The recent decision in Rock Cliff Reserve, LLC v. Commissioner, T.C. Memo. 2025-73, offers crucial insights for tax professionals navigating the complexities of conservation easement deductions and related penalties. This memorandum opinion addresses consolidated cases involving four partnerships—Rock Cliff Reserve, LLC (Rock Cliff PropertyCo), Jack’s Creek Reserve, LLC (Jack’s Creek PropertyCo), East Village Reserve, LLC (East Village PropertyCo), and Baker’s Farm Nature Reserve, LLC (Baker’s Farm PropertyCo), collectively referred to as the PropertyCos. Five Rivers Conservation Group, LLC (Five Rivers), served as the tax matters partner for each. The case scrutinizes charitable contribution deductions claimed for conservation easements, totaling over $62 million, along with "Other Deductions" claimed in Walton County, Georgia, for the 2015 tax year.

Factual Background

The properties at issue are vacant, unimproved land located in Walton County, Georgia, a rural area approximately 30 miles east of metro Atlanta. The Rock Cliff Property, comprising 184 acres, was previously owned by Christian MM, a limited liability limited partnership. Since around 2011, the Bakers, members of Christian MM, had unsuccessfully marketed the Rock Cliff Property for potential mixed-use development at a price of $1.15 million. The JEB Properties (Jack’s Creek, East Village, and Baker’s Farm), totaling almost 248 acres, were parts of a contiguous former dairy farm tract in Monroe, Georgia, also owned by the Baker family.

Todd Collins, the managing partner of Five Rivers, orchestrated the transactions central to these cases. Five Rivers negotiated the land acquisitions on behalf of the PropertyCos and marketed the deals to investors who would ultimately claim the bulk of the charitable contribution deductions.

Acquisition and Structuring of Transactions In early 2015, Mr. Collins agreed with Mr. Baker Jr. to acquire the Rock Cliff Property for $1.1 million. The transaction was structured such that Christian MM would contribute the Rock Cliff Property to Rock Cliff PropertyCo in exchange for a 98% interest, and Five Rivers would contribute cash for a 2% interest. Subsequently, Christian MM would sell 96% of its interest in Rock Cliff PropertyCo to Rock Cliff InvestCo for $1.1 million, retaining a 2% interest. Christian MM reported the proceeds as long-term capital gain from the sale of land, consistent with the Bakers’ understanding of a "sale of land". Rock Cliff InvestCo ultimately paid Five Rivers $2,486,300, which in turn paid Christian MM $1.1 million.

Similar arrangements were made for the JEB Properties. Mr. Collins negotiated the purchase of these properties for a total of $4,650,000, down from an initial asking price of $4,921,800. The JEB Landowners structured the transactions to involve contributions to PropertyCos, followed by sales of majority interests to investment partnerships (InvestCos). The JEB Landowners also reported the proceeds from these transactions as land sales.

Crucially, the Court observed a pattern of predetermined easement values. The Rock Cliff Letter of Intent, dated March 31, 2015, estimated the future conservation easement’s value at $14,414,400. Mr. Collins claimed this estimate came from Ronald Foster, the appraiser. However, Mr. Foster was not formally engaged until April 30, 2015, a month after the letter of intent was developed. Similarly, Mr. Collins emailed a third-party land broker on April 29, 2015, with an estimated Fair Market Value (FMV) for the JEB Properties of $42,192,000. Yet, Mr. Foster emailed Mr. Collins two weeks later, on May 13, 2015, requesting the address of the JEB Properties. These instances suggested that the appraisal values were agreed upon before actual appraisal work commenced. Mr. Collins marketed these transactions to investors based on an advertised ratio of 4.4 to 1 for charitable contribution deduction to investor cost.

On November 13, 2015, the PropertyCos each donated conservation easements on their respective properties to the Atlantic Coast Conservancy, Inc. (ACC). The Court noted that the members of the InvestCos’ vote on whether to donate the easement was a "foregone conclusion intended to mask the pre-planned nature of the transaction," described by Mr. Collins as a "formality inserted by lawyers to make the transaction ‘be compliant with the Tax Code’".

Taxpayer’s Assertions and IRS Adjustments

On their 2015 tax returns, each PropertyCo claimed substantial charitable contribution deductions for the conservation easements, along with various "other deductions". The claimed charitable contribution deductions were: Rock Cliff $14,665,625; Jack’s Creek $19,005,000; East Village $16,028,333; and Baker’s Farm $13,005,000. The "other deductions" claimed ranged from $998,598 to $2,103,623 per partnership.

The Internal Revenue Service (IRS) examined these returns and issued Notices of Final Partnership Administrative Adjustment (FPAAs), disallowing most of the claimed deductions. The IRS determined that the PropertyCos had not established that they made noncash charitable contributions or gifts, failed to satisfy Section 170 requirements, and failed to establish the values or deductibility of the "other deductions". The IRS also asserted accuracy-related penalties under Section 6662(h) for 40% gross valuation misstatements, and in the alternative, 20% penalties under Section 6662(a) for substantial understatements.

Court’s Analysis of Law

The Court began by noting that the Commissioner’s determinations in an FPAA are generally presumed correct, with taxpayers bearing the burden of proving their entitlement to deductions. However, the Court decided the issues based on a preponderance of the evidence, making the burden of proof inconsequential.

Charitable Contribution Deductions and Qualified Appraisals Section 170(a)(1) allows a deduction for charitable contributions, with the amount generally equal to the FMV of donated property. While gifts of partial interests are generally disallowed, an exception exists for "qualified conservation contributions" if specific criteria are met: a "qualified real property interest," a "qualified organization" donee, and an "exclusively for conservation purposes" donation.

A critical substantiation requirement for noncash charitable contributions exceeding $5,000 is obtaining a "qualified appraisal". For contributions over $500,000, taxpayers must both obtain and attach a qualified appraisal to their return. Failure to comply generally precludes the deduction. For partnerships, these requirements apply at the entity level.

A "qualified appraiser" is an individual who has earned an appraisal designation from a recognized professional organization or met specific education and experience requirements set by the Secretary. They must regularly perform compensated appraisals and demonstrate "verifiable education and experience in valuing the type of property subject to the appraisal".

However, Treasury Regulation Section 1.170A-13(c)(5)(ii) introduces a disqualification rule: an individual is not a qualified appraiser for a particular donation "if the donor had knowledge of facts that would cause a reasonable person to expect the appraiser falsely to overstate the value of the donated property". This disqualification occurs if "the donor and the appraiser make an agreement concerning the amount at which the property will be valued and the donor knows that such amount exceeds the fair market value of the property". The focus here is on the donor’s knowledge, not necessarily the appraiser’s intent. In the context of a partnership, the Court looks to the knowledge of the person with ultimate authority to manage the partnership, which in these cases was Mr. Collins.

Valuation Principles Since market prices for conservation easements are typically unavailable, courts usually employ a "before and after" approach to determine the reduction in property value attributable to the easement. The easement’s value equals the FMV of the property before the easement minus its FMV after the easement. FMV is defined as "the price at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or sell and both having reasonable knowledge of relevant facts".

The Court emphasized that the best evidence of a property’s FMV is the price at which it changed hands in an arm’s-length transaction reasonably close in time to the valuation date. Transactions involving the entity holding the property can also provide evidence of value.

Experts typically utilize the sales comparison approach, the income approach, or an asset-based approach. The sales comparison approach, agreed upon by the parties’ experts, determines FMV by considering sales prices of similar properties in arm’s-length transactions, with adjustments for differences. The property’s Highest and Best Use (HBU) is integral to this approach, as FMV should reflect the "reasonably probable and legal use" that is "physically possible, appropriately supported, and financially feasible and that results in the highest value".

The Court is not bound by expert opinions and may accept or reject aspects of their testimony or determine FMV from its own examination of the record.

Accuracy-Related Penalties Section 6662(a) imposes a 20% accuracy-related penalty for underpayments attributable to negligence, a substantial understatement of income tax (greater of 10% of tax or $5,000), or a substantial valuation misstatement (claimed value 150% or more of correct value).

A gross valuation misstatement occurs when the claimed value is 200% or more of the correct value, increasing the penalty rate to 40%. No "reasonable cause" defense is available for a gross valuation misstatement.

Negligence is defined as a lack of due care or a failure to act as a reasonably prudent person, including inadequate record-keeping or failure to substantiate items. A reasonable cause defense, typically involving reliance on professional advice, requires the advice to come from a competent, independent advisor, not a promoter, and the taxpayer must show good faith reliance. For partnerships, the reasonable cause defense is assessed based on the knowledge and state of mind of the ultimate managing authority, Mr. Collins in this case.

Application of Law to Facts and Conclusions

Disallowance of Charitable Contribution Deductions: Unqualified Appraisals The Court found that Mr. Foster, the appraiser for the PropertyCos, was not a "qualified appraiser" within the meaning of the regulations. This conclusion stemmed from Mr. Collins’s knowledge and actions. The Court determined that Mr. Collins and Mr. Foster had reached a "meeting of the minds" regarding the inflated appraisal values long before any actual appraisal work was performed.

For the Rock Cliff Property, Mr. Collins had negotiated an effective purchase price of $1.1 million for a 96% interest, implying a total value of approximately $1.146 million. Yet, the March 2015 Letter of Intent, developed before Mr. Foster was formally engaged, included an estimated easement value of $14.4 million. The Court concluded that this $14.4 million figure was chosen to facilitate a marketable transaction, not to reflect an accurate appraisal. Similarly, for the JEB Properties, Mr. Collins had negotiated a purchase price of $4.65 million, but an email from Mr. Collins pre-dating Mr. Foster’s engagement showed an estimated FMV of $42.19 million.

Because Mr. Collins knew the true FMV of the properties (Rock Cliff less than $1.5 million; JEB less than $5 million) but implicitly agreed to values significantly exceeding these amounts, he "had knowledge of facts that would cause a reasonable person to expect the appraiser falsely to overstate the value of the donated property". Therefore, Mr. Foster was disqualified as an appraiser, and the appraisals attached to the returns were not "qualified appraisals". The Court found no reasonable cause defense applicable, given Mr. Collins’s knowledge and actions.

Consequently, the Court held that the partnerships are entitled to noncash charitable contribution deductions of zero for 2015, because they failed to secure and attach "qualified appraisal[s]" of the contributed property as required by Section 170(f)(11)(D).

Valuation for Penalty Purposes Despite disallowing the deductions, the Court proceeded to determine the correct FMV of the easements to assess penalties. The Court relied primarily on the actual arm’s-length transactions involving the PropertyCos as the "best available evidence" of the "before" values.

Rock Cliff Property: The $1.1 million sale of a 96% interest in Rock Cliff PropertyCo indicated a total "before" FMV of $1,145,833. The Highest and Best Use (HBU) was determined to be a low-density residential subdivision. Respondent’s expert, Mr. Sellers, provided credible appraisal testimony that was consistent with this value. Petitioner’s expert, Mr. Spears, however, selected highly inappropriate comparable properties, leading to an inflated valuation, and his report was found lacking in credibility.
Jack’s Creek Property: The $1,991,225 sale of a 98% interest in Jack’s Creek PropertyCo indicated a total "before" FMV of $2,031,862. The HBU was a low-density residential subdivision, with a portion subject to a preexisting easement. Mr. Sellers’s valuation of $905,000 was credited.
East Village Property: The $875,373 sale of a 98% interest in East Village PropertyCo indicated a total "before" FMV of $893,238. The HBU was a low-density residential subdivision in the near future. Mr. Sellers’s valuation of $350,000 was credited.
Baker’s Farm Property: The $1,783,402 sale of a 98% interest in Baker’s Farm PropertyCo indicated a total "before" FMV of $1,819,798. The HBU was split between 10 acres of commercial use and 55 acres of low-density residential use. Mr. Spears’s report was found to be riddled with errors. Mr. Sellers’s valuation of $1,590,000 was credited.

For the "after" values (value of the property encumbered by the easement), the Court adopted Mr. Sellers’s determinations because they were lower than petitioner’s experts’ values and thus more advantageous to the partnerships.

Based on these "before" and "after" values, the Court determined the actual Conservation Easement Values:

Rock Cliff: $960,833 ($1,145,833 - $185,000)
Jack’s Creek: $1,906,862 ($2,031,862 - $125,000)
East Village: $838,238 ($893,238 - $55,000)
Baker’s Farm: $1,754,798 ($1,819,798 - $65,000)

Disallowance of Other Deductions The Court upheld the IRS’s adjustments to the "other deductions". Petitioner failed to identify any deductible expenses or offer arguments proving entitlement to these deductions.

Accuracy-Related Penalties The PropertyCos claimed values on their returns that far exceeded the determined correct values.

Rock Cliff: Claimed $14,640,000, Actual $960,833, a 1,523% misstatement.
Jack’s Creek: Claimed $19,000,000, Actual $1,906,862, a 996% misstatement.
East Village: Claimed $16,000,000, Actual $838,238, a 1,908% misstatement.
Baker’s Farm: Claimed $13,000,000, Actual $1,754,798, a 740% misstatement.

Since each partnership overstated the value of the easements by well over 200%, the Court held that the 40% penalty for a gross valuation misstatement under Section 6662(h) applies to the underpayments attributable to these misstatements. This penalty carries no reasonable cause defense.

Additionally, the Court found that the partnerships were liable for a 20% penalty under Section 6662(a) for any portion of the underpayment not attributable to the gross valuation misstatement by reason of substantial understatement of income tax and negligence. Petitioner’s attempt at a reasonable cause defense for these penalties was rejected, as Mr. Collins did not obtain formal tax opinions (believing they "weren’t worth the paper they were written on"), and the partnerships’ own CPA believed the "other deductions" were not deductible. This demonstrated a failure to exercise ordinary business care and prudence.

Conclusion

The Rock Cliff Reserve, LLC decision reinforces the strict substantiation requirements for charitable contribution deductions of conservation easements. The Court’s findings emphasize that pre-arranged valuations, where the donor knows the agreed-upon amount exceeds true FMV, will lead to the appraiser’s disqualification and the disallowance of the entire deduction. Furthermore, reliance on an appraiser who has been effectively "directed" to achieve a predetermined value, rather than conducting an independent analysis, will preclude any reasonable cause defense. The significant valuation misstatements in these cases also highlight the IRS’s and the Court’s willingness to impose the stringent 40% gross valuation misstatement penalty when claimed values dramatically exceed actual FMV, with no relief provided by a reasonable cause defense. This case serves as a stark reminder for tax professionals of the meticulous due diligence required in advising on conservation easement transactions.

Prepared with assistance from NotebookLM.