IRS Continues to Attack Foot Faults and Retained Rights Instead of Problematic Appraised Values
Lots of developments to report on in the past month: First, the IRS is claiming in a new deduction denial brief that reserving commercial forestry rights in a conservation easement is impermissible. Second, there is a new tax court case again upholding the IRS’s denial of deduction for a conservation easement based on the extinguishment proceeds clause. Third, and this is the only silver lining, the IRS issued an announcement that it will be ramping up enforcement against syndicated easements, including bringing criminal charges against syndicators and also examining nonprofit participants. More below.
IRS Claims Commercial Forestry Is Inconsistent with Conservation Interests
The IRS recently challenged a conservation easement deduction on the basis of, among other things, the taxpayer’s reservation of the right to conduct commercial forest management, in a case pending in the U.S. Tax Court, Tot Property Holdings LLC, Tot Land Manager LLC, and Tax Matters Partner v. Commissioner of the Internal Revenue Service, Docket No. 5600-17. The IRS asserted that reserving commercial forestry rights violates the requirement that the easement be conveyed “exclusively for conservation purposes,” as provided in Internal Revenue Code section 170(h)(1)(C), and the prohibition on “inconsistent use,” as set forth in Treasury Regulations section 1.170A-14(e)(2).
The conservation easement in Tot Property provides that the landowner can conduct “commercial forestry … designed to allow for a sustained yield of forest products,” subject to a forest management plan. The plan is required to be acknowledged by the Tennessee Division of Forestry, a forester who has received a degree from an accredited school of forestry, a student or students currently enrolled in an accredited school of forestry (and supervised by faculty), or such other qualified person approved by the landowner and holder of the conservation easement. The management plan is also required to be consistent with the Tennessee Division of Forestry’s best management practices and applicable law. Despite the easement’s requirements that the forestry result in a “sustained yield” of forest products and be conducted pursuant to a management plan, the IRS stated in its brief, “Even where commercial forestry is conducted responsibly, it is inherently inconsistent with significant conservation interests.”
The IRS is correct to challenge this donation since the transaction involved an abusive syndicated easement and, in turn, an exorbitant claimed deduction for the easement donation. However, the IRS’s challenge of commercial forestry as “inherently inconsistent with significant conservation interests,”
California land trusts and conservation practitioners are strategizing with the national Land Trust Alliance on the appropriate response to the IRS’s position. Stay tuned for more information as the case develops.
Extinguishment Arguments Continue to Proceed in Coal Property Holdings, LLC v. Commissioner
The tax court upheld an IRS denial of deduction for a conservation easement again in Coal Property Holdings, LLC v. Commissioner, 153 T.C. No. 7 (10/28/2019), in another syndication case with a grossly inflated appraisal. Here, through complicated corporate formation and capital contribution shenanigans, the taxpayer acquired the property in 2013 for $32.5 million and then donated a conservation easement three days later, claiming a donation of $155.5 million.
Rather than attacking the obviously illegitimate valuation, the IRS focused on (1) the proceeds clause in the extinguishment section of the easement, à la PBBM-Rose Hill and Carroll, (2) the taxpayer’s failure to properly complete the Form 8283, à la Belair Woods and RERI Holdings, and (3) an error in the appraisal regarding one of the retained uses of the property.
The court upheld the IRS’s deduction denial based on the extinguishment proceeds argument and did not address the other arguments. Our opinion of the proceeds argument has been documented thoroughly in this blog with our pieces on PBBM-Rose Hill and Carroll.
Coal Holdings is yet another case that underscores the importance of being able to distinguish between abusive shelter easements and legitimate conservation easements. Many legitimate conservation easements will fall afoul of this new jurisprudence on the proceeds clause, which begs the question of whether the IRS is going to deny deductions for the majority of conservation easements donated in the past decade and whether the Tax Court and Circuit Courts are going to support that mission.
IRS Announces Pursuit of Criminal Charges Against Syndicators
IRS Commissioner Chuck Rettig announced on Nov. 12 that the IRS will be pursuing criminal cases against promoters, taxpayers, tax preparers, and other individuals who help proliferate abusive syndicated conservation easements. In addition, the IRS will be scrutinizing the nonprofits that participate.
When the IRS identifies an abusive tax shelter scheme as a “Listed Transaction,” the scheme usually dies out because taxpayers and promoters must self-identify their transactions to the IRS and thereby invite audit. Unfortunately, the syndicated conservation easement shelter is so lucrative that bad actors are still widely promoting it throughout the country, even though the IRS listed it as an abusive shelter two years ago in Notice 2017-10 and has ramped up enforcement efforts.
Earlier this year, Congress jumped into the fray and started investigating the abusive syndicated easement shelter, while the IRS added the shelter to its Dirty Dozen list for 2019, which highlights the worst of the tax scams for the year and prioritizes those for enforcement.
Here’s hoping that threat of criminal actions and imprisonment will dry these shelters up. Given the IRS’s promised scrutiny of land trust participants, all land trusts should familiarize themselves with the Land Trust Alliance’s Tax Shelter Advisory to ensure that they do not inadvertently participate in these schemes.