Confusing “Use Tax” Exemption Requirement – “First Functional Use” Explained

The article written last month titled “Proper Delivery Outside of California Begins the “Use Tax” Exemption Process” explained the importance of, and how to, properly take delivery of an aircraft outside the state, which is the first step in the California sales and use tax exemption process. If you didn’t get a chance to read that article you can contact Aero-tax Compliance Experts, LLC (ACE) for a copy.

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Many aircraft owners and potential owners have contacted us for an explanation on California’s “first functional use” requirement. We have learned that there is a lot of mis-information and confusion on this issue. Our attempt is to clarify some of the confusion that exists and eliminate the mis-information with the “first functional use” requirement for the California use tax exemption process Tax Expert .

“First functional use” is a critical component of the California use tax exemption process. California Sales and Use Tax Regulation 1620 defines first functional use as “use for which the property was designed.” An aircraft is defined in Law section 6274 as “any contrivance designed for powered navigation in the air except a rocket or missile.” Logically, one would conclude that first functional use of an aircraft is flight because aircraft are designed to fly; right? Not necessarily. In my experience with the sales and use tax law, one can not rely upon logic.

The California State Board of Equalization (BOE) has effectively confused the term “for which the property was designed” with “how big it is,” or “how is it configured.” I’ll explain; in May of 2002 a staff member of the BOE’s tax counsel (writer) drafted a memorandum to another staff member explaining to them the writer’s interpretation of first functional use. Somehow, the writer deduced a formula, or justification, to distinguish between aircraft designed for personal purposes and aircraft designed for commercial purposes. Simply put, the writer concluded in the memorandum that an aircraft with 6 or fewer seats was an aircraft designed for personal purposes, and an aircraft with 7 or more seats was designed for commercial purposes.

To confuse the issue even further, the writer decided that all jet aircraft were designed for commercial purposes, and “personal” aircraft could be “configured” for commercial purposes. Additionally, the writer added that it was possible for someone to justify a large jet as a personal use aircraft.

Now that the writer made a distinction between personal and commercial aircraft, the writer defined the “first functional use” for each. Aircraft that are designed for personal purposes were first functionally used when flown, and aircraft designed for commercial purposes were first functionally used when flown with a passenger or cargo onboard.

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