Airlines get to keep the money

The IRS has ruled that airlines can keep 100% of the revenue they collect from baggage fees. The agency says certain other non-ticket charges are tax-exempt as well. It's clearly a win for the airlines. What about passengers?

The airlines asked the IRS to clarify tax rules regarding non-ticket revenues. The IRS responded by saying that baggage fees, food, alcohol and headsets are not subject to tax. But customer upgrades at check-in, purchases of frequent-flyer miles and fuel surcharges remain taxable. More from Bloomberg:

The decision is "a positive thing for the airlines," said Jay Sorensen, president of IdeaWorks, an airline consulting firm in Shorewood, Wisconsin. "It will allow the airlines over the long term to realize all the revenue. They won't have to share with the government."

Carriers have been turning to sources other than tickets for revenue as government figures show fares stagnated at 1998 levels last year amid slumping demand in the recession. Sorensen estimated in a Jan. 20 report that the five largest airlines will collect $1.76 billion to check first and second bags, a $117 million increase over last year.

But some members of Congress say the airlines are effectively cheating the government by "unbundling" the flying experience -- in other words, by charging separately for bags, food, choice seats, etc:

U.S. Representatives James Oberstar and Jerry Costello said in August that they were concerned the baggage and other fees "are resulting in revenue being diverted" from a federal tax fund for air-traffic control and other government aviation costs.

Democrats Oberstar of Minnesota and Costello of Illinois asked in a letter that the Government Accountability Office study "ways that Congress can effectively capture these fees."

While Congress is working on that, does the IRS ruling mean airlines will reduce ticket prices and jack up fees (or just jack up fees)? United increased its first bag fee to $23 this month, matching Delta and Continental.

Will Southwest stay the course with its annoying "bags fly free" commercials? If so, Southwest is giving up quite a bit of tax-free revenue.

It'll be interesting to see what happens. The airline industry didn't get a bank/carmaker type rescue from the government. Perhaps this is a mini-bailout.

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