Second Circuit: Co-Op Owner Is Entitled to Casualty Loss

circseal2The Second Circuit Court of Appeals has reversed the Tax Court’s decision that a New York City co-op owner, Ms. Alphonso, could not deduct casualty losses that occurred on grounds owned in common with other cooperative shareholders.

The Tax Court held that Ms. Alphonso could not take a deduction for a casualty loss because she did not hold a property interest in the damaged property. The damage in question occurred when a retaining wall along the common property of the cooperative apartment building collapsed. The co-op shareholders contributed to the necessary repairs and clean-up. Ms. Alphonso took a deduction of about $23,000 for her share of the repairs, claiming that it qualified as a casualty loss under under IRC §165(c)(3).

The Tax Court did not address the merits of the casualty loss claim. Rather, the Court ruled as a matter of law that Ms. Alphonso did not hold a “sufficient” property interest in the common area of the apartment building to qualify for the deduction.

The Second Circuit vacated the Tax Court holding that although Ms. Alphonso’s interest in the damaged common area was not exclusive with respect to her fellow tenant shareholders it was still a property right. Thus, the “property” element of section 165(c)(3) was satisfied. The Second Circuit remanded the case to the Tax Court for further proceedings on whether the claimed damages qualified as a casualty loss.

Read the Second Circuit’s opinion here:
Alphonso v. Commissioner, No. 11-2364 (2d Cir. Feb. 6, 2013)

Read the Tax Court opinion here.

1st Circuit Vacates Tax Court on Historical Facade Conservation Easement

In a case that has been followed closely by many interested parties, the First Circuit Court of Appeals ruled in favor of the taxpayers and the validity of their charitable contribution of an historical façade conservation easement in Kaufman v. Shulman. The 1st Circuit vacated the Tax Court’s legal ruling on partial summary judgment and remanded the matter for further findings on the questions of penalties and valuation.

The taxpayers in Kaufman owned an approximately 150 year-old row house in the historic district of South End in Boston. The home reflected mid-nineteenth century architecture and included a unique Venetian-Gothic style façade. In 2003, the taxpayers executed a “Preservation Restriction Agreement” donating an easement over the property to a qualified charitable organization for the purpose of protecting and preserving the historical features of the home. On the advice of the donee, the taxpayers obtained an appraisal of the contribution from an experienced appraiser who valued the easement at $220,800. The taxpayers took deductions on their 2003 and 2004 tax returns for the value of the donated easement, subject to the limits of IRC Sec. 170(b)(1)(E).

The property was subject to a mortgage when the taxpayers made the donation. The taxpayers obtained an agreement from the lender subordinating certain of the mortgage-holder’s rights in the property to the donee in accordance with the regulations governing the charitable donation of conservation easements. The agreement included several restrictive clauses, one of which became the focus of the Tax Court’s determination and the 1st Circuit’s ruling. That clause read as follows:

The Mortgagee/Lender and its assignees shall have a prior claim to all insurance proceeds as a result of any casualty, hazard or accident occurring to or about the Property and all proceeds of condemnation, and shall be entitled to same in preference to Grantee until the Mortgage is paid off and discharged, notwithstanding that the Mortgage is subordinate in priority to the [Preservation Restriction] Agreement.

Following an examination of their 2003 and 2004 returns, the IRS issued a notice of deficiency to the Kaufmans disallowing the deductions for the charitable contribution of the easement. The IRS maintained that the donation did not meet the regulatory requirements of Section 170(h). The taxpayers petitioned the U.S. Tax Court.

The Tax Court, in a division opinion by Judge Halpern, ruled for the IRS on a motion for partial summary judgment. Kaufman v. Commissioner, 134 T.C. 182 (2010). The Tax Court held that the conservation easement as executed failed to satisfy the requirement of Treas. Reg. Sec. 1.170A-14(g)(6). The Tax Court’s position on summary judgment, as summarized by the First Circuit, was that

although the Kaufmans in the Preservation Restriction Agreement governing 19 Rutland Square granted the Trust an entitlement to a proportionate share of post-extinguishment proceeds, thus seemingly complying with the regulation, the lender agreement executed by Washington Mutual undercut this commitment–and so defeated the deduction–by stipulating that “[t]he Mortgagee/Lender and its assignees shall have a prior claim to all insurance proceeds . . . and all proceeds of condemnation, and shall be entitled to same in preference to Grantee until the Mortgage is paid off and discharged.”

Even though the Tax Court decided for the government “entirely” on the basis of Treas. Reg. Sec. 1.170A-14(g)(6), the Court of Appeals also addressed paragraphs (g)(1) (perpetuity), (g)(2) (remote events), and g(3) (subordination) of the regulation in its opinion. The First Circuit observed that the IRS’s arguments in support of the Tax Court’s decision under g(6) would “appear to doom practically all donations of easements, which is surely contrary to the purpose of Congress.” The appellate court continued that it “cannot find reasonable an impromptu reading [of a regulation] that is not compelled and would defeat the purpose of the statute, as we think is the case here.” So on the big issue in the case, whether the mortgage subordination clause that granted the lender a prior claim to insurance and condemnation proceeds defeated the deduction, the First Circuit vacated the Tax Court’s legal conclusion.

The First Circuit made clear that it did not rest its decision on either the application of paragraphs (g)(3), addressing the defeasance of the deduction by remote future events, or (g)(2) which the taxpayers argued would have upheld the subordination agreement regardless of the extinguishment provision. This caveat seems to preserve the Tax Court’s recent opinion in Mitchell v. Commissioner from the scope of this ruling.

The appellate panel also addressed the “in perpetuity” requirement of Treas. Reg. Sec. 1.170A-14(g)(1) and the language in the agreement stating that “nothing herein contained shall be construed to limit the [Trust's] right to give its consent (e.g., to changes in the façade) or to abandon some or all of its rights hereunder.” The First Circuit noted its agreement with the D.C. Circuit who decided the same issue in Commissioner v. Simmons, 646 F.3d 6 (D.C. Cir. 2011) and added that the question was not whether the paragraph was a reasonable interpretation of the underlying statute, Sec. 170(h)(5), but whether the IRS’s interpretation of the regulation was reasonable. The court concluded that the regulation did not support the IRS’s stringent view.

Read the entire opinion here:
Kaufman v. Shulman, Docket No. 11-2017P-01A (1st Cir., July 19, 2012)

Tax Court: Deed Is Substantiation of Conservation Easement Donation

The Tax Court continues to define the limits on the charitable donation of conservation easements while the IRS maintains its frontal assault on these transactions. In Averyt v. Commissioner, the Tax Court considered respondent’s motion for summary judgment and petitioner’s cross-motion for partial summary judgment on the question of whether or not the timely recorded deed of conservation easement satisfied the substantiation requirements of IRC Sec. 170(f)(8).

IRC Sec. 170(f)(8) generally requires that a charitable contribution of $250 or more must be substantiated with a contemporaneous written acknowledgment from the donee organization. A written acknowledgement must include

(i) the amount of cash and a description (but not value) of any property other than cash contributed; (ii) whether the donee organization provided any goods or services in consideration, in whole or in part, for any property; and (iii) a description and good faith estimate of the value of any goods or services.

The IRS argued that, as a matter of law, the taxpayers had not met the substantiation requirements of Section 170(f)(8). The taxpayers argued that the conservation deed was a contemporaneous written acknowledgment of the charitable contribution that satisfied Section 170(f)(8).

The Commissioner relied on Schrimsher v. Commissioner, T.C. Memo. 2011-71, where the court held that the contribution of a conservation easement was not deductible because the taxpayers did not receive a contemporaneous written acknowledgment from the donee organization. The taxpayers in Schrimsher relied on the conservation deed as evidence that the donee acknowledged the donation. The deed recited consideration of “the sum of TEN DOLLARS, plus other good and valuable consideration.” The Court held that the deed did not meet two of the three requirements of Section 170(f)(8) because it did not describe the property donated or provide a good faith estimate of its value.

The deed recorded in this case, however, recited consideration more particularly. The conservation easement in Averyt was granted “in consideration of the foregoing recitations and of the mutual covenants, terms, conditions, and restrictions hereinunder set forth.” The Court found that the deed language in this case compared favorably with the deed in Simmons v. Commissioner, T.C. Memo. 2009-208, aff’d, 646 F.3d 6 (D.C. Cir. 2011) where the Court held that the deed satisfied the Sec. 170(f)(8) substantiation requirements. Accordingly, the Court found that the deed in this case met all of the requirements of Section 170(f)(8) including the provision that no goods or services were received in exchange for the donation.

The Court granted petitioner’s motion for partial summary judgment. The Court also determined that material questions of fact remained with regard to the other issues in dispute, so a trial may be forthcoming to determine those facts.

Read the opinion here:
Averyt v. Commissioner, TC Memo. 2012-198

Tax Court: Facade Easement Denied on Summary Judgment

The Tax Court rejected a pro se taxpayer’s deduction for the contribution of a facade easement on the government’s motion for summary judgment.

The court found in favor of respondent as a matter law based on its decision in Kaufman v. Commissioner, 134 T.C. 182 (2010). Kaufman held that where the subordination agreement to the mortgagee under the easement does not grant the donee a priority interest in the distribution of proceeds upon involuntary conversion or foreclosure, then the easement fails the perpetuity requirement of Treas. Reg. Sec. 170A-14(g)(6). Kaufman was reheard on a motion for reconsideration with the same result, 136 T.C. No. 13, and currently is under appeal to the 1st Circuit Court of Appeals.

In a final note on this decision, the respondent conceded penalties in its motion for summary judgment, which would have required a trial to satisfy the government’s burden of proof, in order to meet the requirement for summary judgment under Tax Ct. R. 121 that no material facts are in dispute.

Read the opinion here:
Wall v. Commissioner, T.C. Memo 2012-169

Fed. Circuit: Taxpayer Failed to Certify WOTC and WtW Credits

The Court of Appeals for the Federal Circuit affirms the Court of Federal Claims grant of summary judgment in favor of the United States ruling that the taxpayer failed to meet the necessary certification requirements to be eligible for the Work Opportunity Tax Credit (WOTC) and Welfare to Work (WtW) tax credit.

Read the Opinion:
Manor Care v. U.S., No. 2010-5038 (Jan. 21, 2011)

U.S. District Court: Interco Transactions Excluded from Gross Receipts for Research Tax Credit

On a motion for partial summary judgment, the U.S. District Court for the Southern District of Ohio rules that intercompany transactions may be excluded from gross receipts when calculating the federal research tax credit under Section 41.

Proctor & Gamble v. United States, Docket 1:08-cv-00608 (S.D. Ohio June 25, 2010)