Timing is Everything: 9th Cir. Affirms IRS’ Disallowance of Charitable Deduction for Conservation Easement

In Minnick, et al., v. Commissioner of Internal Revenue, decided on August 12, 2015, involves conservation easements.  The U.S. Court of Appeals for the Ninth Circuit affirmed the U.S. Tax Court’s decision that disallowed a charitable deduction under Treasury Regulation § 1.170A-14(g)(2) claimed by the taxpayers for the donation of a conservation easement, a widely-used vehicle to safeguard lands from commercial development that could adversely affect environmental values.

According to the IRS, any mortgage on the property must be subordinated to the easement at the time of donation.  The taxpayers increased the value of their bank loan on the Idaho property to $1.5 million in 2006, and donated parts of the land to the Land Trust of Treasure Valley a few days after they received final approval of the development plans.  The taxpayers obtained a valuation of the easement  at $941,000, but the bank was not informed of the conservation easement in 2006.  A notice of tax deficiency was issued by the IRS for the 2007 and 2008 tax years, and the matter was tried by the U.S. Tax Court in 2011.

Before the trial, the taxpayer received a subordination of the mortgage to the conservation easement.  However, the IRS interpreted its regulations to require that any mortgages must be subordinated  at the time of the donation in order to qualify for this deduction.  Under 26 U.S.C. § 170(h)(5)(A), the donation of a conservation easement is permitted only if the easement’s “conservation purpose is protected in perpetuity.”

Agreeing with the IRS, the Court of Appeals observed that an easement can hardly be said to be protected in perpetuity if it is subject to extinguishment at any time by a mortgage holder who was not a party to the easement transaction or, indeed, may not have been aware of it.