Frequent Flyer Miles - Currency or Taxable Income?

American Airlines introduced frequent flyer miles in 1981 to stimulate customer loyalty. Over the next two decades, every major airline in the world followed suit. In so doing, this major innovation changed the way we plan our business and leisure travel forever.

Today, according to Randy Petersen, publisher of InsideFlyer magazine and webflyer.com, there are 47 different frequent flyer programs that doled out more than 14 million free tickets in 1998. As a trade off for being away from family on company business, most companies permit their employees to fly on their preferred carriers, so that they can earn the maximum number of frequent flyer miles. In turn, the employees bank the miles to redeem - at a future date - leisure travel with their family and loved ones.

The cycle appears to be self-perpetuating, as frequent traveler miles become another source of currency in today's burgeoning global markets. The fly in the ointment, however, may be society's watchdog, the tax man! As a new revenue source, will the government at some point in time attach itself to the perceived value of the frequent travel mile?

When employees earn mileage on flights that are paid for by the employer and are allowed to keep that mileage, the mileage can be interpreted as a fringe benefit, and as such, it may at some future date become taxable. However, the timing of the income (since redemption happens somewhere in the future) and the value of the benefit have been difficult to determine, so the IRS has not issued any guidance on how and when to report this income.

Consequently, and in the meantime, this incremental compensation has provided employees with a number of ways to enjoy a newfound wealth. Coupled with hotel frequent traveler programs, travelers who have built up a bank of miles and points can virtually fly and stay overnight on limited funds, or at other times, at no cost all. Most programs will award a traveler with a free U.S. domestic roundtrip, for 20,000 miles, a ticket to Hawaii or the Caribbean for 40,000, Europe for 60,000 and Australia for 80,000. Each airline, however, has its own set of rules and somewhat different mileage levels, so it is important to understand the guidelines for one's preferred airline.

Wise advice for 'frequent' frequent travelers is to accumulate as many miles and achieve as high a status as possible on one or two programs. Often referred to as elite-level programs, this is the level of membership where one can earn the most miles, points and privileges. If you review the various elite-level programs by an airline or hotel, you will see why this is an important decision. Most provide special upgrades at no cost and tier bonuses that can increase your mileage and point totals automatically by 25-100 percent each time you travel. For most members, that means that a 25,000-mile free award can be earned with only 12,500 actual flight miles. Then at the end of each year, it is recommended to take an audit of your miles and determine which ones need to be exercised. In the case of American Airlines, a number of miles are deleted from your account if not used within a certain period of time. Continental, on the other hand, has taken the stance of not reducing any member's vested miles.

If one wants to accumulate more frequent travel wealth, an easy method is to offer a frequent flyer ticket to a traveling companion. In turn, the frequent traveler can rack up more miles on a paid-for ticket. Moreover, paid tickets are easily upgraded, while free tickets are usually not. Similar to bequeathing money in your will, most airlines will transfer frequent flyer miles to one's heirs upon a death. And if there are enough miles for an award, the awards can be issued in their names. Otherwise the miles may be transferred to their accounts, if the descendants belong to their own frequent traveler programs.

As partners to the travel industry learned the value of these programs, it wasn't long before AMEX and credit card companies attached themselves to the lucrative loyalty band wagons and enjoyed sharing targeted databases to sell their wares. Long distance companies, florists, and car rentals soon followed. And as a result, our physical and virtual mailboxes have been inundated with a good amount of junk mail and spam sales pitches, over the years. According to Randy Petersen, there are over 10,000 businesses in the U.S. that offer frequent flyer miles other than the airlines

Lending Associations and Gambling outfits are two of the latest to the join the fray. In today's market, lending money has become as competitive as the airline industry. So it should come as no surprise that some lenders are teaming up with an airline to make their mortgages more appealing. After all, owning a home and being able to travel away from it are two goals common to most Americans. Under a new plan announced in June 1999 by American Airlines and five lender mortgage lenders, it is now possible to combine those goals by getting frequent flyer miles with your mortgage payments. The companies are California Federal Bank, Downey Savings and Loan Association, Great Western Bank, HomeSide lending and PHH Mortgage Services Corp. Those in the program will earn one mile for every dollar of interest they pay on their mortgage, and will earn these miles month after month. For example, if $500 of one's mortgage payment is interest, 500 points will be accumulated in that party's frequent flyer program.

American Airlines has also taken the lead initiative on establishing relationships with the gambling world. The Directors Club program is one that has been in place in Las Vegas and Atlantic City, for the last year. It's concept is very simple. Slot machine play earns Directors Club points, which can be redeemed for AAdvantage miles, once a minimum number of points has been accrued. At the Directors Club desk (which, by the way, contains a direct line to the AAdvantage service center), members can apply and become a card-carrying member in minutes. The card then must be inserted into the slot machine, and once a player does, a greeting message appears on the slot machine screen, complete with the player's name. Directors Club patrons earn one point for every $5 that passes through the coin slot of the machines, and at video poker terminals it takes $8 to earn a point. Two Director Club points equal one AAdvantage mile, so $10 or $16 in play (not losses) earns one AAdvantage mile.

If American Airlines is willing to get into bed with one of our number-one vices, are other forms nefarious behaviors far behind? The irony of the frequent flyer game is that those who accumulate the most mileage may have no use for their winnings. If you fly a lot, the last thing you may want to do is to get on a plane again, even if it is for pleasure. Thus a sizeable semi-underground market has developed to transfer frequent flyer awards to those looking for travel on the cheap. Key to this trading are coupon brokers who bring buyers and sellers together. Brokers ask sellers to exchange a certain number of miles from their frequent flyer accounts for a so-called reward, turning over the award certificate to the broker.

Prices vary, but sellers generally get $12 to $15 for each 1,000 miles accrued, or about $250 to $300 for a domestic ticket. The broker then sells the certificate to a traveler at a price that may be as much as 50% off the regular fare. Is this illegal? Well, the black & white rules state that frequent flyer programs prohibit the selling of awards. The gray area, however, is that they do allow you to give awards away-in some cases to relatives and sometimes to anyone you choose. So the sellers involved with these types of transactions have to state that the award they are giving away is a gift!

And so we come back to square one. If money is the root of all evil and frequent flyer miles are our latest form of currency, shouldn't the government get in on the act? After all, we live in a capitalistic society. In the absence of federal guidance, the mileage earned by employees cannot be transferred to employers because of the airlines' restrictions.

In Southmark v. United Airlines, the court held that the airlines were not required to provide an employer with employee account information of miles earned and benefits received by the employee under frequent flyer programs. So, until the IRS issues further guidance, employers should be permitted to continue treating frequent flyer miles earned by business travelers as an intangible nontaxable benefit despite the lack of clearly discernable income inclusion.

So that leaves you and me, dear citizen, with one protected area to enjoy our well-earned new money, free from attachments. Well at least until the government and our employers take another look at howeasy our lives have become!

American Airlines introduced frequent flyer miles in 1981 to stimulate customer loyalty. Over the next two decades, every major airline in the world followed suit. In so doing, this major innovation changed the way we plan our business and leisure travel forever.

Today, according to Randy Petersen, publisher of InsideFlyer magazine and webflyer.com, there are 47 different frequent flyer programs that doled out more than 14 million free tickets in 1998. As a trade off for being away from family on company business, most companies permit their employees to fly on their preferred carriers, so that they can earn the maximum number of frequent flyer miles. In turn, the employees bank the miles to redeem - at a future date - leisure travel with their family and loved ones.

The cycle appears to be self-perpetuating, as frequent traveler miles become another source of currency in today's burgeoning global markets. The fly in the ointment, however, may be society's watchdog, the tax man! As a new revenue source, will the government at some point in time attach itself to the perceived value of the frequent travel mile?

When employees earn mileage on flights that are paid for by the employer and are allowed to keep that mileage, the mileage can be interpreted as a fringe benefit, and as such, it may at some future date become taxable. However, the timing of the income (since redemption happens somewhere in the future) and the value of the benefit have been difficult to determine, so the IRS has not issued any guidance on how and when to report this income.

Consequently, and in the meantime, this incremental compensation has provided employees with a number of ways to enjoy a newfound wealth. Coupled with hotel frequent traveler programs, travelers who have built up a bank of miles and points can virtually fly and stay overnight on limited funds, or at other times, at no cost all. Most programs will award a traveler with a free U.S. domestic roundtrip, for 20,000 miles, a ticket to Hawaii or the Caribbean for 40,000, Europe for 60,000 and Australia for 80,000. Each airline, however, has its own set of rules and somewhat different mileage levels, so it is important to understand the guidelines for one's preferred airline.

Wise advice for 'frequent' frequent travelers is to accumulate as many miles and achieve as high a status as possible on one or two programs. Often referred to as elite-level programs, this is the level of membership where one can earn the most miles, points and privileges. If you review the various elite-level programs by an airline or hotel, you will see why this is an important decision. Most provide special upgrades at no cost and tier bonuses that can increase your mileage and point totals automatically by 25-100 percent each time you travel. For most members, that means that a 25,000-mile free award can be earned with only 12,500 actual flight miles. Then at the end of each year, it is recommended to take an audit of your miles and determine which ones need to be exercised. In the case of American Airlines, a number of miles are deleted from your account if not used within a certain period of time. Continental, on the other hand, has taken the stance of not reducing any member's vested miles.

If one wants to accumulate more frequent travel wealth, an easy method is to offer a frequent flyer ticket to a traveling companion. In turn, the frequent traveler can rack up more miles on a paid-for ticket. Moreover, paid tickets are easily upgraded, while free tickets are usually not. Similar to bequeathing money in your will, most airlines will transfer frequent flyer miles to one's heirs upon a death. And if there are enough miles for an award, the awards can be issued in their names. Otherwise the miles may be transferred to their accounts, if the descendants belong to their own frequent traveler programs.

As partners to the travel industry learned the value of these programs, it wasn't long before AMEX and credit card companies attached themselves to the lucrative loyalty band wagons and enjoyed sharing targeted databases to sell their wares. Long distance companies, florists, and car rentals soon followed. And as a result, our physical and virtual mailboxes have been inundated with a good amount of junk mail and spam sales pitches, over the years. According to Randy Petersen, there are over 10,000 businesses in the U.S. that offer frequent flyer miles other than the airlines

Lending Associations and Gambling outfits are two of the latest to the join the fray. In today's market, lending money has become as competitive as the airline industry. So it should come as no surprise that some lenders are teaming up with an airline to make their mortgages more appealing. After all, owning a home and being able to travel away from it are two goals common to most Americans. Under a new plan announced in June 1999 by American Airlines and five lender mortgage lenders, it is now possible to combine those goals by getting frequent flyer miles with your mortgage payments. The companies are California Federal Bank, Downey Savings and Loan Association, Great Western Bank, HomeSide lending and PHH Mortgage Services Corp. Those in the program will earn one mile for every dollar of interest they pay on their mortgage, and will earn these miles month after month. For example, if $500 of one's mortgage payment is interest, 500 points will be accumulated in that party's frequent flyer program.

American Airlines has also taken the lead initiative on establishing relationships with the gambling world. The Directors Club program is one that has been in place in Las Vegas and Atlantic City, for the last year. It's concept is very simple. Slot machine play earns Directors Club points, which can be redeemed for AAdvantage miles, once a minimum number of points has been accrued. At the Directors Club desk (which, by the way, contains a direct line to the AAdvantage service center), members can apply and become a card-carrying member in minutes. The card then must be inserted into the slot machine, and once a player does, a greeting message appears on the slot machine screen, complete with the player's name. Directors Club patrons earn one point for every $5 that passes through the coin slot of the machines, and at video poker terminals it takes $8 to earn a point. Two Director Club points equal one AAdvantage mile, so $10 or $16 in play (not losses) earns one AAdvantage mile.

If American Airlines is willing to get into bed with one of our number-one vices, are other forms nefarious behaviors far behind? The irony of the frequent flyer game is that those who accumulate the most mileage may have no use for their winnings. If you fly a lot, the last thing you may want to do is to get on a plane again, even if it is for pleasure. Thus a sizeable semi-underground market has developed to transfer frequent flyer awards to those looking for travel on the cheap. Key to this trading are coupon brokers who bring buyers and sellers together. Brokers ask sellers to exchange a certain number of miles from their frequent flyer accounts for a so-called reward, turning over the award certificate to the broker.

Prices vary, but sellers generally get $12 to $15 for each 1,000 miles accrued, or about $250 to $300 for a domestic ticket. The broker then sells the certificate to a traveler at a price that may be as much as 50% off the regular fare. Is this illegal? Well, the black & white rules state that frequent flyer programs prohibit the selling of awards. The gray area, however, is that they do allow you to give awards away-in some cases to relatives and sometimes to anyone you choose. So the sellers involved with these types of transactions have to state that the award they are giving away is a gift!

And so we come back to square one. If money is the root of all evil and frequent flyer miles are our latest form of currency, shouldn't the government get in on the act? After all, we live in a capitalistic society. In the absence of federal guidance, the mileage earned by employees cannot be transferred to employers because of the airlines' restrictions.

In Southmark v. United Airlines, the court held that the airlines were not required to provide an employer with employee account information of miles earned and benefits received by the employee under frequent flyer programs. So, until the IRS issues further guidance, employers should be permitted to continue treating frequent flyer miles earned by business travelers as an intangible nontaxable benefit despite the lack of clearly discernable income inclusion.

So that leaves you and me, dear citizen, with one protected area to enjoy our well-earned new money, free from attachments. Well at least until the government and our employers take another look at howeasy our lives have become!

Ron Callari | Contributing Writer