In an unusual move, IRS asked the Tax Court to reconsider the Court's recent opinion in Bosque Canyon Ranch, notwithstanding that the opinion decided every issue in favor of IRS. IRS asked the Tax Court to determine the actual value of the conservation easements at issue in the case. This is unusual because the charitable deductions for the easements were denied in full on technical grounds unrelated to the value of the easements. (For a discussion of these technical issues as they relate to Bosque, including a perpetuity issue and inadequate baseline documentation, click here and here. For a detailed discussion of the Bosque facts, click here.)
Why, one might ask, did IRS throw a challenge flag when the ruling on the field went against the other team? IRS apparently wanted to get additional support for the “gross valuation misstatement” penalty that the Tax Court imposed on the easement deductions. The Tax Court held that a valuation penalty can apply even if the Court makes no determination of value. The IRS motion suggests that it recognizes the ruling is vulnerable upon appellate review. The case is expected to be appealed to the 5th Circuit Court of Appeals.
In Bosque, the Tax Court decided that the 40% gross valuation misstatement penalty applied in the case because the deduction was reduced to zero on technical grounds. Citing the Supreme Court's holding in U.S. v. Woods, the Tax Court decided that a gross valuation penalty could apply regardless of the actual value of the donated property. (For a discussion of the Tax Court's penalty holding, click here.) The ruling was an unexpected departure from prior cases and appears to be an unwarranted extension of the Supreme Court's holding in U.S. v. Woods. (In U.S. v. Woods the Supreme Court imposed gross valuation misstatement penalties upon transactions where a taxpayer's basis in property was determined to be zero because the transactions lacked economic substance.)
The implications of the Bosque penalty ruling are troubling. And the issue is not unique to conservation easement donations. Under the Tax Court's rationale, a taxpayer donating property of any type to charity could be hit with a strict liability, 40% valuation penalty if the deduction is disallowed (say, for lack of substantiation), even if the claimed value of the donation was substantially correct. The ruling appears to be a distortion of Congressional intent for the 40% valuation misstatement penalty, as well as an unsupportable extension of U.S. v. Woods. Congress was concerned with overly aggressive appraisals and claims of value. There were existing penalties available for failures to comply with regulatory requirements.
The IRS motion for reconsideration in Bosque suggests that IRS is worried that the Fifth Circuit Court of Appeals might reverse the Tax Court's decision to impose the gross valuation misstatement penalty without any determination of value. IRS wanted an alternative ground on which the penalty could be upheld, which would leave standing the Tax Court's ruling that actual value is not relevant. We believe that IRS wants to be able to cite the Bosque opinion to support strict liability, gross valuation penalties in cases of technical, “foot fault” failures.
The Tax Court denied the IRS motion as being untimely (the motion was made shortly before the Court entered its final decision and months after the opinion was issued). So, the ruling on the field is under review. The issue will be clearly presented on appeal, whether a valuation penalty may be imposed without an actual determination of value and regardless of the actual value of donated property.