Checked Baggage Fees: A Tax Avoidance Strategy for Airlines?

Back in October I explained why I was surprised to see airlines increasing checked baggage fees, that in fact I would have expected higher ticket prices and free checked bags to be a profit maximizing equilibrium — an equilibrium that more or less existed, so the current shift towards unbundled pricing was quite surprising:

Moving checked bags is mostly fixed costs. Once the baggage carousel is built, the trucks are purchased, you’ve hired baggage handlers, and you’ve outfitted your planes to handle checked bags, you might as well get more passengers to check bags rather than fewer either at a price which is continually falling or bundled into the overall price of the ticket. (This seems true at least as long as the price of checking the bag or the increased price of the ticket resulting from bundling exceeds the fuel cost from the incremental weight of the checked bag.)

But it took this news to hit me over the head with a strong reason why airlines prefer separately charging for checked bags rather than including them in the ticket price (hat tip: Wandering Aramean). The IRS has ruled that checked bag fees are not subject to the 7.5% excise tax that is imposed on tickets.

Generally, items that are taxable are those paid as a condition to receiving air transportation, according to the ruling.

So the airlines pocket the full checked bag fees (of course, their profits — when airlines finally make any which aren’t offset by carryforward losses, are still taxable). Including the bag fees in ticket price subjects the same revenue to 7.5% tax.

The next time you’re forced to pay to check your bags at the counter, consider blaming the government. At least partially.

About Gary Leff

Gary Leff is one of the foremost experts in the field of miles, points, and frequent business travel - a topic he has covered since 2002. Co-founder of frequent flyer community, emcee of the Freddie Awards, and named one of the "World's Top Travel Experts" by Conde' Nast Traveler (2010-Present) Gary has been a guest on most major news media, profiled in several top print publications, and published broadly on the topic of consumer loyalty. More About Gary »

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  1. The relevant airlines aren’t paying taxes, have tremendous loss carryforwards and are generating massive losses each year. Hard to see them paying taxes for the foreseeable future.

    Years ago Warren Buffet said the industry as a whole had been operating at a loss since Kitty Hawk. Since then, their losses have increased.

    If this is tax planning, it seems very optimistic planning, looking far in the future.

  2. but indeed, regardless of LCF, their margin rates and ROCE can be listed as higher with the tax on these hugely contributing items.

  3. A fare increase is paid by every passenger. A bag fee only by infrequent flyers who check a bag.

    I find it hard to believe that 7.5% tax differential on the fee is enough to matter.

    Rather, I see the fee as something the infrequent flyer (often discount tix, sometimes barely covering incremental fuel costs) is forced to accept while the more valued flyers are exempt and thus don’t care. At the same time, those valued flyers would care about a fare increase, perhaps enough to switch to a different airline.

    With a significant number of airlines in alliances, we’re not as tied to our frequent mileage/elite partners and can switch carriers for a better fare.

  4. Even if the fee were included in the ticket price and the passenger paid the 7.5% tax, that tax revenue would go the government, not the airline, no? With tax, the price increases for the pasenger, but the revenue for the airline is $50 either way.

  5. You’re looking at the airlines as companies that think more than 1 second ahead of time. They don’t, the only reason they won’t bundle is because it makes the initial ticket price higher, and that put them further down the list on Expedia and Kayak……if your customers only care about one thing, you have to as well……and the only reaosn Sprint is alive is because a good percentage of customers look at one thing only

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