The First Circuit has vacated (Docket Nos. 11-2017 & 11-2033) the Tax Court opinion in Kaufman v. Commissioner (136 T.C. No. 13), denying a charitable deduction for the contribution of a façade easement on a Boston townhouse.
When the easement was granted, the property was subject to a mortgage. In general, a taxpayer must contribute the taxpayer's entire interest in property to a charitable organization to obtain a charitable deduction under Section 170. One exception to this general rule is for a qualified conservation contribution. Under Section 170(h)(1), a qualified conservation contribution is a contribution of a qualified real property interest that is exclusively for conservation purposes. An interest in property conveyed by a façade easement must be protected in perpetuity for the interest to be treated as a qualified conservation contribution. If a perpetual conservation restriction is extinguished, the regulations require that the charitable organization "be entitled to a portion of the proceeds at least equal to the proportionate value of the perpetual conservation restriction."
In Kaufman, the bank holding the mortgage on the property retained a claim to all proceeds, to the extent of the indebtedness, in the event of condemnation or casualty to the property. The bank's claim had priority over any claim by the charitable organization. The taxpayers argued that the charitable organization could seek its share of the proceeds from the taxpayers or their successors even though the organization's right to a share of the proceeds when the easement was extinguished was subordinate to the mortgage holder. The Tax Court dismissed this argument. At the time of the gift, the donation must give rise to a property right immediately vested in the charitable organization. The Tax Court interpreted this requirement as giving the charitable organization a right to a share of the proceeds from an extinguishment, not merely a contractual claim against the property's owner. The Tax Court concluded that the easement was not enforceable in perpetuity and did not qualify for an income tax charitable deduction.
The First Circuit disagreed with Tax Court's acceptance in reading the word "entitled" to mean "has an absolute right." The First Circuit noted, however, that a grant that is absolute against the owner-donor is also an entitlement and almost the same as an absolute one where the third-party claims are contingent and unlikely. The First Circuit acknowledged that the IRS has good reason to assume that the taxpayers could not recapture the value of what they gave up but the taxpayers had no power to make the mortgage-holding bank give up its own protection against fire or condemnation, and no power to defeat tax liens that the city might use to reach the same insurance proceeds, given the fact that tax liens are superior to most prior claims. The First Circuit concluded that the IRS's reading of the regulation would appear to doom practically all donations of easements, which is surely contrary to the purpose of Congress, and vacated the Tax Court's grant of summary judgment on the deduction issue.
The case was remanded to Tax Court to address the proper valuation of the easement. The IRS claimed that the value of the easement was close to zero, because, among other reasons, the property was already subject to the South End Landmark District rules, which severely restrict alterations that property owners can make to the exteriors of historic buildings in the neighborhood. The First Circuit believed that the IRS's aggressive legal position was an attempt to address conservation easements on a legal basis rather than resorting to litigation on the factual valuation issue. The First Circuit suggested ways in which future regulations could address the abuses in this area without stifling Congress's aim to encourage legitimate easements.
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