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Taxpayer Loses Full Amount of Charitable Deduction, IRS & Court Rule Appraisal “Not Qualified”

Taxpayers are allowed a charitable deduction for the fair market value of certain noncash property donated to charity. As the taxpayers in a recent court case found out, there are stringent rules that determine what an appraisal must contain in order to be considered qualified. If these rules are not followed, the entire deduction could be lost. The taxpayer in this recent case found out the hard way that her tax return contained a nonqualified appraisal. The IRS even tried to assess penalties against the taxpayer. We believe that this IRS victory will cause even closer examination of appraisals that are attached to income tax returns.

On July 14, 2010, Judge Cohen issued a memorandum decision regarding the case, Scheidelman v. Commissioner of Internal Revenue (T. C. Memo. 2010-151, Docket No. 15171-08). Below is a quick summary of the facts of the case and the decision.

The taxpayer was a fee simple owner of a property on Vanderbilt Avenue within the Fort Greene Historic District in Brooklyn, New York. The Fort Greene Historic District is designated a “registered historic district” as defined by the Secretary of the Interior through the National Park Service and a historic district by New York City and its Landmarks Preservation Commission. In June 2004, the taxpayer executed a historic conservation easement deed with National Architectural Trust. The easement restricted the use of the property.

The taxpayer hired an appraiser to determine the decrease in fair market value of the property caused by the restrictions placed on the property because of the easement. The taxpayer claimed a federal income tax deduction equivalent to this decrease in fair market value, appraised at $115,000.

In the notice of deficiency sent to the taxpayer, the IRS stated that the deduction for a charitable contribution of property was not allowed because, based on all available information, the taxpayer had not established the fair market value. The IRS claimed the appraisal report did not meet the guidelines of the Regulations. Specifically, the report was not a qualified appraisal as it did not describe the property contributed, it did not include the terms of the deed of easement, it did not include a statement that it was prepared for income tax purposes, and it did not provide the method and specific basis for valuing the easement. Therefore, the IRS disallowed the charitable contribution deduction of property in full.

The Court found that the most critical deficiency was the valuation methodology. It found that “no meaningful analysis was provided” in support of the easement’s value. Thus, the Court concluded that the report was not a qualified appraisal and thus disallowed the charitable contribution deduction of property in full. Fortunately for the taxpayer, the Court denied the IRS's request for a 20% accuracy-related penalty based on the taxpayer's lack of tax and appraisal expertise, and reasonable reliance on the CPA and the appraiser.

In most valuation cases, the IRS has typically focused on the value of the asset. In Scheidelman, the quality of the appraisal report was central to the case. With this win for the IRS, this case is likely to be the first of many that the IRS tries on the basis of the qualifications of the appraiser or the report. In addition, it is a signal from the Tax Court that appraisals will be thoroughly reviewed as to whether they meet the standards in the Regulations. If utilizing a valuation for tax purposes, be careful to examine the qualifications of the appraiser, his appraisal reports, and the firm with which he is associated. At Blackman Kallick, we welcome this decision as our firm has always maintained the highest standards in issuing appraisal reports and makes sure that they meet the standards required of them in the Regulations.

For more information regarding this court case or how to better assure that an appraisal you will rely upon for tax purposes can withstand scrutiny, please contact Richard Lies, CFA, ASA, Senior Manager, at 312-980-2922 or rlies@blackmankallick.com or your Blackman Kallick representative.
 

This publication is part of Blackman Kallick’s marketing of professional services, and is not written tax advice directed at the specific facts and circumstances of any person and/or entity. Contents of this publication are of a general nature, and you should not act on this information without obtaining professional advice from your business advisor that is appropriately tailored to your individual needs and circumstances. This written advice is not intended or written to be used, and cannot be used by any taxpayer, for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code.