Use Your Words
It’s a common misconception that accounting and taxes are all about numbers. Looking at a balance sheet or a tax return, it’s an easy mistake to make. Just look at all those numbers in all those boxes! In reality, though, it’s not about numbers, and any competent 10-year-old can handle the math. Accounting and taxes are all about the rules we use to manage the numbers. And we express those rules in words. Which brings us to this week’s sad story about a lawyer, not an accountant, blowing it with the wrong words.
A conservation easement is a gift of a partial interest in real estate (like mineral rights or development rights) to a qualified organization for conservation purposes. Peeling off those rights makes your property less valuable — so the IRS lets you deduct the value of those rights you donate.
Conservation easements have been deductible since 1980. However, as with so many perfectly legitimate strategies, bad actors have abused the opportunity by inflating appraisals to claim fatter deductions. Naturally, the IRS is hot on their trail. They’ve taken special aim at “syndicated” conservation easements, where a group of investors form a partnership to buy land, usually at a discounted value from conservation-minded sellers, then immediately convey interests to charity.
Last year, in Railroad Holdings LLC v. Commissioner, the Tax Court dissected one particular deduction for $16 million. Buckle up, Gentle Reader, because following the words here may have you wishing you were back in freshman algebra class.
Here’s the deal. Code §170(h)(5)(A) says easements have to be “protected in perpetuity” to be deductible. So, what happens if you sell the property down the road? Regs §1.170A-14(g)(6)(i) says you can still meet the perpetuity requirements if “all of the donee’s proceeds (determined under paragraph (g)(6)(ii) of this section) from a subsequent sale or exchange of the property are used by the donee organization in a manner consistent with the conservation purposes of the original contribution.”
How do you do that? Easy: paragraph (g)(6)(ii) goes on to say, “the donor must agree that the donation of the perpetual conservation restriction gives rise to a property right, immediately vested in the donee organization, with a fair market value that is at least equal to the proportionate value that the perpetual conservation restriction at the time of the gift, bears to the value of the property as a whole at that time.” In other words, if you sell the property, the donee has to get at least that same “proportionate value” of the sale proceeds. Meaning, a ratio of the proceeds.
How important is all of that in real life? In 2012, an LLC gave an easement on 452 acres of South Carolina land to the Southeast Regional Land Conservancy. The deed said if the land was sold, the conservancy would get a portion of the proceeds at least equal to the fair market value of the easement. Sounds reasonable, right? Except — uh oh — that’s a number, not a ratio. That picky little word choice was enough for the Tax Court to nuke the $16 million deduction. We can be sure the attorney who drafted that provision is having serious words with his malpractice carrier.
Here at our firm, we don’t just settle for numbers in boxes. We go above and beyond to set you up for the best possible tax planning results. That’s what makes us different, and we think you’ll like the tax savings!