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Baggage fees could soar...again

baggageGet out the barbells. It's time to do more lifting to prepare for heftier carry-on bags. That's because airline passengers may be hit with even more expensive baggage fees following a little-noticed recent development.

In a victory for cash-strapped airlines still struggling with lagging demand and high oil prices, the Internal Revenue Service ruled last week that the federal government cannot tax bag fees.

Speaking on behalf of the industry -- which is worried Congress will tax a bevy of additional fees that have angered already beleaguered travelers -- an unidentified carrier asked the IRS to rule on the matter.

Legislators expect to receive a report from the Government Accountability Office this summer on whether not taxing new airline fees for everything from food to blankets to headsets could lower federal tax revenue. The federal government currently taxes ticket sales.

Tax watchdogs have already been concerned that not taxing the fees will take millions of dollars away from the nation's roads, schools and parks and gift it to private industry.

Airlines are becoming increasingly reliant on the standalone fees after they've repeatedly been forced to roll back fare hikes as the recession continues to dampen travel demand.

Analysts said the ruling could prompt carriers to raise baggage fees yet again. Most airlines charge passengers for the first or second bag, although few, including JetBlue Airways and Southwest Airlines, hope that not adding the surcharge will lure travelers away from competitors.

Carriers already hiked the unpopular bag fees recently, with Delta, United and Continental opting to charge $25 for the first bag and $35 for the second.

"This will cause some abhorrent behavior by carriers," said Robert Mann, president of R.W. Mann Co. "These fares are very high margin, whereas a basic fare is somewhere between 10% operating margin in a great year and a negative margin in bad years."

Since the IRS ruling only applies to baggage fees, it's unlikely that carriers will start raising other charges in response to the department's decision, Mann said. But this doesn't mean that they won't continue to think about new ways to charge passengers outside of the basic ticket fee, analysts said.

Fare watchers expect that airlines already earn substantial profits from the fees. Had it charged baggage fees for all of 2009, American Airlines stood to rake in $2 billion, or 10% of its operating revenue, Roger Herbst, a commercial airline pilot and founder of Airlinefinancials.com told Dow Jones news wires.

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