Conservation easements were granted in perpetuity

Eleventh Circuit reverses the Tax Court on 'Swiss cheese' reserved rights.
By Mark A. McCoon, CPA, CGMA, Ph.D.

The Eleventh Circuit reversed the Tax Court's holding that a donor's reserved rights to build residential units on a portion of donated property failed to satisfy the granted-in-perpetuity requirement of the conservation easement deduction rules.

Facts: Pine Mountain Preserve LLLP granted conservation easements of large tracts of undeveloped land to the North American Land Trust (NALT), a qualified charity. The three easements made in 2005, 2006, and 2007 restricted 1,282 of Pine Mountain's 6,224 acres of property. Each easement broadly restricted Pine Mountain's right to use the conservation area, including prohibitions on building structures, roads, and driveways; collecting ground or surface water; removing trees; posting signs; mining, dumping, or modifying topography and water courses; introducing nonnative plant species; and subdividing the land. Each easement prohibited development that could interfere with the Code-authorized conservation purposes. However, in each of the three easements, Pine Mountain retained a targeted set of "reserved rights."

The 2005 easement reserved to Pine Mountain the right to build a single-family structure and a barn on each of 10 one-acre lots designated as "building areas." These sites' locations could be modified if there was no change in their total acreage and the NALT determined there was no resulting material adverse effect on any of the stated conservation purposes. The 2006 easement reserved the right to build a single-family residence on each of six building areas. Unlike the 2005 easement, the 2006 easement did not specify the building areas' precise locations; instead, the easement gave the NALT the right to approve in advance where Pine Mountain placed the building areas so that the easement's conservation purposes would not be adversely affected. The 2007 easement reserved the right to build a water tower on a site subject to the NALT's approval.

Pine Mountain claimed tax deductions for the easements under Sec. 170, but the IRS denied them. Pine Mountain sued in the Tax Court, which issued two opinions. With respect to the 2005 and 2006 grants, the court held that the reserved rights to build residential units and other structures disqualified the conservation easements from being granted in perpetuity within the meaning of Sec. 170(h)(2)(C). The Tax Court also held that the 2007 grant's reservation of the right to build a water tower did not violate the granted-in-perpetuity requirement. The court then split the difference between Pine Mountain's $9,110,000 estimated fair market value (FMV) of the easement and the IRS's estimate of $449,000.

Issues: Sec. 170 allows a tax deduction for the charitable contribution of interests in real property. As a general rule, the Code forbids deductions for conveyances of partial interests in property; however, Sec. 170(f)(3)(B)(iii) allows for the tax deduction of a "qualified conservation contribution" of less than an entire interest in a parcel.

As a qualified conservation contribution under Sec. 170(h)(1), a grant must be of a qualified real property interest to a qualified organization, exclusively for conservation purposes. To constitute a "qualified real property interest," the grant must satisfy Sec. 170(h)(2)(C)'s granted-in-perpetuity requirement, and to be "exclusively for conservation purposes," the grant must satisfy the Sec. 170(h)(5)(A) protected-in-perpetuity requirement.

The appeals court had to determine whether the Tax Court erred when it held that the 2005 and 2006 easements violated Sec. 170(h)(2)(C). The Tax Court had concluded that each easement's reservation to Pine Mountain of rights to build a limited number of residential homes and accompanying structures meant that it no longer qualified as a restriction granted in perpetuity on the property's uses, likening the prospective building sites to holes in a slice of Swiss cheese.

Holding: The Eleventh Circuit held that the plain language of Sec. 170(b)(2)(C) and precedent demonstrated that the 2005 and 2006 easements satisfied the granted-in-perpetuity requirement. They constituted "a restriction" on "the use . . . of the real property" because they burdened what would otherwise be Pine Mountain's fee-simple enjoyment of, and absolute discretion over, the use of its property. Further, the restriction was "in perpetuity" because nothing in the grant envisioned a reversion of the easement.

The appeals court thus disagreed with the Tax Court's determination that Sec. 170(h)(2)(C) demands that the entire conservation area "slice" be protected from relocation of any "holes" of reserved rights.

The court remanded the case to the Tax Court to consider whether the 2005 and 2006 easements satisfied Sec. 170(h)(5)(A)'s protected-in-perpetuity requirement and to apply a discernible valuation methodology for the 2007 easement supported by the regulations. According to Regs. Sec. 1.170A-14(h)(3)(i), the value of a conservation easement under Sec. 170 is the FMV of the restriction at the time of the contribution. The Tax Court's splitting-the-difference valuation was not appropriate under the regulations, the appellate court held.

  • Pine Mountain Preserve LLLP, No. 19-11795 (11th Cir. 10/22/20), rev'g in part 151 T.C. 247 (2018)

— By Mark A. McCoon, CPA, CGMA, Ph.D., associate professor, University of Wisconsin—Superior.

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