Driving the Cost of Interisland Travel and Cargo Up

A couple of measures thrown in the legislative hopper have brought to light a taxing situation that will drive up the cost of flying between our islands if nothing is done to prevent the imposition of the tax.

Apparently, the two major interisland air carriers have been leasing their aircraft from companies on the mainland. Because these mainland lessors are not located in Hawaii, they have no idea of the taxes that are levied in Hawaii and how the tax law might apply to them.

However, it appears that the department of taxation recently raised the question of how the local air carriers secured their aircraft and went back to the mainland lessor to look at the transaction. What the tax department decided was that although the leasing company was not actually located in Hawaii, the aircraft leased by the local air carrier was located in the state giving the leasing company “nexus” or presence in the state. Thus, the leasing company was deemed as being located and doing business in the state.

The outcome of all this is that the mainland leasing company was told that it should have been paying the 4% general excise tax on its lease income. This came as a surprise to the mainland company because other states which have “sales” taxes do not tax services or rental income. And because the mainland lessor was not situated in Hawaii, they did not believe they were subject to Hawaii’s taxes.

While the mainland lessor is liable for paying the tax, the contract it has with the local air carriers indemnifies the lessor against any local taxes due on the lease transation. Thus, the cost of the 4% general excise tax will be passed on to the local carriers who will end up paying the bill.

Since both air carriers have been involved in leasing their aircraft for a number of years, the tab for the back taxes could run into the millions of dollars. While that may be welcome news to lawmakers who are hungry for any money that they can get their hands on, the financial impact could be devastating to the local air carriers. Should the airlines have to pick up the entire tab back to when they first started leasing aircraft, they would have no choice but to increase airfares and the cost of shipping cargo between the islands. The price of traveling between islands would make people think twice about how often they should travel. If traffic is reduced, then the fixed costs of operating the airline will go up as there are fewer passengers over which to spread those costs.

Similarly, businesses which produce products which need to get to market on another island will also be affected. If the cost of getting the products goes up significantly, will customers find cheaper alternatives or cut back on how much of the product they purchase? If customers refuse to purchase the products because the cost is so much higher, the businesses will have to consider reducing the profit margin or if there is no profit to be made, go out of business.

Thus, slapping the general excise tax on the leasing of aircraft will have a direct and devastating effect on our island economy, an economy that is dependent on interisland air transportation. No other state, perhaps with the exception of Alaska, is so dependent on air and sea transportation to get from one end of the state to the other.

Sure, generating additional tax dollars in the midst of the current financial squeeze may be a lucrative thought for lawmakers, but in the long run the economy of the state will suffer as the cost of the tax ripples through all of the goods and services that are dependent on air transportaion. Certainly the airlines are in no position to absorb the additional costs as they are again reporting losses after the reimposition of landing fees at all the state airports. Thus, the only alternative will be to pass the cost on to the customer, you and me.

Inasmuch as air transportation between the islands is in the interest of not only the consuming public but the overall economy, lawmakers need to act quickly to exempt aircraft leasing from the general excise tax both retroactively and prospectively.

One additional footnote, the problem up until now has been posed only with respect to the local air carriers. What about all the other air carriers that operate out of Hawaii? If they are slapped with the tax on their leased aircraft, will they reconsider coming to Hawaii – that would be another blow for Hawaii’s economy.