Charitable deduction not allowed for conveyance of land preservation easement.

• Author: Beavers, James A.
• Position: 2015 Tax Court memorandum decision in Costello v. Commissioner

The Tax Court held that taxpayers were not entitled to a charitable deduction for conveying a land preservation easement on their farm to a county to secure the county's permission to sell development rights related to the property to a third party.

Background

In 2000, David and Barbara Costello purchased Rose Hill Farm (Rose Hill) in Cooksville, Howard County, Md., for $1,682,556. Rose Hill occupied 73.6 acres and included a working farm, a residence, and a three-car detached garage. The Costellos made numerous improvements to the property and, as a result, by 2006, their total cost basis in Rose Hill was $1,977,556.

In 1992, Howard County enacted a set of zoning provisions designed to conserve farmland and preserve rural and scenic landscapes, which created the Agricultural Land Preservation Program (ALPP). Through this program, the county acquires land preservation easements that restrict the exercise of development rights on qualified agricultural land. The objective of the ALPP is to keep county land available for farming and to cluster residential development elsewhere, minimizing its impact on agricultural areas.

Under the ALPP, the county can acquire land preservation easements in three ways. First, it can purchase from a landowner the development rights pertaining to property and then extinguish those rights. Second, a landowner can donate his or her development rights to the county. Third, a landowner can place an easement on his or her property in return for the county's allowing the landowner to sell the development rights to a third party, in what is called a density exchange.

A development right is, essentially, the right to build a residence on the land. In a density exchange, the third party can apply the purchased development rights to another parcel of land, thereby increasing the development density allowed on that land. However, Howard County must approve such a sale, and before the county will approve a sale of the development rights for a parcel of land, the landowner selling the rights must encumber the land with an easement that eliminates all future development potential for the land.

The Costellos, after purchasing Rose Hill, sought to participate in the ALPR They entered into discussions about the program with Howard County in 2001, and the county offered to buy their rights for $375,000. The Costellos rejected this offer and instead began to look for a buyer for their development rights.

In 2005, the Costellos executed a contract to sell 16 of the 17 development rights associated with Rose Hill to Kennard Warfield, a developer, for $2.56 million. Warfield was required under the final contract to make a $1.2 million down payment toward the purchase price with the balance to be paid later. As required by the ALPP, the Costellos conveyed an easement to Howard County that severed the development rights from Rose Hill and prohibited all future development on the property.

The Tax Reporting of the Transaction

The appraisal: In 2007...