Aviation is currently undertaxed, according to economists from the IMF and World Bank, compared to other forms of transport. Airlines pay no fuel duty and VAT is zero rated meaning that no tax is charged on sales and tax charged on inputs is refunded.
The fuel tax exemption on international aviation is rooted in the large number of bilateral agreements based on an interpretation of the 1944 Chicago Convention, though the Convention itself does not prevent the taxation of fuel uplifted. There is nothing to prevent the taxation of fuel on domestic flights and several States, including the U.S. do levy such a tax.
The zero rating of VAT for air travel tickets is justified on the basis of difficulty in assigning cross-border purchases to countries and issuing credits and refunds across countries, but there remains a strong case for imposing it, particularly if agreed at an EU-wide level.
CE Delft calculated in 2013 that the shortfall as a result of these two anomalies amounted to around €27 billion annually in Europe.
In the UK, Air Passenger Duty (APD) is paid as a departure tax with rates varying for class of ticket and two distance bands. We discuss the value of APD in our blog post here. The next year or so could be important for deciding the future of the UK’s Air Passenger Duty, with devolution of the power to vary APD rates having been granted to Scotland. APD currently raises around £3 billion each year.
Alternative options for taxing aviation
At a global level, the World Bank and IMF favour a relatively low tax universally applied per tonne of CO2, which could then raise money for climate change mitigation.
In the UK, the Liberal Democrat and Conservative coalition considered in 2010 replacing APD with a per plane tax to include freight aircraft and provide an additional incentive to airlines to fill empty seats. However, this was dropped following concerns, the Government claimed, about concerns that it could be challenged legally as representing a proxy fuel tax (contrary to bilateral air service provisions with other countries).
Another alternative would be a form of taxation that discouraged frequent fliers.