Conservation Easement & Appraiser Penalty Provisions in PPA 2006

Conservation Easement & Appraiser Penalty Provisions in PPA 2006

Article posted in Conservation Easement on 22 August 2006| 2 comments
audience: Leimberg Information Services, National Publication | last updated: 18 May 2011
Print
||
Rate:

Summary

The Pension Protection Act of 2006 significantly increases the deduction for donations of conservation easements for 2006 and 2007 and tightens the availability of deductions for facade easements. In this article from Leimberg Information Services, Boston attorney Joan B. Di Cola reviews these new rules along with new rules that apply to qualified appraisals, who can perform them, and new accuracy related penalties.

by Joan B. Di Cola
with commentary by Stephan R. Leimberg

The Pension Protection Act of 2006 significantly increases the deduction for donations of conservation easements for 2006 and 2007.  For those two years only, the Act ignores the 30% AGI limitation for the donation of capital assets to Code Section 170(b)(1)(A) organizations and increases the deduction for conservation easements to 50% for individuals.

The deduction can be as much as 100% of AGI (or taxable income, as adjusted, if a corporation) if the donor is a qualified farmer or rancher, as long as the property on which the easement is donated will be "available" for farming or ranching.  And unlike ordinary charitable deductions, any excess can be carried forward for fifteen years.

Joan points out that

"What Congress Gives, It Also Takes Away"

 
In contrast to ordinary conservation easements, deductions for so-called "facade" easements for properties located in registered historic districts are no longer allowable - unless the entire exterior of the building is preserved.  The deduction is reduced if rehabilitation credits have been taken in the five years before the gift.  To add insult to injury, taxpayers claiming a deduction greater than $10,000 for building easements will also be required to pay a filing fee of $500 beginning six months from now.  Donations have also been eliminated for conservation easements on vacant land in registered historic districts.

There is now a much a lower threshold for imposition of accuracy related penalties associated with valuation overstatements and understatements.

The definition of who is a "qualified appraiser" is now determined by statute and includes objective credentials. In addition, new Code Section 6695A imposes penalties on appraisers involved in valuation misstatements

Joan's insightful report also includes some significant changes in charitable valuation misstatement penalties:

EXECUTIVE SUMMARY

Effective for tax years 2006 and 2007, Section 1206 of the Pension Protection Act of 2006 amends Section 170 of the Code to allow a 50% deduction (increased from 30%) for capital gain property that constitutes a qualified conservation contribution donated by an individual to a Code Section 170(b)(1)(A) organization. If the donor is a qualified farmer or rancher, he/she is allowed a deduction up to 100% of the excess of his/her contribution base over all other allowable charitable contributions. This latter provision applies to a non-publicly traded farming or ranching corporation, except that the contribution base is taxable income, as adjusted.  Any excess allowable deduction may be carried forward for fifteen years.

Effective for contributions made after July 25, Section 1213 of the Act significantly tightens the requirements for conservation easements for buildings located in registered historic districts.  The donation will no longer be considered "exclusively for conservation purposes" unless the easement preserves the entire exterior of the building, not just the front, and prohibits any change in the exterior which is inconsistent with the historical character of the building.  In addition, the contribution deduction is reduced by the same ratio that rehabilitation credits claimed on the building over the previous five years, bears to the total fair market value of the building.

Deductions for donation of conservation easements on land area in registered historic districts are no longer allowable.  If the deduction claimed for such building easement donation is over $10,000, the taxpayer is required to include a $500 filing fee beginning 180 days after date of enactment.

Section 1219 of the Act amends Code Section 6662(e) to redefine a substantial valuation misstatement for income tax penalty purposes to be 150% of the correct valuation, reduced from 200%. A gross valuation misstatement is now 200% of the correct value, down from 400%.

For estate and gift tax purposes under Code Section 6662(g), penalties for substantial valuation misstatement will now be triggered if the valuation is 65% of correct value, up from 50%.  Penalties for a gross valuation misstatement will now be triggered if the value is 40% of correct value, up from 25%.  Reasonable cause is no longer available as a defense to gross valuation misstatements in either the income or transfer tax context.

New Code Section 6695A significantly increases penalties on appraisers, who now warrant their own class of penalties, rather than those determined under Code Section 6701. The penalty is equal to the greater of $1,000 or 10% of the understatement, up to a maximum of 125% of the gross income derived from the appraisal. A qualified appraiser is now defined by statute as one who has actual professional credentials as an appraiser including education and experience.  Appraisers can now be disciplined without first being assessed a civil penalty.

CONSERVATION EASEMENTS

Let's look at the changes to the usual conservation easement rules first.

A donation of a conservation easement on property is typically the donation of a capital asset.  It is a restriction on land the value of which is typically measured by the difference in the value of the land with and without the restriction.

Pursuant to Code Section 170(b), the deduction for gifts to Code Section 170(b)(1)(A) organizations (that is, public charities; private foundations other than private non-operating foundations; and certain governmental units) up to now was limited to 30% of the taxpayer's contribution base (adjusted gross income without NOL carrybacks, elsewhere referred to as "AGI") because it is a donation of capital gain property.

The new provision ignores the capital gain limitations and gives the taxpayer the same deduction - 50% of his contribution base - that he used to get only for non-capital gain property, without having to make the difficult choice of limiting his deduction to tax basis.  The excess may be carried forward for fifteen (as opposed to five) years.

Both under the statute and as a matter of good planning, the new conservation easement deduction is taken into account after all other charitable deductions.

If the taxpayer is a "qualified farmer or rancher" - his annual gross income from the trade or business of farming or ranching is greater than 50% - the news gets even better. He can deduct up to 100% of his contribution base, provided that the property is generally available for agriculture or ranching.

Note that the provision does not say the property has to be used for those purposes, only that it is "generally available" for them.  This last requirement does not apply to donations from January 1, 2006 to date of enactment.  If the taxpayer is a non-publicly traded corporation the same provisions apply, measured by the corporation's taxable income, as adjusted.   The carry-forward is, again, fifteen years.

COMMENT

The rules represent a significant expansion of the value of the deduction for donation of conservation easements to qualified charities, since the deduction is no longer limited to 30% of the taxpayer's contribution base. As has been consistently the case over the last decade, however, there is a distinct "smoke and mirrors" quality to the provision.

Taxpayers have until the end of next year to make the donation.

But is that realistic? Anyone who has ever tried to donate a conservation easement knows that it can take forever to get the deal done, especially if a government agency is involved.  And if the transaction is part sale, part gift, or more than one agency is involved, the complications multiply exponentially. If one starts this year, maybe, just maybe, the donation might be completed in 2007 (unless, of course, one already has a deal in place).

The 100% deduction for donations by "farmers" raises further issues. Presumably it would be available to the so-called "timber interests" that the administration needs to repeal the estate tax. More surprising, it appears to be available for a large, non-publicly traded farming or ranching concern, like Perdue chicken.  There are no income limits on the entities that qualify as farmers; only that more than 50% of their gross income, as adjusted, derives from farming or ranching. In one fell swoop, a closely held farming corporation can eliminate its taxable income for the current year, reduce the value of the farm or ranch and attendant property taxes forever, and still operate the farm as a farm. The pesky limitations of special use valuation can be totally avoided.

FACADE EASEMENTS

Section 1213 of the Act significantly tightens the availability of deductions for conservation easements associated with buildings located in registered historic districts other than certified historic structures by eliminating the deduction entirely unless the easement

(i)      preserves the entire exterior of the building "including the front, sides, rear, and height of the building" and

(ii)      prohibits any exterior change that is inconsistent with the historical character of the exterior.  

So-called "facade" easements are no longer available.

Moreover, the amendment makes explicit the requirement that the donee be a qualified organization that has the resources to manage and enforce the restriction, and the donor and the donee must enter into a written agreement certifying under the pains and penalties of perjury, that the donee so qualifies, among other things.

The taxpayer is required to submit with his return, not only a qualified appraisal (regardless of the value of the gift, a change from prior law), but also photographs of the entire exterior of the building and a description of the restrictions on development of the building.

The value of conservation easements with regard to both certified historic structures and buildings located in registered historic districts has been reduced by changes with regard to rehabilitation tax credits available under Code Section 47. Pursuant to Code Section 47, a credit of 20% of qualified rehabilitation expenses is available for certified historic structures, and 10% for qualified rehabilitated buildings.

In Rev. Rul. 89-90, the Service ruled that the subsequent donation of a conservation easement on a building for which a rehabilitation credit had been claimed constitutes a partial disposition of the building, resulting in a recapture of the credit.

This approach, which was approved by the Tax Court in Rome I, Ltd. v. Commissioner, appears to have now been modified. The value of the easement is now reduced by the same proportion that the credits claimed on the building over the previous five years, bears to the current fair market value of the building.  In other words, if the building is worth $1,000,000 and the taxpayer had claimed $100,000 of rehabilitation credits over the previous five years, the value of the donation is reduced by $100,000/$1,000,000, or 10%.

Presumably Rev. Rul. 89-90 has been statutorily overruled, but one cannot tell from reading either the legislation or the Joint Committee Report.

APPRAISAL RULES TIGHTENED; PENALTIES FOR VALUATION MISSTATEMENTS STRENGTHENED

As with all other charitable gifts, in order to claim a charitable deduction for a conservation easement worth in excess of $5,000, the taxpayer is required to obtain a "qualified appraisal" from a "qualified appraiser" pursuant to Code Section 170(f)(11).

Who is a "qualified appraiser" is now defined by statute.  In general under prior law, Reg. Sec. 1.170A-13(c)(5) allowed an appraisal if the appraiser held himself out as an appraiser or regularly performed appraisals, had some subjectively adequate credentials, knew about the civil fraud penalties and was not a disqualified person.

Now, the appraiser needs either "an appraisal designation from a recognized appraiser organization" or has met "minimum education and experience requirements" established by the Secretary; regularly performs appraisals and is compensated for them; and meets whatever other requirements the Secretary may set. Lawyers and accountants have apparently been taken out of the business of valuing their clients' gifts.

These new credential requirements are complemented by penalty provisions set forth in new Code Section 6695A. Rather than the aiding and abetting penalty under Code Sec. 6701 (generally $1,000), appraisers will now be subject to a penalty of the greater of $1,000 or 10% of the amount of tax attributable to the valuation misstatement, up to a maximum of 125% of the gross compensation received for the appraisal. To defend himself, the appraiser must establish that it was "more likely than not" that the appraisal was correct.

Valuation penalties have also been strengthened. Under Code Section 6662(e), a substantial valuation misstatement for income tax penalty purposes is 150% of the correct valuation, reduced from 200%. A gross valuation misstatement is now 200% of the correct value, down from 400%.

For estate and gift tax purposes under Code Section 6662(g), penalties for substantial valuation misstatement will now be triggered if the valuation is 65% of correct value, up from 50%.

Penalties for a gross valuation misstatement will now be triggered if the value is 40% of correct value, up from 25%.

Reasonable cause is no longer available as a defense to gross valuation misstatements in either the income or transfer tax context. The penalty remains at 20% of the underpayment for a substantial misstatement; and 40% for a gross valuation misstatement.

The provisions generally apply to returns and appraisals prepared for returns filed after date of enactment.

Appraisals associated with property located in a registered historic district are governed by the new rules for returns filed after July 26, 2006.

HOPE THIS HELPS YOU HELP OTHERS MAKE A POSITIVE DIFFERENCE!

Joan Di Cola

CITE AS:

Steve Leimberg's Charitable Planning Newsletter # 102  (August 15, 2006) at http://www.leimbergservices.com  

CITES:

Pension Protection Act of 2006, Sections 1206;1213; and 1219; Technical Explanation of H.R. 4 by the Joint Committee on Taxation; Rev. Rul. 89-90, 1989-2 C.B. 3; Rome I, Ltd. v. Commissioner, 96 T.C. 697 (1991); Kirschten and Freitag, Charitable Contributions: Income Tax Aspects, 863 BNA Estate and Gift Tax Portfolio. Tools and Techniques of Charitable Planning (800 543 0874).

Add comment

Login or register to post comments

Comments

APPRAISAL RULES TIGHTENED

Are these rules applicable only to appraisals of easements or all non-cash charitable deduction property reported in Section B of Form 8283?

Application of Appraisal Rules

The new rules apply to all non-cash contributions for which appraisals are required. See PPA section 1218 and the Joint Committee's explanation of the provisions (pages 308 - 312)

Group details

Follow

RSS

This group offers an RSS feed.
 
7520 Rates: November 2.4% October 2.2% September 2.4%

Already a member?

Learn, Share, Gain Insight, Connect, Advance

Join Today For Free!

Join the PGDC community and…

  • Learn through thousands of pages of content, newsletters and forums
  • Share by commenting on and rating content, answering questions in the forums, and writing
  • Gain insight into other disciplines in the field
  • Connect – Interact – Grow
  • Opt-in to Include your profile in our searchable national directory. By default, your identity is protected

…Market yourself to a growing industry