A CREDO TAX PLANNING STRATEGY SOLUTION
CONSERVATION EASEMENT: What You Need to Know When Investing
This whitepaper discusses the basics of conservation easement, its costs and benefits, and how you can incorporate it in your tax planning strategies. Be vigilant though and make sure you consult with an experienced and trusted tax advisor like Credo CFOs & CPAs who continuously monitors the developments on the Act and the easement program to make sure that you are leveraging on the potential tax benefits easement donations while complying with the law.
Thanks to conservation easements, a number of high-net-worth investors have saved significantly on taxes. While investing in a conservation land is restrictive, the willingness to deal with the limitations are rewarding as it’s a good way to purchase a land or property at low cost. But when doing so, you need to be ready to adhere to the terms of your easement.
WHAT IS A CONSERVATION EASEMENT?
A conservation easement is a legal contract that permanently restrains the use of elected land for conservation purposes which could be any of the following:
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Fortification of natural habitat of fish, wildlife, plants, or ecosystem
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Conservation of land areas for outdoor recreation or education of the public
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Protection of historically significant land or historical structures
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Preservation of open space
This said agreement gives a government agency or a local land trust the right to manage the land. Private landowners can also own conservation easements, but are typically managed by 501(c)(3) conservation organizations or government bodies. As conservation easements are permanent, landowners who donate their land for conservation and investors who purchase a land that falls under easement both reap some tax benefits in return.
BENEFITS OF BUYING A LAND OR PROPERTY WITH A CONSERVATION EASEMENT
Smart Way to Buy a Property or Land on the Cheap
Buying a conservation land or property means adhering to the terms of the easement. Despite the restrictions of an easement, investing in such property can result in major savings. It’s a good investment and a smart way to buy a property or a land on the cheap for those who are willing to deal with the restrictions.
Major Tax Savings
Investing in conservations easements has been alluring for investors as oftentimes, the deductions on their taxes are far more than the amount that they put into the easement. The amount to be deducted is identified once an appraisal is done with land being valued according to the highest and best use of it. After which, the land is then valued factoring in the conservation easement (since it is a permanent agreement affecting all future owners). The charitable contribution amount spells the difference between the two assessments.
Buying a Land with Only a Portion of It is Considered a Conservation Easement
It is also possible to purchase a property or land where only a portion of it is considered a conservation land. This way, there are not so much restrictions to deal with. An example is buying a land with 25% of it falls under easement (which gives you still a lot of space to use).
Conserve Some Unique Land Features / Owning a Land with Distinct Features
Another advantage of investing in a property or land with easement is that you are able to conserve some unique land features or a vegetation (as easement prevents future owners from modifying the land’s original habitat). This results to owning a landing with distinct features (something that can’t be easily found just anywhere).
Eligibility for Investing in a Conservation Easement
To invest in a conservation easement, you ideally need to earn more than $500,000.
Conservation easements are not for everyone. The ideal participant would need to earn more than $500,000, though accredited investors are eligible. You don’t have to be a landowner to take advantage of conservation easements. Syndicated conservation easements allow investors to partner with landowners to take tax deductions well above the money that they invest.
HOW TO DETERMINE IF THE PROPERTY OR LAND HAS A CONSERVATION EASEMENT
Reviewing the property’s or land’s deed and land survey is the first step in identifying if it has a conservation easement. And to know the restrictions on the easement, you have to request a copy of the legal agreement that outlines the terms from the seller. You also need to check with the National Conservation Easement Database for a copy of the files needed.
DRAWBACKS OF BUYING A PROPERTY OR LAND WITH CONSERVATION EASEMENT
Drawbacks of Buying a Land or Property with a Conservation Easement
The restrictions that a conservation easement entails should always be considered when you’re planning to buy a stretch of land. If your goal is to build a home in such land, you have to take note that some portion of the land cannot be developed (which makes your land smaller).
Buying a large piece of land with a conservation easement also prohibits or limits subdivision. So you have to carefully consider this before investing in such property.
If the land would be used for farming, you have to consider that a conservation easement prohibits building a barn or any permanent structure.
Drawbacks of Buying a Home with a Conservation Easement
Building permanent structures is one of the limitations when buying a home with a conservation easement. Restrictions would include:
- Putting up a fence, retaining walls, sheds, other structures that are permanent in nature
- Altering the natural habitat of the property (removal of trees, bushes, shrubs unless they pose a major hazard to your property or nearby properties.
Another major drawback that can be encountered is the struggle to sell a home with a conservation land. Future buyers might not be comfortable dealing with the restrictions. Or if ever you find a buyer who is comfortable with the restrictions, there’s a chance that you might not be able to sell it based on the price that you want.
THE 2021 CHARITABLE CONSERVATION EASEMENT BILL
The “Act”
The Charitable Conservation Easement Program Integrity Act (“Act”) by Congress by Rep. Mike Thompson (D-CA), Senator Steve Daines (R-MT), and Senator Debbie Stabenow (D-MI) would likely change the rules on tax deduction for conservation easements . Once this bill has been enacted, the ambiguities that, according to the IRS (Internal Revenue Service), are being used by syndicated investor groups for abusive purposes would be eliminated. Unfortunately, the likely changes on the policy could potentially affect those who are using conservation easement in good faith since it would no longer allow deductions exceeding 250% of the real investment value of any partner.
FREQUENTLY ASKED QUESTIONS
What are the federal tax benefits associated with conservation?
The federal benefits associated with land conservation are not federal tax credits, but are instead non-cash charitable contributions specifically granted for conservation under Section 170(h) of the Internal Revenue Code.
In 2014, this deduction can reduce a taxpayer’s federal taxable income, and it is limited to thirty percent (30%) of an individual taxpayer’s adjusted gross income or ten percent (10%) of a corporation’s federal taxable income.
Active and proposed legislation is expected to be passed which would allow for the thirty percent (30%) limitation to be increased to fifty percent (50%), thereby allowing individual taxpayers to further reduce current tax burdens.
How are the federal tax benefits received?
A taxpayer who becomes a limited partner in a partnership will be allocated their portion of the federal and state tax benefits subsequent to the partnership electing to conserve the property under the terms of the partnership’s operating agreement.
How are the federal investments priced?
While every project varies, there are general return-on-investment windows that taxpayers generally see from conservation. Federal benefits are typically priced between a 3.0-to-1.0 and a 4.0-to-1.0 ratio. As an example, at a 4.0-to-1.0 ratio, a taxpayer receives $4.00 in deduction for every $1.00 invested. The ratio is dependent on both supply and demand, as well as the other economic and non-economic returns expected in the project.
What about state tax benefits, are those available?
In most states, the federal benefits can also be taken at the state level to reduce taxable income. Additionally, several states also offer a state tax credit for conservation of land within the state. These tax credits are a direct dollar-for-dollar reduction in state tax liability. Colorado, Georgia and Virginia offer some of the best conservation tax credit programs.
How are the state tax benefits priced and how much should I invest?
While each state has its own rules and regulations specific to the amount of credits a taxpayer can use in any given year, pricing for these benefits is generally similar from state to state. Tax credits from Colorado, Georgia and Virginia are generally priced around $0.85 per $1.00 of credit.
In certain states, taxpayers can buy a certificated state conservation tax credit from a project that has already been conserved. In 2014 individual taxpayers in Georgia can offset up to $250,000 in taxes per year and corporations can offset up to $500,000 in taxes per year.
If part of a conservation project, will I have a complicated process when I file my tax return?
Not at all. The project manager will provide us with an investment book and web access to documents needed to file your tax return. Credo will simply need to include a few additional forms when filing your return, all of which are included on your secure web folder.
What other economic returns on investment can I expect, outside of the tax savings?
All conservation projects include significant economic benefits beyond the potential tax attributes. These projects often offer our clients benefits that stem from access and use of the property, including hunting, fishing, golfing, riding horses or ATVs, and hiking. In some instances, naming rights for public parks and green space may also be available.
Further, the other potential revenue streams available to all partners may include items such as timber, farming or ranching leases, future land sales from both developable and conserved property.
Can I invest in conservation projects every year?
Yes, in fact Credo works with many taxpayers on an annual, semi-annual, and quarterly basis. There are two general approaches which our clients typically consider:
- participating annually or semi-annually in a manner that maximizes the federal and state benefits allowed for the current year; or
- participating once every two years and carrying-forward unused benefits from the first year to cover anticipated need in the second year.
There is no right or wrong answer, so each taxpayer should consider what works best for their particular situation.
If part of a conservation project, will I have a complicated process when I file my tax return?
Not at all. The project manager will provide us with an investment book and web access to documents needed to file your tax return. Credo will simply need to include a few additional forms when filing your return, all of which are included on your secure web folder.
Are conservation projects deemed to be a sale of securities?
Taxpayers gaining conservation benefits through a partnership model are purchasing a security as defined by the SEC. Therefore, taxpayers should confirm that any firm offering these investments is duly licensed by these federal regulatory organizations, even if the security itself is a Private Placement. Such firms are required to adhere to stringent SEC and FINRA regulations which have been established to protect investors.
Purchasing interests from groups or individuals who are not licensed means that these groups are operating without the proper governmental oversight designed to protect investors. Only certificated state tax credits are deemed to not be securities, and therefore fall outside of the regulatory purview of the SEC and FINRA.
Will investing in conservation projects increase my risk of audit?
While there is no information published by the IRS specific to this point, it is Credo’s belief based on numerous conversations with involved parties around the country that about 10% of all conservation transactions are audited.
Based on a study conducted by Forbes Magazine and Vogul Consulting, the average taxpayer making $1 million or greater already has an audit risk of about 14% merely due to their income level. Typically, under an audit, the IRS focused on two key components for conservation transactions:
- Did the taxpayer properly complete and file the necessary paperwork with their tax return?; and
- Was the valuation of the conserved property accurate?
To mitigate the first point, qualified tax attorneys and 3rd party, independent CPAs ensure that taxpayers are provided complete, accurate documentation for their tax returns. To address the second point, the projects undergo a two-step valuation process which includes having a qualified, experienced, and knowledgeable conservation appraiser prepare the valuation and then have that appraisal audited by a second outside conservation valuation expert. This process ensures that the correct value has been derived in accordance with IRS regulation.
What information will Credo need in order to help me better understand how conservation benefits can reduce my tax liability?
In order to complete an investor benefit analysis for a particular project, Credo will need a copy of the first two pages of your previous year federal and state tax returns, your Schedule A Itemized Deductions, as well as your income projections for the current year.
When can I expect to make my investment?
Taxpayers wanting to mitigate their 2014 federal and state tax liability will need to be part of a project in calendar year 2014 before the property is conserved. Most conservation projects close between early September through December, so taxpayers should plan accordingly and make their investment before projects are fully subscribed for the year.
How can I learn more about conservation tax benefits and whether they are right for me?
We encourage you and your advisors to contact Credo directly with any questions regarding the benefits associated with conservation easements. It is our belief that only after completing a thorough analysis of the risks and benefits should the taxpayer make a decision.
Credo continues to help savvy taxpayers and their advisors implement “Green, Sustainable & Socially Responsible” tax mitigation strategies.
CONSULT WITH CREDO
When investing in a land, property, or home with a conservation easement, you need to weigh the pros against the cons because of the restrictions that a CE entails. Despite the financial incentives that serve as catalyst for conservation, this entails the need for proper planning and an independent legal advice. Seeking the help of an experienced conservation easement advisor ensures that your assets are protected.
