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By Austin Quinn
November 8, 2024
If it sounds too good to be true, it probably is. In the eyes of the IRS, “buying deductions” through syndicated conservation easement transactions falls squarely in this category.
The U.S. Treasury Department and IRS recently issued final regulations classifying syndicated conservation easement transactions as “listed transactions” – a form of abusive tax transaction that must be reported to the IRS.
A “syndicated conservation easement transaction” takes place when a promoter finds investors for purchasing rural land or other charitable property suitable for conservation, acquires that land on behalf of those investors using a pass-through entity, and obtains a highly inflated appraisal on that land, thereby enabling those investors to claim tax deductions under I.R.C. § 170(h).
Promoters are people who solicit investors or their representatives. The promoter identifies a pass-through entity that already owns the conservation property or forms a pass-through entity to acquire it. From there, the investors acquire ownership interests in the pass-through entity or tiered entities under the instruction of the promoter.
Pass-through entities allow for structural flexibility in taxation, but with that flexibility comes a higher chance for abuse and, as a result, these entities face a complicated regulatory environment. These transactions exploit tax incentives for land conservation by inflating land appraisals and leveraging partnerships that have no real business purpose to claim exaggerated deductions.
The term “conservation easement” stems from I.R.C. § 170(h), which provides for tax deductions on real property interests contributed to tax-exempt charitable organizations for conservation purposes—typically environmental or historical preservation. Essentially, the landowner agrees to limit the use of the land and maintain it as is, despite the fact that the land might be more valuable if further developed. To encourage conservation of natural areas, the Code encourages this self-imposed limitation through a tax incentive.
This is technically labeled a “qualified conservation contribution”. I.R.C. § 170(h)(1). By tying the charitable contribution deductions to an inflated appraisal of the land, investors could recoup more than two and a half times the amount of their initial investment. Because these deductions flow through the entities and reach the individual level, they offset the taxpayer’s individual taxable income.
What does this mean for taxpayers? These new regulations classify syndicated conservation easement transactions as “listed transactions”. Participating investors and advisers must therefore disclose their involvement in such transactions.
Taking this kind of deduction is not inherently a crime. But earlier this year, two promoters received 20-plus year sentences for crimes related to syndicated conservation easements. Others have since pleaded guilty to conspiracy to defraud the United States. One certified public accountant (CPA) and an attorney together sold over $1.3 billion in fraudulent deductions and caused $450 million in lost taxes to the IRS. Some appraisals on conservation easements exceeded ten times the price paid by the promoters, enabling them to promise clients deductions of up to four and a half times their investments. Through the courts, the IRS has successfully reduced the grossly inflated easement valuations for tax purposes to the actual market value at the time of their donation. Without further action, such problems were likely to continue: 2,179 taxpayers reported 2,407 easements in 2003. But by 2018, 9,844 taxpayers had claimed deductions for conservation contributions with 14,095 easements.
The IRS previously identified certain syndicated conservation easement transactions as listed transactions in Notice 2017-10. But with these final regulations, the IRS clarifies that participants and advisers must report such transactions—including those for taxable years still open.
If you have any questions regarding the new regulations, please feel free to contact Márcia Loeffelholz at mloeffelholz@hechtsolberg.com or Austin Quinn at aquinn@hechtsolberg.com.