Why The Tax Code Encourages American Airlines to Award Bonus Miles for Checking Bags in Boston

AAdvantage Geek points out that through November 22, American is offering its elite members 500 bonus miles for checking a bag in Boston. Of course, elites get free checked bags, so they’re encouraging customers to do something that’s free.

So Wandering Aramean suggests,

[T]here doesn’t really seem to be a need to care about what you’re checking. I figure just grab a FedEx box, put a bag tag on it and collect your 500 miles. No need to even collect the box at the other end

I find this move by American interesting, though not at all surprising. They’re testing whether they can incentivize folks to check bags, not because it generates revenue but because it’ll simplify the boarding process.

Airlines have been charging for checked bags, so no one wants to check bags.

Not that savvy travlers wanted to before, pack well enough to avoid checking a bag and the airline won’t lose that bag, and you won’t waste half an hour with the process either. If you do two round trips per month checking a bag each time, that would mean a full day of your life every year just waiting for checked bags.

Frequent flyers aren’t the frequent bag checkers, nnd they aren’t the ones seeing the cost. But with the baggage fees comes a desire not to pay those costs, and more bags get dragged onto the plane. Elite status becomes all the more important, early boarding means having overhead space to store your carryon and not having to gate check.

Storing bags and gate checking slows down the boarding process and delays flights, not only making the travel experience less enjoyable but costing airlines money.

So we now have the bizarre situation where airlines charge passengers to check bags, discouraging them from doing so. And essentially paying elite passengers to check bags, while generating no revenue.

And yet this makes total sense!

Most observers believe that checked baggage fees are generating huge income for the airlines. I’ve long disagreed. My contention has been that when a product has mostly fixed costs, and the marginal cost to provide it to another customer is close to zero, the producer will make more money by bundling it with other products than by selling it separately.

Although in the current environment, with how tickets and services are priced, I would have expected that unbundling passenger travel from checked baggage would fail to raise net revenue for an airline. In fact, I would have expected bundling to be a profit-maximizing strategy the way it is for software or cable television channels.

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.)

Few observers are convinced, and argue that the spread of baggage fees must mean they’re profitable. I argue instead that it’s really a tax avoidance strategy.

When airlines throw in checked bags with the ticket price, there’s a 7.5% excise tax. But that tax doesn’t apply to baggage fees priced separately. So checked baggage fees are a way for airlines to move part of their revenue stream into a bucket that doesn’t get taxed as heavily.

In so doing, they’re seeing costs from too many carryon bags slowing down the boarding process. And they’re willing to try out ways, like incentivizing elites who get their checked bags free already, of compensating for those costs which are incurred as a result of the tax avoidance which comes from unbundling baggage from tickets.

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 InsideFlyer.com, 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. Interesting point of view.

    The market certainly has been demanding (albeit unknowingly) unbundled prices – which is why we no longer see meal services included in most economy tickets or pillows, etc.

    Due to the market-demanded unbundling, the carriers were wise to add the baggage fees – and it has generated significant revenue. Whether it was incremental (versus if tickets were sold bundled with baggage services) no one can say for sure, but I suspect at least some is.

    As to the tax code and the excise taxes, you’re not the only one to notice this. Several members of congress have openly discussed adding the excise tax to baggage fees. Political winds have prevailed – in that congress didn’t want to have it’s already tarnished name associated with taxing something already unpopular and seen as unfair by many. If they check the financials of the carriers and see the $7bn+ that the industry has collected in fees, perhaps theyll reconsider. Congress has never seen a revenue stream they don’t wish to tax.

  2. @JA it’s a test! Significant concentration of elites but controllable relative to Dallas, Miami, Chicago, etc.

    @NYBanker I agree that there’s marginal revenue from checked baggage fees, I suspect largely due to information search costs, airline tickets are rarely sold on a total trip cost basis.

  3. In Boston, AA’s ticket counter used to have a First Class/EXP and a Business Class/PLT line…..and of course a separate American Eagle counter for everyone no matter what elite/no-elite level. But that has changed with Eagle getting kicked out of BOS.

    The current ticketing area for AA is just for non-elites and GLD (I think) and the First Class/Premium Access lines are all lumped together where Eagle used to be….a small walk as well if one arrives at the AA counter. The First Class/Premium line can get a little long with people whom simply don’t know how to check-in (i.e.: the bought a premium ticket, but have zero elite status).

    Maybe that’s why they’re doing this “test”. As a Lifetime PLT, I’m all for doing the Kiosk “thing” for 500 Miles. But I travel Internationally, which means I have to swipe my Passport too….it gets time consuming and a tad complicated using a Federal I.D., rather than my AAdvantage card, thus I hop into the regular FC/Premium Line, especially when I have 40 minutes to check-in before take-off.

    What BOS has to do is regulate the rates at their airport hotels. It’s cheaper to take a bus to Manchester NH and stay there, then bus it back. That’s obscene.

  4. While I’m all for incentives (even strange ones such as the free miles for checking bags), it seems this is largely an operational problem of misaligned incentives. For instance, the TSA doesn’t always restrict passengers trying to carry on bags larger than what’s permissible…and neither do the gate agents who have–but never use–the nifty little bag size-checkers at the boarding door. Lastly, the flight attendants don’t police inappropriate use of overhead bins either.

    All of those examples (TSA, gate agents, and FAs) show incentives not being properly aligned with operational priorities. Instead, each one takes the path of least resistence (for themselves) and pass the buck. Unfortunately, the buck stops with the guy who’s running late or the passenger who just doesn’t realize that sitting in 10A may mean they end up almost always gate checking a bag they don’t want to check. I think that’s just bad business.

    So maybe this experiment with frequent fliers will help free up space, but I’m doubtful it’ll do anything more than push fedex boxes through the system…not actual bags.

    To me, this seems like a strange way to incentivise your core customers to do something they don’t want to do anyway, which makes me seriously question if it will fly at all.

  5. Hasn’t there been a history of labor issues with the bag handlers over the old curbside check-in fee at the Boston airport. IIRC, they were the catalyst for the removal of those fees, which led to regular baggage fees.

    AA should thank them, they are making much more money of it now. But while I’m generally pro-business (vs. pro union), I like curbside checkin and I smell something fishy here.

  6. As a non-elite traveler, I’m curious as to what percentage of travelers on a given flight (on average) would have Elite status and would be the target market for this promotion. If Elites are only 4-8 people per flight, the payback will be insignificant, but if close to half an AA flight comprises Elite members, then it makes sense.

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