Emanouil v. Comm’r, T.C. Memo. 2020-120 | August 17, 2020 | Gustafson, J. | Dkt. No. 5089-17

Short Summary:  Mr. Emanouil is a real estate developer.  In 1999, he purchased approximately 200 acres of undeveloped property in Westford, Massachusetts.  Although he made several attempts to develop or sell the property over the next several years, he ultimately obtained approval for an affordable housing project on 104 acres of the property.  Towards the conclusion of the project in 2008, he donated 16 acres of the property to Westford.  The following year, after Westford had approved the affordable housing project, Mr. Emanouil donated an additional 71 acres of the property to Westford.

On his 2008 return, Mr. Emanouil reported a $1.5 million charitable contribution deduction with respect to the 16-acre donation.  On his 2009 return, he reported a $2.5 million charitable contribution deduction with respect to the 71-acre donation.  Due to limitations on claiming the charitable contribution deductions for each year, Mr. Emanouil carried forward the deductions to his 2010 through 2012 tax years.

The IRS examined Mr. Emanouil’s 2010, 2011, and 2012 returns and issued a notice of deficiency disallowing the carryover charitable contribution deductions.  The notice of deficiency disallowed the carryovers because, according to the IRS, Mr. Emanouil had failed to substantiate the reported values of the properties transferred and failed to show that the properties were transferred with charitable intent.  The IRS also determined accuracy-related penalties for such years.

Key Issues:  (1) Whether Mr. Emanouil complied with the qualified appraisal requirements of Section 170(f)(11)(C); (2) Whether Mr. Emanouil’s contributions were part of a quid pro quo exchange rather than a charitable gift; (3) What the fair market values were of the properties that Mr. Emanouil contributed; and (4) Whether the accuracy-related penalties apply.

Primary Holdings:  (1) Although the qualified appraisal did not contain the date (or expected date) of contribution to Westford and although the qualified appraisal did not contain a statement that it was prepared for income tax purposes, Mr. Emanouil substantially complied with the qualified appraisal requirements.  (2) The evidence in this case shows that Mr. Emanouil did not make the charitable contributions as part of a quid pro quo exchange.  (3) The fair market values of the properties that Mr. Emanouil contributed were $1.5 million and $2.5 million, or the amounts as reported on the income tax returns.  (4) The accuracy-related penalties do not apply because there are no underpayments of tax.

Key Points of Law:

  • Generally, the IRS’ deficiency determinations in a notice of deficiency are presumed correct, and the taxpayers bear the burden to prove otherwise and to show their entitlement to any claimed deduction. Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933).  Proving entitlement to a claimed deduction generally includes proving that the taxpayers satisfied the specific requirements for any deduction claimed.  INDOPCO, Inc. v. Comm’r, 503 U.S. 79, 84 (1992).
  • Section 7491(a) provides an exception that shifts the burden of proof to the Commissioner as to any factual issue relevant to the taxpayers’ liability if they provide credible evidence with respect to that issue and also substantiate the item, maintain records, and cooperate with the Commissioner’s reasonable requests for information. Taxpayers bear the burden of proving that they have met the Section 7491(a) requirements.  Rolfs v. Comm’r, 135 T.C. 471, 483 (2010), aff’d, 668 F.3d 888 (7th Cir. 2012).
  • Rule 142(a)(1) provides that the Commissioner shall bear the burden of proof “in respect of any new matter, increases in deficiency, and affirmative defenses, pleaded in the answer”. A new theory that “merely clarifies or develops the original determination is not a new matter.”  Wayne Bolt & Nut Co. v. Comm’r, 93 T.C. 500, 507 (1989).  But a new theory that either “alters the original deficiency or requires the presentation of different evidence” is a new matter for which the Commissioner bears the burden of proof.
  • When each party has satisfied its burden of production by offering some evidence, then the party supported by the greater weight of the evidence will prevail, and thus the burden of proof has real significance only in the event of an evidentiary tie. See Knudsen v. Comm’r, 131 T.C. 185, 189 (2008), supplementing C. Memo. 2007-340.
  • Section 170(a)(1) provides that a taxpayer may deduct any charitable contribution (as defined under subsection (c)) made in the taxable year. Section 170(c) defines the term “charitable contribution” as a contribution or gift to or for the use of a qualified recipient.  In order for a charitable contribution to be deductible, the contribution must be verified under regulations prescribed by the Secretary, e.g., the taxpayer must comply with specified reporting requirements.  Sec. 170(a).  For deductions in excess of $5,000, the taxpayer must obtain a qualified appraisal of the property, attach to the tax return a fully completed appraisal summary (i.e., Form 8283), and maintain records regarding the property, the terms of the contribution, and the donee organization.  See sec. 170(f)(11)(C); Treas. Reg. § 1.170A-13(c)(2).
  • The regulations define the term “qualified appraisal” as an appraisal document that, among other things, “[i]ncludes the information required by paragraph (c)(3)(ii) of this section.” Reg. § 1.170A-13(c)(3)(i).  Paragraph (c)(3)(ii) requires eleven items of information to be included in the appraisal, including the date (or expected date) of contribution to the donee and a statement that the appraisal was prepared for income tax purposes.
  • Strict compliance will necessarily satisfy the elements of a qualified appraisal. However, the taxpayer who does not strictly comply may nevertheless satisfy the elements if he has substantially complied with the requirements.  That is, the above requirements are “directory” (i.e., “helpful to respondent in the processing and auditing of returns on which charitable deductions are claimed”) rather than “mandatory” (i.e., literal compliance is required); and the “fact that a Code provision conditions the entitlement of a tax benefit upon compliance with respondent’s regulation does not mean that literal as opposed to substantial compliance is mandated.”  Bond v. Comm’r, 100 T.C. 32, 41 (1993); see also Costello v. Comm’r, T.C. Memo. 2015-87; Hewitt v. Comm’r, 109 T.C. 258, 264 (1997).
  • In Cave Buttes, LLC v. Comm’r, 147 T.C. 338 (2016), the Tax Court noted the legislative history of the qualified appraisal statute and observed that its purpose was to provide the Commissioner with sufficient information to “deal more effectively with the prevalent uses of overvaluations.” at 349-350.  Moreover, in Alli v. Comm’r, T.C. Memo. 2014-15, the Tax Court stated that the purpose of the appraisal requirements is to “ensur[e] that the correct values of donated property are reported.”  Accordingly, it follows that if the appraisal at issue does generally provide the information required in the regulations to do just that—i.e., to ensure that the correct values of donated property are reported—then the “essential requirements of the governing statute,” can be satisfied despite certain defects that may not be significant in a given case.
  • In the absence of a heightened potential for abuse, it is appropriate to recall that Congress generally favors charitable giving and that the courts have honored that legislative intent by broadly construing statutes “begotten from motives of public policy” like section 170 and similar statutes “enacted to benefit . . . charitable organizations.” See Helvering v. Bliss, 293 U.S. 144, 150-151 (1934); Estate of Crafts v. Comm’r, 74 T.C. 1439, 1455 (1980) (“As a relief provision which inures to the benefit of charity, we believe that it should be construed liberally so that the intended charitable purposes are furthered.”).
  • The Tax Court has held that failing to include the date of contribution in the appraisal is not significant when the return includes a Form 8283 that specifies the date of contribution. See Zarlengo v. Comm’r, T.C. Memo. 2014-161 (finding that taxpayers substantially complied by disclosing contribution date on appraisal summary); Simmons v. Comm’r, T.C. Memo. 2009-208, aff’d, 646 F.3d 6 (D.C. Cir. 2011).
  • The importance of providing an income tax purpose statement is to help the appraiser and the client identify the appropriate scope of work for the appraisal and the level of detail to provide in the appraisal, e., to make sure that all the information required for relying on the appraisal—for income tax purposes—is included in the appraisal. However, a statement of purpose may not always be necessary to achieve substantial compliance, especially not when the appraisal otherwise includes the level of detail necessary to estimate the fair market value of the property in question.  See Consol. Inv. Grp. v. Comm’r, T.C. Memo. 2009-290 (finding substantial compliance where “[t]he appraisal did lack a statement that it was prepared specifically for income tax purposes; however, we find this omission to be insubstantial.”).
  • The Supreme Court in Hernandez v. Comm’r, 490 U.S. 680, 701-702 (1989), stated: “The relevant inquiry in determining whether a payment is a ‘contribution or gift’ under Section 170 is . . . whether the transaction in which the payment is involved is structured as a quid pro quo”  In examining whether a transfer was made with the expectation of a quid pro quo, the Tax Court gives most weight to the external features of the transaction, avoiding imprecise inquiries into taxpayers’ subjective motivations.  See id. at 690-691.  If it is understood that the property will not pass to the charitable recipient unless the taxpayer receives a specific benefit, and if the taxpayer cannot garner that benefit unless he makes the required “contribution,” then the transfer does not qualify the taxpayer for a deduction under section 170.  See Graham v. Comm’r, 822 F.2d 844, 849 (9th Cir. 1987), aff’g 83 T.C. 575 (1984), aff’d sub nom. Hernandez v. Comm’r, 490 U.S. 680 (1989).
  • In general, the amount of a charitable contribution of property under section 170(a) is the “fair market value” of the property at the time it is contributed. See Reg. § 1.170A-1(a), (c)(1).  The regulations define “fair market value” as “the price at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or sell and both having reasonable knowledge of relevant facts.”  Id.  Valuation is not a precise science, and the fair market value of property on a given date is a question of fact to be resolved on the basis of the entire record.  See, e.g., Kaplan v. Comm’r, 43 T.C. 663, 665 (1965); Arbini v. Comm’r, T.C. Memo. 2001-141.  In considering the evidence in the record, we take into account not only the current use of the property but also its highest and best use.  See Stanley Works & Subs. v. Comm’r, 87 T.C. 389, 400 (1986); Treas. Reg. § 1.170A-14(h)(3)(i) and (ii).  A property’s highest and best use is the highest and most profitable use for which it is adaptable and needed or likely to be needed in the reasonable near future.  Olson v. U.S., 292 U.S. 246, 255 (1934).  The highest and best use can be any realistic, objective potential use of the property.  Symington v. Comm’r, 87 T.C. 892, 896 (1986).
  • The Tax Court evaluates expert opinions in the light of the expert’s demonstrated qualifications and all other evidence in the record. See Parker v. Comm’r, 86 T.C. 547, 561 (1986).  Where experts offer competing estimates of fair market value, the Tax Court decides how to weight those estimates by, inter alia, examining the factors they considered in reaching their conclusions.  See Casey v. Comm’r, 38 T.C. 357, 381 (1962).  The Tax Court is not bound by the opinion of any expert witness and may accept or reject expert testimony in the exercise of its sound judgment.  Helvering v. Nat’l Grocery Co., 304 U.S. 282 (1938); Estate of Newhouse v. Comm’r, 94 T.C. 193, 217 (1990).  It may also reach a decision as to the value of property that is based on its own examination of the evidence in the record.  Silverman v. Comm’r, 538 F.2d 927, 933 (2d Cir. 1976), aff’g C. Memo. 1974-285.
  • Section 6662(a) and (b) imposes an accuracy-related penalty if any part of an underpayment of tax required to be shown on a return is due to negligence, a substantial understatement of income tax, or a substantial valuation misstatement. The penalty is equal to 20% of the portion of the underpayment to which the section applies.  Section 6662(e)(1)(A) provides that a valuation misstatement is “substantial” if the value claimed on the return is “150 percent or more of the amount determined to be the correct amount.”  Section 6662(h) provides that in the case of a “gross valuation misstatement,” where the value claimed on the return is 200% or more of the amount determined to be the correct amount, the penalty is increased from 20% to 40%.

Insight:  The Emanouil case is a good reminder that strict compliance with certain regulatory provisions is not always required, particularly with respect to the qualified appraisal rules.  Thus, if taxpayers fail to meet one or more requirements for a qualified appraisal, they should carefully consider whether they may raise the doctrine of substantial compliance.