An Avalanche on Rose Hill: 5th Circuit Upholds Denial of Conservation Easement Deduction

On August 14, 2018 the 5th Circuit upheld the Tax Court’s September 9, 2016 bench opinion in PBBM-Rose Hill, LTD v. Comm’r. The case involved a $15,160,000 conservation easement deduction under IRC § 170(h) that was denied based on a technicality relating to strict compliance with the extinguishment regulations under Treas. Reg. § 1.170A-14(g)(6)(i) and a rejection of the taxpayer’s valuation. The issue non-compliance resulted from a division of proceeds formula in the deed contemplating how proceeds would be split in the event of a taking or destruction of the property. Further, the 5th Circuit upheld the IRS appraisal and assessment of accuracy related penalties. While a terrible result for the taxpayer, this case is not, in the author’s opinion, a disaster for taxpayers planning to utilize conservation easements. What this case is however, is a good reminder of items to check when granting a conservation easement with the expectation of receiving a deduction under IRC § 170(h).

Major takeaways from this case are as follows:

  • An easement must be “exclusively for conservation purposes” under IRC § 170(h)(1)(C). This phrase has two requirements, there must be a conservation use and it must be in perpetuity.
    • Conservation Use – Conservation use is determined according to the deed (with certain exception in the event the donor knows or should know about intended non-compliant use following the gift) and not the subsequent use of the land subject to the easement. These qualifying uses are listed under IRC 170(h)(4)(A) and are as follows:
      • preservation of land for recreation;
      • protection of a natural habitat;
      • preservation of open space for scenic enjoyment;
      • preservation of open space pursuant to a government conservation policy; or
      • preservation of historic land or structures.
    • Perpetuity – In this case, the taxpayer adjusted the formula in the division of proceeds section of the easement deed to allocate back improvements made to the property to the taxpayer. The IRS disagreed with this formula arguing that the plain meaning of the term “proceeds” under the extinguishment regulations means everything.  For an easement to be considered “exclusively for conservation purposes” the gift must be made in perpetuity. The gift must rise to the level of a property right. However, interests in land do not always last forever and the Treasury Regulations contemplate just that. Accordingly, the Treasuring Regulations, in addressing this potential issue, offer rules such that a donor can abide by and be deemed to have given a gift that is protected in perpetuity, even if the there is a taking or destruction of the property in the future.  A couple of items to remember here are:
      • follow the extinguishment regulations as described here with a liberal definition of the term “proceeds;” (from this case)
      • check title prior to deed filing to ensure no clouds exist;
      • ensure mortgages are subordinated.1
  • Justification for Valuation – Ensure that the highest and best use is justifiable. This means that the use is reasonable, likely, and the market will support such use. In Rose Hill, the Court disagreed with the taxpayer’s “before” valuation which relied on rezoning the property. The property was part of a Planned Unit Development (PUD) and significant work would have needed to been undertaken to qualify for rezoning which the valuation relied upon. The court emphasized that the highest and best use is the “reasonable and probably use that supports the highest present value.” 2 The taxpayer valuation relied on the assertion that “the property could be rezoned.” The Court disagreed with the taxpayer and agreed with the IRS appraiser who relied on the fact that the current zoning was for recreational uses only, though there were still some questions as the Bankruptcy Court set aside the use restrictions. Instead, the IRS appraiser discussed the uncertainty of changing the zoning and the process for amending or being able to vary from the PUD. In the end, the Court agreed with the Tax Court finding that development was unlikely and agreed with the IRS valuation, $100,000 for the easement.

In short, check your deeds, do not get creative with extinguishment formulas, and make sure the use relied upon in the valuation is reasonable and probable.


  1. RP Golf v. Comm’r, T.C. Memo 2016-80.
  2. Citing Whitehouse Hotel Ltd. P’Ship v. Comm’r, 615 F3d 321, 335 (5th Cir. 2010) (citing Frazee v. Comm’r, 98 T.C. 554, 563 (1992).


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