US Tax Court, T.C. Memo. 2013-154,June 19, 2013: Reaffirms Belk I, denying tax deduction for conservation easement that allows substitution of entire property.
In Belk v. Commissioner, 140 T.C. 1 (Jan. 28, 2013) (“Belk I”), the Tax Court found that the Belk conservation easement permits the grantor and grantee, by agreement and subject to certain restrictions, to change what real property is subject to the conservation easement. The court’s holding in Belk I was that the Belks were not entitled to a deduction for a qualified conservation contribution under section 170(h) of the Tax Code because they failed to donate a “qualified real property interest.” That phrase is defined in §170(h)(2)(C) as “a restriction (granted in perpetuity) on the use which may be made of the real property” (among three possible types of interests). Belk I concluded that section 170(h)(2)(C) creates a requirement that is separate and distinct from the requirement of Code §170(h)(5), which requires that the “conservation purpose is protected in perpetuity”. The court’s analysis was that even if an easement protects the conservation purpose in perpetuity, it could still fail to protect the property in perpetuity. Belk I decided that by allowing the grantor and grantee to remove the easement’s restrictions on Property A and impose it on a Property B, the easement failed to protect Property A in perpetuity.
The Belks asked for reconsideration on three grounds.
The first ground, which the court rejected, was that Belk I misinterpreted Tax Code section 170(h)(2)(C). In writing that the Belk I analysis of the law was correct, the court said that by allowing for a substitution of property, the taxpayer still could get all of the “economic value of the property for which he or she is taking a deduction. The fact that the donated property might encumber and thus reduce the value of some unrelated property is irrelevant.” The court also disagreed that Belk I “prohibits modifications to the real property subject to a conservation easement” and therefore went too far and conflicts with IRS guidance in private letter rulings.
The court said that rejecting the land substitution permitted by the Belk conservation easement does not prevent amendments but “simply requires that there be a specific piece of real property subject to the use restriction granted in perpetuity.” The court also said that by disqualifying unlimited changes in what real property is subject to the conservation easement, Belk I does not unduly the reduce the flexibility needed in order to accomplish the purpose and intent of section 170(h).
The second ground, which the court also rejected, was that the Court misconstrued the law of North Carolina (where the property is located) in determining that a substitution could even occur under the conservation easement. The Belks tried to argue that the easements amendment clause – which prohibited an amendment that would result in the conservation easement’s failing to qualify as a qualified conservation contribution under section 170(h) – controlled over the substitution clause. As in Belk I, the court said that the parties’ intention controls when interpreting a contract, and it remained of the view that the parties’ intent, as it appeared from all the provisions of the conservation easement, was for the conservation easement agreement to permit substitutions.
The third ground put forward by the Belks was that the court “imposed an inapplicable and impossible standard for obtaining a deduction under section 170(h).” The court rejected that too. The Belks tried to say that because the parties could always amend the conservation easement by mutual agreement under State law, a substitution of properties would always be possible, regardless of whether the easement included a substitution provision. Accordingly, they reasoned, the easement should not be disqualified for explicitly allowing something that is always implicitly allowed.
The court concluded that the existence of a right under State law does not automatically mean that the exercise of that right would not affect the qualification of a conservation easement for a tax deduction under federal tax law. “North Carolina law does not dictate the resulting tax consequences of the modification.” The court likened this outcome to the result in Carpenter v. Commissioner, T.C. Memo. 2012-1, where the court concluded that because the easements could be extinguished by mutual consent of the parties, the easements were not protected in perpetuity and, therefore, were not qualified conservation contributions. The court also distinguished the Belk I decision from the U. S. Court of Appeals decision in Commissioner v. Simmons, 646 F.3d 6 (D.C. Cir. 2011). In Simmons, the Court of Appeals did not disqualify the historic preservation easement even though it allowed the grantee to consent to changes in the facades or abandon its rights under the easement. The Court of Appeals found that the limits in the conservation easement and applicable Washington D.C. law prevented the grantee from consenting to changes in the property inconsistent with the conservation purpose, and the D.C. law regarding extinguishment was that if the grantee dissolved, the conservation easement would be transferred to the District of Columbia and reassigned to an organization similar to the grantee. Thus, the Tax Court said, the conservation purpose in Simmons was protected at all times, while in Belk the property was not so protected.
Accordingly, reconsideration of Belk I was denied.
Decision available at http://www.ustaxcourt.gov/InOpHistoric/BelkMemoVasquez.TCM.WPD.pdf.