Court Opinion

ID: 4635930
Source: CourtListenerOpinion
Date Created: 2020-11-24 21:49:58.327034+00
Date Added: 2024-06-11T07:58:27.427448
License: Public Domain

T.C. Memo. 2020-159

                        UNITED STATES TAX COURT

     KUMAR RAJAGOPALAN AND SUSAMMA KUMAR, Petitioners v.
        COMMISSIONER OF INTERNAL REVENUE, Respondent

            WARREN C. SAPP AND JAMIKO SAPP, Petitioners v.
           COMMISSIONER OF INTERNAL REVENUE, Respondent

      Docket Nos. 21394-11, 21575-11.              Filed November 19, 2020.

      Michelle A. Levin, Ronald A. Levitt, Gregory P. Rhodes, and David Mace

Wooldridge, for petitioners.

      Clint Locke and Christopher A. Pavilonis, for respondent.

            MEMORANDUM FINDINGS OF FACT AND OPINION

      HOLMES, Judge: Conservation easements are to the Commissioner what

aunts are to Bertie Wooster: “It is no use telling me there are bad aunts and good
                                         -2-

[*2] aunts. At the core, they are all alike. Sooner or later, out pops the cloven

hoof.” P. G. Wodehouse, The Code of the Woosters 40 (2d Vintage Books ed.

2015). The cloven hoof in these cases is attached to an LLC named SS Mountain,

which assembled and then divided a tract of property into one part for a small

development of large homes and into another part with a conservation easement,

all at the very peak of an amazingly frothy local real-estate market in 2006.

      The Commissioner’s expert testified both that the easement was donated at

nearly the top of the market and that the property unencumbered by the easement

was worth less than the donor had paid to acquire it. Petitioners’ expert agreed

that the easement was donated at nearly the top of the market but concluded that

its value unencumbered by the easement was less than what a contemporaneous

bank appraisal said it was. It turns out, however, that there is unusually good

transactional information about this property. The transactions were largely

between well-informed, unrelated parties who relied on contemporaneous

appraisals and put their own money at risk. Warren Sapp, one of the petitioners in

these cases, but wholly unschooled in the arcana of real-estate valuation, observed

at trial that “if [the property’s] not worth it, the bank [won’t] loan you the money.”

      We must decide whether Sapp or Wooster is the wiser.
                                           -3-

[*3]                           FINDINGS OF FACT

I.       SS Mountain, LLC

         Kumar Rajagopalan and Warren Sapp were members of SS Mountain, LLC,

a North Carolina LLC formed in September 2004. Less than a month before SS

Mountain’s formation, some of its future members began buying up land in

Haywood County, North Carolina--a mountainous area in the western part of the

state. They bought seven parcels between August 2004 and July 2005 for a total

of just under $3 million. Here’s a summary (and we’ve included the data for the

sales before the sale to SS Mountain to show something of the remarkable price

trends the trial unveiled):

                                                                          Price-per-
                                                                           acre of
                              Site size      Price-per-    Previous       previous
     Sale date   Sale price   (in acres)        acre       sale date         sale
 August
  2004            $495,000       13.03      $37,989.00    May 19881        $1,760.95
 August
  2004             763,000       47.383      16,102.82    April 2003        4,801.30

         1
         Note that this was a purchase for a slightly larger piece of land--18.03
acres, to be exact.
                                          -4-

 [*4]
 October                                                    January
  2004             370,000       19.50       18,974.36       1997          3,333.332
 December                                                                   Price
  2004             750,000       30.29       24,760.65    April 2001      unknown
 July 2005                                                  August
                   575,000       10.03       57,328.02       1988           1,769.69
  Total          2,953,000      120.233         N/A           N/A            N/A

        These purchases were all completed at arm’s length and financed by banks

after the completion of their own appraisals. At the beginning of 2005, the first

group of parcels was transferred to SS Mountain by the member in whose name it

had been bought. SS Mountain bought the fifth parcel in its own name in July

2005.

        Credible testimony described the natural beauty of this corner of western

North Carolina. And now that SS Mountain owned one big, beautiful piece of it,

the members had to decide what to do. The land was only two miles from an exit

off Interstate 40, in a part of the state where luxury homes for out-of-staters had

begun to take root and flourish. The members met with Fred Bonci--a land

        2
        There was another sale of this property in March 2004 for $31,750, or
$1,538.46/acre. We do not know what caused the almost 50% decrease in value
between 1997 and 2004, nor what explains the more-than-twelve-times increase in
value between March and October 2004. However, excluding the March 2004
sale as a clear outlier, the general trend from 1997 to 2004 is consistent with that
for the other plots acquired by SS Mountain.
                                        -5-

[*5] developer who had worked on the development of the Biltmore Estate--to

discuss their options. And as they saw it, there were only two: subdivide the

entire parcel and sell the lots as homesites for “a whole bunch of money;” or

subdivide some and keep the rest as beautiful as it was in its natural state. One

plan would have led to a residential subdivision of 37 lots. The other would create

only a 12-lot subdivision with open space on the rest. They chose the latter.

      To implement this plan, the members spoke with a number of professionals.

Carol King, a local CPA, advised them of its tax benefits. Cindy Eller, a local

lawyer with the Van Winkle Law Firm, advised the members about the mechanics

of donating an easement. And Dave Roberts, a qualified appraiser, completed an

appraisal of the potential easement.

      While the paperwork for the conservation easement was being worked out,

SS Mountain began selling lots in the soon-to-be 12-lot subdivision. The lot sizes

ranged from 1.53 acres to 5.61 acres. In August 2006, Dr. Kumar contracted to

buy Lot 7, which was roughly 3.6 acres in size, for $750,000. In September, SS

Mountain sold two lots of two acres each: Lot 1 went to DC Wrightway

Investments, LLC; and Lot 3 went to Kennard Campbell. It also sold a third lot of

approximately 1.8 acres--Lot 9--to Don Danielson. The latter three buyers paid

$750,000, and none were members of SS Mountain. All the buyers, including Dr.
                                       -6-

[*6] Kumar, also placed their own money--deposits that ranged from $5,000 to

$100,000--in escrow when they contracted to buy these lots. Here is a summary of

these transactions:

                                                        Amount      SS Mountain
             Party                 Transaction         in escrow      member
 Kumar                            Contracted to         $100,000        Yes
                                purchase Lot 7 for
                                    $750,000
 DC Wrightway                     Contracted to           75,000         No
  Investments, LLC              purchase Lot 1 for
                                    $750,000
 Campbell                         Contracted to           75,000         No
                                purchase Lot 3 for
                                    $750,000
 Danielson                        Contracted to            5,000         No
                                purchase Lot 9 for
                                    $750,000

      That same month, HomeTrust Bank lent SS Mountain $5 million secured by

the 12 lots. We note this is $2 million more than it cost SS Mountain to assemble

the entire 120 acres. But HomeTrust had itself completed an appraisal of those

lots, which showed each had a value of more than $750,000. As part of the

financing deal, HomeTrust included a clause that required SS Mountain to sell the

remaining lots for a minimum of $750,000 each. And Haywood County tax
                                         -7-

[*7] records3 show that ten of the lots had values that ranged between $875,240

and $2,102,320 as of January 1, 2006.4

      On November 28, 2006, SS Mountain contributed a conservation easement

over 89.378 acres to the North American Land Trust (NALT). The parties

stipulated that the NALT was a qualified charitable organization and that the

easement was exclusively for a conservation purpose. One provision in the

easement allowed the parties to agree to amendments, but only those

      which are not inconsistent with the Conservation Purposes; provided,
      however, that Holder [i.e., the NALT] shall have no right or power to
      agree to any amendments hereto that would result in this
      Conservation Easement failing to qualify as a valid conservation
      agreement under the “State Conservation Easement Law”, as the same
      may be hereafter amended, or as a qualified conservation contribution
      under Section 170(h) of the Internal Revenue Code and applicable
      regulations.

      3
        The Haywood County property tax records were from 2008. North
Carolina law requires that real estate be appraised at least once every eight years.
See N.C. Gen. Stat. § 105-286(a) (2006). Haywood County, however, had chosen
to reappraise the properties every four years, beginning in 2002. See FAQs
Taxes--Property Reappraisal, Haywood County, NC, https://
www.haywoodcountync.gov/Faq.aspx?TID=31 (last visited Sept. 2, 2020).
Therefore, the values on the 2008 tax records actually show the appraised value as
of January 1, 2006--the year of donation. See Haywood County Finance
Department, Comprehensive Annual Financial Report for the Fiscal Year Ended
June 30, 2010, at 133 (2010).
      4
       Lot 11 was the only one that had a low value--only $67,720. The record
has nothing to explain why this property is an outlier.
                                        -8-

[*8] After SS Mountain granted this easement, it still had 8 unsold lots. Sapp

bought Lot 6 from SS Mountain on September 21, 2007 for $1.1 million.

HomeTrust Bank lent him $900,000 for the purchase based on an independent

appraisal--which showed the lot was still worth at least $900,000.

      SS Mountain realized it couldn’t close these sales contracts “until the roads

were in and the electric was in”--something that it had not anticipated. And this

couldn’t be done quickly--it involved dynamiting some of the land to build the

roads--which meant further delays. And during this delay, as many Americans are

painfully aware, the market began to crumble in 2007. This combination of the

initial delay and then the subsequent market crash caused at least some of the

contracts for lots within the soon-to-be subdivision to not close.

II.   Reporting

      SS Mountain timely filed its 2006 Form 1065, U.S. Return of Partnership

Income,5 in July 2007. On its Form 1065, SS Mountain reported a noncash

charitable contribution of $4,879,000 for the donation of the conservation

      5
         Although SS Mountain is an LLC, it files its returns as a partnership as
permitted by regulation. See sec. 301.7701-3(a), Proced. & Admin. Regs.
Partnerships don’t actually pay taxes, but file a Form 1065 as an information
return, and the income “flows through” to its partners. See sec. 701; 6611, Ltd. v.
Commissioner, T.C. Memo. 2013-49, at *4 n.3, *44. (All section references are to
the Internal Revenue Code in effect for the year at issue, and all Rule references
are to the Tax Court Rules of Practice and Procedure, unless we say otherwise.)
                                          -9-

[*9] easement to the NALT. It attached a qualified appraisal of the conservation

easement. It then issued Schedules K-1, Partner’s Share of Income, Deductions,

Credits, etc., to the partners, including Kumar and Sapp.

       The Kumars timely filed their Form 1040 for 2006 in October 2007. They

claimed a flowthrough noncash charitable contribution of more than $190,000 for

the donation of the conservation easement. The Sapps also timely filed their Form

1040 for 2006. They claimed a flowthrough noncash charitable contribution of

more than $2.1 million for the donation. Both the Kumars and the Sapps attached

qualified appraisals to their returns.6

III.   Audit and Trial

       The Commissioner issued notices of deficiency to both the Sapps and the

Kumars in which he asserted deficiencies and penalties under section 6662(a) for

tax year 2006. Both couples timely filed petitions, and we tried the cases in

Birmingham, Alabama.7 We are left to decide:

       6
        The parties stipulated that Sapp is entitled to a flowthrough amount of
60% of the noncash charitable contributions made by SS Mountain, and Kumar is
entitled to a flowthrough amount of 4%.
       7
        The Sapps and the Kumars resided in Florida when they filed their
petitions, which means the Eleventh Circuit is the presumptive appellate venue.
See sec. 7482(b)(1)(A).
                                         - 10 -

[*10]         !     whether the conservation easement was a contribution of a
                    qualified property interest,

              !     the value of that easement, and

              !     whether penalties apply.

                                       OPINION

I.      Contribution of a Qualified Property Interest

        The Code generally disallows a charitable-contribution deduction for any

gift of real property that “consists of less than the * * * entire interest in such

property.” See sec. 170(f)(3)(A). An exception to this general prohibition on the

donation of partial interests is made for the donations of conservation easements,

see sec. 170(f)(3)(B)(iii), some of which can be quite sizable, see, e.g., Oakbrook

Land Holdings, LLC v. Commissioner, T.C. Memo. 2020-54, at *5. The Code

encourages donation of conservation easements to preserve properties with

natural, historical, or cultural significance through perpetual restrictions on their

use. See id. at *11.

        To take advantage of this contribution, a donor must meet unusually

complicated rules. A “qualified conservation contribution” is “a contribution (A)

of a qualified real property interest, (B) to a qualified organization, (C) exclusively

for conservation purposes.” Sec. 170(h)(1).
                                         - 11 -

[*11] Although a contribution must satisfy each of these requirements, many of

our recent opinions have focused on the first and third requirements--that the

contribution be “a qualified real property interest,” see, e.g., Pine Mtn. Pres.,

LLLP v. Commissioner, 151 T.C. 247, 265-72 (2018), aff’d in part, rev’d in part,

vacated and remanded, __ F.3d __, 2020 WL 6193897 (11th Cir. Oct. 22, 2020),

and that the contribution be “exclusively for conservation purposes,” see, e.g.,

Oakbrook, at *14. Attacking the conservation deed on these technical grounds has

allowed the Commissioner to deny deductions in full and even win penalties. The

Commissioner disarmed himself of such arguments in these cases when he chose

to stipulate that this easement was “exclusively for a conservation purpose.” See

supra p. 8. We enforce stipulations unless a party was misled, there was a mutual

mistake, or justice requires, see Buchsbaum v. Commissioner, T.C. Memo. 2002-

138, 2002 WL 1150779, at *3 (citing Rule 91(e)), none of which has occurred

here.

        The Commissioner argues as to the first requirement that the deed violates

section 170(h)(2)(C)’s requirement that the restriction be granted in perpetuity.

The deed does have an amendment clause that allows the parties to modify certain

restrictions in the deed of easement. See supra p. 8. The Commissioner argues

that this deprives the easement of the required perpetuity. We expressly rejected
                                       - 12 -

[*12] this argument in Pine Mountain, 151 T.C. at 280-81, and will follow that

opinion here, as we must. See, e.g., Security State Bank v. Commissioner, 111

T.C. 210, 213-14 (1998), aff’d, 214 F.3d 1254 (10th Cir. 2000).8

      What’s left is a dispute about value.

II.   Valuation

      A.     Background

      This valuation contest is an odd one. The value of a conservation easement

donated under section 170 is its fair market value (FMV) at the time of the

contribution. Sec. 1.170A-14(h)(3)(i), Income Tax Regs.; see also secs. 1.170A-

1(c)(1), 1.170A-7(c), Income Tax Regs. FMV is the “price at which the property

would change hands between a willing buyer and a willing seller.” Sec. 1.170A-

1(c)(2), Income Tax Regs. To determine the FMV, the regulations require us to

first try to use sales of property with easements comparable to the donated

easement, if there is a substantial record of such sales. Sec. 1.170A-14(h)(3)(i),

Income Tax Regs. Here, it appears no such records exist.

      8
         We also note that the Commissioner, despite having appealed the issue in
Pine Mountain, see Principal and Response Brief for Commissioner at 59, Pine
Mtn. Pres., LLLP v. Commissioner, is no longer making this argument in litigated
cases, see G.C.M. AM 2020-001 (Mar. 17, 2020).
                                        - 13 -

[*13] If there is no substantial record of comparable sales, the FMV of the

easement is “the difference between the [FMV] of the property it encumbers

before the granting of the restriction and the [FMV] of the encumbered property

after the granting of the restriction”--also known as the before-and-after test. See

id. To determine the FMV of the conservation easement, we must consider not

only its current use, but the property’s highest and best use before and after the

easement grant. See sec. 1.170A-14(h)(3)(ii); see also Hilborn v. Commissioner,

85 T.C. 677, 689-90 (1985).

      The two methods generally used to determine the “before value” and the

“after value” are the comparable-sales and income methods.9 The comparable-

sales method looks at transactions that involve properties similar to the subject

property, completed at arm’s length, and sold within a reasonable time of the

valuation date. See, e.g., Wolfsen Land & Cattle Co. v. Commissioner, 72 T.C. 1,

19 (1979); Butler v. Commissioner, T.C. Memo. 2012-72, 2012 WL 913695, at

*16. The income approach projects the future cashflows the property will

generate at its highest and best use. See, e.g., Butler, 2012 WL 913695, at *16;

      9
       A third method known as the “cost approach” or “replacement cost
approach” is also often used for property valuation, see, e.g., Hilborn, 85 T.C. at
689, but both parties’ experts agreed that this method was inappropriate for
“vacant land,” like the property at issue.
                                       - 14 -

[*14] Trout Ranch, LLC v. Commissioner, T.C. Memo. 2010-283, 2010 WL

5395108, at *4, aff’d, 493 F. App’x 944 (10th Cir. 2012). This method assumes

that an investor would pay no more than the present value of the property’s

anticipated future income. Butler, 2012 WL 913695, at *16.

      Here, both parties brought in experts for trial. Both were qualified and

thoughtful, and both were generally credible. Such experts can help us understand

the evidence or help us decide a fact in issue. See, e.g., Fed. R. Evid. 702; Kiva

Dunes Conservation, LLC v. Commissioner, T.C. Memo. 2009-145, 2009 WL

1748862, at *3. We are not bound by any expert opinion. See Helvering v. Nat’l

Grocery Co., 304 U.S. 282, 295 (1938); Kiva Dunes, 2009 WL 1748862, at *3.

We can accept or reject their testimony based on our judgment. See Nat’l Grocery

Co., 304 U.S. at 295; Estate of Newhouse v. Commissioner, 94 T.C. 193, 217

(1990); Kiva Dunes, 2009 WL 1748862, at *3. We don’t, however, have to accept

an expert opinion, but may instead use our own computation or analysis. See, e.g.,

Trout Ranch, 2010 WL 5395108, at *8 (“We find none of the experts completely

convincing. We shall discuss their assumptions and their arguments, and we shall

then construct our own [income method] analyses to calculate the before and after

value of the property”); Peracchio v. Commissioner, T.C. Memo. 2003-280, 2003
                                        - 15 -

[*15] WL 22211417, at *3 (“[W]e may be selective in determining what portions

of each expert’s opinion, if any, to accept”) (emphasis added).

      The Kumars and the Sapps hired George P. Galphin, Jr., president of the

Chattahoochee Valuation Group, to value the property at trial. Galphin used both

the sales-comparison and income methods. He valued the land before the

placement of the conservation easement (i.e. the before value) at $4,150,000 and

an after value of $1,250,000. If he’s right, the conservation easement had an FMV

of $2,900,000.

      The Commissioner hired Richard Marchitelli, executive managing director

of Cushman & Wakefield of North Carolina, Inc. Marchitelli used only the sales-

comparison approach to value the subject property. He determined a before value

of $1,280,000 and an after value of $560,000. If he’s right, the conservation

easement had an FMV of only $720,000.

      The Kumars and the Sapps, after careful review of both experts’ testimony

and the evidence that came out at trial, urge us to uphold their initial valuation of

the easement--$4,879,000.

      B.     The Value of This Conservation Easement

      Everyone agrees that a 37-lot subdivision plan was the property’s highest

and best use before the easement, and a 12-lot subdivision with the conserved area
                                        - 16 -

[*16] as open space was the property’s highest and best use after the easement.10

We value the property in two parts:

             !     the 12 lots that were going to be developed after
                   placement of the conservation easement, and

             !     the other 25 lots whose development was forgone
                   because of the easement.

      As we begin our own valuation of this piece of western North Carolina, we

must acknowledge how odd the facts of this case are compared to those of most

conservation-easement cases. When we try to value conservation easements, past

sales of the property at issue usually have limited usefulness because they turn out

to be sales that happened too long ago or were transfers between related parties.

This is why experts typically look to transactions that involve nearby comparable

properties to determine the FMV of the property at issue.

      But that just isn’t the case here. This property had a recent and reliable, and

therefore relevant, transactional history. SS Mountain first acquired this land for

just under $3 million in 2004 and 2005. All of its acquisitions were from

      10
          Haywood County has no zoning, and a fairly unburdensome subdivision
law seems to have encouraged the development of a luxury second-home market
in the first decade of the century. We will agree with the parties and find that this
37-lot subdivision plan is the property’s highest and best use, but we do note that
it left 35 acres undeveloped despite their being physically and legally possible to
develop.
                                       - 17 -

[*17] unrelated third parties, conducted through an unrelated real-estate broker,

completed at arm’s length, and financed by a bank or banks that did their own

appraisals.

      Then, before it donated the conservation easement, SS Mountain contracted

to sell four of the proposed subdivision lots for $750,000 each--and three of these

were to unrelated parties. Each of these buyers put up real money in escrow in

amounts that ranged from $5,000 to $100,000.

      At about the same time, HomeTrust Bank--which is not a member or related

to any member of SS Mountain--lent SS Mountain $5 million secured by the 12

lots. The Bank did this in the normal course of its own business and, before

lending the money, got another independent appraisal that showed that the

remaining lots were each worth at least $750,000.11

      In September of 2007--after SS Mountain donated the conservation

easement--Sapp bought one lot for a whopping $1.1 million, financed by a

      11
         The appraisals are not in the record. We heard reliable testimony from the
member manager of SS Mountain that the bank valued these lots at an amount
greater than $750,000. And the bank included as a term in the loan that these lots
couldn’t be sold for less than $750,000 each. This leads us to conclude that it is
more likely than not that the bank’s own independent appraisal found the
remaining lots to be worth at least $750,000 each (and the $5 million principal
amount of the loan would be an average of $625,000/unsold lot--which would give
the bank the sort of equity cushion one would expect a bank to want).
                                       - 18 -

[*18] $900,000 loan from HomeTrust Bank. Though Sapp was a member of SS

Mountain, an independent appraisal by the bank before the grant of the loan

showed the lot was worth at least this amount.12 We find this transactional history

reliable and relevant.

      The 2008 Haywood County property-tax records--which reflect assessments

as of the beginning of 2006, the same year SS Mountain granted the easement--

also show high FMVs.13 These assessments were for 11 lots in both what became

the proposed subdivision and what became the land subject to the conservation

easement. Here are the data:

                         Property                     Value

                          Lot 1                    $1,090,360
                          Lot 2                     1,166,320

      12
         The bank’s appraisal of the Sapps’ lot is also not in the record. However,
for the same reasons, we find it more likely than not that this appraisal showed that
Lot 6 was worth at least $1.1 million.
      13
         The Commissioner argues against reliance on Haywood County’s
property tax records because they don’t distinguish between the value of the land
and any buildings. But there were no buildings on these lots at the relevant times
except for one log cabin, which would be destroyed under the terms of the
conservation easement, and one ranch house on the easement property. Both
experts agreed on this. Even if the county tax records don’t distinguish between
the value of land and residences on that land, on these facts the entire value must
be attributed to the land itself.
                                         - 19 -

[*19]                     Lot 3                       1,060,630
                          Lot 4                         992,350
                          Lot 5                       1,002,380
                          Lot 6                       1,090,360
                          Lot 7                       1,628,360
                          Lot 8                       2,102,320
                          Lot 9                         875,240
                          Lot 10                      1,245,110
                          Lot 11                         67,720
                 Conservation easement                 814,500

        The transactional history, bank loans, and county tax records all show two

things: that the purchase prices around the date of the easement are reliable

valuations and that any lot in this hypothetical residential subdivision (with the

single and unexplained exception of Lot 11) was worth at least $750,000 at the

time the conservation easement was placed. Cf. Higgins v. Commissioner, T.C.

Memo. 1990-103, 1990 Tax Ct. Memo LEXIS 101, at *19-*20 (using recent

transactions of subject property instead of comparable-sales method).

        This gets a good start on a “before value.” We look first at the 12 lots that

were going to be developed even after the placement of the conservation

easement. Of these 12, 4 were under contract at the time of easement--3 of which

were with unrelated parties--to sell for a combined value of $3 million. We find it
                                         - 20 -

[*20] more likely than not that this $3 million is a reliable value for these

properties.

      That leaves the eight unsold lots. We conservatively value them at $5

million. In addition to the purchase contracts that indicate that lots in this

subdivision were worth $750,000 each as of late 2006, an unrelated bank lent $5

million to SS Mountain secured by those lots in September 2006. The loan

required that each of the remaining unsold lots be sold for at least $750,000. And

the bank’s own appraisal showed that these unsold properties were worth at least

this much. Though we think a value for each of the remaining unsold lots of

$750,000 would be reasonable, we will be conservative and find that these eight

lots have a combined value of $5 million. Therefore, we find it more likely than

not that these 12 lots together had an FMV of $8 million as of the easement date.

      To come up with a “before value” for the other 25 lots, we do not have such

hard data. It would not be completely unreasonable to find that each of these lots

would also have been worth at least $750,000 each--their mix of views and sizes

were about the same as the 12 developable lots.14 This value would be supported

      14
          For a hypothetical residential development on the property, both experts
at trial used the plans developed by LaQuatra Bonci Associates and included in
David Roberts’s appraisal (the one used by SS Mountain, the Kumars and the
Sapps for their tax returns). Roberts detailed that the 37-lot plan contained 20 lots
                                                                        (continued...)
                                        - 21 -

[*21] by HomeTrust Bank’s willingness to lend $5 million secured by the

remaining unsold lots. It would also be supported by the four contracts signed

before SS Mountain donated the easement.

       That would make their combined FMV $18.75 million, and the “before

value” of the SS Mountain property would be $26.750 million.

                     Lot Group                         Value

                  The first 12 lots                  $8,000,000
                 The other 25 lots                   18,750,000
                        Total                        26,750,000

      But doing so would entail a conclusion that property assembled less than

three years before the easement’s donation at a cost of slightly less than $3 million

had nonupled in value. There is more than enough evidence in the record that the

real-estate market in this part of the country was in the expansionary phase of a

bubble in 2006, but that just wouldn’t pass a sanity check.

      14
        (...continued)
with good views ranging from 2 to 4 acres in size and 17 interior sites with
average views also ranging from 2 to 4 acres. He detailed that the 12-lot plan had
an even mix of 6 exterior lots with superior views and 6 interior lots with average
views. The sizes of these lots ranged from 1.53 acres to 5.61 acres. We find that
the 25 undeveloped lots would contain a mix of size and views similar to those of
the 12 developed lots.
                                       - 22 -

[*22] We do find that the “after value” of the 12 lots would be $8 million based

on the transactional history and Haywood County property tax records.15 Section

1.170A-14(h)(3)(ii), Income Tax Regs., and the corresponding subparagraph 4,

Example (10), do require us to take into account the effect a conservation

easement would have on increasing the value of the remaining property. The

Commissioner’s expert, Marchitelli, said that the 12 unencumbered lots would

benefit from the conservation easement since their long-range views will be

preserved. Marchitelli even concluded that this benefit would cause a 20%

increase in value to the unencumbered land.16

      Petitioners’ expert, Galphin, disagreed and concluded that the

unencumbered land posteasement would be worth less--nearly 7% less to be exact.

He reasoned that a main effect of the conservation easement would be to make

construction of roadways more costly for each of the remaining developable lots.

We note two things about the unencumbered lots after the easement: They are

      15
         There is a very slight difference in size of the 12 lots in the 37-lot plan
versus the 12-lot plan. The average lot size in the 12-lot plan is 2.6 acres (30.897
divided by 12). The average lot size in the 37-lot plan is 2.3 acres (85.205 divided
by 37--only 85.205 acres were actually developed under the plan used by the
experts).
      16
         And though not mentioned by the Commissioner, the lot sizes in the after
plan are larger by 0.3 acres on average.
                                        - 23 -

[*23] clustered into two groups, which means that not all lots will have grand

unencumbered views--in fact, only half of the lots will have great views. These

lots would also have to bear a much greater cost per lot--nearly double, in fact--of

developing the infrastructure (such as roads and utility access) needed to build on

them.

        We find that both experts are partly right. The easement does ensure that

remaining plots’ long-range views are preserved “in perpetuity,” and the

development plan does make them of slightly larger size. Other things being

equal, these factors would increase the “after value” of those lots. But not all of

these lots will have grand views either before or after. And the easement also will

significantly increase the cost per lot of building on the unencumbered property,

which would decrease the value of the 12 lots. On balance, we find that these

effects would cancel each other out. As for the land encumbered by the easement,

open space still has some value and we will assume the Commissioner is correct

that its value here was $560,000.

        Even with these qualifications, we conclude that the amounts claimed by the

Kumars and the Sapps were reasonable. We do so after looking at the puzzle in

two different ways. They claimed a value of $4,879,000. We have found that the

“after value” of the conserved land was $560,000 and the “after value” of the
                                        - 24 -

[*24] developable land was unchanged from its “before value.” For the deduction

to be sustained, the “before value” of the conserved land would have to be at least

$5,439,000.

      We’ve also found that the lots planned for the conserved area were

comparable to the lots in the developable area. See supra p. 20 and note 14. So

one way to look at the problem is to divide $5,439,000 by 25. That equals

$217,560/lot in “before value.” There is no evidence in the record that SS

Mountain’s lots (apart from the weird assessed value of Lot 11) were worth

anything like that low a value as of the date of the easement. Their proximity to

$750,000 lots of similar size and similar views might not mean that all of them

were worth a minimum of $750,000, but neither of the experts and none of the

witnesses suggest any difference in their value that leads us to find it reasonable to

think they were worth less than $217,560 during the bubble when SS Mountain

donated the easement.

      Or we could look at the problem from the viewpoint of price per acre.

There is plenty of credible evidence that land prices per acre were booming in the

years before the easement’s creation in late 2006. The Commissioner’s expert

even testified that prices were going up at least 2.5% a month in 2006 and 2007.

And this bubble had been inflating for years. See supra p. 4 (showing a rapid
                                        - 25 -

[*25] increase in per-acre value during 2004 and 2005, as well as a general

increase in value since the last purchase of the property). The implicit claimed

“before value” is $5,439,000. If one divides it not by the number of lots, but by

the number of acres, one gets a price per acre of $60,854. Is this reasonable?

Consider the price per acre of the last parcel SS Mountain acquired in July 2005:

$57,328. Inflate it by what the Commissioner’s own expert said was reasonable--

2.5% a month for 16 months--and one gets a price per acre of $85,104--an amount

substantially higher than what the taxpayers claimed on their returns. And even

that doesn’t show how crazy the inflation in land prices was.

      The land on which 10 of the 12 lots sits is located mostly on a portion of

land SS Mountain purchased in December 2004 for $750,000, or $24,761 per acre.

If these lots were worth $750,000 each at the time of donation--as the tax records,

bank loans, and arm’s-length purchases suggest--then the price per acre as of

November 2006 was $247,606--a 1000% increase. We need not determine

whether this 1000% value increase can be attributed to the entire property--but we

can use it as evidence that there truly was a real-estate bubble at the time of the

donation.

      In both these exercises, one comes up with a value that makes the deduction

claimed by SS Mountain and that flowed through to the Kumars and the Sapps
                                        - 26 -

[*26] entirely reasonable--if reasonable only because we have to look at it from

within the market bubble that existed at that time. We find, from all these

different perspectives, that the FMV of the conservation easement is at least the

amount claimed by SS Mountain (and that flowed through to Kumar and Sapp)--

$4,879,000.

      C.      The Experts

      We certainly acknowledge how unusual it is in a valuation case to not find a

number somewhere between those of the experts who battled it out at trial. As a

check on our reasonableness, we need to take a closer look at what they did, and

try to figure out why we and they diverge.

              1.    Marchitelli

      The Commissioner’s expert acknowledged in his report that Uniform

Standards of Professional Appraisal Practice require an appraiser to consider any

sales of the subject property within three years of the effective date of valuation.

Marchitelli testified that he declined to rely on the 2004 and 2005 purchase prices

in his analysis because he thought the numbers were so crazy that the sales

couldn’t possibly have been at arm’s length. He concluded that the original

purchases of the properties that made up SS Mountain’s tract couldn’t be

representative of the property’s FMV. We think this premise is simply wrong--we
                                        - 27 -

[*27] heard the testimony and looked at the evidence, and these showed that those

original purchases were for the FMV.

        Marchitelli determined that the property’s “before value” was $1,280,000.

This valuation must be a vast understatement of the property’s value as of

November 2006. It is less than what SS Mountain paid for the property in 2004

and 2005--$3 million. All of SS Mountain’s assembly deals during those years

were with unrelated parties. All were completed with the help of an independent

real-estate broker. All were financed with loans backed by independent

appraisals. And, since Marchitelli admitted that real-estate prices were increasing

rapidly for years before the donation, and that the market was near its height at the

very time of donation, we see no way that property bought in 2004 and 2005 for

$3 million could be worth less than $1.3 million when assembled and subdivided

two years later. We could understand ignoring these transactions if they weren’t at

arm’s length, but that wasn’t the case here. (And we certainly don’t fault

Marchitelli for his skepticism--he’s a skilled appraiser, not a skilled litigator. He

couldn’t summon and examine witnesses and get documents produced as litigators

can.)
                                         - 28 -

[*28]         2.    Galphin

        Galphin’s position provides more of a challenge for us. But we can

summarize the differences between our analysis and his with a simple

observation--Galphin relied primarily on transactional data of other properties; we

relied on transactional data of the specific property at issue. When a property’s

value is in question, and it has this level of transactional data, it would be

unreasonable to ignore it. See Cave Buttes, LLC v. Commissioner, 147 T.C. 338,

357 (2016) (“[FMV] is a question of fact to be determined from all relevant

evidence on the record”) (emphasis added); see also Dorsey v. Commissioner, T.C.

Memo. 1990-242 (using recent transactional data of subject property to determine

FMV of conservation easement). And we find a valuation based on the

transactional data for this property to be more reliable. We also can understand

what happened. As explained by petitioners’ counsel, Galphin was retained on the

eve of trial and had to do his work at unusual speed to help with settlement talks.

He did not have all the transactional data to work with and did not have the benefit

of hearing credible testimony about its character before he reached his opinion.

We therefore can find that Galphin is also a skilled appraiser, but reject his
                                        - 29 -

[*29] opinion because it reflected an understandable lack of consideration of the

property’s recent, reliable, and therefore relevant transaction history.17

III.   Concluding Thoughts

       The Kumars and Sapps aren’t asking us to value the property higher than

what they claimed on their tax returns. They just want us to find that there were

no deficiencies, so we need not even determine the exact value of the conservation

easement. We just need to determine whether they valued the conservation

easement so high as to create deficiencies. And we do not--there is no deficiency

here for either taxpayer. Looking at the transactional history of the specific

property in question as well as the county property records, we find it more likely

than not that the conservation easement was worth at least what SS Mountain (and

therefore Kumar and Sapp) claimed on their tax returns.18

       17
         The Kumars and Sapps suggest that, had Galphin applied a $750,000 lot
value to his income analysis, it would have led to a value for the easement that
exceeded $11,960,000.
       18
         While this rapid increase in value is unusual, it is not unprecedented. It
has been well documented that land booms have happened over the course of
American history, followed inevitably by their collapse. See generally Edward L.
Glaeser, “A Nation of Gamblers: Real Estate Speculation and American History,”
Am. Econ. Rev., May 2013, at 1. Between 1790 and 1796, the value of
government-owned landed on the American frontier increased more than six times.
See id. at 10. In Alabama, land that sold for only $35 per acre in 1817 began
selling for $134 per acre the next year (a 270% increase). Id. at 11. And then
                                                                         (continued...)
                                        - 30 -

[*30] This is an exceptionally unusual conclusion to reach in a conservation-

easement case. The Kumars and Sapps benefit from timing their donation at what

turned out to be very nearly the frothiest point on a local real-estate bubble that

was even bubblier than it was in most parts of the nation. In valuing that donation,

they get the benefit of the bubble even as the Commissioner would get the benefit

of its bursting a couple years later. We recall the old aphorism among observers

of the stock market that “bulls make money, bears make money, but pigs get

slaughtered.” Kumar and Sapp here took a return position that was very

considerably subhyperporcine--they get to keep their deductions in full and owe

no penalty.

                                                       Decisions will be entered

                                                 for petitioners.

      18
         (...continued)
prices plummeted to their preboom levels the year after that. Id. In Chicago,
prices rocketed from $800 per acre in 1830 (adjusted to 2012 dollars) to $327,000
in 1836, and then sank back down to $38,000 per acre in 1841. Id. at 17. Similar
booms occurred in Los Angeles in the late 1800s, see id. at 21-23, and again in
New York and Chicago at the turn of the century, see id. at 23-28. In the Florida
land boom of the 1920s, real estate increased five times over one four-year period,
and then crashed back to preboom levels. See, e.g., Henry M. Brown & Rebecca
E. Brown, “Murphy Deed Right-Of-Way Reservations: A 1930s Taxpayer Bailout
Yields Right-Of-Way Cost Savings,” 83 Fla. Bar J. 20, 21-22 (2009). So while
this rapid an increase in price may seem strange, it has happened before.