Tax law changes brought about by the Pension Protection Act of 2006 (“Act”) may make conservation easements an attractive charitable alternative for landowners doing business or estate planning. As a result of Congress’s changes to the Act, landowners can now deduct up to 50% of their adjusted gross income (“AGI”) and carry forward unused portions of their tax deductions for up to 15 years. This a significant departure from the previous limitation of 30% of AGI over a 5 year carry over period. Additionally, qualified farmers and ranchers (taxpayers whose gross income from the trade or business of farming is greater than 50 percent of their gross income for the taxable year) may deduct up to 100 percent of their AGI in each year so long as the use of the land remains primarily agricultural in nature.

These provisions were set to expire at the end of 2007, and there was some discussion that the deductions were in peril, but the Rural Heritage Conservation Extension was recently passed by the U.S. Senate making the deduction permanent.

These changes greatly benefit donating landowners. For example, under the previous law, a landowner with an AGI of $60,000 who donates an easement valued at $300,000 would be entitled to a charitable contribution deduction in the amount of $20,000 (30% of their AGI). Assuming the AGI remains steady, they would be entitled to the same $20,000 charitable contribution deduction for the next four years, for a total of five year, thus receiving only $100,000 in charitable contribution deductions from their AGI for their $300,000 deduction - $200,000 of their deduction expired before it could be used. By contrast, under the new Act and its extension, that same donor would be able to claim a $30,000 charitable contribution deduction until the total value of the donation was exhausted or the 15-year limit runs. Hence, in the tenth year, the donor would have exhausted the total value charitable contribution rather than leaving two-thirds of it unused after five years under the prior method.

As background, to create a conservation easement, a landowner must voluntarily agree to sell or donate certain development or use rights associated with his or her property to a charitable organization or governmental unit. The owner of the easement agrees to hold the right to enforce the landowner’s promise not to exercise those rights. Depending on the nature of the easement, the development rights are forfeited or become the property of the organization or agency holding the right. A conservation easement runs with the land. Thus, conservation easement rights are grounded both in property and contract law. With use and development rights limited, if not completely eliminated, the fair market value of the remaining land is likely to be lower.

While the Act was pending, the IRS reported increased concerns of easement overvaluation to Congress. As a result, Congress now requires that the easement must be valued by a “qualified appraiser.” A qualified appraiser must be accredited by the State or a national organization as well as meet additional education guidelines set by the Treasury Department. The Act also lowers thresholds for taxpayer valuation overstatement penalties and also punishes appraisers for valuation overstatements. The impact of the new penalties for overstatements would effectively wipe out the tax benefit to the donor but not invalidate the donation of the easement to a third party; thus eliminating both the charitable value and development opportunities for the donor.

With the extension of the Act in place, placing marginally productive or ecologically sensitive ground into a long-term conservation easement makes more sense than ever. Large tract owners or land developers may want to consider using conservation easements along riparian waterways or in erosion prone areas to receive tax benefits from ‘retiring’ land that may not be suitable for agricultural production or construction.