In a recent conservation easement case, Jackson Crossroads LLC v. Commissioner, T.C. Memo 2024-111 (Dec. 19, 2024), the Tax Court held in favor of the taxpayers on an important technical issue, finding that the contributed properties were not inventory in the hands of the donor partnerships and therefore the deductions were not limited under section 170(e)(1)(A). The court also rejected the Internal Revenue Service's (IRS) substantiation arguments regarding qualification of one of the taxpayers' qualified appraisers, and whether they met the requirements for "qualified appraisals." In spite of these wins, however, the court found that the taxpayers failed to provide sufficient support for their claimed easement values, which resulted in the disallowance of most of the deductions and the imposition of gross valuation misstatement penalties. 

Taxpayers Jackson Crossroads, LLC, and Long Branch Investments, LLC, contributed conservation easements to the Oconee River Land Trust on December 19, 2016. The taxpayers valued the Jackson Crossroads and Long Branch easements at $23,142,421 and $13,830,000 on their respective tax returns. At trial, the IRS made two technical arguments: (1) the taxpayers failed to comply with substantiation requirements for charitable contributions of property, and (2) each taxpayer's deduction should be capped at its basis under section 170(e)(1)(A) because the property was inventory in the hands of the taxpayers. The IRS also argued that the taxpayers significantly overvalued the donated easements and should be liable for valuation misstatement penalties. 

The court rejected both of the IRS's technical arguments. First, on the substantiation issue, the court rejected the IRS argument that one of the taxpayers "had knowledge of facts that would cause a reasonable person to expect the appraiser falsely to overstate the value of the donated property." The IRS was unable to show the "collusion and deception as to the value of the property" required by caselaw. Rather, the court found that the appraiser's responsiveness to feedback from the taxpayer's managing member resembled "a relatively normal back-and-forth between client and appraiser." The court also rejected IRS arguments that the taxpayers' appraisals were not qualified appraisals under the section 170 regulations because they did not fully comply with generally accepted appraisal standards. 

Second, the court rejected the IRS's argument that each taxpayer's deduction should be capped at its basis under section 170(e)(1)(A) because the properties were inventory in the hands of the taxpayers. Under section 170(e)(1)(A), the amount of a charitable contribution deduction is reduced by the amount that would not have been long-term capital gain upon a hypothetical sale of the property. Under section 724, partnership property generally retains the same character it had in the hands of the contributing partner. Applying a multifactor test set out by the Eleventh Circuit Court of Appeals, to which this case is appealable, the court found that the properties were capital assets and not inventory. Importantly, the court found that the Eleventh Circuit limited its analysis to the activities of the partnership and the contributing partner and declined to impute the business activities of other partners to the partnership. As a result, the court found that the taxpayers acquired the properties at issue for conservation purposes rather than as investments. Because the properties were capital assets, the limitation in section 170(e)(1)(A) did not apply. 

Notwithstanding its taxpayer-favorable rulings on the IRS's technical arguments, the court rejected the taxpayers' valuations in their entirety. The court found that contrary to the taxpayers' assumptions, it was not feasible to use one of the properties as a mine, and the taxpayers did not provide sufficient support to show that the highest and best use for the properties was for the development of industrial sites. The court concluded that the easements were worth a fraction of the amounts claimed and, as a result, imposed 40 percent gross valuation misstatement penalties. 

Jackson Crossroads is an important win for taxpayers with similar issues. The substantiation and inventory arguments rejected in this case have been frequently asserted by the IRS, as it continues its quest for new avenues of attack against syndicated conservation easements. Although the ultimate decision was not favorable for the taxpayers at issue in the case, Jackson Crossroads provides other taxpayers with a useful framework for defending against these types of arguments in future cases.

For more information, please contact:

Maria O. Jones, mjones@milchev.com, 202-626-6057

Samuel A. Lapin, slapin@milchev.com, 202-626-5807

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