Friday, December 11, 2015

Atkinson v. Comm’r – Golf Course Conservation Easements Not Deductible

Atkinson Members Club copyIn Atkinson v. Commissioner, T.C. Memo. 2015-236, the Tax Court denied $7.88 million of deductions claimed with regard to the conveyance of conservation easements encumbering noncontiguous portions of land on and adjacent to golf courses located in a gated residential community. The court determined that the easements did not satisfy either the habitat or open space protection conservation purposes tests of IRC § 170(h). The court declined to impose penalties, however, finding that the taxpayers qualified for the reasonable cause exception.


St. James Plantation is a gated community consisting of residential areas, recreational facilities (including four golf courses), and undeveloped land. It was established in 1991 and covers 91% of the Town of St. James, which is west of Southport, North Carolina. The Plantation can be accessed only through three roads, each of which has a gated entrance with a staffed guardhouse. Drivers are obliged to stop at a gated entrance and state the purpose of their visit to obtain entry.

The Members Club and the Reserve Club (both limited liability companies) owned portions of the Plantation. In 2003, the Members Club conveyed a conservation easement covering approximately 79 acres in and around one of the Plantation golf courses to the North American Land Trust (NALT). The property subject to the easement consists of six noncontiguous tracts (i.e., fairways, greens, teeing grounds, ranges, roughs, ponds, and wetland areas), which range in size from 5 to 23 acres. Residential lots border most of the tracts, and a concrete golf cart path winds its way through the tracts. The tracts lie within the Cape Fear Arch, a large area that The Nature Conservancy (TNC) has identified as a biodiversity hotspot. 

The Members Club reserved significant rights in the 2003 easement. The golf course can be altered “in such manner as the owner determines to be appropriate” as long as “the best environmental practices then prevailing in the golf industry” are used. The 2003 easement allows for digging (filling, excavating, dredging, and removing topsoil) as necessary for maintaining sand traps and the cultivation of sod for use on the course. Cart paths may be relocated as long as relocation does not substantially increase the surface area of the paths. Rain shelters, rest stations, food concession stands, and other structures can be constructed as long as they do not exceed a total of 2,500 square feet. The Members Club can substantially increase the amount of surface area covered by the course if it obtains prior consent from NALT “and there is no material adverse effect on the conservation purposes.” The club can also cut and remove trees that are on or within 30 feet of the golf course to build a restroom, rain shelter, rest station, or food concession stand or if the club determines that removal is “appropriate for the proper maintenance of the golf course.” The club also has the right “to operate and manage” a golf course on the property and to maintain “turf grass and other vegetation … of the Golf Course in such manner as Owner determines to be appropriate,” including by applying pesticides and other chemicals. The Members Club claimed a deduction of just over $5.2 million for the conveyance of the 2003 easement.

In 2005, the Reserve Club conveyed a conservation easement covering approximately 91 acres in and around another of the Plantation golf courses to NALT. The property subject to the 2005 easement consists of three noncontiguous tracts of approximately 30 acres each. As with the 2003 easement, the tracts consist of fairways, greens, teeing grounds, ranges, roughs, ponds, and wetland areas; the tracts are bordered in part by residential lots; and a concrete golf cart path winds its way through the tracts. The tracts subject to the 2005 easement also lie within the Cape Fear Arch, and portions lie within an areas delineated as nationally significant by TNC and the North Carolina Natural Heritage Program. The terms of the 2005 easement are almost identical to those of the 2003 easement. The Reserve Club claimed a deduction of over $2.65 million for the conveyance of the 2005 easement.

The IRS challenged the deductions and the primary issue addressed by the Tax Court was whether the easements satisfied the habitat protection or open space conservation purposes tests.

Habitat Protection Conservation Purpose Test

To satisfy the habitat protection conservation purpose test a conservation easement must “protect a significant relatively natural habitat in which a fish, wildlife, or plant community, or similar ecosystem, normally lives.” Treas. Reg. § 1.170A-14(d)(3)(i). A “habitat” is an “area or environment where an organism or ecological community normally lives or occurs” or the “place where a person or thing is most likely to be found.” Glass v Comm'r. “Significant” habitats include, but are not limited to (i) habitats for rare, endangered, or threatened species of animal, fish, or plants and (ii) natural areas that are included in, or contribute to, the ecological viability of a local, state, or national park, nature preserve, wildlife refuge, wilderness area, or other similar conservation area. Treas. Reg. § 1.170A-14(d)(3)(ii).

Both the taxpayers and the IRS presented expert testimony to establish their respective positions regarding the habitat protection conservation purposes test. The IRS apparently learned from Glass v. Comm’r and Butler v. Comm’r that it is unlikely to win a habitat protection challenge unless it offers expert testimony on the issue.

The taxpayers argued that each of the subject properties had independent conservation significance and contributed to the ecological viability of  surrounding conservation areas. The IRS focused on the operation of the golf courses and argued that the rights retained in the easements negated any purported conservation purpose. Although the taxpayer generally has the burden of proving that an asserted deficiency is incorrect, the burden of proof on the habitat protection issue shifted to the IRS under IRC § 7491.

The 2003 Easement 

(i) Independent Conservation Significance

The taxpayers argued that the 2003 easement protects forests, ponds, and wetlands that provide a variety of habitats for plants and animals of environmental concern, and that the location of the easement within the Cape Fear Arch supported a finding that the subject property is “significant natural habitat.”

Longleaf Pine

The taxpayer’s expert testified that the most significant ecological feature on the subject property was the longleaf pine at the margins of the fairways (i.e., the “longleaf remnants” that purportedly were “protected by housing development on one side and fairways on the other”). The court found that the longleaf pine were not protected because the easement permitted cutting and removal of the trees. The court noted that, “[i]f the 2003 easement property were altered within the terms fully permitted in the 2003 easement deed, the conservation purpose would be significantly undermined.” The court also noted that the longleaf pines currently on the property were not the desired “old-growth” and were not maintained in a relatively natural state worthy of conservation.


The taxpayers contended that the subject property contained ponds that replicated natural habitat. The IRS argued that ponds could not provide a significant relatively "natural" habitat because the property did not contain any ponds before the development of the golf course. The court noted, however, that the Treasury Regulations specifically allow for the alteration of habitat so long as fish, wildlife, or plants continue to exist there in a relatively natural state, and it pointed to the example in the regulations, which provides that a “lake formed by a man-made dam or salt pond formed by a man-made dike” would meet the conservation purpose test “if the lake or pond were a natural feeding area for a wildlife community that included rare, endangered, or threatened native species.” The taxpayers argued that the unmanicured edges of the ponds created “transition zones that provide a relatively natural habitat for amphibians, reptiles and birds.” However, the court found that very few of the ponds had a natural edge and the few edges that existed were regularly sprayed with pesticides. Moreover, the IRS’s expert analyzed pond water samples and found reduced oxygen, increased salinity, and levels of nitrogen beyond EPA recommendations. He also testified that no fish or amphibians were evident in the ponds.

Land Areas

The taxpayers argued that the subject property, including the rough, fairways, greens, and tees, provides a relatively natural open space for foraging, migration, and feeding of animals such as the Eastern Fox Squirrel, southern flying squirrels, owls, coyotes, red foxes, raccoons and opossums. The IRS’s expert, however, testified that there are no natural fruits and seeds for foraging on the property, the property provides no cover, and animal migration is deterred by the residential development surrounding each of the noncontiguous tracts, the level of human activity, and the frequent watering. The expert concluded that, as with the ponds, the land areas provided poor habitat for plants and wildlife. 

The court distinguished Glass v. Comm’r, finding that the property subject to the 2003 easement did not provide the same level of habitat as in Glass. While the property in Glass was mostly undisturbed land, the property subject to the 2003 easement was not in a “natural undeveloped state.” The fairways, tee boxes, and greens were sodded or planted with nonnative grasses, and the transition areas (24% of the property) in which Venus Flytraps and Pitcher Plants were found represented “too insignificant a portion of the 2003 easement to lead [the court] to conclude that the whole 2003 easement property is a significant natural habitat.” In addition, while acknowledging that the regulations define significant habitat to include habitat for rare plants, the court noted that the species on the Glass property were threatened or endangered, while Pitcher Plants and Venus Flytraps were only rare and not “imperiled.”

The court also found that the use of pesticides and other chemicals in the operation of the golf course injured the ecosystem on the subject property and, thus, violated the “no inconsistent use” rule of Treas. Reg. § 1.170A-14(e)(2), which provides, in part, that “the preservation of … [land] would not [satisfy the conservation purpose test] if under the terms of the contribution a significant naturally occurring ecosystem could be injured or destroyed by the use of pesticides.” The court noted that, while the 2003 easement qualifies the property owner’s reserved rights—e.g., the easement allows the owner to modify the golf course “provided that no such activity shall have a material adverse effect on the Conservation Purpose”—the easement also allows the use of chemicals in the maintenance and operation of the golf course. Accordingly, the court found that the easement did not limit the use of pesticides and other chemicals that could destroy the conservation purpose and, in fact, it was undisputed that chemicals were used on roughly 63% of the subject property. The IRS’s expert testified that chemicals were used to promote the maintenance of nonnative flora without regard to the conservation purpose of the easement, and this was implicitly confirmed by one of the taxpayer’s witnesses, who testified that “the goal in irrigation and the use of pesticides, fungicides, and herbicides is to keep the golf course in good condition for playing golf.”

Ultimately the court concluded that wildlife and plants are not “most likely” to be found and do not “normally live” on the property subject to the 2003 easement.

(ii) Contributory Role

The taxpayers argued that the property subject to the 2003 easement met the habitat protection conservation purpose because “[s]ignificant habitats … include … natural areas which … contribute to, the ecological viability of a local, state, or national park, nature preserve, wildlife refuge, wilderness area, or other similar conservation area.” The Tax Court disagreed. Although the 2003 easement was designed, in part, to contribute to a wider set of easements conveyed to NALT with regard to the Plantation, the court determined that the property subject to the 2003 easement was not a “natural area” that “contributes to” the surrounding conserved areas. The court explained that the property did not qualify as a “natural” habitat because (i) a large portion of the property was planted with nonnative grass, (ii) the ponds did not exist in a relatively natural state, (iii) the native forests that remained on the property are at risk of removal pursuant to the terms of the easement deed; (iv) the property did not act as a “wildlife corridor” or “sink” for any species because there were no natural fruits and seeds for foraging, there was no cover from humans or predators, and there were barriers to animal migration such as the surrounding homes, human activity, and nightly watering, and (v) the taxpayers failed to identify any species using the subject property for nocturnal migration.

The taxpayers also argued that the condition of the subject property was irrelevant so long as it could act as a buffer to a nearby significant habitat. They relied on Treas. Reg. § 1.170A-14(f), Example (2), which provides:

A qualified conservation organization owns Greenacre in fee as a nature preserve. Greenacre contains a high quality example of a tall grass prairie ecosystem. Farmacre, an operating farm, adjoins Greenacre and is a compatible buffer to the nature preserve. Conversion of Farmacre to a more intense use, such as a housing development, would adversely affect the continued use of Greenacre as a nature preserve because of human traffic generated by the development. The owner of Farmacre donates an easement preventing any future development on Farmacre to the qualified conservation organization for conservation purposes. Normal agricultural uses will be allowed on Farmacre. Accordingly, the donation qualifies for a deduction under this section.

The Tax Court disagreed, finding that the property subject to the 2003 easement and Farmacre were distinguishable. The court pointed out that most of the property subject to the 2003 easement (roughly two-thirds) was surrounded by a row of houses overlooking the golf course and therefore could not serve as a “compatible buffer” to natural areas on the Plantation. In addition, the court agreed with the IRS’s expert that heavy human traffic on and around the golf course diminished its benefits as a “buffer,” and noted that Example (2) specifically alludes to increased human activity as a detriment to the continued preservation of Greenacre. The court concluded that, as a whole, the property subject to the 2003 easement did not “contribute” to any “conservation area” nearby.

(iii) Retained Rights

The Tax Court declined to decide whether operating a golf course is inherently inconsistent with the conservation purpose of protecting relatively natural habitat because the easement did not satisfy the threshold requirement of having a qualifying conservation purpose (i.e., it did not preserve a “relatively natural habitat”).

The 2005 Easement

The Tax Court found that the 2005 easement suffered from the same problems as the 2003 easement—it did not preserve a “relatively natural habitat.” The court also noted, somewhat sarcastically, that the IRS’s expert observed very little wildlife on the 2005 easement property; the only birds he saw were geese, which the Plantation attempts to “control,” i.e., eliminate from the 2005 easement property, using a border collie.  Atkinson geese copy

Open Space Conservation Purpose Test

A conservation easement will satisfy the open space conservation purpose test if preservation of the subject property is either (i) pursuant to a clearly delineated federal, state, or local governmental conservation policy and will yield a significant public benefit or (ii) for the scenic enjoyment of the general public and will yield a significant public benefit. The 2003 and 2005 easements did not satisfy either prong of this test.

With regard to the governmental conservation policy prong, although the baseline documentation for both easements listed several North Carolina laws, it did not include any explanation for how the subject properties contributed to the purposes stated in those laws. In addition, the taxpayers did not mention or provide any analysis of governmental conservation policies in their briefs, and the Tax Court thus deemed that argument abandoned.

The taxpayers also failed to establish that preservation of the subject properties was for the scenic enjoyment of the general public. Since the golf courses were in a guarded gated community and ringed by houses, the court found that the general public did not have visual access to the properties. The taxpayers argued that the general public had visual access because most of the population of the Town of St. James lived within the Plantation. The court did not deem the population of one town to constitute “the general public,” however, and dismissed that argument.

Atkinson is one of three recent cases in which the Tax Court has denied deductions for conservation easements conveyed to NALT. See Balsam Mountain v. Comm’r and Bosque Canyon Ranch v. Comm’r. NALT was also the donee of the conservation easement at issue in Kiva Dunes v. Comm’r, which inspired the Treasury to recommend eliminating the deduction with regard to golf course easements.

Nancy A. McLaughlin, Robert W. Swenson Professor of Law, University of Utah S.J. Quinney College of Law

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