Wednesday, February 5, 2014
In Private Letter Ruling 201405018 (Jan. 31, 2014), the IRS ruled that the tax-exempt status of an organization formed for the purpose of accepting, holding, and enforcing conservation easements and to convince owners of hunting land to make conservation easement donations should be revoked. The IRS determined that the organization was not operated exclusively for tax-exempt charitable purposes and, instead, operated as a conduit for its President, a CPA, to help his clients obtain sizable charitable deductions on their tax returns.
The IRS noted the following factors, among others, in support of its ruling.
Organization Was Vehicle for Enrichment of President’s Clients. The three transactions the organization had entered into were with entities connected to the President and his accounting practice (i.e., the President prepared the annual tax returns for one or more of the partners of the donating entities). This showed that the President’s intent and goals were not environmental or conservation, but rather that he used the organization as a vehicle for the enrichment of his clients, and this ran counter to the requirements in IRC § 501(c)(3) with regard to private benefit.
President Lacked Appropriate Knowledge, Training, and Experience. The President did not possess the knowledge, training, or experience to make educated decisions about whether a conservation easement serves a conservation purpose under IRC § 170(h)(4)(A). The President did not review one of the conservation easement deeds prior to signing and was unaware of the extensive rights retained by the donor until the IRS agent brought it to his attention (retained rights included the right to have two burrow [sic] pits, not to exceed two acres each, to be used for providing fill material for road repair on the property; the right to engage in not-for-profit and for-profit agricultural, farming, and aquacultural activities; the right to use agrichemicals to accomplish agricultural and residential activities permitted by the easement; and the right to extract minerals, gases, oil, and other hydrocarbons provided that the property is restored back to its natural state). In another transaction, the President failed to secure a conservation easement as intended, and instead received fee title to the land. This demonstrated the President’s lack of experience, knowledge, and willingness to act as a proper fiduciary for the organization. While the President represented that he had read a few articles and conducted some research on how an organization that accepts conservation easements should perform, his lack of knowledge and experience were strong indicators that the organization did not possess the “commitment” required under Treasury Regulation § 1.170A- 14(c) and was not operated for a charitable purpose.
Noncompliant BDRs and Monitoring and Inspection Reports. The President prepared all of the baseline documentation reports (BDRs) and monitoring and inspection reports, to the extent they existed. The President had no specialized training or general training in any area relating to the environment and did not possess “any specialized experience that would qualify him to perform these studies and inspections.”
The one-page BDRs for the three transactions the organization had entered into consisted of the barest of facts and were not substantiated by pictures, analysis, or expert opinion. There was no description of flora or fauna and each report contained a generic statement that referenced the natural characteristic of the land. The President stated that the BDRs were in accordance with Treasury Regulation § 1.170A-14(g)(5) because the regulation uses the word “may” instead of “shall” regarding what should be contained in a BDR. However, the President’s reliance on performing the bare minimum was an indication that the organization does not pursue conservation as a primary goal. The lack of detail in the BDRs also indicated that the organization does not possess the “commitment” required under Treasury Regulation § 1.170A-14(c).
The monitoring and inspection reports were even less descriptive than the BDRs. The inspection reports for one conservation easement contained one or two handwritten sentences that stated that no changes were noted. For another easement, the inspection reports were available but did not indicate what was done by the President in the way of ensuring compliance. For example, one report was extremely brief and stated “Walked by property. OK.” For the other property, there were no inspection or monitoring reports. After several months of inquiring as to the report whereabouts, the President wrote: “there are no written inspection reports. I often go by this property when riding my bicycle, but never made notes about it. The important thing is nothing has been disturbed.” This statement reflects that monitoring for compliance was not and is not a top priority for the President. This lack of vital documentation also demonstrates that the organization does not possess the commitment necessary for accepting, holding, and monitoring conservation easements.
Neither the BDRs nor the inspection reports conformed to the requirements in the Treasury Regulations. The documents did not in any way provide the information the organization would need to enforce the conservation easements. The documents and the lack of substantial information contained therein show that the main concern of the President was not the protection of open space or natural habitats, but the amount of deductions he could claim for his clients. BDRs and annual inspection reports that do not contain more descriptive information as to the type, quality, or full description of the land as well as the boundaries (i) do not meet the requirements of Treasury Regulation § 1.170(A)-14(g)(5) and (ii) are indicators of an organization that is not operating for conservation or environmental purposes.
Organization is Not Run as a § 501(c)(3) Charitable Organization. A number of factors indicated the organization is not run as a § 501(c)(3) charitable organization. There were no financial records beyond what was contained in bank statements. There were no solicitations to the general public for support, and no receipts, expense vouchers, or balance sheets prepared at year end. Considering the fact that the President was a CPA and an expert in this field, this situation was disturbing at best, and at worst demonstrated that the President had not been working in the best interests of the organization.
The fact that the organization had received only two conservation easements and one land transfer in four plus years showed that the commitment to perform as a conservation organization as described in the Treasury Regulations was not present. There were no educational events developed and sponsored by the organization, and the organization did not appear to hold itself out to the public as a charitable conservation organization, except through word-of-mouth and the President’s clients.
The organization was not operated in accordance with it Bylaws. There were no meetings of officers or board members and no elections. There were no internal controls and only the bare minimum with regard to records and recordkeeping. In essence, the President had sole control and was operating his own business under his own terms.
President’ lack of expertise in the area of conservation easements and the lack of detail in the BDRs and inspection reports showed that the organization does not have clear established criteria for accepting easements, nor adequate procedures in place for enforcing the easements. There was no one associated with the organization that had any formal education, training, or expertise in conservation matters and it is not known whether the appraisers that appraised the donated easements had qualifications in valuing conservation easements. The Organization's monitoring activities (such as they were) could not further a charitable purpose because there was no knowledge as to whether the easements the organization accepted served a conservation purpose. Moreover, there was no evidence that the organization possessed sufficient resources to enforce the easement restrictions in instances where a donor were to use an underlying property contrary to a conservation purpose.
Organization Was Not Operated Exclusively for an Exempt Purpose. The organization does not meet the requirements set forth in Treasury Regulation § 1.501(c)(3)-l(c)( 1). More than an insubstantial part of its activities consisted of the acceptance of conservation easements or property transfers for which there was not proper documentation, and the organization failed to establish that acceptance of the easements furthered an exempt purpose. In short, the organization failed to operate for a charitable conservation purpose.
The Organization also failed to meet the requirements set forth in Treasury Regulation § 1.501(c)(3)- l(d)(l)(ii) because it serves the private interests of the President and his clients. The presence of a single substantial non-exempt purpose precludes exemption under IRC § 501(c)(3). The organization exists not to serve the greater good of the general public, but rather to fit the needs of the President’s clients to have sizable deductions on their tax returns.
Organization Failed Public Support Test. The President calculated the public support percentage under IRC §§ 509(a)(1) and 509(a)(2) incorrectly. He failed to take into account that all monies received came from substantial contributors, which by definition are disqualified persons. When properly calculated, public support under both IRC §§ 509(a)(1) and 509(a)(2) was zero. As such, the organization cannot be considered publicly supported and, if revocation of exempt status is not pursued, reclassification to a private foundation should occur.
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A Private Letter Ruling is a written statement issued to a taxpayer that interprets and applies tax laws to the taxpayer's specific set of facts. A PLR may not be relied on as precedent by other taxpayers or IRS personnel. PLRs are generally made public after all information has been removed that could identify the taxpayer to whom it was issued. See Understanding IRS Guidance – A Brief Primer.
Nancy A. McLaughlin, Robert W. Swenson Professor of Law, University of Utah S.J. Quinney College of Law