What’s a real estate developer to do when its pristine development site, with beautiful ocean views and room for between 164 and 410 upscale residential units that *NEED NOT BE BUILT, is clogged with wildlife, including bald eagles that use the site for a highway for their daily commute?  One good corporate citizen, Palmer Ranch, decided to dedicate the site for the eternal benefit of the wildlife via a conservation easement.  The federal tax code encourages this altruistic behavior by granting a tax deduction in the amount of the value of the property conserved.  In this case, based on an appraisal, the developer claimed a deduction of $25,200,000 for the 82 acres donated. 

No doubt the eagles were thrilled to enjoy the benefits of such a valuable piece of real estate.  Unfortunately for the developer, the eagles couldn’t be bothered to make their views known to the IRS, who valued the property at only $7,750,000 based on what it considered to be a more appropriate 100-unit development.  The developer’s “legal eagles” were more persuasive, though, convincing the tax court that the developer’s planned 164-410 units were the better measure of the highest and best use.  But even the tax court couldn’t get on board with the $25,200,000 valuation, preferring instead a deduction of $21,005,278 for reasons that were unclear.

The eagles were unphased and pressed the developer to appeal to the 11^th Circuit.  That court ruled that the highest and best use test includes within it an analysis of whether the proposed use is needed or likely to be needed in the reasonably near future.  Evidence of this future need should be demonstrated by market demand in the year the easement was contributed without relying on hindsight.  The Court determined that it was not necessary to include a discount in the valuation computations to account for a risk of nondevelopment as there was clear evidence that  no such risk existed. The court reasoned that the process of determining highest and best use subsumes development risk. The 11^th Circuit ruled that, while the tax court may determine value based on the entirety of the evidentiary record, if it departs from an appraisal method, it must explain this departure and may not rely on evidence outside of the evidentiary record. The appellate court instructed the tax court to either stick with a valuation method, in this case the comparable sales approach, or explain its departure from that method. The court cautioned that the court must base its determination of the value of the deduction on the evidence submitted.

The case is Palmer Ranch v. Commissioner, 11th Cir. Ct. of App., Docket No. 14-14167, Feb. 5, 2016.