Zarlengo v. Comm'r
Opinion
Decisions will be entered under
Z and then spouse S sought to contribute a facade conservation easement on their property to the National Architectural Trust (Trust). Z and S obtained an appraisal claiming the value of the conservation easement to be $660,000 as of July 26, 2004. On or before September 22, 2004, Z, S, and the Trust all signed a conservation deed of easement. However, the deed was not recorded until January 26, 2005.
Z and S each claimed a charitable contribution deduction of $330,000 for the conservation easement on their separately filed 2004 tax returns. Because of applicable gross income limitations on charitable contribution deductions,
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Decisions will be entered under
Z and then spouse S sought to contribute a facade conservation easement on their property to the National Architectural Trust (Trust). Z and S obtained an appraisal claiming the value of the conservation easement to be $660,000 as of July 26, 2004. On or before September 22, 2004, Z, S, and the Trust all signed a conservation deed of easement. However, the deed was not recorded until January 26, 2005.
Z and S each claimed a charitable contribution deduction of $330,000 for the conservation easement on their separately filed 2004 tax returns. Because of applicable gross income limitations on charitable contribution deductions,
VASQUEZ,
Some of the facts have been stipulated and are so found. The stipulations of facts and accompanying exhibits are incorporated herein by this reference. At the time they filed the petitions, petitioners resided in New York.
On October 7, 1975, petitioners Marco Zarlengo and Merilyn H. Sandin-Zarlengo purchased a four-story townhouse (townhouse) at 309 West 80th Street on the Upper West Side of Manhattan for $150,000.2 The townhouse had*160 been built in the 1890s and, like many of the other townhouses in the neighborhood, was in dire need of repair. Petitioners undertook a complete restoration of the townhouse using materials designed to preserve its historic character. Their neighbors soon followed suit.
The New York City Landmarks Preservation Commission (LPC) took notice. One of the functions of the LPC is to identify new potential historic districts and landmarks. On March 26, 1985, the LPC designated petitioners' neighborhood as the "Riverside Drive - West 80th-81st Street Historic District" (Riverside Historic District). As a result of this designation, the townhouse fell under the LPC's jurisdiction.
The primary function of the LPC is to regulate historic districts and landmarks under its jurisdiction. The LPC does this through two sets of regulations—the administrative code (LPC code) and the Rules of the City of New York (LPC rules). The LPC code is for the most*161 part static, while the LPC rules change approximately every two years.
The normal standard of maintenance for a building under the LPC's jurisdiction is "good repair". This means that significant architectural features of the building must be kept intact. It does not mean that the building must be kept in pristine condition. Certain buildings are subject to a heightened standard of maintenance known as "sound first class condition". An owner of a building will typically receive a special zoning permit in exchange for agreeing to restore and *165 maintain a building in sound first class condition. The townhouse is subject to the good repair standard.
The LPC does not actively monitor buildings subject to the good repair standard. The LPC instead relies on the local community to report violations of the LPC rules directly to the LPC. The LPC has three or four employees dedicated to enforcement. The LPC has the authority to issue a "stop work order" to a building owner who is doing work without a permit, and it may impose sanctions, including fines, for violations of the LPC rules. The LPC does not have the right to enter a building subject to the good repair standard in order to correct a*162 violation, but it may seek a court order compelling a building owner to make necessary repairs.
On February 3, 1999, petitioners divorced. Dr. Zarlengo moved out of the townhouse, but he and Ms. Sandin-Zarlengo each retained an interest in the townhouse. Sometime after the divorce, Ms. Sandin-Zarlengo learned about the Trust from her neighbors. The Trust is a nonprofit organization whose mission is to "preserve historic architecture in the United States". The Trust advances its mission primarily through acquiring conservation easements on historic *166 properties.3 Unlike the LPC, the Trust actively monitors all of the properties on which it owns an easement through annual inspections. The Trust evaluates proposed changes to easement-encumbered properties using the standards promulgated by the Secretary of the Interior,
Ms. Sandin-Zarlengo believed that donating a conservation easement on the townhouse to the Trust was a great way to support conservation on*163 a national level. She brought the idea to Dr. Zarlengo's attention. He, too, was intrigued by the idea. After meeting with a representative of the Trust, petitioners decided to move forward with the donation.
On March 11, 2004, petitioners submitted to the Trust a document titled "Facade Conservation Easement Application". Petitioners stated the estimated fair market value of the townhouse as $5.5 million on the document. On June 30, 2004, the U.S. Department of the Interior, National Park Service, certified that the townhouse "contributes to the significance of the * * * [Riverside Historic District] and is a 'certified historic structure' for a charitable contribution for *167 conservation purposes in accordance with the Tax Treatment Extension Act of 1980."
On July 12, 2004, the Trust sent petitioners a letter stating that the Trust had received all necessary approvals to complete petitioners' application to donate the conservation easement. The letter directed petitioners to obtain an appraisal of the conservation easement. The Trust enclosed with the letter a list of qualified appraisers in petitioners' area.
Petitioners selected Jerome Haims of Jerome Haims Realty, Inc., to appraise*164 the conservation easement. Mr. Haims is a certified real estate general appraiser in New York. He determined the "market value" of the townhouse to be $6 million as of July 26, 2004. He then applied an 11% diminution to the market value of the townhouse to arrive at a value of $660,000 for the conservation easement.
Mr. Haims prepared an appraisal report dated August 24, 2004, with an effective date of July 26, 2004 (appraisal report). Jean Hao, an employee of Mr. Haims' company, performed a physical inspection of the townhouse and assisted Mr. Haims in the preparation of the appraisal report. The appraisal report includes a detailed description of the townhouse complete with photographs of its interior, exterior, and surroundings. The appraisal report states that its intended use "is to assist our client [Ms. Sandin-Zarlengo] in determining the Federal tax benefits *168 resulting from the creation of the subject's [townhouse's] historic preservation easement." Mr. Haims attached a copy of a "Conservation Deed of Easement" (sample deed) to the appraisal report. The sample deed was the standard deed that the Trust used at the time. It had a few blank lines for a donor's personal information.*165
On or about August 24, 2004, Mr. Haims provided Ms. Sandin-Zarlengo with a copy of the appraisal report. Also on August 24, Mr. Haims sent the Trust a copy of the appraisal report and a Form 8283, Noncash Charitable Contributions (appraisal summary). On part 1 of the appraisal summary, Information on Donated Property, Mr. Haims checked the box for "Real Estate" in response to the inquiry "Check type of property". He described the property as "309 West 80th Street" and as a "Historic Preservation Easement". He listed the appraised fair market value of the property as $660,000. He signed part 3 of the appraisal summary, Declaration of Appraiser, under penalties of perjury and listed the date of his appraisal as July 26, 2004.
On August 31, 2004, the Trust sent petitioners a letter stating that it had received a copy of the appraisal report. The Trust enclosed with the letter a number of documents, including a "Conservation Deed of Easement" (conservation deed). The enclosed conservation deed was identical in all material *169 respects to the sample deed that Mr. Haims had attached to the appraisal report, except for the fact that the blanks had been filled in with information pertaining to*166 petitioners' donation (i.e., petitioners' names, the address of the townhouse, the identification of the Riverside Historic District, etc.). The Trust requested that petitioners execute and return the enclosed documents on or before September 17, 2004,4 and provide a check to the Trust for the remainder of their agreed-upon cash donation.5
On September 10, 2004, petitioners signed the conservation deed and had it notarized. On September 22, 2004, a duly authorized representative of the Trust signed the conservation deed on behalf of the Trust. That same day the Trust completed part 4 of the appraisal summary, Donee Acknowledgment. On December 10, 2004, the Trust mailed petitioners a letter thanking them for their cash donation*167 and their donation of the conservation easement. The Trust *170 enclosed the completed appraisal summary with the letter.6 The letter stated in pertinent part: Enclosed is a copy of IRS Form 8283 executed by the appraiser and the Trust. This Form is to be included in your income tax submission for the year 2004. Please keep it in a safe and readily available place so that you can provide it to the person who prepares your taxes. Once your recorded deed is returned to our office, we will forward a copy to you for your records. We very much enjoyed working with you and once again, thank you for your generous gifts.
On June 12, 2003, petitioners entered into an agreement with Leslie J. Garfield & Co., Inc. Real Estate (Leslie J. Garfield) to list the townhouse for sale. Dr. Zarlengo was no longer living in the townhouse at the time, but he continued to*168 pay between $10,000 and $11,000 per month to maintain the townhouse. His motivation in selling the townhouse was to eliminate this monthly expense and to provide for his and Ms. Sandin-Zarlengo's retirement. Richard Pretsfelder, a broker with Leslie J. Garfield, was petitioners' agent.
*171 Mr. Pretsfelder listed the townhouse for sale on June 16, 2003. He drafted a "setup" of the townhouse, which is a marketing tool that provides a brief summary of the property. He mailed the setup to brokers, homeowners, and other interested parties.
The setup stated an asking price of $5.5 million for the townhouse. Mr. Pretsfelder believed that the asking price was too high relative to other properties on the market, but he did not lower it at any point because petitioners had set the asking price. Mr. Pretsfelder did not update the setup after the conservation easement was donated because it was not something that he would normally flag in marketing materials.
The real estate market in Manhattan was trending upward in 2004, and it continued to do so through 2007. On November 20, 2007, petitioners, through Mr. Pretsfelder, sold the townhouse to Gregory Astrachan and Jacqueline Clements (buyers) for $4,650,500.*169 The sale price was negotiated between Mr. Pretsfelder and the buyers' broker. At the time the sale price was negotiated, the buyers had plans to significantly modify the townhouse, but neither the buyers nor their broker had knowledge of the conservation easement. When the buyers learned of the conservation easement, they had conversations with the Trust regarding their plans to modify the townhouse. However, they did not lower their *172 offer because the conservation easement did not affect their plans and they wanted to honor their agreement.
On June 5, 2008, the LPC issued a certificate of appropriateness approving the buyers' plans to modify the townhouse. In addition to the LPC's approval, the buyers had to get the Trust's approval. On October 21, 2008, the buyers submitted a "Proposed Modification Request" form to the Trust, along with the LPC's certificate of appropriateness, architectural drawings, and photographs of the proposed modifications. On November 5, 2008, the Trust mailed the buyers a letter responding to their Proposed Modification Request. The Trust stated in the letter that it did "not object" to the proposed modifications to the front of the townhouse because, on*170 the basis of the Trust's assessment, the modifications "will not be inconsistent with the historic character of the * * * [townhouse] and are consistent with the terms and purpose of the Easement." The Trust further stated that it "would object" to the modifications to the rear of the townhouse if it had jurisdiction because these modifications would irreversibly change the footprint of the townhouse.
Dr. Zarlengo and Ms. McMahon-Zarlengo timely filed a joint Federal income tax return for 2004 on Form 1040, U.S. Individual Income Tax Return. On *173 the return they reported a noncash charitable contribution deduction of $330,000, representing one-half of the fair market value of the conservation easement as reported on the appraisal report. They also reported a cash charitable contribution deduction of $31,350, representing one-half of the cash petitioners had donated to the Trust in 2004. Dr. Zarlengo and Ms. McMahon-Zarlengo were able to use only part of the $330,000 deduction for 2004 because of applicable gross income limitations on charitable contribution deductions,
Ms. Sandin-Zarlengo also reported a noncash charitable contribution deduction of $330,000 and a cash charitable contribution deduction of $31,350 (representing her 50% share) on her 2004 Federal income tax return. She, too, was able to use only part of the $330,000 deduction for 2004 and carried the excess forward. However, 2004 is not at issue for Ms. Sandin-Zarlengo as it is for Dr. Zarlengo and Ms. McMahon-Zarlengo. The years at issue for Ms. Sandin-Zarlengo are 2005-07, the years for which she claimed carryforward noncash charitable contribution deductions flowing from the $330,000 deduction she originally reported for 2004.
*174 Leonard Cirillo of the accounting firm Cirillo, Francis & Cirillo Certified Public Accountants, LLP, prepared the joint 2004 return for Dr. Zarlengo and Ms. McMahon-Zarlengo and the individual 2004-07 returns for Ms. Sandin-Zarlengo. Mr. Cirillo had been preparing tax returns for petitioners since 1997 and continued to do so after the years in issue. He is a licensed certified public accountant (C.P.A.) in New York. He had approximately 20 years of experience in accounting at the time he prepared the 2004 returns.*172
Mr. Cirillo first heard of the conservation easement deduction from Dr. Zarlengo. Dr. Zarlengo had stopped by Mr. Cirillo's office to inquire whether such a deduction was legitimate. This occurred before petitioners had met with a representative of the Trust. Mr. Cirillo agreed to look into it. He then read an article on conservation easements in the Journal of Accountancy written by a C.P.A. and researched the relevant substantiation requirements.7 Mr. Cirillo called Dr. Zarlengo on the phone and explained that the deduction was legitimate and that petitioners would need to obtain an appraisal and Forms 8283 to attach to their tax returns. It was only after hearing back from Mr. Cirillo that Dr. Zarlengo asked Ms. Sandin-Zarlengo to pursue the donation further.
*175 Dr. Zarlengo does not have a background in tax, finance, or accounting. When it came time to file his tax return each year, he would collect any and all relevant documents in his possession, place them in an envelope, and give the envelope to Mr. Cirillo in person. Likewise, Ms. Sandin-Zarlengo does not have a background in tax, finance,*173 or accounting. Dr. Zarlengo provided Mr. Cirillo with some of the documents needed to prepare Ms. Sandin-Zarlengo's return (even after they were divorced), and Ms. Sandin-Zarlengo provided additional documents and information to Mr. Cirillo by fax, email, or telephone.
Dr. Zarlengo provided Mr. Cirillo with the appraisal report, the appraisal summary, and the conservation deed. On the basis of his earlier research and his review of these documents, Mr. Cirillo felt comfortable that petitioners had sufficiently substantiated the deductions. Furthermore, nothing in these documents gave Mr. Cirillo cause for concern as to the accuracy of Mr. Haims' appraised values. Mr. Cirillo signed Dr. Zarlengo's 2004 return and Ms. Sandin-Zarlengo's 2004-07 returns under penalties of perjury believing the returns to be true and correct.
On November 25, 2009, respondent mailed Dr. Zarlengo and Ms. McMahon-Zarlengo a notice of deficiency for 2004. Respondent determined a *176 deficiency of $11,773 which is attributable to his disallowance of both the deduction for the conservation easement and the deduction for the cash donation to the Trust. Respondent also determined a penalty of*174 $1,574 under
Also on November 25, 2009, respondent mailed Ms. Sandin-Zarlengo a notice of deficiency for 2005, 2006, and 2007. Respondent determined a deficiency of $8,938 for 2005, $10,003 for 2006, and $39,590 for 2007 all of which are attributable to his disallowance of carryforward charitable contribution deductions stemming from the conservation easement. Respondent determined penalties of $3,575 for 2005, $4,001 for 2006, and $15,836 for 2007 under
Dr. Zarlengo and Ms. McMahon-Zarlengo timely filed a petition in response to the notice of deficiency for 2004. Ms. Sandin-Zarlengo timely filed a petition in response to the notice of deficiency for 2005-07. We consolidated the cases. We must now decide whether petitioners are entitled to any of the disputed *177 deductions they claimed for their donation of the*175 conservation easement and whether they are liable for any of the disputed penalties respondent has determined.
The Commissioner's determinations in a notice of deficiency are generally presumed correct, and a taxpayer bears the burden of proving that the Commissioner's determinations are in error.
The party whose position is supported by the weight of the evidence will prevail regardless of which party bore the burden of persuasion.
A taxpayer is generally allowed a deduction for any charitable contribution made during the taxable year.
A "qualified conservation contribution" is a contribution (1) of a "qualified real property interest" (2) to a "qualified organization" (3) which is made "exclusively for conservation purposes."
any of the following interests in real property: (A) the entire interest of the donor other than a qualified mineral interest, (B) a remainder interest, and (C) a restriction (granted in perpetuity) on the use which may be made of the real property. A "perpetual conservation restriction" is a qualified real property interest. A "perpetual conservation restriction" is a restriction granted in perpetuity on the use which may be made of real property—including, an easement or other interest in real property that under state law has attributes similar to an easement (e.g., a restrictive covenant or equitable servitude). * * *
*180Like
In a Federal tax controversy, State law controls the determination of a taxpayer's interest in property while the tax consequences are determined under Federal law.
Under New York law, an instrument purporting to create, convey, modify, or terminate a conservation easement is not effective unless recorded.
Petitioners argue that
*182 Petitioners rely on [a] conveyance of real property, within the state, * * *
One of the special rules in the NYEC Law is that conservation easements
In these cases, the conservation deed was recorded on January 26, 2005, by the New York City Department of Finance, Office of the City Register.10 We conclude that the conservation deed was not effective until that date. However, even assuming arguendo that we were to accept petitioners' argument that the conservation deed was legally enforceable by the Trust against petitioners on September 22, 2004, and became*182 effective against subsequent purchasers on January 26, 2005, the conservation easement still would not have satisfied the perpetuity requirements of
Mr. Pretsfelder listed the townhouse for sale on behalf of petitioners on June 16, 2003. He had drafted a setup of the townhouse and was actively marketing the townhouse to potential buyers. However, he did not tell any of *185 them about the conservation easement. If a buyer had purchased the townhouse and had recorded the deed of conveyance before January 26, 2005, that buyer could have*183 taken the townhouse free and clear of the conservation easement.
We hold that the requirements of
Because of applicable gross income limitations on charitable contribution deductions,
We asked the parties to brief whether any of petitioners might be entitled to a deduction for the conservation easement for any of the other years at issue in the *187 event the Court were to agree with respondent that the requirements of the statute have not been*185 met for 2004. The parties agree, as do we, that the Court lacks jurisdiction to determine whether Dr. Zarlengo and Ms. McMahon-Zarlengo are entitled to a deduction for any other year because the only year before the Court with respect to them is 2004. The situation is different with respect to Ms. Sandin-Zarlengo. We have jurisdiction to redetermine her Federal income tax liabilities for 2005-07. Respondent "acknowledges that the [Conservation] Easement could be considered made in perpetuity under * * *
We find that both the use restriction and the conservation purpose of the conservation easement were protected in perpetuity as of January 26, 2005. We further find that Ms. Sandin-Zarlengo has satisfied the other requirements*186 of *188
A taxpayer is generally allowed a deduction for any charitable contribution of property made during the taxable year only if the contribution is verified under regulations prescribed by the Secretary.
Another relevant statutory provision is the
Regulations issued under (A) A description of the property in sufficient detail for a person who is not generally familiar with the type of property to ascertain that the property that was appraised is the property that was (or will be) contributed; *191 (B) In the case of tangible property, the physical condition of the property; (C) The date (or expected date) of contribution to the donee; (D) The terms of any agreement or understanding entered into (or expected to be entered into) by or on behalf of the donor or donee that relates to the use, sale, or other disposition of the property contributed,*190 * * * (E) The name, address, and * * * the identifying number of the qualified appraiser; and, if the qualified appraiser is acting in his or her capacity as * * * an employee of any person (whether an individual, corporation, or partnerships [sic]), * * * the name, address, and taxpayer identification number * * * of * * * the person who employs or engages the qualified appraiser; (F) The qualifications of the qualified appraiser who signs the appraisal, including the appraiser's background, experience, education, and membership, if any, in professional appraisal associations; (G) A statement that the appraisal was prepared for income tax purposes; (H) The date (or dates) on which the property was appraised; (I) The appraised fair market value (within the meaning of (J) The method of valuation used to determine the fair market value, such as the income approach, the market-data approach, and the replacement-cost-less depreciation approach; and (K) The specific basis for the valuation, such as specific comparable sales transactions or statistical sampling, including a *192 justification for using sampling and an explanation of*191 the sampling procedure employed.
The provisions of [I]t is apparent that the essence of
We held that the taxpayers in
In
We rejected the taxpayers' argument because the taxpayers had not provided any of the information required by
Respondent argues that Ms. Sandin-Zarlengo has failed to comply with a number of the aforementioned substantiation requirements. We address each of the disputed requirements in turn.
Respondent argues that Mr. Haims prepared the appraisal report more than 60 days before the date of the contribution of the conservation easement in violation of
However, the timeliness*194 requirement of
Respondent argues that the appraisal report fails to describe property that was appraised within the meaning of
Respondent argues that the appraisal report fails to state the date (or expected date) of the contribution as required by
Respondent argues that the appraisal report fails to provide the terms of any agreement or understanding entered into as required by
Respondent argues that the appraisal report does not contain a statement that it was prepared for income tax purposes as required by
Respondent argues that the appraisal report fails to appraise the "fair market value" of the conservation easement as required by
Mr. Haims defines the term "market value" in the appraisal report as: The most probable price, as of a specified date, in cash, or in terms equivalent to cash, or in other precisely revealed terms, for which the specified property rights should sell after reasonable exposure in a competitive market under all conditions requisite to a fair sale, with the buyer and seller each acting prudently, knowledgeably and for self interest, and assuming that neither is under undue duress.
*199 On part 1 of the appraisal summary, Mr. Haims states the conservation easement's appraised "fair market value" to be $660,000, the exact same value as stated in his appraisal report for the conservation easement's "market value". Furthermore, the parties have stipulated that "According tò the Haims Appraisal the facade easement had a*198 fair market value of $660,000 at the time of contribution." By all accounts, it appears that Mr. Haims used the terms "market value" and "fair market value" synonymously. We find that Ms. Sandin-Zarlengo has complied or substantially complied with
Respondent argues that Ms. Sandin-Zarlengo has failed to satisfy
*200More than one appraiser may appraise the donated property. If more than one appraiser appraises the property, the donor does not have to use each appraiser's appraisal for purposes of substantiating the charitable contribution deduction pursuant to this paragraph (c). If the donor uses the appraisal of more than one appraiser, or if two or more appraisers contribute to a single appraisal, each appraiser shall comply with the requirements*199 of this paragraph (c), including signing the qualified appraisal and appraisal summary as required by paragraphs (c)(3)(i)(B) and (c)(4)(i)(C) of this section, respectively.
Ms. Sandin-Zarlengo has complied or substantially complied with all of the disputed substantiation requirements under
We now arrive at the question of valuation—how much is the conservation easement actually worth? The regulations provide that the value of a conservation easement is the fair market value of the conservation easement at the time of the contribution.
However, there is no substantial record of sales of conservation easements similar to the conservation easement that petitioners donated. In such a case, the regulations provide that the fair market value of a conservation easement, as a general rule, is equal to the difference between the fair market value of the encumbered property before the conservation easement is granted and the fair market value of the encumbered property after the conservation easement is granted.
The parties each called*201 an expert witness to help us determine the fair market value of the conservation easement.
Respondent offered expert testimony of Timothy Barnes. Mr. Barnes is a senior managing director at Cushman & Wakefield. He is also a certified real estate general appraiser in New York. He appraised the conservation easement using the*202 "before and after" approach as of September 22, 2004, only.
Eric Haims used the "sales comparison approach" to determine the "before" values of the conservation easement as of September 22, 2004, and as of January 26, 2005. The "sales comparison approach" is based on the principle of substitution, the theory being that the value of a property sold in a competitive market is based on the cost of acquiring a comparable substitute property. Under this approach, Eric Haims researched properties in Manhattan that were comparable to the townhouse and that had sold on the market in 2004 or 2005. He *204 selected three properties on the Upper West Side that, in his view, were comparable to the townhouse. He then adjusted the sale prices of these properties to account for differences between the properties and the townhouse in (1) date of sale, (2) location, (3) frontage, (4) presence of an elevator, (5) condition, (6) presence of a garage, (7) number of baths, (8) gross living area, and (9) number of fireplaces. He arrived at "before" values of $5.5 million and $6 million as of September 22, 2004, and January 26, 2005, respectively.
Like Eric Haims, Mr. Barnes used the "sales comparison approach" to determine the "before" value of the conservation easement. He selected five properties on the Upper West Side that, in his view, were comparable to the townhouse.14 He then adjusted the sale prices of the properties to account for differences between the properties and the townhouse in (1) market conditions, (2) location, (3) size, (4) condition, (5) floors, and (6) frontage. He arrived at a "before" value of the townhouse of $3.6 million as of September 22, 2004. He did not compute a value for the townhouse as of January 26, 2005.
On brief, each of the parties criticizes the adjustments of the other parties' expert. Respondent argues that "Eric Haims abused the adjustment process in order to artificially inflate the 'before' value of the Property — under the percentage 'theory' the higher the 'before' value, the higher the easement's value." Petitioners argue that Mr. Barnes made some excessive adjustments and failed to make other necessary adjustments,*204 the result being that his "before" value was too low.
We find many of the parties' criticisms to be well founded. Each expert made adjustments designed to support his side's litigating positions. Experts lose their usefulness and credibility when they merely become advocates for the position argued by a party.
*206We are not bound by values computed by either side's expert witness.
Mr. Pretsfelder credibly testified that he thought petitioners' $5.5 million asking price for the townhouse was too high relative to other properties on the market, and that the townhouse "would have*205 sold in the four's". He further testified that "four and a half" did not "sound unreasonable". We find Mr. Pretsfelder to be a credible and unbiased witness.16 He specializes in townhouse sales and was very familiar with petitioners' townhouse. We find that $4.5 million is the best evidence of the "before" value of the townhouse as of January 26, 2005.
Eric Haims conducted an empirical market study based on a "paired sales analysis" of residential properties in New York City to determine the "after" values of the conservation easement. As its name implies, this technique calls for comparing the sale prices of properties that are matched in pairs. In theory, the *207 properties in each pair would be identical except for the fact that one of the properties would be encumbered by an easement. The premise is that when two properties are identical in all respects except that one of the properties is encumbered by an easement, the value of the easement can be measured as the difference between the sale prices of the two properties. In practice,*206 however, it is all but impossible to find identical pairs of unencumbered and easement-encumbered properties. Therefore, similar properties are generally paired, and adjustments are made to the sale price of one of the properties in each pair to account for differences between the properties.
Eric Haims matched 10 pairs of comparable unencumbered and easement-encumbered properties together. He then adjusted one of the properties in each pair for differences in (1) location, (2) gross living area, (3) presence of an elevator, (4) parking, and (5) frontage. He arrived at median and mean diminutions of value of 8.81% and 11.20%, respectively, to the easement-encumbered properties as a result of the additional burdens imposed by the conservation easements on the properties.
Eric Haims selected 11% as the diminution of value to apply to the townhouse as a result of the conservation easement. He arrived at "after" values for the townhouse of $4.9 million and $5.34 million as of September 22, 2004, and *208 January 26, 2005, respectively. He subtracted the "after" values from the "before" values to arrive at fair market values of $600,000 and $660,000 for the conservation easement as of September*207 22, 2004, and January 26, 2005, respectively.
Mr. Barnes did not attempt to compute the "after" value of the townhouse using any methodology.17*208 He states in his expert report that the value of the townhouse might in theory be diminished by the grant of the conservation easement as a result of one or more factors. He then lists various factors that might cause the granting of a conservation easement to reduce the value of a property, including its placing a greater burden on the property owner. He concludes, however, that he is "not persuaded that the [conservation] easement places a greater burden on the owner, creates an additional layer of regulation, or *209 will result in additional costs."18*209 We disagree. We find that the conservation easement did impose additional burdens.
Mr. Barnes also states in his expert report that he "inquired among a number of brokers and valuation professionals in the local market whether the presence of a facade easement affected either the marketability of or the ability to finance a townhouse", and that "[t]he uniform response was that the easements had no effect on buyer interest, marketing time, or the ability to secure mortgage capital." Mr. Barnes does not list the brokers and valuation professionals with whom he purportedly consulted nor the questions that he purportedly asked them. Mr. Barnes concludes that the "after" value of the townhouse was $3.6 million as of *210 September 22, 2004, the same as his "before" value, and that the conservation easement thus had no value.
Mr. Barnes' conclusory analysis demonstrates his preconceived notion that conservation easements have no value. We reject his analysis as unsupported and unreliable.19Ordinarily, any encumbrance*210 on real property, however slight, would tend to have some negative effect on a property's fair market value.
Eric Haims' paired sales analysis, while conceptually sound, is marred by flaws in its execution. Eric Haims did not adjust the values of the properties in his analysis for several important characteristics, including date of sale and condition. He admitted at trial that "if one of the properties was in slightly better or worse *211 condition, the percentage [diminution] may be a little bit different." The explanation he gave as to why he did not adjust the values of the properties for differences in condition is that his "research and analysis didn't produce enough information to make condition adjustments to the pairs."*211
Furthermore, many of Eric Haims' adjustments seem to be rather arbitrary. When questioned by respondent's counsel as to why he adjusted the value of one particular property in his analysis by $700 per square foot when the property (including the land on which it was situated) sold for $638 per square foot, his response was that his adjustment "doesn't seem to correlate well." We do not adopt the "after" values of Eric Haims either.
We find, on the basis of our analysis of the evidence in the record, that 3.5% is a reasonable diminution to the value of the townhouse as a result of the additional burdens imposed by the conservation easement.
Respondent argues that petitioners are liable for a 40% gross valuation misstatement penalty or, in the alternative, a 20% penalty for negligence, a substantial*213 understatement of income tax, or a substantial valuation misstatement. Respondent bears the burden of production on the applicability of the accuracy-related penalty in that he must come forward with sufficient evidence indicating that it is proper to impose the penalty.
We consider first the valuation misstatement penalty. Before the enactment of the
The PPA lowered the threshold from 200% to 150% for a substantial valuation misstatement and from 400% to 200% for a gross valuation misstatement. The PPA also eliminated the reasonable cause exception for gross valuation misstatements of charitable*214 deduction property.
Dr. Zarlengo's 2004 joint return and Ms. Sandin-Zarlengo's 2005 return were filed before July 25, 2006. Therefore, the PPA does not apply to those returns. We need not decide whether respondent has met his burden of production as to the substantial or gross valuation misstatement penalties (or any of the other accuracy-related penalties) for 2004 and 2005 because we find that Dr. Zarlengo *215 and Ms. Sandin-Zarlengo meet the reasonable cause and good faith exception for those years.
Reliance upon the advice of a tax professional may establish reasonable cause and good faith for the purpose of avoiding liability for the
Petitioners*216 are not financially sophisticated taxpayers. Neither Dr. Zarlengo nor Ms. Sandin-Zarlengo has a background in tax, finance, or accounting. When Ms. Sandin-Zarlengo brought the idea of donating a conservation easement on the townhouse to Dr. Zarlengo's attention, he consulted with Mr. Cirillo, his longtime accountant, about its legitimacy. Mr. Cirllio, a licensed C.P.A. in New York, had approximately 20 years of experience in accounting at the time. He was initially unfamiliar with conservation easements, but he read an article on the subject in the Journal of Accountancy and researched the relevant substantiation requirements before getting back to Dr. Zarlengo. We find that Mr. Cirillo was a competent accountant with sufficient expertise to justify reliance.
Mr. Cirillo explained to Dr. Zarlengo that the deduction was, in fact, legitimate and that petitioners would need to obtain an appraisal and Forms 8283 *217 to attach to their tax returns. Mr. Cirillo later prepared Dr. Zarlengo's joint tax return for 2004 and Ms. Sandin-Zarlengo's tax return for 2005. Dr. Zarlengo provided him with all of the necessary information relevant to the charitable contribution deductions at issue, including*217 the appraisal report, the appraisal summary, and the conservation deed. Nothing in these documents gave Mr. Cirillo cause for concern as to the accuracy of the appraised value of the conservation easement. We find that petitioners relied on Mr. Cirillo's advice.
We further find that petitioners acted in good faith. The term "good faith" appears in both
The amount of the deduction that Dr. Zarlengo and Ms. Sandin-Zarlengo each claimed on their 2004 returns was exactly half of Mr. Haims' appraised value, representing their 50% interests in the conservation easement. The parties *218 have stipulated that Mr. Haims is a qualified appraiser, and*218 we have already found that his appraisal report was a qualified appraisal.
We find that Dr. Zarlengo and Ms. Sandin-Zarlengo have met the reasonable cause and good faith defense for 2004 and 2005, respectively. Accordingly, they are not liable for accuracy-related penalties with respect to the conservation easement for those years.
Ms. Sandin-Zarlengo's 2006 and 2007 returns were filed after July 25, 2006. Therefore, the reasonable cause and good faith rules, as amended by the PPA, apply to those returns. In
In
Dr. Zarlengo is not entitled to a charitable contribution deduction for the conservation easement for 2004. Ms. Sandin-Zarlengo is not entitled to the carryover deductions*221 for 2005-07 that she claimed with respect to the conservation easement. She is, however, entitled to a deduction of $78,750 for 2005, and she may carry forward any unused portion. Dr. Zarlengo is not liable for a penalty for 2004, and Ms. Sandin-Zarlengo is not liable for a penalty for 2005. Ms. Sandin-Zarlengo is liable for 40% gross valuation misstatement penalties for 2006 and 2007 with respect to any underpayments for those years which are attributable to her misvaluation of the conservation easement, provided that the applicable dollar limitation set forth in
*221 We have considered all the arguments of the parties, and, to the extent we have not addressed them, we find them to be irrelevant, moot or meritless.
To reflect the foregoing,
Footnotes
1. Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.↩
2. Linda McMahon-Zarlengo is a party to this case by virtue of having filed a joint return with Marco Zarlengo for 2004. All references hereafter to petitioners are to Marco Zarlengo and Merilyn H. Sandin-Zarlengo.↩
3. The Trust also engages in educational outreach and gives grants to other nonprofit organizations with similar missions.↩
4. The letter specifically stated: "Please note that your easement donation must be closed within sixty days of the date of your appraisal, which is dated July 26, 2004. Therefore, the
executed documents↩ listed above must be received by the Trust on or before September 17, 2004."5. The Trust generally requires that easement donors make a cash contribution of approximately 10% of the value of an easement. The Trust uses the cash contributions to fund its operating expenses.↩
6. The appraisal summary has four parts. Mr. Haims completed parts 1 and 3, and the Trust completed part 4. Part 2, Taxpayer (Donor) Statement, applies to items having a value of $500 or less.↩
7. Mr. Cirillo believes that he consulted the Master Tax Guide for the substantiation requirements.↩
8. Respondent does not dispute that the Trust is a qualified organization.↩
9. Petitioners cite a number of cases on brief which discuss
N.Y. Real Prop. Law secs. 244 and/or291 (McKinney 2006), includingManhattan Life Ins. Co. v. Cont'l Ins. Cos. , 33 N.Y.2d 370, 308 N.E. 2d 682, 683, 353 N.Y.S.2d 161 (N.Y. 1974)James v. Lewis , 135 A.D.2d 785, 522 N.Y.S. 2d 897, 898 (App. Div. 1987)Buckley v. Chevron, U.S.A., Inc. , 149 Misc. 2d 476, 565 N.Y.S.2d 419, 421↩ (Sup. Ct. 1991)10. Petitioners argue on brief that the Trust mailed the conservation deed to the New York City Department of Finance, Office of the City Register, on December 10, 2004, and that the conservation deed is deemed recorded as of that date. However, petitioners have not presented any credible evidence that the Trust mailed the conservation deed in 2004. The parties stipulated that "[t]he conservation deed was recorded by the City of New York Office of Register on January 26, 2005" and the record contains a copy of the Recording and Endorsement cover page showing a recordation date of January 26, 2005. We find that the recordation date is January 26, 2005.↩
11. Respondent argues on brief that the conservation easement did not have a "conservation purpose" within the meaning of
sec. 170(h)(4)(A)(iv) because it did not preserve the townhouse in any way that local law did not. We disagree. The townhouse is subject to the good repair standard. The LPC does not actively monitor properties subject to this standard. The LPC instead relies on the local community to report violations. The Trust, on the other hand, actively monitors properties on which it owns a conservation easement through annual inspections. We find this difference to be significant.Moreover, the LPC and the Trust do not follow the same preservation standards. The LPC has its own set of regulations. These regulations are found in the LPC code and the LPC rules. The Trust follows the standards promulgated by the Secretary of the Interior. The LPC's regulations and the Secretary's standards are similar, but not identical. John Weiss, deputy counsel for the LPC, credibly testified that the LPC changes its rules approximately every two years. We find that the conservation easement provides the townhouse with an additional layer of protection over and above that provided by the LPC's regulations. Accordingly, we find that the conservation easement preserves the townhouse within the meaning of
sec. 170(h)(4)(A)(iv)↩ .12. The requirements of
sec. 170(f)(11) apply to petitioners' donation of the conservation easement to the Trust because that contribution was completed after the effective date of that section; i.e., after June 3, 2004.See American Jobs Creation Act of 2004, Pub. L. No. 108-357, sec. 883(b), 118 Stat. at 1632↩ .13. Eric Haims is Jerome Haims' son. To avoid confusion, we will refer to Eric Haims by his full name.↩
14. These five properties were all different from the properties that Eric Haims had selected for use in his Sales Comparison Approach.↩
15. An expert qualified to testify in a judicial proceeding owes a duty to the Court that transcends the duty to his or her client insofar as the expert must present his or her opinion, as well as the facts, data, and analysis on which he or she relied, neutrally and candidly.
Estate of Halas v. Commissioner , 94 T.C. 570, 577-578 (1990)see also Estate of Mitchell v. Commissioner , T.C. Memo. 2002-98, slip op. at 22-23Wagner Constr., Inc. v. Commissioner , T.C. Memo. 2001-160↩, slip op. at 50-5116. While Mr. Pretsfelder was petitioners' broker, he was actually called to testify as a witness for respondent.↩
17. In an addendum to his expert report, Mr. Barnes lists six properties in Manhattan that had been sold on the market before being encumbered by an easement and had been resold after being encumbered by an easement. He notes that there was "substantial appreciation in the value of the properties" between the sales and resales. The resales occurred roughly four to eight years after the original sales. The increases in the resale prices are likely due to a number of factors, including appreciation in the real estate market. Mr. Barnes did not attempt to isolate the effect of the easements on the resale prices. We find his "analysis" to be devoid of any value for purposes of valuing the conservation easement.
18. We do not find it particularly significant that the buyers did not reduce their offer on the townhouse after they became aware of the conservation easement. Mr. Pretsfelder and the buyers' broker had carried on extensive negotiations up until that point. They had reached an agreement on a purchase price of $4,650,500 for the townhouse, which was more than $800,000 below petitioners' $5.5 million asking price. Mr. Astrachan (one of the buyers) credibly testified that he wanted to honor this agreement. Returning to the negotiating table could very well have jeopardized the agreement, and it is certainly plausible that the buyers did not want to risk the prospects of striking a new agreement. Furthermore, the conservation easement resulted in additional compliance costs to the buyers, who had to obtain the permission of the Trust before carrying out their pre-purchase plans to modify the townhouse. The conservation easement did not significantly affect these plans, but it might have a larger impact on any future plans the buyers may have and/or plans of any future purchasers of the townhouse.
19. While in
Scheidelman v. Commissioner , T.C. Memo. 2013-18, at *17-*18aff'd ,755 F.3d 148 (2d Cir. June 18, 2014) , we found Mr. Barnes' judgments to be more reliable than those of the taxpayer's expert, we find Mr. Barnes' expert report to be broad and conclusory in these cases and accord it little value.See Laureys v. Commissioner , 92 T.C. 101, 129↩ (1989)20. This provision was moved to
sec. 6664(c)(3) in the Health Care and Education Reconciliation Act of 2010,Pub. L. No. 111-152, sec. 1409(c), 124 Stat. at 1069↩ .21. For charitable contributions of property other than facade easements, the changes are effective for returns filed after August 17, 2006.↩
22. Under
sec. 1.6662-5(c)(1), Income Tax Regs. , the penalty for a substantial or gross valuation misstatement applies to any portion of an underpayment for a year to which a deduction is carried that is attributable to a substantial or gross valuation misstatement for the year in which the carryback or carryover of the deduction arises. Ms. Sandin-Zarlengo first claimed a deduction for the conservation easement on her 2004 return based on a $660,000 valuation. We found that the actual value of the conservation easement was $157,500 as of January 26, 2005.See supra p. 52. Because the conservation easement was not yet effective under New York law in 2004 and because the housing market in New York City was trending upward at the time, it is clear that the conservation easement did not reduce the value of the townhouse by more than $157,500 in 2004. Thus, the valuation misstatement on Ms. Sandin-Zarlengo's 2004 return meets or exceeds the 400% threshold irrespective of whether the conservation easement was worth zero, $157,500, or some amount in between ($660,000 / $157,500 = 419%).See also sec. 1.6662-5(g), Income Tax Regs.↩ ("The value or adjusted basis claimed on a return of any property with a correct value or adjusted basis of zero is considered to be 400 percent or more of the correct amount.").
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