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Eleventh Circuit Reverses Decision Disallowing Conservation Easement Deductions

(Parker Tax Publishing November 2020)

The Eleventh Circuit reversed the Tax Court and held that (1) two conservation easements, in which the donor reserved limited development rights within the conservation areas, were granted in perpetuity under Code Sec. 170(b)(2)(C), and (2) a clause allowing the donor and donee to amend the terms of the easement did not violate the protected-in-perpetuity requirement under Cod Sec. 170(h)(5)(A). The Eleventh Circuit also held that the Tax Court applied the wrong method in valuing one of the easements at issue and remanded for the Tax Court to value the easement in accordance with the methodologies in Reg. Sec. 1.170A-14(h). Pine Mountain Preserve, LLLP, v. Comm'r, 2020 PTC 339 (11th Cir. 2020).


Pine Mountain Preserve, LLLP (PMP) owns 6,224 contiguous acres of unimproved land near Birmingham, Alabama. PMP conveyed three conservation easements - the 2005, 2006 and 2007 easements - to the North American Land Trust (NALT), a qualified charitable organization under Code Sec. 170(h)(3). Each easement defined a conservation area that was to be restricted in perpetuity from commercial and residential development. However, the 2005 and 2006 easements carved out 16 reserved "building areas" within each of which PMP could construct a single family residence and appurtenant structures.

The 2005 easement reserved to PMP or an individual homeowner the right to build one single family dwelling within each of ten clearly defined building areas inside the conservation area. The 2005 easement allowed the parties to modify the locations of the building areas as long as (1) their total acreage remained unchanged, and (2) NALT did not conclude that the modification would result in any material adverse effect on any conservation purpose. The 2006 easement also permitted single family residences in each of six building areas but did not specify or place limitations on their locations, except to state that they had to be approved in advance by NALT. The 2007 easement designated no building areas but did permit PMP to build a water tower on a site subject to NALT's approval. Each of the easements contained a provision giving PMP and NALT the right to mutually agree to amend the terms of the easement as long as the changes are not inconsistent with the conservation purposes.

PMP claimed charitable contribution deductions of approximately $16.5, $12.7, and $4.1 million, respectively for its donation of the 2005, 2006, and 2007 easements. The IRS disallowed the deductions for the three easements in their entirety after determining that requirements under Code Sec. 170 had not been met. The IRS also asserted that PMP overvalued the easements and determined that the value of the 2005, 2006, and 2007 easements were $1,119,000, $998,000, and $449,000, respectively.

In general, no deduction is allowed for the contribution of a partial interest in property. An exception applies, however, under Code Sec. 170(f)(3)(B)(iii) for a qualified conservation contribution. Code Sec. 170(h)(1) provides that this exception applies where the taxpayer contributes (1) a qualified real property interest as defined in Code Sec. 170(h)(2)(C), (2) to a qualified organization, and (3) the contribution is exclusively for conservation purposes under Code Sec. 170(h)(5)(A). Under Code Sec. 170(h)(2)(C), a qualified real property interest includes "a restriction (granted in perpetuity) on the use which may be made of the real property." Under Code Sec. 170(h)(5)(A), a contribution is not treated as exclusively for conservation purposes unless the conservation purpose is "protected in perpetuity." The amount of the deduction for a noncash contribution is generally the fair market value of the property at the time the contribution is made. Under Reg. Sec. 1.170A-14(h)(3)(i), a conservation easement is valued either using either the sales prices of comparable easements or by comparing the difference between the fair market value of the property before and after the easement donation.

In Belk v. Comm'r, 140 T.C. 1 (2013), aff'd 2014 PTC 614 (4th Cir. 2014), the Tax Court held that where an easement permitted the parties to change what real property was subject to the conservation easement, Code Sec. 170(h)(2)(C) precluded the deduction because the taxpayers did not donate an interest in real property subject to a use restriction granted in perpetuity. However, in Bosque Canyon Ranch, LP., 2017 PTC 367 (5th Cir. 2017), the Fifth Circuit held that easements which allowed the developer only to modify the location of homesite parcels within the conservation area, but not the exterior boundaries of the conservation area, satisfied the granted-in-perpetuity requirement.

PMP challenged the disallowance of its conservation easement deductions in the Tax Court. The Tax Court held that the 2005 and 2006 easements violated the Code Sec. 170(h)(2)(C) granted-in-perpetuity requirement by reserving the right of PMP to build homes and accompanying structures in the homesite development areas. Using a Swiss cheese metaphor, the Tax Court said that the building sites represented holes in the conservation area, such that the easement's restrictions did not attach to a defined parcel of real property. However, the Tax Court upheld PMP's deduction for the 2007 easement after rejecting the IRS's argument that the amendment clause violated the Code Sec. 170(h)(5)(A) protected-in-perpetuity requirement. In a separate opinion, the Tax Court determined the fair market value of the 2007 easement to be the numerical mean between PMP's and the IRS's asserted values, without explaining its methodology.

PMP appealed the Tax Court's decision to the Eleventh Circuit. It argued that the Tax Court misapplied Code Sec. 170(h)(2)(C) in disallowing its deductions for the 2005 and 2006 easements. The IRS cross-appealed (1) the Tax Court's decision that the amendment provision in the 2007 easement complied with the protected-in-perpetuity requirement in Code Sec. 170(h)(5)(A) and (2) the Tax Court's valuation of the 2007 easement.

Eleventh Circuit's Analysis

The Eleventh Circuit reversed the Tax Court and held that the 2005 and 2006 easements satisfied the Code Sec. 170(h)(2)(C) granted-in-perpetuity requirement. The Eleventh Circuit also affirmed the Tax Court's holding that the 2007 easement's amendment clause did not violate the protected-in-perpetuity requirement in Code Sec. 170(h)(5))(A). In addition, the Eleventh Circuit held that the Tax Court applied the wrong method for valuing the 20007 easement and remanded for the Tax Court to determine the fair market value of the easement in accordance with Reg. Sec. 1.170A-14(h)(3)(i).

The Eleventh Circuit found that a broad limitation on the use of property that applies to the parcel as a whole satisfies the granted-in-perpetuity test, even if within that parcel there exist certain narrow exceptions to that limitation. The court rejected the IRS's argument that an aggregate restriction on the use of land is insufficient and that every inch of land must be subject to the restriction in perpetuity. The court said it was indisputable that the easements imposed a restriction on the uses to which the subject parcels could be put because they broadly restricted PMP's preexisting development rights. Further, they imposed that restriction in perpetuity, as that term is understood in the common law, because nothing in the grants could cause the easements to revert back to PMP or its successors.

In the view of the Eleventh Circuit, the Tax Court's interpretation of Code Sec. 170(h)(2)(C) rendered Code Sec. 170(h)(5)(A) superfluous. The court reasoned that the exceptions to the easement restrictions were an issue of whether the easement adequately protected the conservation purposes under Code Sec. 170(h)(5)(A) rather than whether they satisfied the granted-in-perpetuity requirement. According to the court, the only question under Code Sec. 170(h)(2)(C) was whether the easements imposed a restriction on the use of PMP's parcels in perpetuity, and the court concluded that they did. The court preferred PMP's analogy to Pepper Jack cheese over the Tax Court's Swiss cheese metaphor. The court said that the reserved rights did not poke holes into the conservation easement slice, because the entire slice remained subject to a restriction - the conservation easement. Instead, the reserved rights were more like embedded pepper flakes and, so long as they did not alter the actual boundaries of the easement, Code Sec. 170(h)(2)(C) was satisfied.

The Eleventh Circuit said the instant case was more analogous to Bosque Ranch than to Belk. The court found that the easements PMP granted only allowed building areas to be moved around within the fixed boundaries of the easement and did not permit outside-territory swapping, as was the case in Belk. The court agreed with the Fifth Circuit's reasoning that the problem in Belk arose because the easement donor could develop the same land that it promised to protect, simply by lifting the easement and moving it elsewhere, which was a violation of the granted-in-perpetuity requirement. The Fifth Circuit also found that such parcel-swapping could complicate valuations because an appraiser would have to value a moving target. The Eleventh Circuit reasoned that there were no such dangers in a case like this, where an easement only permitted the relocation of building areas within the conservation area without changing the easement's boundaries.

With respect to the IRS's cross-appeal, the Eleventh Circuit affirmed the Tax Court and held that an amendment clause in a conservation easement does not violate the Code Sec. 170(h)(5)(A) protected-in-perpetuity requirement. The court reasoned that under basic principles of contract law, the parties to a bilateral contract always have the right to amend the agreement after the fact, whether or not they reserve that right to themselves in writing. The Eleventh Circuit further found that the Tax Court did not apply either of the methodologies in Reg. Sec. 1.170A-14(h)(3)(i) in valuing the 2007 easement, so it remanded for the Tax Court to determine the fair market value in accordance with the regulation.

For a discussion of the rules for contributions of partial interests in property, see Parker Tax ¶84,155.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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