Good To Know Charter Boat Business And Tax Issues

Charter Boat Business and Tax Issues

We are still waiting to see how the Administration will treat the Section 179 for 2015 and hopefully 2016.

Meanwhile, here is an interesting excerpt about a case won by a taxpayer about active boat ownership. This is the prrof that those cases can be won.

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Roundup, 8/6/15: Tax Court sinks IRS passive loss attack on boat charter business.

It can be difficult to win a “passive loss” examination. That’s why taxpayer victories are worth studying. A couple who chartered boats and who incurred losses overcame an IRS passive loss challenge yesterday in Tax Court. Can we learn anything from them?

The taxpayer husband, a Mr. K (name withheld), is an airline pilot who chartered boats and occasionally skippered charter excursions. They had a management agreement with a company called Horizon Charters, LTD. The Tax Court said “Pursuant to the terms of the management agreement Horizon was responsible for marketing the boats, setting charter prices, booking charters, keeping records of all charters, collecting money due from customers, and cleaning and maintaining the boats.”

The passive loss rules treat a loss as “passive” if the taxpayer fails to “materially participate” in the business generating the losses. Passive losses can only be deducted against passive income; net passive losses are deferred until either there is passive income or the business is sold.

The tax law determines losses are “passive” based on the amount of time spent on the activity by the taxpayers. For example, taxpayers who spend 500 hours on an activity are generally treated as non-passive. The taxpayers in the charter boat case argued that they met another test — (1) they spent at least 100 hours on the activity, and (2) they spent more time on the activity than anyone else.

While the taxpayers didn’t keep a daily time calendar or log, they were able to convince the court that they reached the 100-hour limit:

During the audit examination respondent’s agent asked petitioners to provide the number of hours they spent in connection with the charter activity. While they did not maintain a contemporaneous log of the time spent, Mr. K. did maintain copies of email communications with Horizon. Using this correspondence and records of the length and destination of the Kline charters, petitioners were able to develop a log of the time they spent… Though petitioners did not contemporaneously record their time, we find the time entries they provided to be reasonable reconstructions of the hours that they spent in the charter business and consistent with the requirements of section 1.469-5T(f)(4), Temporary Income Tax Regs.

So emails showing regular involvement help. So does having a credible story to explain how you spent your time. But the IRS still had another challenge — they said that Horizon employees spent more time on the activity than the taxpayers, defeating the requirement that the taxpayers spend more time than anyone else. The Tax Court sided with the taxpayer:

However, on the basis of the invoices Horizon sent to petitioners regarding work done on the boats and the testimony of Horizon’s operations manager during the years at issue, we conclude petitioners spent more time in connection with the boats than any individual employed by Horizon.

The Moral? The taxpayers won without keeping a daily calendar because they were able to reconstruct their time based on other records, and because the Tax Court found them believable. While it would have been easier if they kept a log, failure to keep one isn’t fatal if you have other good ways to show the time you spent.

Cite: K, T.C. Memo 2015-144.
Also read our article on Section 179 and how it can affect your Boat Business.



Tax Breaks for Boaters
It is probably the secret dream of all boat owners - finding a way to deduct the cost of their boats every April when the IRS comes calling for the annual donation. Surprisingly enough, there are several ways that you can write off some of the cost of your boat and reduce your tax burden. Even better, they’re legal and won’t require you to change your mailing address to Leavenworth, Kansas.

According to Tanner Kidd, a tax specialist and boating enthusiast from Seattle, "Most boat owners miss out on some valuable deductions because they don’t know about these particular loopholes. But anyone who doesn’t take full advantage of the tax laws is simply giving money away. It is illegal, of course, to avoid taxes. It’s perfectly legitimate, however, to minimize your taxes".

Your Home Afloat

Probably the most commonly misunderstood tax deduction is the write-off of interest paid for a second home which, in this case, is any boat that can be lived aboard. Your tax advisors wouldn’t think twice about deducting the mortgage interest if you owned a mountain cabin or a beach cottage, but they often don’t realize that a boat also qualifies.

Now, before you get your hopes too high, the boat must "reasonably" be livable - your 15-foot jet boat doesn’t qualify. The IRS has generally determined, however, that any boat that has at least one berth, a permanent galley, and a head (even if it’s just a Porta-Potti) qualifies for the second home deduction.

There are some caveats here that you need to remember. Obviously, you can’t already have a second home you are deducting. If you do, you can choose between the second home and the boat each year for your deduction.

You need to ask the lender with your boat loan for IRS form 1098 to report the interest or, in most cases, you can simply get a letter from the lender. If you used an equity line of credit with your home or the boat as security, you’re entitled to deduct those interest charges.

Don’t forget that you can deduct not just the interest, but also any points paid to get the loan as well as the penalty for an early payoff of the loan.

Doing Business at Sea

Many boat owners use their boats to entertain clients and potential customers, and this qualifies as a deduction under the entertainment expense category for your business. But be careful here, because the IRS looks very hard at entertainment expenses, so be prepared to document every item thoroughly.

The rules are straightforward for this deduction. You must have a "reasonable expectation" of deriving income or other benefit in the future as a result of your use of the boat. You must actually engage in business discussions while onboard, with the main purpose of the boat to transact business.

Because this is a highly abused deduction, the IRS requires you to keep full documentation for each expense, the dates of use, the location, the reason for the use and the nature of the expected benefit, and the occupations of the persons entertained.

You’ll be limited to deducting 50 percent of these costs, as with any other travel or entertainment expenses, and you can’t include regular maintenance or depreciation for your boat. What you can include are the costs specifically related to each particular use of the boat: fuel, food and drinks are obvious, but you can also include specific expenses such as a transient mooring fee or the entry fee to a fishing tournament.

Sweet Charity

When it comes time to look for a newer or bigger boat, you can sell or trade in your present boat but, in some cases, donating your boat to charity can provide a sizable tax advantage. "You can only deduct the fair market value of the boat," says Kidd, who has handled several boat donations for clients. "You’ll need to have an independent appraisal or survey, and you should make sure that it clearly states the market value and not the replacement value, which can be considerably higher and which can trigger an alarm with the IRS."

In most cases, you can pick your favorite charity as long as it is qualified as a non-profit organization. Some groups, such as the Sea Scouts, are equipped to take care of all the paperwork and details involved in a donation.

Even better, you may end up getting more for your boat as a donation than you would if you sold or traded it. A boat with a market value of $10,000 might only be worth $5,000 as a trade-in at a dealership, and it might take weeks or months to sell if you sell it yourself. With a donation, the boat is gone immediately and you can gain at the bottom line of your tax debt.

Be Your Own Captain

It’s appealing to think of using your boat as a weekend business. You can take people on harbor tours or for a day of fishing while you enjoy all the benefits of boat ownership and deduct all the costs as a business expense.

The reality, however, can be somewhat different. According to Tom Cutter, who operates a full-time charter boat operation, it can be a lot of hard work.

"To use your boat as a six-pack charter with yourself as the skipper, you need to make sure that the IRS doesn’t view yours as a hobby rather than a business. You need to make a genuine effort to make a profit, rather than just enough to cover your costs and get a free day out on the water."

As a starting point, you’ll need to get your U.S. Coast Guard license allowing you to skipper up to six guests aboard your boat.

Once in business, you’ll be able to write off the depreciation, maintenance, equipment, fuel and mooring costs. Kidd recommends using the purchase price of your boat as a base for a seven-year (or longer) straight line depreciation schedule. You’ll also need to keep detailed records of every expense as well as the amount of income. To keep clear of IRS "hobby-loss" rules, he suggests that you aim to make a profit in at least three out of every five years.

Since you probably won’t want to devote full use of your boat to chartering, you’ll only be able to deduct the expenses for the percentage of time actually used in business. For example, if you charter 20 percent of the time that you operate your boat, you’ll be able to deduct 20 percent of the expenses. The exception to that is equipment used purely for chartering, which is then fully deductible.

But, as the charter captain, you’ll get a double hit in taxes. You’ll pay the income tax on the actual profits of the boat, but you’ll also pay self-employment taxes as a sole proprietor.

Some boaters prefer to take a less serious effort toward earning money for their boat, preferring only to charter it occasionally. In that situation, you can still deduct the related expenses, but not as a loss. You’ll only be able to reach the break-even point of costs versus income, and you’ll have to cover any losses out of your own pocket because the IRS will label you as a hobby business.

Because the IRS is well aware that owners want to enjoy their boats at a reduced cost, boating deductions often warrant an increased examination of your tax return, which may not be worth the effort to save a few dollars.

Because every tax situation is unique, Kidd advises that every boater explore his options with a tax advisor familiar with boating deductions before making decisions.

 

Charter and Headboat Operators' and Guides' Licenses

A Charter Captain or Boat License is required to carry paying customers (where a fee is paid directly or indirectly) for the purpose of taking, attempting to take, or possessing saltwater fish or organisms.

To be a saltwater fishing guide in Florida, you must comply with U.S. Coast Guard (USCG) requirements. The U.S. Coast Guard (USGC) requires all operators of for-hire vessels to have a Captain license/Merchant Mariner Credential.

Charter, headboat and saltwater fishing guide operations must have an FWC charter captain or boat license to cover their passengers, who are not required to hold a recreational saltwater fishing license. Customers authorized to fish under the vessel license are not required to hold a recreational saltwater fishing license.

Dive charters: Scuba divers engaged in fishing or lobstering must have an individual saltwater fishing license and all necessary permits if the vessel they are on does not have the necessary vessel license.

Charter Captain License (allows a licensed captain to go from boat to boat)
A Current Coast Guard License to Operate or Navigate Passenger Carrying Vessel License must be provided in order to purchase these licenses.

License Type

Price

Charter Captain - 4 or fewer customers

$201.50*

Charter Captain - 10 or fewer customers

$401.50*

Charter Captain - 11 or more customers

$801.50*

Charter Snook Permit

$10.00

Charter Lobster Permit

$5.00

*Note: Prices include $1.50 administrative fee.

Charter Boat License (may only be used on the boat designated on the license)
These licenses are only available to vessels that are commercially registered. A commercial vessel registration or U.S. Coast Guard Certificate of Documentation (with a commercial designation) must be provided in order to purchase these licenses.

License Type

Price

Charter Boat - 4 or fewer customers

$201.50

Charter Boat - 6 or fewer customers

$401.50

Charter Boat - 10 or fewer customers*

$401.50

Charter Boat - 11 or more customers*

$801.50

Charter Snook Permit
$10.00

Charter Lobster Permit

$5.00

*Issued to Coast Guard inspected vessels only.

Note: Prices include $1.50 administrative fee.

How to Apply
In order to purchase an FWC Charter Captain license, you must have a Coast Guard Captain's license. Call 1-888-427-5662 for information on the Coast Guard Captain's license. USCG charter boat captain information is available on the USCG web site.

The FWC Charter Captain and Charter Boat licenses and commercial registration can be purchased at your local tax collector's office only. For information about vessel registration visit the Florida Department of Highway Safety and Motor Vehicles, Bureau of Titles and Registrations.

What FWC charter licenses authorize

• The vessel license holder to carry up to the number of fishing passengers specified on the license.
• The number of customers specified on the FWC vessel license to take, attempt to take, or possess a limit of saltwater fish or organisms for non-commercial purposes without purchasing a recreational saltwater fishing license.
• A person who holds the “Charter Captain” License does not need to purchase his own recreational saltwater fishing license to recreationally fish from a vessel. He may use his “Charter Captain” because it’s tied to him, this does not apply to a Charter Boat/Vessel License.

What the FWC charter licenses DO NOT authorize

• Harvest in commercial quantities or the sale of fish.
• Passengers (whether licensed, not licensed, or exempt from licensure) in excess of the number specified on the FWC vessel license to take, attempt to take, or possess a limit of saltwater fish or organisms (even if licensed by the USCG to carry more paying passengers).
• The captain and crew to take, attempt to take, or possess a limit of fish or organisms under the vessel license.

More Information for Charter Operators, captains and guides
Surf fishing and freshwater fishing guides and their customers are subject to Florida's recreational fishing license requirements. The FWC does not require additional guide licenses.

A charter vessel captain who possesses a six-pack license under USCG and an FWC charter vessel license for up to 4 people may carry up to two extra passengers ONLY when they are NON-FISHERS.

Additional restrictions on charter boat captain and crew and for-hire guides on a keeping their limit of fish under their own valid recreational saltwater fishing licenses are species specific. Currently, for most species of saltwater fish, with the exception of snook, grouper and red snapper in federal waters, all persons aboard a charter vessel can keep a legal limit of fish if the paying passengers fish under the vessel license and the crew fish under their own valid licenses. For-hire guides may also keep a legal limit of fish while on duty with the exception of snook, grouper and red snapper in federal waters.

• Snook: The Florida Administrative Code (FAC), Chapter 68B-21.006 (3) for snook states: On any vessel licensed to carry customers wherein a fee is paid, either directly or indirectly, for the purpose of taking or attempting to take marine fish, the applicable bag and possession limit specified in this rule shall not extend to the operator of such vessel or any person employed as a crewman of such vessel.
• Grouper: Gulf of Mexico Fishery Management Council regulations prohibit the captain and crew of for-hire vessels from retaining a federal recreational bag limit of any grouper while under charter in the Gulf of Mexico. Please review the NOAA regulations. The Florida Fish and Wildlife Conservation Commission established a zero bag limit for Gulf gag, red and black grouper for captains and crew on for-hire vessels in or on state waters. Current information about grouper rules is available from the FWC Division of Marine Fisheries Management. You can read the rule in the FAC, Chapter 68B-14.0036 (2)(d).
• Red Snapper: In 2008 new regulations were implemented for red snapper in federal waters of the Gulf of Mexico that, among other restrictions, prohibits the captain and crew of for-hire vessels from retaining the federal recreational bag limit. More information on federal action is available from the Gulf of Mexico Fishery Management Council. Refer to the FWC saltwater fishing regulations for more information. The Florida Fish and Wildlife Conservation Commission also established a zero bag limit for captain and crew of for hire vessels in Gulf state waters for red snapper. You can read the rule in the FAC, Chapter 68B-14.0036(1)(c).

An occupational license may be required by the city or county where you are doing business. Check with the city and county to see if you need an occupational license.

If you are operating a for-hire vessel in a park or a refuge (e.g., Everglades National Park), you may be required to have additional permits. Please check with the park or refuge headquarters for any specific permitting requirements for those areas.

If you are operating a for-hire vessel in federal waters (outside of 9 nautical miles on the Gulf and 3 nautical miles on the Atlantic), you may need a federal charter vessel/headboat permit before fishing for certain species. Contact the National Marine Fisheries Management Service, Licensing and Permitting Office at 727-824-5326 for information on federal charter vessel/headboat permits.