Buyer Beware

By Staff Writer

December 01, 2002 at 02:00 AM

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The MSRP on a 2002 Ferrari 360 Spider is $166,679. A new Beech 400A "light" jet runs about $6.4 million, a 50-foot Beneteau power boat around $500,000. Some people just have to have these things.

It's up to the advisor to condone the purchase, protect the client from his foolishness, utilize creative means of "ownership" if outright purchase isn't feasible, or find other toys that serve as workable alternatives. Prior to making any recommendations, however, the advisor must first calculate the toy's real cost, including maintenance and operating extras. And before that, he must discern the client's true reason, from a psychological perspective, for wanting to make the purchase at all. It's not as easy as it sounds.

Frank Gleberman, an RIA and principal of the Century Benefits Group in Marina del Ray, California, is in a unique position to appreciate toys. A past commodore of the California Yacht Club, he has owned and chartered numerous craft and sailed all over the world. He has clients who do the same. Because Gleberman's brand of comprehensive financial planning embraces lifestyle planning, when it comes to client toys, the first thing he endeavors to discover is how important these toys–the planes, the boats, the cars, the third homes–are to the client, and what the underlying reasons are for wanting to own them.

"If you know your client well enough, get beyond the sharp pencil and the calculator," says Gleberman, "and find out what the root reason is to consider a toy." He adds, too, that if a client wants two hours of his time "at $500 or $600 to go through this in depth, that's cheap insurance vis-?-vis making a mistake."

Revealed in client discussions are whether toys are important in and of themselves, as status symbols, or are meant to facilitate a lifestyle. As Gleberman puts it: "Why does the client want to buy a Mercedes? Is it for safe transportation or is it to tell people he's arrived?" Sometimes there are better ways of telling people you've arrived, and better uses for the money. Over the years he has observed that many people buy a yacht for reasons similar to those for having a child: to devote a part of their own life to something other than themselves. "Some of the folks who have the wherewithal for these toys are a little on the lonely side socially," he says.

Cash Rich

Aesop's saying, "Wealth unused might as well not exist," applies nicely to those high-net-worth clients who purchase their whimsies with cash–and despite the depressed market, there are many of them. They, too, need guidance. Jerry O'Halloran is an RIA and partner with Koch, Dees & Teets 1:1, Inc. in Punta Gorda, Florida. Like Gleberman, he is in a position to understand his clients' toy needs, since he owns a plane and boat. Most of O'Halloran's clients are retirees with assets north of $1 million. They relocate to Florida with $50,000 to $250,000 set aside for major toys–sailboats and motorboats mostly–and few make monthly payments.

In a pre-purchase sit-down, O'Halloran says to these clients: Here's your net worth; that toy is an expense; most boats will depreciate in value; when you sell it you will lose money; and you will spend money along the way. Period. "They know it, we know it," he says. Since most of his clients pay cash, the only potential problems lie in ongoing operating expenses.

According to O'Halloran, you can purchase a used, 36-foot ChrisCraft Cruiser, like the one he owns, for $40,000 to $50,000, and for up to $250,000 for a new one, depending upon features. A popular sailboat line is the Morgan, which new and at around the same size, costs about the same. A 36-foot ChrisCraft will sleep four to six, and hold 100 to 150 gallons of fuel–enough for a run from the east coast of Florida to the Bahamas, a distance of less than 100 miles. At present, boat fuel in Florida is $1.35 to $1.40 per gallon. Boats larger than 36 feet tend to use diesel fuel, which runs $0.25 to $0.30 less per gallon. Using regular fuel, a round trip from Florida to the Bahamas will cost upwards of $400. Then there's insurance, which on O'Halloran's cabin cruiser is $1,200 per year, and maintenance fees, which tend to be about 10% of the cost of the vessel. Insurance costs have changed little in recent years, O'Halloran says, and clients tolerate fluctuations in fuel prices. "It's not going to change my lifestyle, and it's not changing their lifestyles, either," he says. That's not to say, however, that an exploration of factors such as these might not convince a prospective purchaser to consider a different model or type of craft or another toy entirely.

Being There

If yachts and sailboats are mainly about pleasure and spending quality time, aircraft are about pleasure and saving quality time. It's bad enough that a Beech 400A or Citation V Ultra light jet, the latter the most popular private business jet in aviation history, costs $6.4 million to $6.5 million. Small jets while in use also cost an additional $800 to $1,300 per hour, per person, for fuel and maintenance and miscellaneous expenses. For some people, however, this is a small price to pay for the convenience and hours saved by not flying commercial.

Prop planes don't come cheap, either. A new Cessna 182, like the one O'Halloran owns, carries four passengers plus baggage, cruises at 155 miles per hour, and costs $220,000 to $240,000. Fuel runs anywhere from $2.40 to $3.40 per gallon. Airplanes also undergo a mandatory annual inspection. While this usually costs between $1,500 to $2,500, last year's extra-work requirements drove O'Halloran's tab to $8,000. Insurance on the Cessna runs about $1,200 per year, while hangar expenses are $250 per month.

After gaining an understanding of a client's motivation, and its underlying importance, the financial planner must then calculate the toy's real cost. As noted, relevant factors beyond purchase price include equipment maintenance, hourly fees, possible pilot or captain fees, and depreciation. When the tally is too high, a "very real approach" and viable alternative is fractional ownership, says Gleberman.

Fly Fractional

In a nutshell, the fractional ownership concept–as applied to multimillion-dollar personal or business jets–works like this, according to NetJets, a Berkshire Hathaway-owned company in Woodbridge, New Jersey, formerly called Executive Jet. "If you want to fly 50 hours a year in a light jet that has a cost of $6 million for the entire aircraft," reads NetJets' promotional literature, "you can purchase 1/16th ownership interest for just $375,000 rather than buying the whole aircraft–and save over 93% of the cost, or $5.625 million." Monthly management and occupied hourly fees are extra. (Sikorsky Aircraft Corporation's Sikorsky Shares, based in Wappingers Falls, New York, offers a fractional program for its six passenger Sikorsky S-76 helicopter, which new costs more than $8 million [See www.sikorskyshares.com].)

As Kevin Russell, a NetJet senior VP, explains, the fraction size (and corresponding annual usable hours) available to would-be owners runs incrementally from a minimum 1/16th (providing 50 annual hours) to a maximum 1/2 share (400 hours). The acquisition cost is a one-time investment based upon the fraction size and type of aircraft purchased. For example, a 1/16th ownership in the Citation V Ultra model mentioned earlier is $350,000, or $2.8 million for a 1/2 share. At the upper end of the jet size (and cost) spectrum is the Boeing Business Jet, with an acquisition cost of $3.25 million for a 1/16th share, and $24.6 million for a 1/2 share. The monthly management fee on a 1/16th share for a Citation V Ultra is $5,420. This covers indirect operating costs such as pilot salaries, training, insurance, hangaring, and administrative support. The occupied hourly fee for a 1/16th share of this Ultra is $1,343, which includes fuel, maintenance, catering, and landing fees. A 7.5% Federal excise transportation tax is levied on the hourly fee, which is the same tax paid on any commercial ticket.

What do you get for your investment? Though you technically own an individual, serial-numbered, FAA-registered jet (serialization is necessary for tax purposes), the fractional owner enjoys access to an entire fleet of jets identical to his, 100% of the time, 365 days a year. NetJets presently owns 490 aircraft used by some 300 owners, and is adding six to ten new aircraft to its fleet each month.

The NetJets fractional investor can own his jet as long as he wishes, while some companies, Russell says, obligate the owner to sell his interest back at the end of five years. Interest-only is a NetJets financing option. At the end of a minimum two-year period (and at any time after that) the owner can return his aircraft to NetJets and receive its residual or full market value. Residual value and depreciation are important fractional sharing issues, and vary from aircraft to aircraft, Russell explains. Five years ago three new light-jet models were made available to the public by companies in the fractional aircraft ownership industry, he says. A Lear 31A was offered by FlexJet; Travel Air had the Beach 400A; and NetJets, the Citation V Ultra. Each had a list price of close to $6.5 million.

Today, says Russell, the Beach 400A and the Lear 31A are worth 50 to 55 cents of the dollar value of what owners paid three to five years ago, whereas the Citation V Ultra is probably worth somewhere between 70 and 75 cents on the dollar. While NetJets offers 12 models, Beach and Lear aren't among them. "Everyone assumed the values would stay high, and buyers anticipated 75 cents, 80 cents or more, after five years," says Russell. "But obviously fractional owners have misunderstood the degree of depreciation of their "'lifestyle enhancements'."

Companies may use fractional ownership to trim costs, but as advisor Gleberman noted earlier, for the individual, owning a personal jet is an invaluable time saver. (NetJets says that 25% of its clients use their jets for private quality-of-life purposes.) Fractional ownership makes ownership feasible, at least for some. A few years ago people used to get into the fractional market having as little as $10 million of net wealth, explains Russell. Today's typical clients are those with assets in excess of $20 million–and most NetJets clients simply write a check. "It's not an issue, and if it is, they shouldn't be looking at fractional aircraft ownership," says Russell.

For information on fractional jet aircraft ownership and leasing, visit www.flyaow.com/fractionaljetaircraftownership.

htm, or www.fractionaljetownership.com.

Cheaper Alternatives

For the toy devotee who can't make the stretch for fractional ownership, let alone outright purchase, there are alternatives. It's up to the advisor to explain these options, while making the client feel good with his final decision. Gleberman gives the example of a client who can't wait to get his hands on a 55-foot, $500,000 boat. Okay, says Gleberman to the client, factor in about $60,000 a year in payments, and with annual maintenance 10% of yacht purchase cost, you're looking at a $110,000 outlay a year for the boat. "Reasonable usage" for a client living in California, is three times a month in the summer, and maybe once a month in the winter–zero on the East Coast. This means it will cost his client about $5,000 each time he takes the boat out sailing. Now, is it worth $5,000 when you can charter a yacht for a couple thousand a day? "On the one hand you don't have the hassle of having to manage the craft, on the other hand, you don't have the prestige of it sitting there and saying, 'Hey, that's my boat,'" says Gleberman. These distinctions are not to be taken lightly.

The next step is to look at the substitutes–beyond fractional ownership–that would give the client equal satisfaction while leaving more money in his wallet. "For the ones who are reaching, the toy becomes a sort of talisman," says Gleberman. "There may be better alternatives; and in fact, the end result may be even more rewarding."

The client coveting ownership of the $500,000 Beneteau might indeed be better off chartering one. Two charter companies that Gleberman recommends are The Moorings and Sunsail. (The Moorings, said to be the largest yacht charter company in the world, has a U.S. regional office in Clearwater, Florida, and can be reached at 888-952-8420, or www.moorings.com. Sunsail USA, in Annapolis, Maryland, can be reached at 800-327-2276, or www.sunsail.com.) "If you go down to the Caribbean, you can charter out a 50-foot yacht with, say, three couples, have a great experience, including your costs and food, for $160 to $180 a day per person," he says. Add a captain and/or a cook, and "it goes up a little bit." Gleberman, who has chartered all over the world, says chartering offers boat lovers more flexibility than ownership because the charter boat's port can be anywhere on earth at any time, meaning you never have to sail from the same port.

This leads to a related alternative, which is to purchase a charter boat from a charter company such as The Moorings or Sunsail, who provide buyers with a certificate of maintenance. Charter purchase is a strategy that can often be no more expensive than chartering. What the owner gets, Gleberman explains, is a percentage of the income from charters. After three or four years, the charter company either gives or sells the craft to the owner, who commonly has already invested a down payment of about one-fifth of the cost of the boat. If the owner wants out, he can sell, losing little more than the 15% or 20% he put down– a cost he would have incurred anyway, had he bought the boat outright.

Income from charters generally covers monthly payments and upkeep, the latter performed by the charter company. Tax-wise, there is depreciation to take advantage of. Also, the charter boat is a business, and as Gleberman says, "the IRS allows you to visit your business." A general rule of thumb dictates that the owner not use his boat for personal pleasure more than two weeks per year; if he does, he should begin to pay the charter fee to the charter company as though he were a customer. At the end of three or four years, and after making payments on, say, a 15-year loan and taking in charter revenue, it's possible to own the boat for 30% or 40% less than if the boat were bought outright, says Gleberman. The boat would also have already been well outfitted with equipment that, when bought new, could have been quite expensive. "It's also a relatively low risk way of finding out whether you want to keep the boat," he says.

Fly Cheaper

There are cheaper ways to fly, too–at least cheaper than fractional ownership–through so-called membership programs. These allow travelers to book flight time with charter operators for a specific aircraft. Premiere Fleet, one such program launched by the Skyjet unit of Canadian plane manufacturer Bombardier, sells one-year contracts good for 25 to 100 hours of air travel. The basic membership fee is $39,000, plus an hourly rate of $1,200, for a minimum of 25 hours. The only business-jet charter service owned by a major commercial carrier is Delta AirElite (formerly known as Comair Jet Express), a subsidiary of Delta Air Lines, Inc. At press time DeltaAir Elite was expected to announce plans for its own membership program. A company spokesman said charges for the service had not been finalized.

There's a cheaper way to fly with the fractional company NetJets, too. Marquis Jet Partners, established in 2001, provides access to the NetJets fleet, without would-be owners having to enter into a long-term fractional ownership program. Marquis acquires fractional shares from NetJets and repackages them into pre-paid leases to people who need less than 25 hours flight time per year. For a financial planner, the details and number crunching necessary in contemplation of the purchase of a client toy are often easier to figure out than the reasons the client may admit to for desiring it. Gleberman maintains that when the root cause of a client's desire to obtain a particular toy is revealed, the client is sometimes surprised by his own motivation. "Toys are an emotional purchase, and should be made with discretionary income," he says. "There are certain things we do to determine who we are or to make people think about who we are, so when I say discretionary income, sometimes it's as real as maintaining one's health or wearing decent clothes–toys are a part of who you are."

Senior Editor Cort Smith can be reached at [email protected].

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