Syndicated conservation easements (SCE) are a unique investment that can bring valuable tax deductions to investors, but in recent years, these investments have faced intense scrutiny by the Internal Revenue Service (IRS). Billions of dollars of deductions have been disallowed. The IRS has also assessed penalties and interest on investors and brought criminal charges against promoters.
Many financial advisors and tax planners see SCE investments as a gamble, with investors betting on industry lawyers and lobbyists over the IRS. However, despite recent scrutiny, conservation easements can still be a legitimate way to converse land and earn tax deductions. Conservation easements have been around in some form or another since the 1800s, and the IRS made the tax deduction permanent over 40 years ago in 1980.
This post explains what to consider if you’re thinking about investing in a syndicated conservation easement and what to expect once you’ve invested. To get guidance now, contact us at Wiggam Law.
Tax Benefits of Conservation Easements
When landowners donate a conservation easement to a qualifying charity, they can claim a tax deduction worth the difference between the property’s fair market value before and after the easement. For example, if the land’s fair market value is $10 million without the easement and $1 million with the easement, the deduction is worth $9 million.
Landowners can claim a deduction worth up to 50% of their adjusted gross income and carry forward the deductions for 15 years. Claiming SCE Tax Deductions
A syndicated conservation easement works the same as a traditional conservation easement. Still, it allows multiple investors to band together to buy land, donate an easement, and claim the resulting deductions.
When you become involved with a syndicated conservation easement, you become a partner in a limited liability company. At the end of the year, you receive a K-1 detailing your basis, tax deductions, and other relevant details.
Previously, you reported this information on your tax return just like any other pass-through income. You should still do that and file Form 8283 (Noncash Charitable Contributions) as required. However, as of October 7, 2024, the IRS and the Department of Treasury have issued final regulations labeling SCE deductions as listed transactions, which triggers additional reporting requirements.
What Are Listed Transactions?
A listed transaction is a transaction that you’re required to alert the IRS about so they can easily audit or disallow it. If you claim an SCE deduction, you must file Form 8886 (Reportable Transaction Disclosure Statement), and if applicable, you may also need to file Form 8918 (Material Advisor Disclosure Statement).
Audit Risk for Conservation Easements
Your audit risk increases when you have a listed transaction on your tax return, and the risk is even higher with SCE deductions. According to Carolyn Schenck, IRS National Fraud counsel, “The IRS is auditing 100 percent of these cases…We’re finding that these transactions are abusive, riddled with outlandish facts, questionable dealings, and papered with documents that on their face raise issues to even the least discriminating eye.”
During many SCE audits, the IRS has focused on technical errors such as incomplete forms, inaccurate property deeds, or appraisal records with missing information. The agency also examines the syndicate’s charitable intentions.
Additionally, when the IRS audits a listed transaction, the agency almost always does a valuation audit. The IRS generally audits the partnership itself rather than the individual investors.
This is good news for investors as it allows you to avoid much of the audit’s cost. It also underscores the importance of working with an easement fund with a legal defense reserve and experience dealing with valuation audits.
What If You Fail an SCE Audit
If the IRS decides to disallow your SCE deduction, you will owe the taxes you saved when you reported the deduction, plus interest and penalties.
To give you a rough example, imagine an investor who made a $50,000 investment that led to a $100,000 tax savings. If the IRS assesses a gross misvaluation penalty of 40%, which increases the liability to $140,000, the agency will backdate interest to the return’s original due date.
You may be able to cover the liability with the gains on the $100,000 you saved when you invested in the SCE, but that may be unlikely, depending on how you invested the savings. Other options include setting up an installment agreement that subjects you to more interest, working the collections system, or pursuing a class action lawsuit against the promoters.
State Tax Implications
In addition to the federal tax liability, you will also incur a state tax liability plus interest and penalties. If you are not currently under investigation or facing an audit, you may be able to minimize penalties and interest on the state level by coming forward voluntarily.
Many states, including Georgia, have a Voluntary Disclosure program that may work for your situation. Always consult with a tax attorney before filing a voluntary disclosure on the federal or state level.
Settlement Offers
The IRS has sent settlement offers to many SCE investors. The offers remove most of the tax benefits and apply a penalty, but the penalty is significantly lower than what the IRS has imposed and upheld by the Tax Court in most cases.
If you did not receive a settlement offer, you are not eligible to participate, and you should contact a tax attorney to talk about the best options in your situation. If you are in the midst of an audit or exam when you receive the letter, you can opt to accept the settlement. If you don’t, you may face enforcement actions, including disallowance of deductions, penalty assessments, and collection actions.
What to Consider Before Investing in an SCE
If you’re aware of the risks but still interested in pursuing an SCE investment, consider the following as you evaluate different opportunities:
- Promoters: How long has the promoter been in this space? How often have their partnership returns been audited? Did they pass the audits? How did they fund the legal costs for the audit and appeals?
- Land valuation process: Who is doing the appraisal? Will there be a peer review or multiple appraisals? What type of documentation does the appraisal include, especially in relation to comps or expert opinions of the highest and best use of the land?
- Valuation multiplier: As an investor, you want the highest number possible, but the higher the number, the more likely you are to face IRS scrutiny.
To protect yourself, consider talking with a tax attorney who is experienced with SCE deductions, SCE audits, and legal challenges.
New Rules for Syndicated Conservation Easements
Before investing in a syndicated conservation easement, you should be aware of the new rules affecting these transactions.
In December 2022, the government finalized the SECURE 2.0 Act, a $1.7 trillion funding bill that included a set of rules aimed at ending abuse of SCE deductions. The legislation states that an owner of a pass-through entity cannot claim a charitable tax deduction if the value of their allocation of a conversation easement contribution exceeds 2.5 times their adjusted tax basis.
In other words, if an investor buys into an SCE fund that promises a deduction worth four times their investment, the IRS has the statutory authority to disallow the deduction and assess penalties.
The new rules have made SCE investments a tax-neutral decision, effectively eliminating the benefits for most investors. However, there are exceptions designed to protect legitimate easements.
If the pass-through entity has held the property for more than three years and each member has also had an interest for at least three years, the basis limitation does not apply. Investors that meet this timeline can claim charitable deductions that exceed their basis by 2.5 times or more. The law also contains exceptions for family-owned pass-through entities and contributions related to historic structures.
Green Flags for Legitimate SCE Contributions
If you’re still interested in investing in an SCE or if you’re worried about your previous investment, here are some signs that the opportunity is legitimate and likely to pass IRS scrutiny. Keep in mind that this does not constitute legal advice.
- You’re working directly with a land owner – Many farmers, ranchers, or other landowners have a vested interest in preserving their land while also earning tax credits. They may draw in outside investors through the process.
- The marketing materials don’t promise more than a 2.5 times return – Based on the new rules, you may not be able to claim a deduction worth more than 2.5 times your initial investment.
- The partnership has owned the land for at least three years – Owning the land for at least three years helps you avoid the deductions limitations based on cost basis, but each individual investor must also be a part owner for at least three years.
- There is a legitimate conservation intention – When reviewing these cases, the IRS has repeatedly noted a lack of legitimate conservation intention. Only work with LLCs that appear to be legitimately interested in conservation or have seriously considered developing or holding the property and donating the easement.
- You’re buying tax credits from a landowner – Investing in an SCE is not the only option. Some investors buy tax credits directly from landowners who have donated a conservation easement on their land but don’t have enough income to benefit from the contributions.
Again, SCEs are a highly complex area of the tax code, and they face a lot of IRS scrutiny and a high audit risk. Before investing, consult with a tax attorney or experienced CPA. Check out our analysis of legitimate vs. abusive SCE investments.
FAQs for Prospective Investors
Should I invest in a conservation easement?
Conservation easements can provide an investment opportunity that comes with environmental benefits and tax savings for investors, but these investment vehicles have been abused at very high rates. Many investors have had their deductions disallowed years after filing, leading to an unexpected tax liability plus interest and penalties.
Before investing in a conservation easement, research its legitimacy and talk with an experienced tax attorney or accountant before finalizing your decision.
What are the disadvantages of a conservation easement?
The disadvantage for landowners is that a conservation easement restricts how they can use the land, and it often reduces the fair market value of the land as the easement’s restrictions pass on to future owners. For investors, the only disadvantage of a conservation easement is the risk of getting involved with an abusive promoter and claiming a disallowed deduction, which results in additional taxes, penalties, and interest assessed against the investor.
What are the risks for investors?
Investors risk having their deductions disallowed and incurring interest and penalties. To protect yourself, talk with a tax attorney and consider the experience of the general partners who are involved with the SCE. In these cases, if the deal looks too good to be true, it will probably lead to future problems.
What is the IRS’s position on conservation easements?
The tax code provisions related to conservation easements are over 40 years old, and the IRS has been approving deductions and credits related to conservation easements through that time. However, in the last decade or so, the IRS has labeled syndicated conservation easements as one of its dirty dozen tax scams.
Contact Wiggam Law Today
The Office of Fraud Enforcement and the National Fraud Counsel are actively working with auditors and IRS attorneys to look for fraudulent SCE claims, and they are referring many cases for criminal investigation. To protect yourself, be very careful with these investments and consult with an experienced SCE attorney whenever possible.
At Wiggam Law, we can help with your SCE concerns. Contact our legal team today if you’re considering an investment, worried about a past SCE investment, dealing with an audit, or facing another situation. For a consultation with our team or, call us at (404) 233-9800.