Buying and financing an aircraft may seem riskier now than in recent memory due to the impact of ever-changing tariffs, recession fears, and geopolitical risks. The sheer lack of clarity and certainty and the undeniable complexity of tariffs appear to be slowing or disrupting aircraft purchase transactions.
Tariffs may raise the purchase price of an aircraft permanently imported into the U.S., including its engines, components, materials, and parts, as I discussed in my recent blog. Under the weight of these factors, what is the path forward in buying, selling, financing, and leasing aircraft consistent with transaction best practices?
Strategy To Purchase an Aircraft Involving Tariffs
As a purchaser, you might focus first on buying an acceptable aircraft considered to be manufactured in the U.S., if available, or an aircraft exempt under the United States-Mexico-Canada Agreement (USMCA), the successor to NAFTA. Even if a seller of an exempt aircraft asks for an elevated price, the asking price might still be less than a similar make and model aircraft subject to a tariff.
Regardless of the origin of an aircraft, it is essential to thoroughly analyze potential tariffs or exemptions and related costs before signing a letter of intent (LOI) to purchase an aircraft, even if you think an exemption applies to the aircraft. Each aircraft will have its own tariff story and exposure.
The LOI, which states the key terms of a purchase, should include provisions on dealing with potential tariffs, including when and where to conduct a pre-buy inspection. For example, the LOI could provide that the pre-buy inspection be conducted in Europe to avoid paying a U.S. tariff unnecessarily if a buyer rejects the airplane in the U.S. and the owner elects to return the aircraft to its base in Europe.
An aircraft purchase agreement (APA) should reflect and expand on the LOI tariff provisions to allow the parties to adjust to evolving tariffs. Consider provisions where the parties might retain mutual rights to terminate a deal (possibly via a specialized form of a “force majeure” clause); create an escrow deposit to fund tariffs; expand tax indemnities to protect against unexpected tariffs, changes in tariff rules, or related claims; and obtain representations and documentation that confirm that tariff exemptions apply. Realistically, the purchaser and seller may need to negotiate terms in their LOI and APA to “share the pain” of tariffs, bonds, and other import costs (possibly in a purchase price adjustment provision).
Strategy To Finance Aircraft Purchases Involving Tariffs
Although financing tariffs dilute the aircraft collateral or residual value coverage for the lender or lessor, that does not mean these financiers cannot or will not make a loan or lease regarding an aircraft, including the aircraft’s tariffs. Competition among financiers practically guarantees this result.
To set the table for negotiations, you should ask your potential lender or lessor how tariffs impact loan or lease pricing and terms, and discuss how to manage finance costs using fixed, floating, and hedging structures, especially if you expect the Federal Reserve to cut or increase interest rates.
You can expect financiers to understand the implications of tariffs on their aircraft loans. Consequently, a financier may feel compelled to reduce the loan or lease term, increase the principal payments during the term, and require loan covenants, including borrower cash flow and net worth coupled with an aircraft’s loan-to-value (LTV) ratio. To put teeth into the LTV, lenders will require a periodic true-up (loan prepayment), if needed, to restore the original LTV and minimize tariff collateral dilution. Depending on the amount of tariffs, financiers may fund them based on a very strong personal guarantee.
Whether the parties import a new or used aircraft, there are three basic ways to acquire an aircraft. You can buy an airplane with cash, use loan proceeds to pay all or a part of the purchase price, or arrange for a third party—a lessor—to purchase and lease an aircraft to you, as the lessee.
Buying aircraft with cash. It is often said that “cash is king” when buying new or used aircraft, just as it is when you use cash to capitalize your business, invest in earning assets, or, in the current environment, preserve funds in the face of market uncertainty. However, buying with cash flies in the face of the ancient “OPM” principle—using “other people’s money.”
A cash purchase is neither risk- nor cost-free. Whether the money to buy an aircraft comes from a margin or bank account, your stock or bond portfolio, or a line of credit, cash carries an imputed cost of capital that you should examine. In this volatile market, selling stocks or bonds at the wrong time can result in investment losses that devalue your portfolio and effectively increase the aircraft’s cost.
Buying aircraft with a loan. Financing includes four broad alternative loan structures to buy an aircraft: a secured loan (the aircraft collateralizes the loan); an “asset-based” or “non-recourse” loan (the lender has only aircraft sale/lease proceeds to repay the loan on a default); a margin account loan (a line of credit secured by your brokerage account); or an unsecured loan (a rare bird, a loan without collateral). In a “refinancing,” you cash out equity in your airplane by borrowing funds against the aircraft’s value.
Leasing to acquire an aircraft. A lease of an aircraft refers to a transaction in which one party, the lessor, buys an aircraft from a seller, and allows the lessee (the seller or another party) to possess and use it for a term in return for consideration such as hourly, fixed, or variable rent payments. The lessee usually agrees to a net lease, meaning the lessee must maintain, pay taxes on, and insure the aircraft.
Lessees can avail themselves of customized leasing structures such as a finance lease, tax lease, financing lease, or operating lease. Like a refinancing, you can also sell your owned aircraft to an owner-lessor, in a sale-leaseback, and, on closing, become the lessee. The lease structure dictates the portion of the purchase price the lessor may or must fund under a lease.
Leases are mainly categorized by the FAA as dry leases (aircraft leases without crew) or wet leases (aircraft leases with at least one crew). The FAA also refers to a conditional sale, which may constitute a loan disguised as a lease. Lease type affects whether the lessor or the lessee will be the FAA-registered owner and how the FAA will treat the customized lease structures just mentioned.
Lease/Buy Decision
Once you understand the tariff and economic issues, you can make an informed lease or buy decision with the assistance of your aviation team and financial advisors.
Particularly for cash buyers, one of your objectives is to assess whether using OPM produces a stronger business, tax, and personal solution for you than using cash. To meet that objective, first, do not assume cash is free or that using cash is better simply because closing with cash is easier than documenting a financing. Negotiated properly, financing terms should have an immaterial effect on your normal course of business.
Second, calculate your cost of capital of cash versus financing costs, evaluating the benefit of preserving or applying cash for other purposes.
Third, determine how much, if any, cash you choose to invest in, or use as a down payment on, an aircraft. If you decide to finance an aircraft, the cash part of the deal will depend on the loan or lease structure, ranging from zero cash (100% financing) down to roughly 40% to 60% in other types of loans.
Unique to leasing, many organizations believe they can keep leases off their balance sheet. If your organization is subject to the Financial Accounting Standards Board (FASB) standards on leasing—FASB No. 2016-02, Leases (Topic 842)—be sure to avoid a significant accounting error. That standard forbids off-balance sheet treatment of leases with more than a 12-month term.
Parting Thoughts
Although the future is unpredictable amid tariffs and economic uncertainty, motivated parties and their skilled transaction teams can, and almost surely will, continue to generate the thrust needed to close aircraft purchases, sales, loans, and leases despite these prevailing headwinds. After all, it seems doubtful that these challenges will dissuade you from traveling to complete your personal and business missions.
The material in this blog is not intended to be, nor should it be construed or relied upon as, legal or tax advice. The comments, recommendations, and analysis expressed in this blog are those of the individual author, David G. Mayer, and may not reflect AIN Media Group’s opinions. Using or relying on this blog does not create an attorney-client relationship between you and the author or his law firm. If specific legal information is needed, please retain and consult with an attorney of your selection. David G. Mayer practices law in the global Aviation Practice Group at Shackelford, McKinley & Norton in Dallas.