Business Management Management Strategies
April 1, 2008
By: Jennifer Duell, Contributing Editor
A few years after Sage Hospitality Resources converted a historic department store in Downtown Denver into a Courtyard by Marriott, the firm put a conservation easement on the building's facade and donated the rights for the 1800s-era exterior to Historic Denver, a local non-profit.
The easement preserved and protected the building's exterior from any changes or renovations, and it provided a charitable-contribution deduction for federal taxes to the partners at Sage Hospitality.
Facade easements for historic buildings fall under the conservation easements segment of Section 170(h) of the Internal Revenue Service tax code. A second type of conservation easement involves the preservation and protection of open space, wildlife habitats, farmland, forestland and watershed and scenic property.
Conservation easements enable land and property owners—both individuals and corporations—to donate the rights to environmentally important land or historically significant structures to a government agency or tax-exempt charitable organization, such as a land trust. When an easement is granted in perpetuity, the benefactor can deduct the full market value from taxable income, thereby reducing the amount of tax owed on a federal return and sometimes even on a local and state basis.
As Sage Hospitality did, many developers and property owners have received significant tax benefits from easements. However, they are not easy to obtain. In fact, today more than ever, many owners think their easements qualify for deductions but end up disappointed. "Conservation easements are an area where there has been a lot of abuse over the past few years, and the IRS is on to it," said Stephen Small, a Boston-based attorney and author of The Federal Tax Law of Conservation Easements.
Increased Deductions
Nationwide, about 10.6 million privately owned acres, which add up to twice the size of Connecticut, carry conservation easements. The amount is growing by more than 1 million acres annually, and almost 30 million more acres have been conserved through sale, acquisition by government agencies and other means since conservation easement legislation was passed in the 1970s, according to Russell Shay, director of public policy for the Land Trust Alliance, which is based in Washington, D.C.
Experts state that the number of historic buildings with facade easements is almost impossible to track, but the easements are increasing in popularity as urban areas enact redevelopment initiatives. "The conservation easement tax deductions are one more tool that helps make these historic projects viable," said Sage Hospitality partner Ken Geist. "If you're involved in historic preservation, you owe it to the community to consider a facade easement."
As of 2007, an individual taxpayer can deduct as much as 50 percent of his annual adjusted gross income, or AGI, for charitable contributions, including conservation easements. The taxpayer has 15 years to deduct his conservation easements amount. While corporations are limited to deducting 10 percent of their annual AGI, many commercial real estate firms are set up as limited-liability corporations, and thus the tax benefits flow through to the individual members, according to Chuck Lieser, a partner in Weaver and Tidwell L.L.P.'s Fort Worth, Texas, office. For example, if someone with an an AGI of at least $1 million donated a conservation easement worth half his income—$500,000—and had a tax bracket of 40 percent, he could reduce his income tax by $200,000.
The tax benefit of future conservation easements is now uncertain. The 2007 deduction allowance increased from the historical norm of 30 percent as part of the Pension Protection Act of 2006, but there was no increase for corporations. As of early March, the 2007 increase had not been extended, though experts still expect a bill that is pending in both the House of Representatives and the Senate to extend it.
Establish Value
The IRS requires that the value of the conservation easement and adjacent property be evaluated by an appraiser who is specially trained in valuing land both with and without easements. "You have to be able to defend the value of the deduction to the IRS," said Chris Truitt, a partner in accounting firm Cherry, Bekaert & Holland L.L.P. "The IRS could challenge the appraisal, and there are risks if the appraisal is not correct. You could be locked into an easement and not able to take the deduction you thought you would."
And the IRS is not the only government body that is poring over appraisals with a magnifying glass. Colorado, where landowners that donate conservation easements are eligible for state tax credits, is reportedly contesting appraisals on a number of conservation easements. Officials have stated that appraisal values for such easements have been inflated to provide property owners with more tax credits, noted Karen Jonas, a director for CBIZ Inc.'s Denver accounting group.
The appraiser should determine the true value of the easement, whether land or facade, by the current conditions in the real estate market. According to David Morganelli, chair of law firm Partridge Snow & Hahn L.L.P.'s tax practice group, "In a lot of places across the U.S., land and property values have dropped because of the housing market and concerns about a pricing bubble." In a market like this, your deduction might be lower than it would have been two years ago or sometime in the future."
And developers and property owners should be aware that a conservation easement might negatively impact the value of the properties they continue to own, especially for properties encumbered with facade easements, said Jill Dodd, a partner in Manatt, Phelps & Phillips L.L.P.'s San Francisco office. "Conservation easements are irrevocable," she explained. "Anyone who buys the property will have to accept the restrictions created by the conservation easement, and a lot of people aren't willing to invest in property that has limited flexibility." n
By: Jennifer Duell, Contributing Editor
A few years after Sage Hospitality Resources converted a historic department store in Downtown Denver into a Courtyard by Marriott, the firm put a conservation easement on the building's facade and donated the rights for the 1800s-era exterior to Historic Denver, a local non-profit.
The easement preserved and protected the building's exterior from any changes or renovations, and it provided a charitable-contribution deduction for federal taxes to the partners at Sage Hospitality.
Facade easements for historic buildings fall under the conservation easements segment of Section 170(h) of the Internal Revenue Service tax code. A second type of conservation easement involves the preservation and protection of open space, wildlife habitats, farmland, forestland and watershed and scenic property.
Conservation easements enable land and property owners—both individuals and corporations—to donate the rights to environmentally important land or historically significant structures to a government agency or tax-exempt charitable organization, such as a land trust. When an easement is granted in perpetuity, the benefactor can deduct the full market value from taxable income, thereby reducing the amount of tax owed on a federal return and sometimes even on a local and state basis.
As Sage Hospitality did, many developers and property owners have received significant tax benefits from easements. However, they are not easy to obtain. In fact, today more than ever, many owners think their easements qualify for deductions but end up disappointed. "Conservation easements are an area where there has been a lot of abuse over the past few years, and the IRS is on to it," said Stephen Small, a Boston-based attorney and author of The Federal Tax Law of Conservation Easements.
Increased Deductions
Nationwide, about 10.6 million privately owned acres, which add up to twice the size of Connecticut, carry conservation easements. The amount is growing by more than 1 million acres annually, and almost 30 million more acres have been conserved through sale, acquisition by government agencies and other means since conservation easement legislation was passed in the 1970s, according to Russell Shay, director of public policy for the Land Trust Alliance, which is based in Washington, D.C.
Experts state that the number of historic buildings with facade easements is almost impossible to track, but the easements are increasing in popularity as urban areas enact redevelopment initiatives. "The conservation easement tax deductions are one more tool that helps make these historic projects viable," said Sage Hospitality partner Ken Geist. "If you're involved in historic preservation, you owe it to the community to consider a facade easement."
As of 2007, an individual taxpayer can deduct as much as 50 percent of his annual adjusted gross income, or AGI, for charitable contributions, including conservation easements. The taxpayer has 15 years to deduct his conservation easements amount. While corporations are limited to deducting 10 percent of their annual AGI, many commercial real estate firms are set up as limited-liability corporations, and thus the tax benefits flow through to the individual members, according to Chuck Lieser, a partner in Weaver and Tidwell L.L.P.'s Fort Worth, Texas, office. For example, if someone with an an AGI of at least $1 million donated a conservation easement worth half his income—$500,000—and had a tax bracket of 40 percent, he could reduce his income tax by $200,000.
The tax benefit of future conservation easements is now uncertain. The 2007 deduction allowance increased from the historical norm of 30 percent as part of the Pension Protection Act of 2006, but there was no increase for corporations. As of early March, the 2007 increase had not been extended, though experts still expect a bill that is pending in both the House of Representatives and the Senate to extend it.
Establish Value
The IRS requires that the value of the conservation easement and adjacent property be evaluated by an appraiser who is specially trained in valuing land both with and without easements. "You have to be able to defend the value of the deduction to the IRS," said Chris Truitt, a partner in accounting firm Cherry, Bekaert & Holland L.L.P. "The IRS could challenge the appraisal, and there are risks if the appraisal is not correct. You could be locked into an easement and not able to take the deduction you thought you would."
And the IRS is not the only government body that is poring over appraisals with a magnifying glass. Colorado, where landowners that donate conservation easements are eligible for state tax credits, is reportedly contesting appraisals on a number of conservation easements. Officials have stated that appraisal values for such easements have been inflated to provide property owners with more tax credits, noted Karen Jonas, a director for CBIZ Inc.'s Denver accounting group.
The appraiser should determine the true value of the easement, whether land or facade, by the current conditions in the real estate market. According to David Morganelli, chair of law firm Partridge Snow & Hahn L.L.P.'s tax practice group, "In a lot of places across the U.S., land and property values have dropped because of the housing market and concerns about a pricing bubble." In a market like this, your deduction might be lower than it would have been two years ago or sometime in the future."
And developers and property owners should be aware that a conservation easement might negatively impact the value of the properties they continue to own, especially for properties encumbered with facade easements, said Jill Dodd, a partner in Manatt, Phelps & Phillips L.L.P.'s San Francisco office. "Conservation easements are irrevocable," she explained. "Anyone who buys the property will have to accept the restrictions created by the conservation easement, and a lot of people aren't willing to invest in property that has limited flexibility." n
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