As conservation has grown as a priority for both those in the private and public sectors, tools like nonprofit land trusts have become popular. Nonprofit land trusts are typically 501(c)(3) organizations that operate for the purpose of preserving and conserving land. Through donated land or donated conservation easements, nonprofit land trusts are effective tools to incentivize landowners to protect their land for future generations. One of the most appealing aspects of a land trust is the tax benefits that landowners can experience. This is part three of a series of articles on nonprofit land trusts – part one of this series provides an overview of nonprofit land trusts, and part two discusses the uses permitted on land under these trusts. This article will discuss the estate and income tax benefits of donating to a land trust and will conclude with an overview of recent Internal Revenue Service (IRS) enforcement against abuse in charitable conservation contributions.
Estate Tax Benefits
A landowner’s donation of a conservation easement to a land trust can have numerous tax benefits. In an estate planning context, some landowners may benefit from the reduced land value caused by entering into a conservation easement agreement with a land trust. In some instances, conservation easements could reduce land values because some easements restrict a landowner from participating in certain activities on the land. Lowering the value of land may be beneficial to landowners because of the federal estate tax exemption. The estate tax exemption is the largest value of assets, currently up to $10 million of the estate (indexed for inflation), an individual can leave to their heirs without incurring the federal estate tax. This means that an estate valued under the indexed number will not be required to pay the federal estate tax, and an estate valued over the indexed number will only be taxed for the amount over the indexed number. In 2024, the estate tax threshold is $13.61 million for individuals and $27.22 for married couples. This is beneficial for landowners who donate a conservation easement to a land trust because the decreased values could result in a landowner’s estate valued below the estate tax threshold.
Additionally, 26 U.S.C. § 2031 includes an election to allow heirs to exclude the lesser of 40% or $500,000 of the value of their land under conservation easement from estate taxes. This election is for land subject to a qualified conservation easement, which the code defines as a “qualified conservation contribution of a qualified real property interest.” The contribution must be exclusively for conservation purposes such as the preservation of land areas for outdoor recreation and education, the protection of natural habitats or ecosystems, and the preservation of farmland and forest land. 26 U.S.C. § 170(h)(4)(A). The election does not include conservation contributions solely for the purpose of preserving a historic structure, and prohibits land being used for commercial recreational activity. 26 U.S.C. § 2031(c)(8)(B).
The exclusion does not automatically occur, so a family member of the landowner must elect to qualify. Heirs can qualify for this election if the easement is donated during the landowner’s life, by their will, or if the heirs donate it posthumously. However, an easement donated by will or posthumously will prohibit the family and landowners from benefiting from income tax deductions. To read more about the federal estate tax, please visit NACL’s Estate Planning and Taxation Reading Room.
Income Tax Benefits
Along with estate tax benefits, there are income tax benefits that a landowner can experience by donating to a land trust. The Internal Revenue Code allows a tax deduction for partial real property contributions that are “a qualified conservation contribution.” 26 U.S.C. § 170(f)(3). This will include a contribution “of a qualified real property interest to a qualified organization, exclusively for conservation purposes.” 26 U.S.C. § 170(h)(1). A qualified real property interest includes a restriction on the use or certain activities on a parcel of real property, like those typically found in conservation easements with land trusts. Similar to the definition for the estate tax exclusion election, conservation purposes are defined under section 170(h)(4)(A) as the preservation of land areas for outdoor recreation or the education of the public, the protection of a natural habitat of wildlife, and the preservation of open space. However, unlike the estate tax exclusion election, the preservation of a historically important land area or certified historic structure will count as a conservation purpose for income tax deductions. Id. Additionally, a contribution is only considered exclusively for conservation purposes if the conservation purpose is protected in perpetuity. 26 U.S.C. § 170(h)(5).
The charitable conservation contribution allows individuals to deduct up to 50% of their annual income for 15 years. 26 U.S.C. § 170(b)(1)(E). For example, a landowner with an annual income of $60,000 will be able to deduct $30,000 (50% of income) in the first year, and for the following 14 years. The Code also allows qualifying farmers and ranchers to deduct up to 100% of their income. 26 U.S.C. § 170(b)(2)(B). To be considered a qualified farmer or rancher, a taxpayer must receive over 50% of their gross income from the “trade or business of farming.” 26 U.S.C. § 170(b)(E)(v). Accordingly, a landowner who qualifies as a farmer or rancher with an annual income of $60,000 will be able to deduct $60,000 (100% of income) the first year, and then for each of the following 14 years.
IRS Crackdown
The income tax deduction for a charitable conservation contribution was first introduced in 2006 but was not made permanent until 2015. Since it has become permanent, there has been a dramatic increase in the number of taxpayer’s claiming the deduction. In 2018, $6.5 billion was deducted – a steep increase from the $1.1 billion deducted in 2013. The IRS alleges a primary reason for the sharp increase is due to taxpayer abuse through syndicated conservation easements.
What is a syndicated conservation easement?
A syndicated conservation easement offers prospective investors the opportunity to receive a charitable conservation contribution deduction that is greater than the amount of the investor’s investment. The promoter of a syndicated conservation easement will use a “pass-through entity,” such as a Limited Liability Corporation (LLC), to obtain an appraisal that inflates the value of the conservation easement. A promoter will purchase land, place the land as an asset under an LLC, then sell interests in the entity to investors. After receiving an inflated appraisal value and creating a conservation easement on the land, the promoter will seek to qualify for the conservation contribution deduction and will pass along the deductions to the personal returns of the investors. Abusive syndicated conservation easements have been included several times on the IRS “Dirty Dozen” list, a list which identifies 12 scams and schemes that risk both taxpayers and the tax professional community of losing money, personal information, and data.
IRS Crackdown
Though the IRS did not include syndicated conservation easements in the “Dirty Dozen” until 2019, these transactions have been on its radar for a while. The IRS first identified syndicated conservation easement transactions as a potential tax-avoidance scheme in 2016 when it issued a notice and labeled syndicated conservation easements as a “listed transaction.” Under the “listed transaction” classification, taxpayers who entered into these transactions and material advisors, like appraisers, who made a tax statement with respect to the transactions were required to disclose their participation. 26 U.S.C. §§ 6111-6112. In the notice, the IRS also lists several factors that might indicate an attempt to deduct an amount that exceeds the amount invested including promotional offers to investors promising a deduction of two and a half greater than or equal to the amount of the investor’s investment.
Following the 2016 notice, the IRS increased its enforcement actions against syndicated conservation easement transactions. The IRS conducted investigations and audits through multiple divisions including the Small Business and Self-employed Division, Large Business and International Division, Tax Exempt and Government Entities Division, and Criminal Investigation division. In addition, the IRS litigated over 80 cases in the U.S. Tax Court and the Department of Justice filed complaints to stop individuals and entities from entering into abusive syndicated conservation easement transactions. After a string of decisions in favor of the government, in 2020, the IRS offered a settlement to taxpayers with pending cases in the U.S. Tax Court involving syndicated conservation easement transactions. The settlement offer required the taxpayer to return the deduction and pay the full amount of taxes and incurred penalties.
However, in November 2022, the U.S. Tax Court and the U.S. District Court for the Northern District of Ohio held the 2016 notice was invalid for a failure to comply with the notice and comment requirements of the Administrative Procedure Act. These decisions determined that the IRS could not require taxpayers to pay the penalties required under the notice, but it did not address the validity of a syndicated conservation easement transaction claiming a charitable deduction.
Congressional Action
In 2022, Congress passed the Secure 2.0 Act which included a provision that prohibited an S-corporation or partnership from receiving tax deductions for a qualified conservation easement contribution if the amount of the contribution exceeds the member’s tax basis in the entity by 250%. Following the passage of the Secure 2.0 Act, the IRS proposed regulations to enforce the act and create reporting requirements similar to those in the invalidated 2016 notice.
Conclusion
There are several tax benefits for landowners who choose to donate to a land trust. The donation of a conservation easement can be beneficial in estate planning through both lowering the landowner’s estate value and the estate tax exclusion election. Additionally, landowners can take part in income tax deductions by donating a charitable conservation contribution to a land trust. When considering a charitable conservation contribution, taxpayers should be aware of abusive syndicated conservation easements.
For more information on estate tax incentives, please visit the Land Trust Alliance’s resource, “Estate tax incentives for land conservation”
For more information on income tax incentives, visit the Land Trust Alliance’s resource, “Using the Conservation Tax Incentive”
For more information on state income tax credits for conservation, visit Land Trust Alliance resource, “Income Tax Incentives for Land Conservation”
For an overview of conservation easement contribution, visit Congressional Research Service Report, “The Tax Deduction for Conservation Easement Contributions”