Prohibited Modifications for Conservation Easement Not Limited to Items Listed in "Including" Clause in the IRC

The word “including” in the Internal Revenue Code creates a potential trap that taxpayers fall into from time to time.  IRC §7701(c) tells us that when we see that word in the code we need to understand that the list presented is not every item that could apply to the situation.

Specifically, that provision states:

The terms “includes” and “including” when used in a definition contained in this title shall not be deemed to exclude other things otherwise within the meaning of the term defined.

The case of Partita Partners LLC et al. v. United States, US DC SD NY, Case No. 1:15-cv-02561 involves just such a misreading of the statute—and the loss of an over $4 million deduction due to that error.

For donations of a qualified conservation easement for a building in a registered historic district, IRC §170(h)(4)(B) provides that to qualify for the deduction:

(i) such interest—

(I) includes a restriction which preserves the entire exterior of the building (including the front, sides, rear, and height of the building), and

(II) prohibits any change in the exterior of the building which is inconsistent with the historical character of such exterior,

In this case the Court noted:

…the Deed of Easement contained provisions that permitted Partita to undertake additional construction on the property, conditioned on the TAE's approval. Judson testified in his deposition that the development rights were reserved to add "a couple of floors, two or three floors on the roof" and to potentially extend the ground floor of the structure. (Def. 56.1 ¶¶ 12-14; Pl. 56.1 Resp. ¶¶ 12-14.)

The IRS noted that this permitted changes to the exterior of the building and denied the entire deduction. 

The taxpayer protested that the law allowed for such a change—but the Court disagreed.  The Court initially notes:

Unambiguously, section 170(h)(4)(B)(i)(I) requires that for a contribution to be “exclusively for conservation purposes,” it must “include[ ] a restriction which preserves the entire exterior of the building (including the front, sides, rear, and height of the building). . . .” This language is unqualified. It does not, as Partita urges, allow for a restriction that could permit “construction above the roof” or for new construction that “does not extend vertically beyond the highest point of the building.” (Opp. Mem. at 10.) The statute expressly states that any contribution must be accompanied by “a restriction which preserves the entire exterior of the building. . . .” 26 U.S.C. § 170(h)(4)(B)(i)(I) (emphasis added).

But the taxpayer argued that none of those changes affected front, sides, rear, and height of the building and, therefore, are not covered by the provision noted.  Citing the definition found in IRC §7701(c), the Court notes:

The statute describes the exterior as "including the front, sides, rear, and height of the building," but the use of the word "including" does not, as Partita argues, limit the exterior solely to those features.