An Opportunity to Improve Air Travel

June 4, 2015

As Congress works on reauthorizing the Federal Aviation Administration, the issues facing airports are worthy of extra attention. The current system for airport funding in the U.S. is in need of reform. Passengers face a variety of fees on their air travel, and some of them – like the Passenger Facility Charge – do much better job of funding airports than others – like the taxes levied on tickets. I recently wrote a report on how airport funding could be improved.

Yesterday, Christopher Versace wrote at Forbes that Congress should consider marrying a PFC increase with a decrease in the 7.5% ad valorem tax on ticket prices. There are several reasons to believe this is a good idea.

When I wrote about these taxes, which raise money for the FAA, I mostly focused on the spending-related issues at the FAA. But the taxes themselves also have some additional faults.

For one thing, the 7.5% tax creates a bias against higher-quality air travel in that it makes improvements to flights more expensive after tax. For example, if an airline improves service quality by $10, and charges accordingly, the passenger ends up paying $10.75. In an industry where margins are small, and customers are deeply sensitive to price, that has a substantial distortionary effect.

A big story in air travel is the decline of amenities, and the rising market share of budget carriers. Some of this trend is a welcome democratization of air travel, making it more affordable for the middle class. But some of this trend is a simple artifact of tax policy.

Another effect of the 7.5% tax is the rise of fees for things like ticket changes and bag checking. The tax is on the price of tickets only, not fees. The policy encourages airlines to draw their revenue from fees rather than ticket prices, in order to protect their passengers from paying more in tax.

The problem is that while it makes sense financially to separate the fees out, passengers would appreciate a more transparent pricing scheme without miscellaneous charges added on.

From a public policy perspective, we should avoid administrative distortions from taxes. The easiest way to make a large rate cut would be to couple it with a hike in the PFC. Irrespective of the appropriate total amount for airport spending, this kind of PFC-for-tax swap would always be welcome.

This piece also appeared on Forbes.


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