US Court of Appeals, Fourth Circuit, No. 13-2161, December 16, 2014: Allowing property swap disqualifies conservation easement deduction.
The court upheld the Tax Court ruling in Belk v. Commissioner, 140 T.C. No. 1 (2013) (Belk I), that a conservation easement that allows the parties to change which property is subject to the easement does not qualify for a federal tax deduction. (See also Belk II, T.C. Memo. 2013-154 (2013).) The federal tax Code allowing a deduction for donation of a conservation easement or historic preservation easement requires that the easement must be “a restriction (granted in perpetuity) on the use which may be made of the real property.” 26 U.S.C. § 170(h)(2)(C). The Belk easement allowed the parties to amend the easement to remove land from the original defined real property and substitute other land of “equal or greater value.” The court held that a provision like the one in the Belk easement fails the perpetuity test.
The court reasoned that putting of the article “the” before “real property” in§ 170(h)(2)(C) “makes clear that a perpetual use restriction must attach to a defined parcel of real property rather than simply some or any (or interchangeable parcels of) real property.” The court, citing other provisions in that Code section, 26 U.S.C. § 170(h)(1)-(2), said the parcel in which use must be restricted in perpetuity is “the parcel” that must be contributed “to a qualified organization . . . exclusively for conservation purposes” (emphasis added). The court said that it is not enough for the restriction to be perpetual; the restriction on “the real property” (emphasis added) must be perpetual as well.
The court put forward additional objections to allowing swaps and rejected various arguments made by Belk to get the deduction.
- The easement’s requirement that the removed property be replaced with property of “equal or greater value,” didn’t help because the valuation of the easement is up to the IRS, not the taxpayer, although the taxpayer is required to substantiate the value with a qualified appraisal.
- Allowing swaps would undermine the tax regulations’ requirement of a baseline report. Treas. Reg. § 1.170A-14(g)(5)(i).
- The only tax law provision allowing a qualified easement to be extinguished as to the property it restricts limits extinguishment to when “a subsequent unexpected change in the conditions surrounding the property that is the subject of a donation . . . make impossible or impractical the continued use of the property for conservation purposes” and “the restrictions are extinguished by judicial proceeding.” Id. § 170A-14(g)(6). The Belk swap provision was not so limited.
- The regulatory provisions allowing the donee/holder of an easement to exchange property subject to a conservation easement is also subject to the same limited circumstance, i.e., “[w]hen a later unexpected change . . . makes impossible or impractical the continued use of the property for conservation purposes.” Treas. Reg. § 1.170A-14(c)(2). Further, this provision applies only to the donee, not the donor.
- The decisions in Kaufman v. Shulman, 687 F.3d 21 (1st Cir. 2012) and Commissioner v. Simmons, 646 F.3d 6 (D.C. Cir. 2011) were distinguishable because those decisions were about whether the easements satisfied the requirement in Code § 170(h)(5)(A) that the conservation purpose, rather than the parcel, be protected in perpetuity.
- Merely because the law of the state where the property is located allows for land-substitution amendment of easements doesn’t change the result. The fact that State real property law may allow an easement to govern for a period less than perpetuity is irrelevant to federal tax law deductibility.
- The easement included a “savings clause” — that the parties could not “agree to any amendments . . . that would result in this Conservation Easement failing to qualify . . . as a qualified conservation contribution….” The court interpreted the “failing to qualify” language of this savings clause as requiring an adverse determination by either the IRS or a court for the clause to be triggered. As so interpreted, the court said the clause “provides that a future event alters the tax consequences of a conveyance, [and thereby] the savings clause imposes a condition subsequent and will not be enforced,” citing Commissioner v. Procter, 142 F.2d 824, 827-28 (4th Cir. 1944) and Estate of Christiansen v. Commissioner, 130 T.C. 1, 13 (2008), aff’d, 586 F.3d 1061 (8th Cir. 2009). An effective savings clause could not make the effectiveness of the amendment dependent on a subsequent adverse action by the IRS or court decision. That position is put forward in IRS Tech. Adv. Mem. 79-16-006 (1979).
The decision is available at http://www.ca4.uscourts.gov/Opinions/Published/132161.P.pdf.