Court Finds Civil Fraud Penalty Not Applicable To Easement Donation Where Taxpayer Disclosed Cost Basis
By Joel N. Crouch on November 27, 2023
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Joel N. Crouch
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On October 26th, the Tax Court issued an interesting opinion in Mill Road 36 Henry LLC v. Commissioner, T.C. Memo 2023-129, upholding the IRS disallowance of a $8.9 million deduction for an easement donation but also holding that a partnership’s filing of an information return disclosing the wide disparity between its cost basis and claimed value of the easement donation meant there was no intent to mislead the IRS, and thus the civil fraud penalty did not apply.
According to the opinion, in 2014, Mill Road Partners 125 LLC acquired 117 acres of undeveloped suburban land for $1.25 million. Two weeks later, Benwood Investments, LLC acquired a 25% undivided interest in the tract from Mill Road Partners, partitioned 40 acres of the tract and contributed it to Mill Road 36 Henry, LLC (“MR36”). In September 2016, MR36 Investments LLC acquired a 97% ownership interest in MR36 for $1 million. Two months later, MR36 donated a conservation easement over 33 acres of the tract to Southern Conservation Trust, Inc.
On its 2016 tax return, MR36 claimed a charitable contribution deduction of $8.9 million for the easement donation, based on an appraisal that concluded that the highest and best use for the land before the easement donation was a senior assisted living or senior independent living development. In a Form 8283, “Noncash Charitable Contributions,” attached to its tax return, MR36 reported that the property was acquired by purchase in August 2015, that the donor’s cost or adjusted basis was $416,563, and that the property was contributed 16 months later with an appraised fair market value and claimed deduction amount of $8.9 million.
In a Notice of Deficiency, the IRS disallowed the partnership’s $8.9 million deduction and included a 40% accuracy-related penalty for gross valuation misstatement. In response, the partnership filed a Tax Court petition. After the Tax Court trial, the IRS amended its answer and alleged, for the first time, that the partnership should be liable for a 75% civil fraud penalty.
In its decision, the Tax Court sided with the IRS and its expert and held that the land’s highest and best use before the easement donation was to hold it for sale to an experienced developer and that the land had a before-value of $990,000. With respect to the 75% civil fraud penalty, the Tax Court held for the taxpayer and said, “this is not an instance in which a taxpayer buried an improper deduction deep in his return, nor even a case where the taxpayer related his disclosure of an improper deduction on a self-composed attached statement, which no one at the IRS might ever understand or even see.” The court said there was no conduct intended to conceal or mislead, “rather, the conservation easement transaction was fully disclosed, in exactly the manner designed by the Treasury itself to reveal charitable contribution deductions based on overstated value”.
However, the Tax Court did find that the partnership was liable for the 40% accuracy-related penalty for gross valuation misstatement.
For questions regarding this blog post or any other civil or criminal tax related matter, please feel free to contact me at jcrouch@meadowscollier.com.
According to the opinion, in 2014, Mill Road Partners 125 LLC acquired 117 acres of undeveloped suburban land for $1.25 million. Two weeks later, Benwood Investments, LLC acquired a 25% undivided interest in the tract from Mill Road Partners, partitioned 40 acres of the tract and contributed it to Mill Road 36 Henry, LLC (“MR36”). In September 2016, MR36 Investments LLC acquired a 97% ownership interest in MR36 for $1 million. Two months later, MR36 donated a conservation easement over 33 acres of the tract to Southern Conservation Trust, Inc.
On its 2016 tax return, MR36 claimed a charitable contribution deduction of $8.9 million for the easement donation, based on an appraisal that concluded that the highest and best use for the land before the easement donation was a senior assisted living or senior independent living development. In a Form 8283, “Noncash Charitable Contributions,” attached to its tax return, MR36 reported that the property was acquired by purchase in August 2015, that the donor’s cost or adjusted basis was $416,563, and that the property was contributed 16 months later with an appraised fair market value and claimed deduction amount of $8.9 million.
In a Notice of Deficiency, the IRS disallowed the partnership’s $8.9 million deduction and included a 40% accuracy-related penalty for gross valuation misstatement. In response, the partnership filed a Tax Court petition. After the Tax Court trial, the IRS amended its answer and alleged, for the first time, that the partnership should be liable for a 75% civil fraud penalty.
In its decision, the Tax Court sided with the IRS and its expert and held that the land’s highest and best use before the easement donation was to hold it for sale to an experienced developer and that the land had a before-value of $990,000. With respect to the 75% civil fraud penalty, the Tax Court held for the taxpayer and said, “this is not an instance in which a taxpayer buried an improper deduction deep in his return, nor even a case where the taxpayer related his disclosure of an improper deduction on a self-composed attached statement, which no one at the IRS might ever understand or even see.” The court said there was no conduct intended to conceal or mislead, “rather, the conservation easement transaction was fully disclosed, in exactly the manner designed by the Treasury itself to reveal charitable contribution deductions based on overstated value”.
However, the Tax Court did find that the partnership was liable for the 40% accuracy-related penalty for gross valuation misstatement.
For questions regarding this blog post or any other civil or criminal tax related matter, please feel free to contact me at jcrouch@meadowscollier.com.
