vcthomas's Profile
Author's Posts
November 4, 2009
Easement Audit Nightmare
After being audited by the IRS in 2006 for the easement deduction we took in 2004, we were just handed a bill by the IRS for $145,000. We plan to fight the IRS and want to know if anyone else is on our position. Our brownstone (which we have since sold) is in Fort Greene, it was appraised for 1.2 million in 2004, and we deducted @ 90,000 over the next three years. The bill the IRS sacked us with included interest and penalties. We went on to sell the brownstone in 2007 for 1.8 million, so we feel confident our appraisal was on target. We are currently looking to hire a tax lawyer, and have several names, but would welcome any recommendations. We are aware that a similar case in Brooklyn has already gone before the court and is awaiting a decision. Any advice and/or information is greatly appreciated.
Author's Comments
By easement deduction I mean we took advantage of a program offered by an historic preservation organization to receive a tax deduction in return for donating our facade to the organization, as have hundreds of other throughout the city. The appraisal number is relevant in that the irs has been focusing on appraisals in their audits. The value of the facade and thus the deduction amount is derived from a percentage of the value of the house, usually 10 to 15%.
Posted by: vcthomas at November 4, 2009 12:32 PM in response to Easement Audit Nightmare
Responses to Author's Forum Comments
@northridger: thanks for correcting my math - was having trouble multiplying by three this morning. I'm assuming the property in question is a landmark (most private residences that use deduction are), but I don't know. Still, landmark or not, if the numbers are correct that is a very high valuation for the exterior of the building.
Posted by: WBer at November 4, 2009 2:24 PM in response to Easement Audit Nightmare
@WBer...yeah. The problem the IRS is seeing is a $270,000 claim on a house appraised at $1.2MM. It seems a long stretch to prove to the IRS that the OP expected a $270K loss from the easement. A really, really long stretch.
It's impossible to say what the IRS valued the easement at without all the details, but if you apply some common sense SWAGs to what the penalties and interest might be, then a $145K bill implies that the IRS thought the loss in sale value of the home was pretty small, if not just plain zero. To do it right you'd have to figure out the taxes owed on $270K for that home owner....
Posted by: northridger at November 4, 2009 2:36 PM in response to Easement Audit Nightmare
"a program offered by an historic preservation organization"...ie not LPC? who?
Why does this sound unkosher to me...ie a dubious tax-shelter scheme?
Posted by: cmu at November 4, 2009 2:38 PM in response to Easement Audit Nightmare
It sounds unkosher because very few people would knowingly lower the real value of their home by $200,000 in order to take $200,000 in tax deductions (of which you would only get back maybe 30% or $60,000 on your taxes). Why give away $200k to get back $60k at tax time?
You would only "donate" $200,000 and take the deduction, if you knew it didn't actually lower the value of your home by as much as you are claiming it does. That's why the IRS is looking so hard at this, generally speaking, they know the donation probably didn't change the value of the house as much as is being claimed. Not that many people are preservation-minded enough to honestly donate away hundreds of thousands of dollars in real equity.
Posted by: setancre at November 4, 2009 2:52 PM in response to Easement Audit Nightmare
I attended a seminar on this topic a few years ago as well. I remember sitting in the room, listening to some guy in a bow tie describe the scheme, which basically goes like this-- you claim an easement agreeing not to change the facade of your building which, hello?, you know you would never do anyway. WHat? You were going to be vinyl siding on it but now you aren't?? Dress it up how you like with a lot of palaver about historic preservation, but I thought it was unethical then and I still do. Audits are awful. My sympathies. But this is a little like the Madoff victims who kept getting 12 % when everyone else was down and didn't want to inquire too closely.
Posted by: Cobblekrill at November 4, 2009 2:54 PM in response to Easement Audit Nightmare
@cmu - it is not a dubious tax-shelter scheme, it is a legitimate tax deduction. You are donating something of value to a non-for-profit (LPC is a government agency, not an historic preservation organization). There are some non-profits that have been established pretty much solely for accepting easements, and these organizations have raised red flags, but there are a lot of legitimate preservation organizations that hold easements as part of their larger preservation program (and by the way, I don't think HDC is one of them).
Posted by: WBer at November 4, 2009 3:00 PM in response to Easement Audit Nightmare
The HDC presentation did not sit well with me, but as you can see from their brochure, they claim to be qualified. Caveat emptor.
Posted by: vinca at November 4, 2009 3:12 PM in response to Easement Audit Nightmare
It's sorta like donating your junker car to a charitable organization and taking a tax deduction for the 5k blue book value of the car, even though the charity contracts with a company that tows away and sells the junker for $100 and gets 50 bucks out of the deal. I did that once before the IRS tightened up on that game. Now you can deduct the fair value of the donated car.
If you take a 270k deduction and when the change in value for adding the easement to the property in a landmarked district is de minimus, then I'd say a fair outcome is to argue you were not negligent, made some reasonable attempt to do the legal thing, and pay the tax you should have paid when you took the questionable deduction and try to negotiate the interest and penalties.
Posted by: Bklnite at November 4, 2009 3:18 PM in response to Easement Audit Nightmare
I just read the links that vinca provided, and the IRS one is chilling as it relates to this sort of case. The bulletin is:
"Internal Revenue Bulletin: 2004-28
July 12, 2004
Notice 2004-41
Charitable Contributions and Conservation Easements ".
Note that the bulletin is from 2004.
There's lots of talk about the intent behind the easements, and lots of technical terms, but near the end has the chilling paragraph:
"If the donor (or a related person) reasonably can expect to receive financial or economic benefits greater than those that will inure to the general public as a result of the donation of a conservation easement, no deduction is allowable. Section 1.170A-14(h)(3)(i). If the donation of a conservation easement has no material effect on the value of real property, or enhances rather than reduces the value of real property, no deduction is allowable. Section 1.170A-14(h)(3)(ii)."
Reading the whole document, it's pretty clear the intent of the deduction is to allow someone to deduct when they're making clear donations for conservation purposes that in some way contribute to the public good. For example, if the a rich family gave 20,000 acres of land to the NY/NJ trail conference for public use, they'd probably get a tax deduction for the full value of that land.
In the case of facades....the IRS wants you to show that what you're doing is in the public good, and that you're taking a material financial hit in doing so, and that the organization taking the easement is a true non-profit. If this is an LPC area than I'd say based on those rules you are SOL. If it's not LPC, then there's some wiggle room. But $270K still seems very, very excessive.
A question for vcthomas...did a tax attorney go over this deduction with you when you took it? Or did only the "historic preservation organization" help you out? Hopefully not just the latter. If you're taking any single deductions more than 10K or so it makes sense to have a tax attorney take a look at it. Not doing so just leaves you totally open to scammers and people's skirting the fringes of the IRS tolerance.
Posted by: northridger at November 4, 2009 3:30 PM in response to Easement Audit Nightmare
Ouch, it gets worse if you google it. Take a look here:
http://www.irs.gov/newsroom/article/0,,id=136337,00.html
The document, from 2005, shows that the IRS explicitly considers an easement on a home's facade in an area with a local historic preservation organization to be an invalid deduction. In fact, the article implicitly calls it a notorious tax scam. Here's the relevant bits...it's #9 on the "dirty dozen" scam list from 2005.
"IRS Announces the 2005 Dirty Dozen
IR-2005-19, Feb. 28, 2005
WASHINGTON — The Internal Revenue Service today unveiled its annual listing of notorious tax scams, the “Dirty Dozen,” reminding taxpayers to be wary of schemes that promise to eliminate taxes or otherwise sound too good to be true.
Abuse of Charitable Organizations and Deductions. The IRS has observed an increase in the use of tax-exempt organizations to improperly shield income or assets from taxation. This can occur, for example, when a taxpayer moves assets or income to a tax-exempt supporting organization or donor-advised fund but maintains control over the assets or income, thereby obtaining a tax deduction without transferring a commensurate benefit to charity. A “contribution” of a historic facade easement to a tax-exempt conservation organization is another example. In many cases, local historic preservation laws already prohibit alteration of the home’s facade, making the contributed easement superfluous. Even if the facade could be altered, the deduction claimed for the easement contribution may far exceed the easement’s impact on the value of the property."
Posted by: northridger at November 4, 2009 3:40 PM in response to Easement Audit Nightmare
Not sure where the number 270K came from...we deducted 96,000.
Posted by: vcthomas at November 4, 2009 7:09 PM in response to Easement Audit Nightmare