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Analyzing the IRS Attack on Syndicated Conservation Easement Transactions Alexia Byrd Februar y 14 , 2023 Fisher School of Accounting
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Abstract Participants in s yndicated conservation easement transactions have become the subjects of intense IRS scrutiny and audits. Although an itemized deduction has typically been allowed for charitable contributions of conservation easements, some taxpayers have taken advantage of the deduction. It is difficult to argue that these taxpayers have not been abusing the charitable deduction by selling partnership interests to other taxpayers inflated charitable deductions . However, Congress has not provided guidance on the deductibility of these contributions until recently . Therefore, the IRS has taken it upon itself to define rules for syndicated conservation easement transactions and step outside of their enforcement ro le into one of legislative nature . Recent IRS tactics as well as the controversy between the IRS and Congress on this matter will be discussed through investigation of primary authority issued by both parties . Additionally, w ith new guidance on the limitat ions to abuses of the charitable deductions of conservation easements recently enacted by Congress in IRC §170(h)(7) , the potential for success in ending the controversy will be analyzed.
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Introduction In recent years, the IRS has targeted what it refers to as syndicated conser vation easement transactions aggressively. C laims that some taxpayers are taking advantage of the long established charitable conservation easement deduction have cause d the se transactions and those that are similar to be blacklisted by the IRS . Participants in these transactions have been the focus of intense scrutiny by the Service, which has been using a multitude of tactics to invalidate the transaction s by disallowing the deductions an d assessing substantial penalties . Concerns over both the integrity of the conservation purpose and highly inflated valuations have been voiced by the IRS . The aggression of the IRS as an enforcement agency begs the question whether they have crossed the line into acting as a legislative rule making body on this matter . Until late 2022, Congress has been slow in providing legislation concerning the note d abuse of conservation easement deductions. However, enacted on December 29, 2022, th e new IRC §170(h)(7) partially aligns IRS disapproval of these transactions with l egislation, giving clarity on the disallowance of syndicated conservation easement transactions. However, there are notable exceptions in the new statute that may not solve all issues with these partnerships. This paper will analyze the history of conservation easement deduc tions, recent tools the IRS has used to go after conservation easement transactions and likely issues this area will face in the future. Overview of Conservation Easements Background on Conservation Easements A conservation easement is a restriction placed on the use of property for a conservation purpose. A landowner typically donates development rights of qualified property to a qualified organization , which could be a public charity or a government unit meet ing the definitions in the IRC §170(b)(1)(A)(v) and (vi). 1 A taxpayer must follow IRS guidelines in order to qualif y for a tax deduction for their donation of a conservation easement. The taxpayer needs to obtain a Deed of Easement all existing man made improvements or incursions, vegetation and identification of flora and fauna , land use history and distinct natural features, an aerial , and onsite to show the condition of the property at the time the easement was granted. 2 Additionall y, the taxpayer must receive a Contemporaneous Written Acknowledgement from the donee , have a qualified appraisal from a qualified appraiser, attach Form 8283 (Noncash Charitable Contributions) , and complete a Baseline Documentation Report which describes the conservation purpose of the property . 3 This is not a comprehensive list of the steps an individual 1 utl/introduction to conservation easements.pdf. 2 Treas. Reg. §1 .170A 14(g)(5)(i) 3 Internal Revenue Service. Conservation Easement Audit Techniques Guide (11/04/2016); IRS Publication 1771, Charitable Contributions Substantiation and Disclosure Requirements
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or organization must go through to be granted a conservation easement deduction . Therefore, i t is common for forms to be incomplete or missing, altogether invalidating the deduction . 4 Although the policy behind conservation easement deductions was supported pr eviously, IRC §170(h) was officially enacted by Congress in 1980 . Taxpayers were allowed to deduct up to 30% of their adjusted gross income for the donation of conservation easemen ts to a qualified organization (vide infra) . 5 In 2006, IRC § 170(h) was temporarily altere d to allow taxpayers to take the deduction for up to 50% of their adjusted gross income , and the change was later made permanent . 6 Additionally, if a taxpayer donates a conservation easement with a value over their deductible base, they can carry forward the charitable deduction for 15 years instead of the five year normal for charitable con tributions . 7 The deductibility of conservation easements under IRC § 170(h) has garnered bipartisan support and has been repeatedly supported by Congress . 8 The favorable terms of the charitable deductions allowed for conservation easement donations have encouraged taxpayers to donate their property rights and aid in the conservation of protected lands and structures. Current Statute IRC §170(a) allows a taxpayer to take a deducti on for a charitable contribution made during the tax year to a qualified organization . IRC §170(h) further clarifies that qualified conservation contributions are included in items applicable for a char itable deduction. IRC §170(h)(1) defines qualified conservation property 1. qualified real property interest 2. to a qualified organization 3. Qualified real property interest is further defined in IRC §170(h)(2) to include among other item s restriction (granted in perpetuity) on the use which may be made of the real property . These restrictions placed on real property are more commonly referred to as conservation easements . In essence, t he owners of the qualified property give up valuable rights that otherwise would hinder conversation purposes and in exchange, they can take a tax deduction. The Regulations clarif y that if the restrictions on qualified property are deemed to be a conserva tion easement transaction, the granted in perpetuity requirement for the restrictions must be legally enforceable . 9 4 Hale E. Sheppard, Esq. Enforcement Actions . Florida Tax Institute 2022 (2022) 5 Tax Treatment Extension Act, Public Law No. 96 541 , Section 6(a) (1980) 6 Pension Protection Act , Public Law No. 109 280, Section 1206 7 IRC §170(d)(1); IRC §170(b)(1)(E)(ii) 8 U.S. Senate Committee on Finance. Syndicated Conservation Easement Transactions, 116 th Cong. 2 nd Session, Senate Report 116 44 (August 2020) 9 Treas. Reg. §170A 14(g)(1)
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To take a tax deduction for the charitable contribution of property rights through an easement, a taxpayer must have a qualified appraisal of the property. Since the value of the restrictions placed on a property for conservation purposes is uniq ue , in many cases the usual fair market value assessment using comparable donations is not appropriate. If there is not sufficient information to determine the fair market value of the rights that a taxpayer gives up in a conservation easement transaction, t he amount of the charitable deduction is calculated as the difference between the highest and best use of the property before and after the transaction . This valuation techn ique and . This method has led to inflated valuations since the property does not actually have to be used in the same manner as it is valued, there must only be potential for that use. 10 The C ontroversy B etween the IRS and Congress Recently there has been conflicting information regarding the deductibility of conservation easements, especially those transactions considered to be syndicated conservation easement transactions. Upon initial review, it may appear that both the IRS and Co ngress support the use of the charitable conservation easement deduction as afforded to taxpayers under IRC §170(h). For example, t he IRS released Rev. Rul. 64 205 in 1964 which first clarifies the deductibility of conservation easement transactions. 11 Add itionally, Congress first voiced support for partial interest charitable donations by passing legislation in 1969. 12 However, in recent years a new type of conservation easement transaction has been gaining popularity, which has made the opinions about the deductibility of IRC §170(h) contributions vastly differ. Syndicated Conservation Easement Transactions (SCETs) A syndicated conservation easement transaction is a for m of donation of rea l property interests in exchange for tax deductions as allowed under IRC §170(h). In these types of transactions , however , taxpayers own interest in a pass through entity that owns the contributed real property. The pass through entity donates the property rights for a conservation purpose to a qualified organization. Promoters entice investors to pool their interests into these pass through entities, promising returns of over 2.5 times the initial investment. The taxpayers are then able to take a large charitable deduction on their individual tax returns since they are operating under a pass through entity. 13 IRS and SCETs The Service has been starkly against syndicated conservation easements and similar transactions in recent years. They refer to SCETs as abusive tax shelters and have condemned taxpayers, appraisers, promoters, and tax advisors who take any part in the continuance of SCET schemes. Instead of trying to limit deductions to a ce rtain amount, agents have placed their focus 10 Treas. Reg. §170A 14(h) 11 Rev. Rul. 64 205 12 PL 91 17 (1969) 13 Notice 2017 10, 2017 4 IRB 544, 12/23/2016
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on technicalities to invalidate deductions from syndicated conservation easement transactions altogether. To combat the use of these transactions for tax avoidance purposes, i n late 2016, the IRS issued Notice 2017 10 . This guidance both defined and classified syndicated conservation easement transactions as listed transactions. The IRS claimed that some parties were using 14 using the highest and best use valuation method defined in the Treasury Regulations. 15 more disclosure requirements necessary for advisors, promoters, and participants in the transaction and could lead to greater pen alties for noncompliance . However, i ncluding syndicated conservation easement transactions as listed transactions was more than a mere enhanced reporting initiative. Listed transactions are updated and listed o n the IRS website as they are identified as a shaming mechanism for involved individuals and entities. 16 Listed transactions began after the tax shelter boom of the late 1990s and early 2000s and have historically been used to counteract tax schemes the IRS views as both widespread and abusive . Instead of the overwhelming task of investigating and challenging each transaction individually , the IRS chose to employ a shaming tactic of listing clearly transactions it deemed to be for tax avoidance purposes. Most of the current listed transactions w ere identified in the early 2000s ; however, syndicated conservation easement transactions are the newest target. These transactions are subject to both public moral scrutiny and technical probing by the IRS. Therefore, the shame of being involved in a listed transaction has significantly diminished abilities to participate in these activities because of risks of public shaming, monetary penalties, and legal action. 17 The IRS has also used additional strategies to discourage syndicated conservation easement transactions which will be further discussed later . Congress and SCETs In 2020, the Senate Finance Committee agreed with the IRS that there may be an issue with syndicated conservation easement transactions . H owever, they did not provide recommendations for how to solve the issues and continued to maintain the integrity of IRC §170(h). 18 Ultimately, with broad bipartisan support for a charitable deduction allowed under IRC § 170(h) and little progress on how to solve the tax abuse issue with some SCETs, the deduction would still be allowed under Congressional example if not for recent legislation . Accordingly , in late 2022 Congress passed a bill limiting the amount of deductions partners in 14 Notice 2017 10, 2017 4 IRB 544, 12/23/2016 15 Treas. Reg. §170A 14(h) 16 IRS.gov , https://www.irs.gov/businesses/corporations/listed tran sactions#1. 17 Forbes , Forbes Magazine, 1 Dec. 2015, https://www.forbes.com/sites/jayadkisson/2015/11/30/ghosts of tax shelters past and the return of the listed transac tions/?sh=442ced453a01. 18 U.S. Senate Committee on Finance. Syndicated Conservation Easement Transactions, 116 th Cong. 2 nd Session, Senate Report 116 44 (August 2020)
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SCETs could take for certain transaction s they deemed to be abusive tax shelters. 19 The tides have shifted more in favor of the IRS opinion on SCETs , but limitations in the legislation d raw a Judicial Opinion on SCETs In November of 2022, the Tax Court r uled that Notice 2017 10 was invalid in Green Valley Investors, LLC, et al . v. Commissioner . 20 Taxpayers in this case were pass through entities who had used the charitable conservation easement deduction in 2014 and 2015. The transactions matched the description of syndicated conservation easements that the IRS defined in Notice 2017 10 and therefore , were allowed no charitable contribution deduction for the years in question . The taxpayers were also assessed a substantial penalty under IRC § 6662A . 21 However, the Tax Court ruled that Notice 2017 10 v iolates the A dministrative P rocedure A ct of 1946 . The Act states that agencies are required to (1) issue a general notice of proposed rulemaking, (2) allow interested persons an opportunity to participate, and (3) include in the final rule a concise general statement of [its] basis and purpose" if they are to act as a rulemaking body. The Court further elaborates that Notice 2017 10 acted as a legislative rule and not an interpretive rule, so the IRS had overstepped its power as an enforcement agency . 22 Overall Attitude Regarding SCETs Overall, the IRS , acting as an administrative agency , has shown the most aggressive attitude against syndicated conservation easement transactions of the governmental branches , including Congress and the judiciary . Furthermore , the Service has been overstepping its role as an enforcement agency by trying to make rules of a legislative character . Before Green Valley Investors, LLC, et al. v. Commissioner , the Department of Justice ha d also sided against SCETs in many cases where the IRS attacked technicalities . 23 Congress holds the deciding opinion on the deductibility of charitable contributions arising from SCETs , but has been slow in doing so until the passage of the Consolidated Appropriations Act of 2023. 24 Before covering the limitation provided in the Act, it is important to note recent tactics the IRS has been using to attack SCETs. IRS Tactics SCETs as Listed Transactions and Form 8886 Recent Example of a SCETs 19 P.L. 117 328 20 IR News Release 2022 214 12/06/2022 21 Green Valley Investors, LLC, et al. v. Commissioner , 159 T.C. 5 (2022). 22 Green Valley Investors, LLC, et al., 159 T.C. No. 5, 11/09/2022 23 022 (2022) 24 P.L . 117 328
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As previously discussed, in 201 6 the IRS issued Notice 2017 10 which classified SCETs as listed transactions. A recent example investigated by the Senate Finance Committee in 2020 brings light to some of the issues that plague the conservation easem ent deduction. EcoVest Capital is one of the major SCETs investigated in the report. In this case, a substantial amount of land owned by a taxpayer in North Myrtle Beach was donated and the taxpayer claimed the charitable contribution deduction under IRC § 170(h). However, the land was valued at close to 1 billion dollars, the highest and best use being cited as the potential for residential beach adjacent properties. After the conservation easement went into effect the land was then valued at only 11 millio n dollars, with the potential for residential property construction completely gone. 25 EcoVest split up the large area of land and made numerous donations of property that supposedly qualified investors for a charitable deduction. In one case, a property known as Az alea Bay Resort was valued before the easement at $ 48 million dollars , and the after value was just 2.8 million dollars . However, 80 investors bought an interest in the company that owned the land, and in total, they only paid 3.7 million dollars for 94.5% ownership of the property. This means the investors only valued the land at around 4 million dollars and were receiving massive tax deductions by pooling their interests. In addition to allowing their taxpayers to take disproportionate individual deductions in relation to their contributions, EcoVest distributed to potential investors a spreadsheet that showed them how much of a tax deduction they could receive by taking part in the SCET. 26 The Senate Finance Committee voiced clear disapproval of this type of transaction in their report , marking one of the first times all three branches agreed about the severity of these transactions. increasingly become the fatal blow for participating pass through entities . Form 8886 Form 8886 is required to be filed by taxpayers who are involved in listed transactions. The Form itself is a signal to the IRS that a taxpayer may be participating in a disallowed transaction and receiving a tax benefit. Regarding syndicated conservation easement transactions, Form 8886 has b ecome a trap for the unwary, as any mistake or omission has been pursued by the IRS. Recently, Form 8886 has bee n altered to include three additional lines of disclosure. The new line items would require a taxpayer involved in SCETs to report the t otal dollar amount of the tax benefit from the transaction , the anticipated years the transaction will 25 U.S. Senate Committee on Finance. Syndicated Conservation Easement Transactions, 116 th Cong. 2 nd Session, Senate Report 116 44 (August 2020) , page 56 26 U.S. Senate Committee on Finance. Syndicated Conservation Easement Transactions, 116 th Cong. 2 nd Session, Senate Report 116 44 (August 2020), pages 57 5 9
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provide tax benefits and the investment amount by the taxpayer. 27 These three new line items are another area to pursue a taxpayer for noncompliance . 28 Substantially Similar Transactions (SSTs) Syndicated conservation easement transactions , such as those described in Notice 2017 10 , are not the only transactions facing additional disclosure requirements and increased IRS scrutiny . describes transaction s meet the exact definition of SCETs but are bound by the same requirements. Therefore, even if a transaction does not meet the definition of a SCET, it can be difficult to decipher if the IRS wi ll consider the transaction similar enough to require disclosure. Additional penalties can also be placed on an organization involved in an SST which does no t disclose the transaction. Historically, the IRS has interpreted substantially similar transaction liberally , and taxpayers are advised to lean on the side of more disclosure. 29 SCETs only accounted for a bout 1 2. 9 % of total conservation easement transaction s in 2018 but were responsible for 90% of the total amount of deductions taken for conservation easements by individual taxpayers. 30 Therefore, even though the majority of conservation easement transactions are legitimate , many may be associated with SCETs because of the substantially similar transaction classification at the discretion of the IRS . This labelling could scare some taxpayers away from taking the deduction . Technicalities The IRS has repeatedly stated that their concern about SCETs is that they are not effective in promoting a conservation purpose and taxpayers are using inflated valuations of property to take large deductions. However, instead of purporting fraud , which would be difficult to prove, the Service has taken another approach by cracking down on technical deviations, many of which may appear minor. 31 In addition to those discussed in further detail below, the IRS will disallow IRC §170(h) deductions du e to inaccuracies such as incomplete forms , a lack of char itable intent in the transaction, a lack of significant public benefit, and an in adequate appraisal or Deed. 32 Failed Perpetuity Requirement and Improper Clauses 27 Instructions for Form 8886 (Reportable Transactions Disclosure Statement) (Rev. 2019), p. 1 28 29 Treas. Reg. § 301.6011 4(c)(4) 30 US Sen. Steve Daines 06/21/ 2022, https://news.bloombergtax.com/tax insights and commentary/bad actors are fattening their wallets not boosting conservation. 31 nderstanding the Conservation Easement Controversy through Recent IRS 32 Internal Revenue Service. Conservation Easement Audit Techniques Guide. (Rev. 11/04/2016)
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The restrictions placed on a property through a conservation easement must be granted in perpetuity so that all future owners of the property are also legally bound by the same restrictions. 33 Therefore, if any clause in the agreement causes the restrictions of the easement to not be fully perpetual, the IRS will completely disallow the charitable deduction. Unfortunately, m any taxpayers include clauses in their agreements in case of future changes in their situations, which can comple tely invalidate the Deed. In Carpenter v. Commissioner , the terms of the agreement had a clause whereby mutual consent the parties could end the easement if circumstances [ed] the purpose of the conservation easement impossible to accomplish . The Tax Court ruled that because the parties were able to extinguish the conservation easement by just mutual consent and not through judicial proceedings, the easement was not granted in perpetuity and lacked charitable intent. 34 Accordingly , the Department of Justice in this case and others has tended to rule on the side of the IRS by deeming any clause, even those outlining extraordinary circumstances , that lifts restrictions of the conservation easement as not meeting the perpetuity requirement. Alternatively, in Belk v. Commissioner , a taxpayer ha d a conservation easement agreement with a nonprofit to which it donated property for a conservation pur pose. However, within the agreement was a clause that stated that the taxpayer had the power to replace the property placed under restriction for similar property meeting a list of conditions. The Tax Court claimed that since the taxpayer was able to subst itute property for that which was placed under easement, the perpetuity requirement was not met. 35 In other instances, additional clauses indirectly related to the perpetuity requirement have been noted by the IRS as technical non compliance. For example, a clause that proposed allocations of proceeds in the case of a forced sale of the land under easement was deemed to have violated the perpetuity requirement. Another example is a conserv ation easement agreement which had an amendment clause. Although not directly related to the perpetuity requirement, the Service determined that since this amendment clause could allow parties to change the donation, the donation was not in perpetuity. Conservation Purpose Infractions For a conservation easement to apply for an IRC §170(h) charitable deduction, there must be a conservation purpose for the transaction. According to the Regulations, qualified contribution property is a property that is fo r: i. general publi c , 33 Internal Revenue Service. Conservat ion Easement Audit Techniques Guide. p.6 (Rev. 11/04/2016) 34 Carpenter v. Commissioner, T.C. Memo. 2012 1 (2012) 35 Belk v. Commissioner, 140 T.C. 1 (2013)
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ii. The protection of a relatively natural habitat of fish, wildlife, or plants, or similar ecosyste m , iii. The preservation of certain open space (including farmland and forest land) , or iv. 36 The IRS has made clear that the conservation purpose is a fundamental characteristic of an easement transaction . Challenges to the validity of conservation easement transactions have been made because the habitat is not in a relatively natural state or there are few endangered specie s. Additionally, some property under easement has been deemed to standard to qualify for a charitable deduction. Challenges have also been made when there is no public access to the protected property. 37 The conservation purpose of the property has been an area where the IRS has favored technical challenges and will lik ely continue to be even with recent changes in legislation. Procedural Restrictions and Changes R ecent changes discussed in detail later ma k e it more difficult for taxpayers to participate in these types of transactions . However, leading up to the changes , the IRS took strategic steps to change the process of going after SCETs that in some cases could be argued to be unfair to taxpayers Summons and Acknowledgeme nt of Facts In 2020 the IRS changed the Summons procedure s for listed transactions. 38 Before the change, there was a three step process consisting of a Delinquency Notice, a Pre Summons L etter, and finally a Summons. However, the 2020 change made the three step process nonmandatory for listed transactions such as SCETs. Therefore, IRS agents can quickly issue Summons and are encouraged to do so to move the challenge forward quickly. 39 Usually , after an IRS audit, the Service sends the taxpayer(s) an a cknowledgment of f acts Information Document Request. The acknowledgment of facts allows the IRS and the taxpayer to detail the facts of the case so that if the case is litigated , the focus can be on issues of law , not fact . 40 The IRS itself has previously emphasized the time and quality benefits that arise from issuing an a cknowledgment of f acts before, during, and after an audit . 41 However, in 2020, listed transactions were not afforded the luxury of getting the facts straight before litigation. 42 This may indicate that the IRS has been more concerned with challenging and litigating 36 Treas. Reg. §1.170A 14 37 Internal Revenue Service. Conservation Easement Audit Techniques Guide. (Rev. 11/04/2016) 38 Tax Notes Doc . 2020 7524 (02/25/2020) 39 Federal 222 3 (11/17/2020 ) 40 IRM § 4.46.4.2 (12/13/2018); IRM §4.46.4.2 (12/13/2018) 41 IRS Publication 5125 (Large Business & International Examination Process) (Feb. 2016) 42 Ta x Notes Doc. 2020 7524 (02/25/2020)
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syndicated conservation easement transaction case s rapidly instead of taking the time to clarify facts. Combining Cases Another tactic carried out by the IRS in going after SCETs has been to combine similar cases . Conservation easement transactions are unique . The Regulations point out this uniqueness when discussing the difficulty of assigning a value to a charitable conservation easement donation due to the multitude of factors relevant to each case. 43 However, when litigating SCET cases, the Service has an opposing opinion. In Green Valley Investors, LLC v. Commissioner and other cases, the IRS was able to successfully argue that it should be able to consolidate SCETs cases. Reasons for consolidation included that the conservation easements were all donated to the same trust, the properties were located in the same county, all transactions were considered SCETs and the same legal issue was in question. 44 Denying each partnership individual litigation means that many of the unique facts of each case will be ignored in favor of a broad witch hunt against SCETs. Denying Right of Appeal Taxpayers have been granted a right to appeal their cases to an independent function of the IRS before litigation since 1998 . 45 The IRS and Congress have historically had opposing opinions on a taxpayer's right of appeal in the case of transactions that are considered to be tax shelters and have shown so thro ugh legislation and administrative guidance. In 200 4 , the IRS issued guida nce that described that some cases, for the purpose of , should not have a right to appeal. 46 In 2015, Congress enacted IRC §7803 (a)(3)(E) which states Revenue Service in an In retaliation the following year the IRS issued Rev. Proc. 2016 22 and again referred to the interest of sound tax administration as a reason a taxpayer may not receive a right to appeal. In 2019, as part of th e Taxpayer First Act , Congress c reated the Independent Appeals Office and stated it . 47 Finally, in 2020, the IRS when all taxpayers are afforded the right to appeal , especially concerning tax shelters. 48 The endless back and forth between the two parties indicates that the IRS has been overstepping its boundaries as an enforcement agency as Congress continuously tries to pass legislation to stop th e overexertion of power. 43 Treas. Reg. §170A 14(h) 44 Green Valley Investors , LLC v. Commissioner , Tax Court Docket Nos. 17379 19, 17380 19, 17381 19, and 17382 19. Tax Court Order dated 11/10/2020 45 IRS Restructuring and Reform Act of 1998 . P.L. 105 106 (1998) 46 IRM § 33.3.6 (08/11/2004) 47 Taxpayer First Act of 2019. P.L. 116 25 (07/01/2019) 48 IR 2020 188 (08/24/2020)
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Dividing Category One and Two Partners In perhaps one of the more strategic moves by the IRS in shutting down syndicated conservation easement transactions, the Service has begun to go after dif ferent types of participants in opposing ways. and conquer strategy 49 on Category One and Two Partners . Category One Partners are material advisors and are generally advisors, promoters, appraisers, or organizers of an SCET . Category Two Partners are those who do not qualify under the Category One Partners classification. The discrepancy between settlement offers of the two categories , however, could cause tension and mistrust between the two groups. Category One Partners are not allowed any charitable deduction and they must pay a 40 percent penalty. Category Two Partners on the other hand are allowed to deduct their costs in particip ation in the SCET and must pay a 10 to 20 percent penalty. 50 Category Two Partners , therefore, are much more likely to take the settlement offer and work against their former advisors . New C hanges and Outlook The Consolidat ed Appropriation Act of 2023 was signed into law by President Biden on December 29, 2022 . 51 A major change to syndicated conservation easement transactions is outlined in the new IRC § 170(h) (7) . This code section covers limitations on d eduction s made by pass through entities which donate conservation easements to qualified organizations . 52 Previously, Congress has been wavering attack on conservation easement transaction s, noting the severity of SCETs effect on lost tax dollars but moving slowly with a solution. However, this legislation marks the first major line in the sand against SCETs by Congress. IRC §170(h)(7) (A) states that a contribution by a partnership is not a qualified c onservation contribution if the value of the contribution exceeds 2.5 times in the partnership. as basis in a partnership immediately before the contribution that is allocable to the real property that a conservation easement and associated deduction was taken on without considering a . 53 Three exceptions to the general rule of t he limitations in IRC §170(h)(7)(A) are also listed. These include an exception for contributions outside of a three year holding period 54 , an 49 Hale E 50 IRS Information Release 2020 130 (06/25/ 2020) 51 11 (01/02/2023) 52 P.L 117 328 53 IRC §170(h)(7)(B)(ii)(II); referencing IRC § 752 54 IRC §170(h)(7)(C)
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exception for family partnerships , 55 and an exception for contributions that preserve historic land structure s . 56 IRC §170(h) (7)( F) also rules of this paragraph shall apply to S corporations and other pass through entities in the same manner as such rules apply to partnerships , broadening the scope of the subsection limitations to all pass through entities. Historically most conservation easement transactions have not been SCETs , but rather individual owned property . Many of these transactions are made by private landowners who want to conserve their property in its current state and bar development in future years. , 57 many of which are later passed d own in families. IRC §170(h)(7) (D) states that the family partnership exception applies family. Substantially all has not been defined within the new parts of the code section and this phrasing could leave room for manipulation if not quickly defined by the IRS. This exception is likely an attempt by Congress to maintain the integrity of conservation easement deducti ons even if families chose to organize the transaction through a pa ss through entity . The three year holding period ex ception seems to be the most prone to manipulation. The three year period starts on the later of the day that real property was acquired by the partnership , or a partner acquired an interest in the partnership. Therefore, so long as a partnership owns the property for three years and there are no changes in ownership interests during that time , the abuses found previously in SCETs are still entirely possible. With careful tax planning , the abuses found in SCETs would be possible , but just take slightly longer for individuals to carry out. The Congressional intent behind this exception is likely to avoid situation s where taxpayers are buying into a SCET partnership to receive a quick tax deduction. Additionally, an exception to the limitation applies to historic land structures . Despite this exception, previously t he IRS has pointed out that conservation easements on historic land structures have been an area of widespread abuse for SCETs. 58 IRC §170(f) has been modified by the Consolidat ed Appropriations Act of 2023 to include IRC§170(f)(1 9) . This subsection calls for reporting by the partnership of contributions that are certified historic structures and exceed 2.5 times the sum of each However, this additional reporting, most likely to aid in increased s crutiny by the Service, is the only limitatio n on SCETs that donate historic land structures. Therefore, the abuses could continue for historic land structure conservation easements. 55 IRC §170(h)(7)(D) 56 IRC §170(h)(7)( E) 57 US Sen . Steve Daines 06/2 1 / 2022, https://news.bloombergtax.com/tax insights and commentary/bad actors are fattening their wallets not boosting conservation. 58 non profits/conservati on easements.
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The version of the bill proposed by the Senate included a retroactive attribute so SCETs carried out before the Act was passed would be invalidate d under IRC § 170(h)(7). However, n o retroactive feature made it into the final public law . 59 Therefore, it seems as if the legal battles with SCETs carried out before December 29, 2022, will still face the same issues. T he new law also adds a safe harbor so that taxpayers can correct "extinguishment clauses and boundary line adjustments" that may have previously invalidated the transaction . This allows those taking the deduction to correct their D eed of Easement. 60 This addition to the Consolidated Appropriations Act of 2023 seems to take a s tance against IRS technicality attacks. By allowing taxpayers an opportunity to correct their documentation in accordance with IRS guidance , Congress has prevented some disallowance of deduction by the mere issue of wording and non compliant clauses. Conclusion M ere limitations to deductibility based on the form of these transactions may not be enough. There is a ne ed to change the way that taxpayers are told to value the conservation easements . The h ighest and best use valuation technique that many ta xpayers are using because of the uniqueness of conservation easements is leading to substantially inflated deductions. Going back to the EcoVest example, the h ighest and b est u se before the transaction considered the developmental potential for the property that was never really within the realm of possibility. However, investors were buying into the SCET partnership for a much lower price, signaling an overall value much lower than the highest and best use valuation methods. The taxpayer in theory was following IRS guidance on valuing the property using the before and after method . 61 Limitations on the amount of deductions that a taxpayer may claim for an individual conservation easement transaction , rather than limitations on the organization of the transaction may be a better way to combat the abuses. Interpretive guidance and future taxpayer strategies will tell the success of the new legislation in ending the controversy with time. For now, we are awaiting developments and IRS guidance on the new extension to IRC §170(h) and related code sections. Although the new legisl ation provides clarity on the deductibility of certain conservation easement transactions, loopholes in the exceptions to the general rule mean the SCET controversy will likely continue to be an issue in the years to come. Congressional action on this matt er has long been a necessity as the IRS has previously been acting as a rule ability to continue taking a legislative rather than interpretive role may be curtailed. 59 3 (12/27/2022) 60 11 (01/02/2023) 61 Treas. Reg. § 170A 14(h)
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Breakin g News : Is the IRS Continuing to Cross a Line? As of February 202 3 , there is continuing controversy that could bring broad implications to both the retroactive application of listed transaction regulations and to IRS rule making procedure in general . The Administrative Procedures Act is at the center of this debate . The rule making requirements of the Act apply to government agencies which create legislative rules, rather than interpretive guidance. The Act requires a three step notice and comment procedure to be followed prior to issuance of a legislative rule , which states that : 1. A g eneral notice of proposed rule making must be published in the Federal Register , 2. Interested parties must be given the opportunity to comment on the notice of proposed rule making , and 3. Lastly, the governmental agency must give a for the rules . 62 Recent cases have led to controversy regarding the necessity for the IRS to follow t he and comment requirements . As discussed earlier, the IRS has tended to attack technicalities when disallow ing charitable contribution deductions for conservation easements. One such technicality is the requirement that the Deed cannot allow upon judicial extinguishment of a conservation easement the value of post contribution improvements to be subtracted from the value of the property before allocating proceeds, which is expressly stated in Treas. Reg. 1.170A 14(g)(6)(ii). However, the Eleventh C ircuit ruled that Treas. Reg. 1.170A 14(g)(6)(ii) violated the APA in Hewitt v. Commissioner , 21 F.4 th 1336 (CA 11, 2021) . According to the Court, t he IRS failed to consider comments made by interested parties . The Court determined that one such comment made by the New York Land Conservancy was significant and procedural 63 Therefore, the Treasury Regulation was deemed to be invalid by the Eleventh Circuit. However, the Sixth Circuit disagreed with the Eleventh Circuit on this issue in Oakbrook Land Holdings, LLC v. Commissioner 28 F.4 th 700 (CA 6 , 2022) , stating that none of the comments by interested parties required a response. Since the Circuits are split on this issue it is difficult to say whether a taxpayer can challenge a technicality argument by the IRS based on the alignment with APA procedural requirements in the issuance of Treasury Regulations . However , when considering listed transactions specifically there is more room for debate and broader implications. In Mann Construction, Inc. v. United States , 27 F.4 th 1138 (CA 6, 2022) , the Sixth Circuit rule d that the IRS violat e d the APA in issuing Notice 2007 83 , which classifies certain trust arrangements that use cash value life insurance policies as listed transactions. Since the APA only applies to legislative rules , not interpretive, t he Court delineate s the difference by stating, w hen rulemaking carries out an express delegation of authority from Congress to an agency, it usually leads to legislative rules; interpretive rules 62 5 U.S. Code §553. Administrative Procedure Act 63 Hewitt v. Commissioner , 21 F. 4 th 1336 (CA 11, 2021)
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Additionally, the Court further lis t s the attributes that make Notice 2007 83 a legislative rule . First , t he Notice has the force and effect of law. defines a set of transactions that taxpayers must report, and that duty did not arise from a statute or a notice a nd comment rule. beying these new duties can involve significant time and expense, and failure to comply comes with the risk of penalties and criminal sanctions, all characteristics of legislative 64 Notice 2007 83 therefore was deemed to be a legislative rule and subject to the requirements previously listed in the APA. Since Congress did not ex p ressly exempt the IRS from following APA procedures and merely gave them the authority to issue guidance on listed transac tion s , there is a clear violation of the Act according to the Six th Circuit . In Green Valley Investor s, LLC v. Commissioner , 159 T.C. 5 (2022) , the Tax Court came to a similar conclusion as the Sixth Circuit. The Court d etermined that Notice 2017 1 0 new substantive reporting which prompts exposure to financial penalties and s an ctions interpretive , rule. In the same reasoning as Mann Construction, Inc. v. United States , since Notice 2017 10 is determined to be a legislative rule, The Tax Court deemed that the IRS is subject to the requirements of the APA in its rule making procedures. Since all lis ted transactions have been identified in n otices, both the validity of the n otices and authority of the IRS to pursue listed transactions i s in question. The Tax Court and the Sixth Circuit have both now taken a stance on the issue and only time will tell how other Circuits may rule . The broad implications of listed transactions and the administrative complications of a potential split in the Circuits on this issue may rise to the level of the Supreme Court in due time. To mitigate the uncertainty regarding validity of listed transaction n otices, the IRS has issued proposed regulations . After the judicial opinions that these n otices and Treasury Regulation violated the APA, the IRS issued proposed regulations relating to syndicated conservation easements as listed transactions in REG 106134 22 on December 8, 2022. However, the proposed regulations may be a me re quick fix rather than a long term solution as the ability o f the IRS to apply the regulations retroactive ly is unclear . Ordinarily, the Service may not require retroactive application of Treasury Regulations unless they are issued within 18 months after the enactment of the related statute 65 or meet a list of exceptions outlined within IRC §7805(b). Therefore, syndicated conservation easement transactions that were carried out before the enactment of IRC § 170(h)(7) would seem to be spared from retroactive application of new regulations if they are in a Circuit that has invalidated notices for not meeting the APA requirements , unless they fall under a narrow exception . 64 Mann Construction, Inc. v. United States , 27 F.4th 1138 (CA 6, 2022) 65 IRC §7805(b)(2)
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The general rule for retroactive application is listed in IRC §7805( b ) (1) , which states that, e xcept as otherwise provided in this subsection, no temporary, proposed, or final regulation relating to the internal revenue laws shall apply to any taxable period ending before the earliest of the following dates : A. The date on whi ch such regulation is filed with the Federal Register. B. In the case of any final regulation, the date on which any proposed or temporary regulation to which such final regulation relates was filed with the Federal Register. C. The date on which any notice subs tantially describing the expected contents of any temporary, proposed, or final regulation is issued to the public. However, IRC § 7805 (b)(3) states that may take effect or apply retroactively to T here is no definition of the term abuse or when retroactive application is warranted under this exception. This ambiguity is the main cause for uncertainty. As part of the Taxpayer Bill of Rights 2, P.L. 104 168 enacted in 1996, IRC §7805 ( b)(3) was supposed to be a limited exception to the validity of retroactive regulations . According to Bennie L. Thayer in testimony before the House Ways and Means Committee, the , pro 66 Courts have stated that abuse in regard to IRC §7805(b)(3) is when a taxpayer carries out a transaction that is a statute as written . 67 Therefore, it would be difficult to make the argument that prior to the addition of IRC §170(h)(7) in late 2022 , taxpayers were statute under a literalist approach when such limitations did not yet exist. Ultimately , the fog has not yet lifted on this issue and the validity of retroactive application of the proposed regulations concerning syndicated conservation easements when they become final is not yet apparent . The broad implications of both the authority of listed transaction n otices and retroactive application of new regulations leave s many current syndicated conservation easement transaction cases without clear answers. Only time will tell the true . 66 Bennie L. Thayer , National Association for the Self Employed, House Ways and Means Committee, 1996 WL 205524 67 Tax Notes (07/22/2019) ; see also Sala v. United States , 613 F.3d 1249 ( CA 10, 2010) , Stobie Creek Investments LLC v. United States , 608 F.3d 1366 (Fed. Cir. 2010 ), and Klamath Strategic Investment Fund LLC ex rel St. Croix Ventures LLC v. United States . 440 F. Supp. 2d 608 , 623 (E.D. Tex. 2006) for disc ussion of retroactive application of regulations and the abuse threshold
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mods:abstract lang en Participants in syndicated conservation easement transactions have become the subjects of intense IRS scrutiny and audits. Although an itemized deduction has typically been allowed for charitable contributions of conservation easements, some taxpayers have taken advantage of the deduction. It is difficult to argue that these taxpayers have not been abusing the charitable deduction by selling partnership interests to other taxpayers and therefore “selling†inflated charitable deductions. However, Congress has not provided guidance on the deductibility of these contributions until recently. Therefore, the IRS has taken it upon itself to define rules for syndicated conservation easement transactions and step outside of their enforcement role into one of legislative nature. Recent IRS tactics as well as the controversy between the IRS and Congress on this matter will be discussed through investigation of primary authority issued by both parties. Additionally, with new guidance on the limitations to abuses of the charitable deductions of conservation easements recently enacted by Congress in IRC §170(h)(7), the potential for success in ending the controversy will be analyzed.
mods:accessCondition Copyright Alexia Marie Byrd. Permission granted to the University of Florida to digitize, archive and distribute this item for non-profit research and educational purposes. Any reuse of this item in excess of fair use or other copyright exemptions requires permission of the copyright holder.
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mods:note Awarded Bachelor of Science in Accounting, summa cum laude, on April 29, 2022. Major: Accounting
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