Conservation Easements: Building Envelopes Doom Donation

The Tax Court recently issued a full T.C. opinion which will impact a tremendous number of conservation easement donations.  In Pine Mountain Preserve, LLLP v. Commissioner, 151 T.C. 4 (2018) the Tax Court found a reservation of rights to construct certain improvement within a floating building envelope resulted in a conservation easement failing to constitute a qualified real property interest granted in perpetuity.  As a result, no deduction was allowed for the grant of the conservation easement.

Taxpayers have commonly reserved the right to construct improvements within a parcel encumbered by a conservation easement, often referred to as a building envelope.  Taxpayers are often unsure where they wish to construct improvements at the time a conservation easement is granted and may tentatively identify the location of a building envelope but reserve the right to move the building envelope to a different location in the encumbered parcel (a so-called floating building envelope).  The right to relocate the building envelope is restricted and may not have a material adverse effect on the conservation values protected by the conservation easement.  The donee organization must approve any new location for a building envelope and determine that it will not impact the conservation values.

The Tax Court reasoned a conservation easement cannot constitute a qualified conservation contribution when a floating building envelope right is reserved because the easement does not govern a defined and static parcel of land.  The U.S. Court of Appeals for the Fifth Circuit has rejected this position in BC Ranch I, L.P. v. Commissioner, 867 F.3d 547 (5th Cir. 2017), however, the Tax Court was not compelled to follow the Fifth Circuit precedent because the appeal for the Pine Mountain case lies with the U.S. Court of Appeals for the Eleventh Circuit.  The taxpayer in Pine Mountain will almost certainly appeal to the Eleventh Circuit, setting up a potential split in the circuits.  The Pine Mountain decision is a precedential opinion, however, and will be applied by the Tax Court in all cases other than those appealable to the Fifth Circuit, and potentially the Eleventh Circuit.

Floating building envelopes have been a common feature in conservation easements.  Indeed, the donee organization in the Pine Mountain case was the North American Land Trust (NALT), a large conservation organization that has completed more than 500 projects and protected more than 120,000 acres.  Floating building envelopes are often included in NALT conservation easements and other donee organization conservation easements.

The Internal Revenue Service (IRS) and state taxing authorities have heavily scrutinized conservation easements in the past and will likely take the position that taxpayers who have donated a conservation easement that includes a floating building envelope are not entitled to any tax deduction in the wake of the Pine Mountain decision.  Taxpayers should continue to challenge the IRS and state taxing authorities if their conservation easement deduction is disallowed on audit because no appellate level precedent exists to support the denial.  A successful taxpayer appeal in Pine Mountain may help taxpayers in the Eleventh Circuit, however, taxpayers in other circuits will have to continue to litigate their position if they wish to have their conservation easement tax deductions allowed because the Tax Court is only bound to follow the precedent of the circuit where an appeal lies.

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