February 9, 1993 United States Court of Appeals For the First Circuit
No. 92-1513
HOMER F. AND DOROTHY L. MCMURRAY, Petitioners, Appellants,
v.
COMMISSIONER OF INTERNAL REVENUE, Respondent, Appellee.
APPEAL FROM THE UNITED STATES TAX COURT [Hon. Theodore Tannenwald, Jr., United States Tax Court Judge]
No. 92-1628
HOMER F. AND DOROTHY L. MCMURRAY Petitioners, Appellants,
APPEAL FROM THE UNITED STATES TAX COURT [Hon. Stephen J. Swift, United States Tax Court Judge]
Before
Torruella, Circuit Judge,
Bownes, Senior Circuit Judge, and
Stahl, Circuit Judge.
Aline H. Lotter for appellants.
Gary R. Allen with whom James A. Bruton, Acting Assistant
Attorney General, Tax Division, Department of Justice, Bruce R.
Ellisen, and William J. Patton and Abraham N.M. Shashy, Jr. were on
brief for appellee.
February 9, 1993
STAHL, Circuit Judge. In these consolidated
appeals, Dorothy L. McMurray and Homer F. McMurray ("the
McMurrays"), challenge decisions of the United States Tax
Court which upheld determinations made by the Commissioner of
Internal Revenue ("the Commissioner") that the McMurrays are
jointly liable for income tax deficiencies for 1984 through
1988, as well as penalties stemming from those deficiencies.
The deficiencies are based on the Commissioner's conclusion
that the McMurrays overstated the value of certain charitable
land donations. For the reasons that follow, we affirm the
deficiency determinations, but reverse a portion of the
penalty assessments.
I.
Background
The central issue in this case is the amount of
charitable deduction to which the McMurrays are entitled as a
result of donating property known as the Ponemah Bog,1 in
Amherst, New Hampshire ("the Bog"), to the Audubon Society of
New Hampshire ("Audubon"). The McMurrays, who are husband
1. Ponemah is a "kettle hole" bog, formed by glaciers over 12,000 years ago. As the climate warmed and the glaciers receded, vegetation grew on the edges of a pond formed by the melting blocks of ice. Although the pond was too deep and steep-sided to support the growth of many types of marsh plants, some, such as sphagnum (peat) moss, were able to grow out over the edge of the pond and float on the surface. Eventually, a peat mat formed on the surface, which became thick enough to support shrubs and stunted trees. Over the course of thousands of years, the pond gradually filled with peat and the remains of dead vegetation.
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and wife, in 1954 acquired the approximately 72-acre Bog and
other contiguous parcels of land.
In February 1978, Audubon solicited from the
McMurrays2 a donation of the Bog, in order to ensure its
perpetual preservation. The McMurrays agreed, and in 1979,
1982 and 1985 conveyed their interests in the Bog and an
abutting residential lot to the Audubon Society in four
separate transactions. Only the value of the 1982 and two
1985 conveyances are at issue in this case.
In 1979, the McMurrays conveyed the eastern 24.6
acres of the Bog to Audubon. In April 1982, the McMurrays
conveyed a 65 percent interest in the remaining 47.57 acres
of the Bog. On their joint federal income tax return for
1982, the McMurrays claimed that the fair market value of
their contribution to Audubon was $780,000. They based this
valuation on a "letter of opinion" from appraiser Patricia J.
Donovon, who concluded that the fair market value of the
property was $25,000 to $27,000 per acre, or between $750,000
and $800,000. The McMurrays took a $118,981 deduction on the
1982 return, and calculated that $349,019 would be carried
over to future years.
2. The record indicates that Homer F. McMurray was the principal actor in all Bog-related transactions. However, because their joint-taxpayer status places both McMurrays before us, we refer to all actions as though they were done jointly.
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In September 1985, after carrying over deductions
of $122,458 and $117,721, respectively, on their 1983 and
1984 returns, the McMurrays conveyed to Audubon the remaining
35 percent interest in the Bog. In December 1985, they
transferred a one acre residential lot abutting the Bog. In
March 1986, Donovon provided the McMurrays with an appraisal
for the two 1985 donations. Donovon increased the price per
acre to $35,000, and concluded that the 35 percent interest
in the Bog had a value of $580,000. She valued the
residential lot at $55,000 to $60,000, resulting in a total
1985 charitable conveyance value of $635,000 to $640,000.
On their 1985 return, the McMurrays claimed a value
of $637,500 for the donated property. They used the
remaining $123,200 carryover from the 1982 donation, and
claimed $10,636 from the 1985 transfers on their 1985 return,
leaving a $371,864 carryover. The McMurrays claimed
deductions of $170,597 in 1986, $135,115 in 1987, and $76,788
in 1988.
Upon conducting an examination of the McMurrays' returns
for 1984, 1985 and 1986, the Commissioner determined that the
fair market value of the 1982 conveyance was $23,200, rather
than $780,000, as the McMurrays claimed. Accordingly, the
Commissioner ruled that there was no carryover from 1982 to
either 1983 or 1984, and thus no deduction allowable for
1984. The Commissioner also ruled that the fair market value
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of the 1985 Bog transfer was $6,250, as opposed to the
$580,000 the McMurrays claimed; and that the value of the
residential lot transferred the same year was $35,000 rather
than $57,500, as claimed by the McMurrays. Based on these
figures, the Commissioner determined that the McMurrays were
entitled to a 1985 deduction of $24,750, and that no
carryovers were available for future years. Thus, the
Commissioner found deficiencies for 1984, 1985 and 1986. The
Commissioner also asserted additions to tax under I.R.C.
6653 for negligence and intentional disregard of rules and
regulations, and under I.R.C. 6659 for underpayment of tax
attributable to a charitable valuation overstatement. The
Commissioner subsequently determined tax deficiencies for
1987 and 1988, as well as additions to tax under sections
6653 and 6659.3
3. The deficiencies and additions to tax determined by the Commissioner and upheld by the Tax Court are as follows:
Sec. Sec. Sec. Sec. 6653 6653 6653 6653 Sec. Year Def. (a)(1) (a)(2) (a)(1)(A) (a)(1)(B) 6659
1984 $65,327 $3,266 * - - $19,598
1985 $53,552 $2,676 * - - $16,058 1986 $85,176 - - $4,259 * $25,553
1987 $50,539 - - $2,527 * $15,162
1988 $22,981 - - $1,149 * $ 6,894
* penalty assessed is 50 percent of the interest due on the deficiency.
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In March 1990, the McMurrays filed a petition in
the tax court seeking a redetermination of the 1984, 1985,
and 1986 deficiencies. On March 19, 1992, the tax court
ruled against the McMurrays (Appeal No. 92-1513). Meanwhile,
in March 1991, the McMurrays had sought redetermination of
their 1987 and 1988 deficiencies. The Commissioner filed a
motion for summary judgment in the 1991-filed case, claiming
that the McMurrays were collaterally estopped by the decision
in the 1990 case from relitigating the 1985 contributions.
On April 23, 1992, the tax court granted the Commissioner's
motion for summary judgment (Appeal No. 92-1628). These
appeals followed.4
II.
Discussion
A. The Deficiencies
Section 170 of the Internal Revenue Code ("the
Code") allows taxpayers to deduct charitable contributions
subject to percentage-of-income limitations and to carryover
excess contributions. If a charitable contribution is made
of property other than money, the amount of the contribution
is the fair market value of the property at the time of the
contribution. Treas. Reg. 1.170A-1(c)(1). Fair market
value is "the price at which the property would change hands
4. In their reply brief, the McMurrays indicate their abandonment of the collateral estoppel issue. Thus, our decision here will apply to both cases.
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between a willing buyer and a willing seller, neither being
under any compulsion to buy or sell, and both having a
reasonable knowledge of relevant facts." Treas. Reg.
1.170A-1(c)(2). The Commissioner's determination of the fair
market value of donated property is presumptively correct,
and the taxpayer has the burden of proving the Commissioner's
determination to be erroneous. Welch v. Helvering, 290 U.S.
111, 115 (1933); Pescosolido v. Commissioner, 883 F.2d 187,
189 (1st Cir. 1989). The fair market value of property is a
reflection of the "highest and best use" of the property on
the date of valuation. Symington v. Commissioner, 87 T.C.
892, 896 (1986); Stanley Works v. Commissioner, 87 T.C. 389,
400 (1986). The tax court's ruling with respect to fair
market value is a factual finding that we must affirm unless
it is clearly erroneous. Sammons v. Commissioner, 838 F.2d
330, 333 (9th Cir. 1988); Ebben v. Commissioner, 783 F.2d
906, 909 (9th Cir. 1986).
Here, both sides agree the highest and best use of
the Bog is as a natural preserve. The McMurrays, however,
believe the commercial value of the peat contained in the Bog
should be taken into account in any valuation.5 In support
of their theory, the McMurrays submitted to the tax court
appraisals by Boston College Coastal Research Institute
5. According to record evidence, peat can be used as a fuel source for electric power generation.
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Professor Dr. Benno Brenninkmeyer, Richard Kasevich, chief
financial officer of a Maine peat-mining operation, and
botany professor Ian Worley.6 Brenninkmeyer estimated the
value of the peat in the Bog, as a fuel resource, to be
greater than $35 million; Worley calculated the profit
potential of harvesting the peat; Kasevich compiled a pro
forma income statement demonstrating the profitability of a
hypothetical harvesting operation on the Bog.
Before the tax court, the Commissioner relied
exclusively for the valuation of the gift on the appraisal of
Joseph G. Fremeau. After giving much weight to the presence
of state and local zoning restrictions on the use of the Bog,
and interviewing several people involved in the variance and
permitting process, Fremeau opined that any request for a
permit to harvest the peat or otherwise develop the Bog would
have met substantial opposition during the relevant time
period and would have had little chance of success.
Accordingly, Fremeau's valuation focused on sale prices of
eight other supposedly comparable wetland properties suitable
for conservation purposes and which had sold at prices
6. Although the Tax Court considered the Donovon appraisals accompanying the McMurrays' tax returns as part of the peat valuation theory, it is evident from the record that the McMurrays essentially abandoned reliance on Donovon before the Tax Court and included her appraisal only as part of their argument against penalties, see infra. Thus, for
purposes of our examination of the peat valuation evidence, we discuss neither Donovon's work, nor the Tax Court's criticism thereof.
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between $200 and $800 per acre. Fremeau concluded that the
Bog had a value of $400 per acre, for a total of $12,500 for
the 1982 transfer, and $6,700 for the 1985 transfer. With
respect to the residential lot, Fremeau evaluated 20
comparable sales and found a range in the Amherst area of
$22,533 to $58,000. As the lot in question is smaller than
many other Amherst house lots and is encumbered by a right-
of-way easement owned by Audubon, Fremeau's $35,000 valuation
fell toward the lower end of the scale.
In the end, the tax court found the McMurrays'
evidence inadequate because, unlike Fremeau, none of their
experts took into account the restrictions on harvesting the
peat or the costs associated with such an operation. Thus,
the court concluded that the McMurrays failed to carry their
burden of proving that the value of the Bog exceeded the
Commissioner's determination. Based on our review of
pertinent case law, we cannot say the tax court's ruling was
clearly erroneous.
It is well settled that legal restrictions on
development or other encumbrances diminish a property's fair
market value. For example, in Great Northern Nekoosa Corp.
v. United States, 711 F.2d 473 (1st Cir. 1983), a taxpayer
donated a parcel of land to the State of Maine for which he
claimed a fair market value of $1 million based on his
expert's valuation of the property as a site for a
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hydroelectric power plant. Prior to the donation, however,
the National Wild and Scenic Rivers Act, 82 Stat. 906 (1968),
was enacted, which could have barred, inter alia, such
construction, a fact not considered by the taxpayer's
appraisal. We concluded that the taxpayer's valuation could
not be the fair market value "inasmuch as any rational
prospective purchase would necessarily take into account the
potential realization of that encumbrance." Id. at 475.
Therefore--despite our less than complete satisfaction with
the Commissioner's expert appraisal--we concluded that the
taxpayer failed to bear its burden of proving a valuation
higher than that of the Commissioner.
Here, too, we have a taxpayer appraisal that fails
to consider potential legal obstacles toward fulfilling the
property's full monetary potential. Moreover, as the
Commissioner points out, the McMurrays' experts also failed
to consider many other aspects of a peat mining operation in
arriving at their conclusion.7 Thus, given the shortcomings
7. For example, Brenninkmeyer reached his $35 million conclusion by multiplying the Bog's estimated volume by $145 per ton, which was the average retail price of coal in 1989. He failed, however, to assess the market for peat during the relevant time period, or the costs and feasibility of a complete peat extraction. Kasevich's income statement was based on the 1990 peat harvesting figures of his own company, but did not include any potential overhead costs. Worley, relying on Kasevich's income statement, assumed, without factual support, that all equipment could be purchased outright, and thus did not consider financing costs. Significantly, both Kasevich and Worley alluded to the fact that successes in the peat harvesting business were few, and
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of the McMurrays' experts' reports, the tax court's
conclusion that the McMurrays failed to carry their burden
was not clearly erroneous.
In the alternative, the McMurrays argue that if
state and local regulatory constraints deprive them of the
Bog's economic potential, then they are entitled to just
compensation under the United States Constitution in return
for a regulatory taking. See Lucas v. South Carolina Coastal
Council, U.S. , 112 S. Ct. 2886 (1992). Even assuming
that Lucas would turn the regulations involved here into a
"taking," the short answer is that the McMurrays have
overlooked the fact that any such "taking" was performed by
state and local authorities, and as such gives them no right
to seek compensation--via tax deductions--from the United
States, an entirely different sovereign. Moreover, to the
extent that the McMurrays argue for including the value of an
inverse condemnation suit against the State of New Hampshire
in the Bog valuation, the tax court correctly concluded that
the success of such a suit is not as assured as the McMurrays
declare, and that the record is "devoid of any evidence
that most of the peat harvesting operations of which they were aware had failed. While Kasevich's Down East Peat Co. was an apparent exception, we cannot quarrel with the Tax Court's conclusion that reliance on Down East's financial performance to estimate the McMurray's potential success is "like saying that anybody opens a hamburger chain and you estimate the profit potential by what McDonald's does."
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directed toward valuing any such claim." Thus we find the
tax court did not err in rejecting this argument.
Finally, the McMurrays argue that the tax court's
reliance on Fremeau's use of comparative sales to value the
Bog was inappropriate due to the Bog's uniqueness. Instead,
the McMurrays, relying on Estate of Palmer v. Commissioner,
839 F.2d 420 (8th Cir. 1988), assert that the Bog's
replacement cost would be a better method. We disagree. The
McMurrays, unlike the taxpayers in Palmer, have provided no
evidence of replacement cost and thus we find no clear error
in the tax court's reliance on Fremeau's evaluation method.8
Accordingly, we affirm the tax court's decision to uphold
the Commissioner's deficiency determinations.9
8. While it is true that Fremeau's comparative properties were not identical to the Bog in some respects, the Tax Court found that they were the most comparable for the relevant time and place. See Symington, 87 T.C. at 900 (in the
absence of identical properties, comparable sales method takes into account differences, and through appropriate adjustment, arrives at a value for the subject property). As the record demonstrates that the compared properties were also non-developable wetlands, and that state Fish and Game and Forest Protection Society personnel held at least two of the properties in the same high esteem as the Bog, we find the Tax Court's endorsement of Fremeau's methodology eminently supportable. See Anselmo v. Commissioner, 757 F.2d
1208, 1213 (11th Cir. 1985) (Tax Court's determination of proper comparable market is a question of fact subject to reversal only if clearly erroneous).
9. The McMurrays have not addressed any appellate argument to the valuation of the residential lot transferred in 1985. Therefore, we deem the argument abandoned. See, e.g., United
States v. Slade, No. 92-1176, slip op. at 6, n.3 (1st Cir.
Nov. 24, 1992).
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B. Additions to Tax and Penalties
1. Negligence
Section 6653(a)(1) of the 1954 Code and Section
6653(a)(1)(A) of the 1986 Code impose an addition to tax of
five percent of an income tax underpayment where any part of
the underpayment is due to negligence or intentional
disregard of rules or regulations. Section 6653(a)(2) of the
1954 Code and Section 6653 (a)(1)(B) of the 1986 Code impose
a penalty of 50 percent of the interest due on the portion of
any underpayment attributable to negligence.10 Negligence
in this context is a lack of due care or failure to do what a
reasonable and ordinarily prudent person would do under the
circumstances. Allen v. Commissioner, 925 F.2d 348, 353 (9th
Cir. 1991). The Commissioner's imposition of a negligence
addition is presumptively correct, leaving the McMurrays with
the burden of proving that their underpayment was not due to
negligent or intentional rules violations. Leuhsler v.
Commissioner, 963 F.2d 907, 910 (6th Cir. 1992).
The McMurrays argue, as they did below, that their
good faith reliance on Donovon--a professional real estate
appraiser--for the valuations stated on their 1982 and 1985
returns justifies reversal of the extra assessment. The tax
10. The relevant statutes were renumbered for taxable years in which a return is due after December 31, 1986. Their substance remained the same, however. See Tax Reform Act of
1986, Pub. L. No. 99-514, 1503(a), 100 Stat. 2085.
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court, however, found that the McMurrays did not sufficiently
establish that they reasonably relied on Donovon's
appraisals, "beyond the bare fact that the [] appraisals were
attached to the [] returns." The court then combined four
factors--its disparaging view of Donovon's report, the
McMurrays' failure to testify as to their reliance, their
abandonment of her appraisals at trial, and evidence of the
McMurrays' knowledge of real estate development in the
Amherst area--to conclude that they had failed to demonstrate
their reasonable reliance. We disagree.11
Reasonable reliance on expert opinion, asserted in
good faith, can shield a taxpayer from section 6653(a)
penalties. United States v. Boyle, 469 U.S. 241, 250 (1985);
Collins v. Commissioner, 857 F.2d 1383, 1386 (9th Cir. 1988);
Betson v. Commissioner, 802 F.2d 365, 372 (9th Cir. 1986).
The record reflects that after being approached by Audubon,
the McMurrays sought professional advice from lawyers and
accountants, as well as an appraiser. In our view, the "bare
fact" that the McMurrays attached Donovon's appraisals to
support their 1982 and 1985 returns is evidence of their
reliance on the appraisals. In other words, why else were
they submitted with the returns, but for the fact that the
11. It is unclear from the record whether the Tax Court was questioning the McMurrays' actual reliance on Donovon, or whether any such reliance was reasonable. With that in mind, we will delve into both areas.
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McMurrays were relying on them? Furthermore, we fail to see
how any of the other factors cited by the tax court are
probative of the McMurrays' reliance. For instance, the fact
that the McMurrays pursued a different legal tack at trial in
1991 has little bearing on the reasonableness of their
actions in 1982 and 1985. Also, while the McMurrays may have
some knowledge as to "real estate development," the record
evidence of such knowledge falls far short of requiring them
to second-guess a licensed appraiser--especially one whose
1979 appraisal apparently passed muster with the Commissioner
as support for the deductions taken for the 1979 conveyance.
Finally, we note that the minimal probative value assigned by
the tax court to the McMurrays' expert opinion does not
mandate a finding of bad faith or unreasonable reliance. See
Sammons, 838 F.2d at 337 (although taxpayer's expert
appraisal was not entitled to any probative weight in
determining the fair market value of a charitable
contribution, imposing a negligence penalty was inappropriate
because taxpayers had no reason to question their expert's
ability) (citing Biagiotti v. Commissioner, 52 T.C.M. (CCH)
588, 595 (1986)). We conclude, therefore, that the record
lacks sufficient evidence of bad faith to support the tax
court's negligence ruling, and instead compels a finding that
the McMurrays met their burden of proof on this issue.
2. Valuation Overstatement
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Section 6659 of the Code imposes an addition to tax
if the amount of any underpayment of $1,000 or more is
attributable to a valuation overstatement of charitable
deduction property.12 For purposes of this section, a
valuation overstatement exists where the claimed value is 150
percent or more of the amount determined to be correct.
I.R.C. 6659(c)(1). Here, the McMurrays claimed a donation
value of $803,933 in 1982, and a value of $637,500 in 1985.
The tax court, however, ruled that the values were $12,500
and $41,700, respectively. These figures place the
McMurrays' overstatement beyond the 150 percent threshold of
section 6659.
The McMurrays seek relief under section 6659(e),
which allows for a waiver of "all or any part of the addition
to tax provided by this section on a showing by the taxpayer
that there was a reasonable basis for the valuation or
adjusted basis claimed on the return and that such claim was
made in good faith." While we have already concluded that
the McMurrays acted in reasonable reliance on the Donovon
appraisal, the inquiry does not end there, because section
6659(f)(2) prohibits a penalty waiver unless "the claimed
value of the property was based on a qualified appraisal made
by a qualified appraiser," and, "in addition to obtaining
12. The assessed penalty is 30 percent of the underpayment attributable to the valuation overstatement.
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such an appraisal, the taxpayer made a good faith
investigation of the value of the contributed property." On
appeal, the McMurrays do not address section 6659(f)(2), nor
does our review of the record indicate any additional
investigation by the McMurrays into the value of the
property. Thus, we affirm the imposition of penalties under
III.
Conclusion
The tax court's decision with respect to the
Commissioner's deficiency determination and additions to tax
under I.R.C. 6659 is affirmed. The decision with respect affirmed
to the negligence penalties under I.R.C. 6653(a) is
reversed. This case is remanded to the Tax Court with reversed
instructions to enter a decision in accordance herewith.
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