SYNDICATED CONSERVATION EASEMENTS – HIGH PRIORITY ON THE IRS’S “DIRTY DOZEN” LIST

Author: Andrew Marcum, Senior Editor

Introduction

Each year, the Internal Revenue Service (IRS) releases a “Dirty Dozen” list that details the worst tax scams that taxpayers should avoid at all costs.[i] For the 2022 year, the IRS deemed Syndicated Conservation Easements (SCEs) to be a very high priority on the Dirty Dozen list.[ii] In SCEs, promoters use Internal Revenue Code (IRC) § 170(h) which allows for conservation easements and “twist it by using inflated appraisals of undeveloped land (or, for a few specialized ones, the facades of historic buildings), and by using partnership arrangements devoid of a legitimate business purpose.” [iii] Overvaluation is the key component that is necessary for the IRS to win in an SCE transaction. The IRS is examining every one of these deals and intends on continuing to do so to crack down on these abusive tax shelters. [iv]

Syndicated Conservation Easements

 Abusive tax shelters have long been an issue that the IRS and Congress have waged war against. These “shelters” are essentially illegal investments that promise to reduce a taxpayer’s tax liability.[v] Recently, SCEs have become a big issue that the IRS has dedicated a lot of time and resources to correct. IRC § 170(h) allows taxpayers a tax deduction in return for a contribution of a qualified real property interest to a qualified organization exclusively for conservation purposes.[vi] This is a great incentive to help preserve things such as historic lands or even to protect wildlife; however, this incentive is heavily abused.

This concept is often abused by promoters who solicit investments by promising investors that they will receive a high deduction when filing their tax returns. The investors bring their funds together to purchase a plot of land through a pass-through entity at a relatively low cost and then “seek an inflated appraisal of the property had it been developed.” [vii] Although hard to prove, it is argued that the appraiser receives a “kickback” so long as the property appraises at a highly desirable amount. Then, the investors will donate the property to a qualified organization (such as a non-profit organization that is dedicated to the preservation of the type of property that is being dealt with).[viii] “The investors then receive a massive tax deduction calculated by the difference between exaggerated loss of market value and their initial investment.”[ix] These tax shelters essentially permit taxpayers to purchase tax deductions with no economic risk.[x]

The most common issue with SCEs is that they typically do not meet the statutory requirements under IRC § 170(h). One example is the case of Coal Property Holdings LLC v. Commissioner, where the tax court held that the conservation easement did not meet the perpetuity requirements because the donee was not wholly entitled to a share of the proceeds if the property was sold following judicial extinguishment of the easement.[xi] The deed in Coal Property provided that the donee only received a portion of the proceeds “after the satisfaction of prior claims”.[xii] The court stated that this constituted a “condition subsequent” savings clause that would not be enforced by the court.[xiii]

Another example of the abusive nature is in the case of Plateau Holdings, LLC v. Commissioner, where the court upheld the IRS’s decision to deny the roughly $25.5 million charitable contribution deduction claimed in full because each of the two easement deeds neglected to protect the property in perpetuity, which is required by IRC § 170(h)(5)(A).[xiv] The court upheld the 40% penalty because the taxpayer inflated the claimed deduction over the correct value of the easements by 852% for one and 1,031% for the other.[xv] On December 18, 2012, an LLC set up by the SCE promoter paid $5,822,000 for a 98.99% interest in “Plateau” (an entity formed for the sole purpose of acquiring and holding two properties in Tennessee).[xvi] Eight days later, Plateau donated conservation easements over the properties and claimed that the easements were worth almost $25.5 million.[xvii] At trial, each party offered expert testimony regarding the value of the easements.[xviii] The court noted that the respondent's expert was a "credible and candid witness".[xix] However, the court gave "no weight" to the petitioner's experts' opinion, who used properties in resort communities located outside of Tennessee as “comparables”.[xx] The court explained that the most compelling indicator of the property's “before” value was the LLC's purchase of a 98.99% interest in Plateau on December 18, 2012, for approximately $5.8 million (which was eight days before the easements were granted).[xxi] This case is just one clear example of how IRC § 170(h) is often abused.

Conclusion

SCEs, as well as many other abusive tax shelters detailed on the Dirty Dozen list, are a high priority on the IRS’s radar and should not be taken lightly. Abusive tax shelters can result in high penalties or even jail time for the taxpayer. “IRS data released in 2020 showed syndicated easement deductions climbed from $6 billion in 2016 to $9.2 billion in 2018.” [xxii] This number continues to grow despite the IRS’s dedicated time and efforts to halt the abusive nature. There is no doubt that the IRS will continue to crack down on these abusive shelters.

[i] The Dirty Dozen represents the worst of the worst tax scams, IRS, https://www.irs.gov/newsroom/dirty-dozen (last visited Aug. 6, 2022).

[ii] IRS wraps up 2022 “Dirty Dozen” scams list; agency urges taxpayers to watch out for tax avoidance strategies, IRS, https://www.irs.gov/newsroom/irs-wraps-up-2022-dirty-dozen-scams-list-agency-urges-taxpayers-to-watch-out-for-tax-avoidance-strategies (last visited Aug. 6, 2022).

[iii] Id.

[iv] Id.

[v] Jason Fernando, Abusive Tax Shelter, Investopedia (Jan. 1, 2022), https://www.investopedia.com/terms/a/abusive-tax-shelter.asp#:~:text=An%20abusive%20tax%20shelter%20is,tax%20owed%20by%20the%20investor.

[vi] 26 U.S. Code § 170 (2022).  

[vii] Steve Daines, Bad Actors Are Fattening Their Wallets, Not Boosting Conservation, Bloomberg Tax (Jun. 21, 2022), https://news.bloombergtax.com/tax-insights-and-commentary/bad-actors-are-fattening-their-wallets-not-boosting-conservation.

[viii] Id.

[ix] Id.

[x] Id.

[xi] Coal Property Holdings, LLC v. Comm’r, 153 T.C. 126, 127 (2019).

[xii] Id. at 139.

[xiii] Id. at 144.

[xiv] Plateau Holdings, LLC v. Comm’r, 119 T.C.M. (CCH) 1619 (2020).

[xv] Id. at 14.

[xvi] Id. at 12-13.

[xvii] Id. at 3.

[xviii] Id. at 4-8.

[xix] Id. at 13.

[xx] Plateau Holdings, LLC v. Comm’r, 119 T.C.M. (CCH) 1619 (2020).

[xxi] Id. at 12.

[xxii] Cory Halliburton, Syndicated Conservation Easements – National News Coverage and IRS Scrutiny Continues, Freeman Law, (https://freemanlaw.com/syndicated-conservation-easements-national-news-coverage-and-irs-scrutiny-continues/.