally published by Mente Group on October 21, 2020.
