                        T.C. Memo. 2011-84



                      UNITED STATES TAX COURT



     1982 EAST, LLC, SOLOMON D. ASSER, TAX MATTERS PARTNER,
   Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 30052-08.               Filed April 12, 2011.



     John P. Barrie, for petitioner.*

     Michael D. Wilder, Sameera Y. Hasan, Michael Y. Chin, and

Michael A. Sienkiewicz, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     LARO, Judge:   This case is a partnership-level proceeding

under the Tax Equity and Fiscal Responsibility Act of 1982

(TEFRA), Pub. L. 97-248, sec. 402, 96 Stat. 648, as amended.    The



     *
      Brief amicus curiae was filed by Kathryn Keneally for Trust
for Architectural Easements.
                               - 2 -

TEFRA partnership, 1982 East, LLC (LLC), claimed a $6,570,000

deduction on its 2004 Form 1065, U.S. Return of Partnership

Income (2004 return), for a December 30, 2004, contribution of a

historic preservation easement (facade easement) and unused

development rights (UDRs) (collectively, donated property).1

Respondent disallowed that deduction in a notice of final

partnership administrative adjustment (FPAA) issued to LLC’s tax

matters partner, Solomon D. Asser (Mr. Asser).   Respondent also

determined in the FPAA that an accuracy-related penalty applied

to any underpayment of tax attributable to the $6,570,000

disallowance.   Respondent’s primary determination in that respect

was that the penalty equaled 40 percent of the underpayment

because of a gross valuation misstatement under section 6662(h).2

Alternatively, respondent determined that the penalty equaled 20

percent of the underpayment because of negligence or disregard of

rules or regulations under section 6662(b)(1) or a substantial

understatement of income tax under section 6662(b)(2).

     We decide two issues.   First, we decide whether LLC is

entitled to any part of the $6,570,000 deduction.   We hold it is



     1
      LLC also claimed on the 2004 return that it was entitled to
deduct cash contributions of $452,500 which were related to the
contribution of the donated property. Respondent did not
disallow LLC’s deduction of the cash contributions, and that
deduction is not in issue.
     2
      Unless otherwise indicated, section references are to the
applicable versions of the Internal Revenue Code, and Rule
references are to the Tax Court Rules of Practice and Procedure.
                                 - 3 -

entitled to none of the deduction.       Second, we decide whether LLC

is liable for a 20-percent accuracy-related penalty under section

6662(a) on any underpayment of tax attributable to the

disallowance of the deduction.3    We hold it is not liable for the

penalty.

                           FINDINGS OF FACT

I.    Preliminaries

       Some facts were stipulated and are so found.    The

stipulations of fact and the accompanying exhibits are

incorporated herein by this reference.      When the petition was

filed, LLC’s principal place of business was in New York, New

York (New York City).

II.    LLC, Mr. Asser, and NAT

       A.   LLC

       LLC is a limited liability company formed in May 2002

primarily to purchase and operate real estate at 19 East 82d

Street in New York City.     LLC has both domestic and foreign

members.     LLC is characterized for Federal tax purposes as a

partnership subject to TEFRA.     During 2004, LLC owned real

property (subject property) in New York City at 19 East 82d

Street.




       3
      Given our holding on the first issue, respondent abandons
his primary determination that the 40-percent accuracy-related
penalty under sec. 6662(h) applies in this case.
                                 - 4 -

     B.   Mr. Asser

     Mr. Asser is one of LLC’s domestic members, and he is a

managing member of LLC and its tax matters partner.     He holds

three professional degrees, the first in architecture, the second

in urban planning, and the third in architecture and urban

design.   For more than two decades, Mr. Asser has been in the

design, building, and rehabilitation of buildings in New York

City, including buildings in landmark districts.     He currently

owns and operates a construction management and general

contracting firm, Tecny Group, Inc., the primary business of

which is the rehabilitation of buildings.4     Mr. Asser is familiar

with the New York City Landmarks Preservation Commission (LPC)

and the New York City zoning rules as applicable to the subject

property.5

     C.   NAT

     The National Architectural Trust (NAT) is tax exempt under

section 501(c)(3) and a qualified organization under section

170(h)(3).6     NAT advertises that taxpayers can receive

significant tax benefits by contributing historic preservation


     4
      Tecny Group, Inc., was formerly named Tecny Landmark Corp.
We refer to both entities as Tecny.
     5
      The LPC is a New York City agency responsible for
identifying and designating New York City landmarks and historic
districts. The LPC is also responsible for protecting and
preserving those landmarks and historic districts.
     6
      NAT changed its name in 2007 to “Trust for Architectural
Easements”. We refer to both entities as NAT.
                                   - 5 -

easements to NAT and assists taxpayers who make such

contributions to structure and report the contributions in a way

that NAT believes will entitle the taxpayers to the advertised

benefits.

III.       Subject Property

       As of December 30, 2004, the date LLC contributed the

donated property to NAT, the subject property included a

rectangular lot and a five-story townhouse (townhouse).        The lot

was approximately 2,554 square feet.       The townhouse was

constructed in 1894 and had 10,375 square feet of living area

(excluding the cellar).

       The subject property is sited within the Metropolitan Museum

Historic District and is in a C5-1 restricted central commercial

zoning district within the Special Madison Avenue Preservation

District.       Because of its location, the subject property is

subject to New York City’s landmark and zoning laws.       Those laws

set the maximum building capacity for each square foot in a lot

by reference to a formula known as the “floor area ratio”.7        The

laws also set a maximum height at which a structure may be built

on the lot.




       7
      For example, if a 5,000-square-foot lot had a floor area
ratio of 10, then the zoning rules would allow a building of up
to 50,000 square feet on the lot. To the extent that the
building was less than 50,000 square feet, the difference between
the actual square footage and 50,000 would be the lot’s UDRs.
                                - 6 -

IV.   Mr. Asser’s Contacts With NAT

      Mr. Asser first heard about NAT in 2002, when one of his

partners gave Mr. Asser a NAT promotional handout.     Mr. Asser

discussed the promotion with others in his business and with

representatives of NAT.    He also attended free seminars where NAT

representatives (none of whom was a lawyer) discussed the

significant tax benefits that could be obtained through the

contributions of preservation easements to NAT with little to no

practical effect on the use, value, or marketability of the

servient property.

      NAT prepared and gave to Mr. Asser literature discussing

NAT’s promotion.    Mr. Asser read all of this literature, and he

read most of it before LLC decided to participate in the

promotion.    The literature suggested that a donor of an easement

could receive a significant charitable contribution deduction for

Federal and State tax purposes equal to a set percentage (between

10 and 15 percent but usually 11 percent) of the fair market

value of the property burdened with the easement.     The literature

indicated that the donor of a facade easement to NAT would have

to obtain NAT’s permission before changing the property’s

exterior.    The literature stated, however:   “Since these

properties reside in historic districts, pre-approval of exterior

changes is, in most cases, already required by local government

regulations” and “Properties qualifying for this program are
                                - 7 -

usually regulated by local government ordinances that restrict

exterior changes”.

V.    LLC’s Purchase of the Subject Property

       LLC purchased the subject property on November 5, 2002, for

$8 million, aiming to take advantage of the promotion while at

the same time expeditiously reselling the subject property at a

profit.    LLC paid the $8 million with $2 million cash and $6

million obtained through a mortgage loan from Wachovia Bank, N.A.

(Wachovia).    When LLC purchased the subject property, the

townhouse was in need of complete renovation.    LLC opted to

renovate the townhouse as a single-family townhome and solicited

and received the requisite approval of the LPC to fully gut the

townhouse and to perform that renovation.

VI.    LLC’s Facade Conservation Easement Application

       On April 10, 2003, before the renovation work began, LLC

applied to NAT for approval to contribute the donated property to

NAT, and LLC gave NAT a required $1,000 “good faith deposit”.8

The next day, NAT wrote to LLC thanking it for its application.

On May 12, 2003, the U.S. Department of the Interior National

Park Service classified the subject property as a “certified

historic structure”, noting that “This property is noteworthy for



       8
      NAT’s acceptance of a preservation easement was generally
contingent on the donor making a “cash contribution” to NAT of 10
percent of the fair market value of the easement. The “good
faith deposit” was a downpayment on the required “cash
contribution”.
                                - 8 -

the retention of its exterior presence and much of the property’s

period details remain within.    This neo-Italian Renaissance

structure stands in contrast to its more retrained [sic]

neighbors”.    NAT helped get the subject property certified as a

historic structure.

VII.    Deed of Easement

       NAT structured LLC’s contribution of the donated property to

be complete when a conservation deed of easement (deed of

easement) was executed by LLC, notarized, and executed by NAT.

On or about June 10, 2003, NAT prepared a deed of easement dated

June 10, 2003.    The deed of easement prohibited LLC and its

successors (collectively, LLC) from altering the subject

property’s “Protected Facade” without the written consent of NAT

or its successors (collectively, NAT).    The “Protected Facade”

included all exterior surfaces, e.g., walls, roofs, and chimneys,

that were visible from the street level on the opposite side of

East 82d Street.    Among other things, the deed of easement

prohibited LLC from erecting “any new or additional exterior

improvements on the [subject] Property or in the open space above

or surrounding the * * * townhouse” without the express written

consent of NAT.

       The deed of easement stated that the UDRs included “any and

all rights, however designated, now or hereafter associated with

the [subject] Property or any other property that may be used
                               - 9 -

pursuant to applicable zoning laws or other government laws or

regulations to compute permitted size, height, bulk or number of

structures, development density, lot yield, or any similar

development variable on or pertaining to the [subject] Property

or any other property.”   The deed of easement also stated that

neither LLC nor NAT could use, exercise, or transfer the UDRs and

that LLC was donating those rights to NAT for the purpose of

forever removing and extinguishing those rights.     The deed of

easement stated that in the event that the donated easement was

ever extinguished through a judicial decree, NAT

     will be entitled to receive upon the subsequent sale,
     exchange, or involuntary conversion of the [subject]
     Property, a portion of the proceeds from such sale,
     exchange or conversion equal to the same proportion
     that the value of the initial * * * donation bore to
     the entire value of the property at the time of the
     donation as estimated by a state licensed appraiser,
     unless controlling state law provides that * * * LLC is
     entitled to the full proceeds in such situations,
     without regard to the Easement. * * * NAT agrees to
     use any proceeds so realized in a manner consistent
     with the conservation purpose of the original
     contribution.

VIII.   LLC’s Subsequent Financing of the Property

     On January 22, 2004, Wachovia assigned the mortgage on the

subject property to First Republic Bank.   On the same day, LLC

took out a $3,390,000 mortgage loan from First Republic Bank to

finance the renovation of the subject property, and LLC and First

Republic Bank consolidated all mortgages on the subject property

into a single mortgage with a $9,350,000 principal amount.     First
                             - 10 -

Republic Bank was then the sole lender and mortgage holder with

respect to the subject property.

     In 2003 or 2004, First Republic Bank was given the deed of

easement and a proposed lender agreement (lender agreement).    The

lender agreement stated that First Republic Bank was

subordinating its rights in the subject property to NAT’s rights

to enforce the conservation purpose of the donated property in

perpetuity, subject to the following conditions and stipulations:

     (a) * * * First Republic Bank and its assignees shall
     have a prior claim to all insurance proceeds as a
     result of any casualty, hazard or accident occurring to
     or about the [subject] Property and all proceeds of
     condemnation, and shall be entitled to same in
     preference to * * * NAT until the Mortgage/the Deed of
     Trust is paid off and discharged, notwithstanding that
     the Mortgage/the Deed of Trust is subordinate in
     priority to the Easement.

               *    *    *    *    *    *    *

     (c) Nothing contained in this paragraph or in this Easement
     shall be construed to give * * * First Republic Bank the
     right to violate the terms of this Easement or to extinguish
     this Easement by taking title to the [subject] Property by
     foreclosure or otherwise.

First Republic Bank scrutinized the lender agreement to determine

whether the agreement would affect the bank’s collateral value in

the subject property and concluded that it would not.   First

Republic Bank signed the lender agreement on July 15, 2004, and

the lender agreement was attached to and incorporated into the

deed of easement.
                              - 11 -

IX.   2004 Appraisal

      LLC obtained an appraisal (2004 appraisal) from Jerome Haims

Realty, Inc. (Haims), on or about June 7, 2004.    The 2004

appraisal was dated June 7, 2004, on which date LLC’s renovation

of the subject property was not complete.   LLC had hired Tecny

and another firm to renovate the subject property.    Tecny

performed that renovation in 2004 and 2005.   The exterior

renovation was complete as of December 30, 2004, but interior

renovation (e.g., improvements, painting and finishing, and

installation of woodwork) was still in progress.

      The 2004 appraisal valued the donated property as of

February 15, 2005, which as of June 7, 2004, was the estimated

completion date of the interior renovation.   The 2004 appraisal

projected that the February 15, 2005, value of the facade

easement would be $2,600,000 and that the value of the UDRs

(which the 2004 appraisal stated totaled 15,165 square feet)

would be $3,870,000, for a total value of $6,470,000.

      Mr. Asser reviewed the 2004 appraisal, and he accepted it

even though he believed that the values were too low.    NAT

advertises to its contributors of conservation easements that

Haims is a preapproved appraiser of such easements, and Haims has

performed over 100 appraisals pursuant to those referrals.     As of

the time of the 2004 appraisal, LLC and Haims had a solid
                              - 12 -

business relationship and LLC had hired Haims many times to

obtain other appraisals.

X.   LLC’s December 8, 2004, Application and Crossover Addendum

      On December 6, 2004, NAT gave LLC:   (1) A second facade

conservation easement application (which was more detailed than

the first application); and (2) a “Facade Conservation Easement

Application Crossover Addendum” (crossover addendum).    On

December 8, 2004, Mr. Asser, on behalf of LLC, completed both the

second application and the crossover addendum.

      The crossover addendum stated that LLC could contribute the

donated property to NAT in 2004 and qualify for a charitable

contribution deduction for that year even though some of the

deduction requirements would not be met until 2005.    The

crossover addendum required that LLC obtain a “final report” from

a “qualified appraiser” within 60 days and that LLC give NAT a

“completed closing package”, consisting of a signed and notarized

deed of easement, necessary recording documents, and the cash

contribution, within 55 days of the appraisal date or December

20, 2004, whichever came first.   The crossover addendum stated

that when those requirements were met, NAT would deliver to LLC a

completed Form 8283, Noncash Charitable Contributions, which had

to be filed with the 2004 return for LLC to receive a charitable

contribution deduction for the donated property.
                                  - 13 -

       On December 17, 2004, Mr. Asser wrote NAT a check for

$451,500.    This check represented the balance of the “cash

contribution” that NAT required LLC to make as a condition of

LLC’s contribution of the donated property.

XI.    The Noncash Contribution

       Mr. Asser, on behalf of LLC, executed the deed of easement

on December 26, 2004, and his signature was notarized on the same

day.    Four days later, NAT effected its acceptance of the donated

property by executing the deed of easement.      NAT sent LLC an

acknowledgment letter, dated March 31, 2005, thanking LLC for the

cash and noncash contributions and enclosing a completed copy of

page 2 of Form 8283.     The New York City Department of Finance,

Office of the City Register, recorded the deed of easement on

June 10, 2005.

XII.    2005 Appraisal

       Before LLC filed its 2004 return, NAT told Mr. Asser that

LLC needed to get a new appraisal because the 2004 appraisal was

prepared too early.      Mr. Asser obtained a second appraisal from

Haims (2005 appraisal) on February 8, 2005.      The 2005 appraisal

valued the noncash contribution prospectively as of March 31,

2005, which as of February 8, 2005, was the estimated completion

date of the interior renovation.      The 2005 appraisal concluded

that the prospective fair market values of the facade easement
                                 - 14 -

and the UDRs would be $2,690,000 and $3,880,000, respectively, or

$6,570,000 in total.

XIII.    LLC’s 2004 Partnership Tax Return

        LLC timely filed the 2004 return on October 17, 2005.   The

2004 return included the second page of Form 8283 and included

the 2005 appraisal as an attachment.      The second page of Form

8283 stated a contribution date of December 30, 2004, and a fair

market value of the donated property of $6,570,000.      The second

page of Form 8283 reported that the noncash contribution was a

“Historic Preservation Easement” and did not mention the UDRs.

The 2005 appraisal stated that the noncash contribution consisted

of the donated property.

XIV.     Preparation of the 2004 Return

        The 2004 return was prepared by Irwin Weissman (Mr.

Weissman).     Mr. Weissman has been a certified public accountant

since 1962, and he has been a principal in a small accounting

firm since 1987.     Mr. Weissman has prepared only one tax return

that claimed a charitable contribution deduction for a facade

easement--the 2004 return.

XV.     2009 Appraisal

        Mr. Asser obtained a third appraisal (2009 appraisal) from

Haims in late 2009.      Haims prepared the 2009 appraisal on or

about September 17, 2009.      The 2009 appraisal valued the donated

property as of December 30, 2004.
                               - 15 -

                               OPINION

I.    Burden of Proof

       Respondent determined that LLC’s $6,570,000 noncash

contribution did not qualify for a charitable contribution

deduction under section 170.    This determination is presumed

correct, and petitioner must prove it wrong in order to prevail.

See Rule 142(a)(1); Welch v. Helvering, 290 U.S. 111, 115 (1933);

see also Deputy v. du Pont, 308 U.S. 488, 493 (1940) (stating

that deductions are a matter of legislative grace to which

taxpayers must prove their entitlement).    While section 7491(a)

may place the burden of proof upon the Commissioner in certain

circumstances, petitioner conceded at trial that petitioner has

the burden of proof.9

II.    Noncash Contribution

       A taxpayer is generally allowed a deduction for any

charitable contribution made during the taxable year.    Sec.

170(a)(1).    A charitable contribution includes a gift of property

to a charitable organization, made with charitable intent and

without the receipt or expectation of receipt of adequate

consideration.    See Hernandez v. Commissioner, 490 U.S. 680, 690

(1989); United States v. Am. Bar Endowment, 477 U.S. 105, 116-118

(1986); see also sec. 1.170A-1(h)(1) and (2), Income Tax Regs.

While a taxpayer is generally not allowed a charitable



       9
      Petitioner’s opening brief is consistent with petitioner’s
concession in that the brief does not reference sec. 7491(a).
                                  - 16 -

contribution deduction for a gift of property consisting of less

than an entire interest in that property, an exception is made

for a “qualified conservation contribution.”      See sec.

170(f)(3)(A), (B)(iii).

     A “qualified conservation contribution” is a contribution

(1) of a “qualified real property interest,” (2) to a “qualified

organization,” (3) which is made “exclusively for conservation

purposes.”    Sec. 170(h)(1); see also sec. 1.170A-14(a), Income

Tax Regs.    We focus on the third requirement; i.e., whether LLC’s

contribution of the donated property was exclusively for

conservation purposes.    A contribution is made exclusively for

conservation purposes only if it meets the requirements of

section 170(h)(4) and (5).       Glass v. Commissioner, 124 T.C. 258,

277 (2005), affd. 471 F.3d 698 (6th Cir. 2006).      We begin our

analysis with the requirements of section 170(h)(5).

     A.      Section 170(h)(5)

     Section 170(h)(5)(A) provides that “A contribution shall not

be treated as exclusively for conservation purposes unless the

conservation purpose is protected in perpetuity.”      The parties

disagree on whether the conservation purpose of the donated

property is protected in perpetuity.       Respondent argues that the

donated property is not protected in perpetuity by virtue of

First Republic Bank’s mortgage on the subject property.

Petitioner argues that the conservation purpose of the donated
                             - 17 -

property is protected in perpetuity because First Republic Bank

subordinated its interest in the subject property to NAT’s right

to enforce the terms of the easement.

     The perpetuity requirement of section 170(h)(5)(A) has its

origins in the Tax Reduction and Simplification Act of 1977 (TRSA

1977), Pub. L. 95-30, sec. 309(a), 91 Stat. 154.10   In TRSA 1977

sec. 309, Congress temporarily allowed a charitable contribution

deduction for an “easement with respect to real property granted

in perpetuity to * * * [a governmental unit or qualifying

charitable organization] exclusively for conservation purposes”.

The conference report on TRSA 1977 explained:

          While it is intended that the term “conservation
     purposes” be liberally construed with regard to the
     types of property with respect to which deductible
     conservation easements * * * may be granted, it is also
     intended that contributions of perpetual easements
     * * * qualify for the deduction only in situations
     where the conservation purposes of protecting or
     preserving the property will in practice be carried
     out. Thus, it is intended that a contribution of a
     conservation easement * * * qualify for a deduction
     only if the holding of the easement * * * is related to
     the purpose or function constituting the donee’s
     purpose for exemption (organizations such as nature


     10
      The Tax Reform Act of 1976, Pub. L. 94-455, sec. 2124(e),
90 Stat. 1919, authorized a deduction for the donation of an
“easement with respect to real property of not less than 30
years’ duration” granted to a governmental unit or qualifying
charitable organization made “exclusively for conservation
purposes”. See Glass v. Commissioner, 124 T.C. 258, 277-280
(2005) (examining the legislative history of the requirement that
a qualified contribution of a conservation easement be
exclusively for conservation purposes), affd. 471 F.3d 698 (6th
Cir. 2006). Congress, however, did not amend sec. 170(f)(3) to
require that the easement be granted in perpetuity until TRSA
1977.
                             - 18 -

     conservancies, environmental, and historic trusts,
     State and local governments, etc.) and the donee is
     able to enforce its rights as holder of the easement *
     * * and protect the conservation purposes which the
     contribution is intended to advance. The requirement
     that the contribution be exclusively for conservation
     purposes is also intended to limit deductible
     contributions to those transfers which require that the
     donee hold the easement * * * exclusively for
     conservation purposes (i.e., that they not be
     transferable by the donee in exchange for money, other
     property, or services). [H. Conf. Rept. 95-263, at 30-
     31 (1977), 1977-1 C.B. 519, 523.]

Congress again drew attention to the protection of a contributed

conservation easement in the Act of Dec. 17, 1980 (1980 Act),

Pub. L. 96-541, sec. 6(a), 94 Stat. 3206,     which extended

permanently the deduction for a charitable contribution of a

qualified conservation easement.11    The Senate report

accompanying the enactment stated:

           The bill retains the present law requirement that
     contributions be made “exclusively for conservation
     purposes.” Moreover, the bill explicitly provides that
     this requirement is not satisfied unless the
     conservation purpose is protected in perpetuity. The
     contribution must involve legally enforceable
     restrictions on the interest in the property retained
     by the donor that would prevent uses of the retained
     interest inconsistent with the conservation purposes.
     * * *

               *    *    *      *     *   *     *




     11
      As amended in 1977, the provisions of former sec.
170(f)(3)(B)(iii) (excepting from the partial interest limitation
a taxpayer’s contribution of a qualified conservation easement)
did not apply to contributions made after June 13, 1981. TRSA
1977 sec. 309(b)(1), 91 Stat. 154. In the 1980 Act sec. 6(c), 94
Stat. 3207, Congress effectively made permanent the deduction for
such a contribution.
                             - 19 -

          By requiring that the conservation purpose be
     protected in perpetuity, the committee intends that the
     perpetual restrictions must be enforceable by the donee
     organization (and successors in interest) against all
     other parties in interest (including successors in
     interest). * * *

          * * * The requirement that the conservation
     purpose be protected in perpetuity also is intended to
     limit deductible contributions to those transfers which
     require that the donee (or successor in interest) hold
     the conservation easement (or other restriction) or
     other property interests exclusively for conservation
     purposes (i.e., that they not be transferable by the
     donee except to other qualified organizations that also
     will hold the perpetual restriction or property
     exclusively for conservation purposes). [S. Rept. 96-
     1007, at 13-14 (1980), 1980-2 C.B. 599, 605-606.]

The Secretary published final regulations interpreting section

170(h)(5) on January 14, 1986.       T.D. 8069, 1986-1 C.B. 89.   These

regulations in relevant part interpret section 170(h)(5)(A) as

follows:

     § 1.170A-14. Qualified conservation contributions. * * *

               *    *    *       *      *    *    *

          (g) Enforceable in perpetuity--(1) In general.--In
     the case of any donation under this section, any
     interest in the property retained by the donor (and the
     donor’s successors in interest) must be subject to
     legally enforceable restrictions (for example, by
     recordation in the land records of the jurisdiction in
     which the property is located) that will prevent uses
     of the retained interest inconsistent with the
     conservation purposes of the donation. * * *

          (2) Protection of a conservation purpose in case
     of donation of property subject to a mortgage.--In the
     case of conservation contributions made after February
     13, 1986, no deduction will be permitted under this
     section for an interest in property which is subject to
     a mortgage unless the mortgagee subordinates its rights
     in the property to the right of the qualified
                        - 20 -

organization to enforce the conservation purposes of
the gift in perpetuity. For conservation contributions
made prior to February 14, 1986, the requirement of
section 170(h)(5)(A) is satisfied in the case of
mortgaged property (with respect to which the mortgagee
has not subordinated its rights) only if the donor can
demonstrate that the conservation purpose is protected
in perpetuity without subordination of the mortgagee’s
rights.

     (3) Remote future event.--A deduction shall not be
disallowed under * * * this section merely because the
interest which passes to, or is vested in, the donee
organization may be defeated by the performance of some
act or the happening of some event, if on the date of
the gift it appears that the possibility that such act
or event will occur is so remote as to be negligible.
See paragraph (e) of § 1.170A-1. For example, a
state’s statutory requirement that use restrictions
must be rerecorded every 30 years to remain enforceable
shall not, by itself, render an easement nonperpetual.

          *    *    *    *    *    *    *

     (6) Extinguishment.--(i) In general.--If a
subsequent unexpected change in the conditions
surrounding the property that is the subject of a
donation under this paragraph can make impossible or
impractical the continued use of the property for
conservation purposes, the conservation purpose can
nonetheless be treated as protected in perpetuity if
the restrictions are extinguished by judicial
proceeding and all of the donee’s proceeds (determined
under paragraph (g)(6)(ii) of this section) from a
subsequent sale or exchange of the property are used by
the donee organization in a manner consistent with the
conservation purpose of the original contribution.

     (ii) Proceeds.--In case of a donation made after
February 13, 1986, for a deduction to be allowed under
this section, at the time of the gift the donor must
agree that the donation of the perpetual conservation
restriction gives rise to a property right, immediately
vested in the donee organization, with a fair market
value that is at least equal to the proportionate value
that the perpetual conservation restriction at the time
of the gift, bears to the value of the property as a
whole at that time. * * * For purposes of this
                               - 21 -

     paragraph (g)(6)(ii), that proportionate value of the
     donee’s property rights shall remain constant.
     Accordingly, when a change in conditions gives rise to
     the extinguishment of a perpetual conservation
     restriction under paragraph (g)(6)(i) of this section,
     the donee organization, on a subsequent sale, exchange,
     or involuntary conversion of the subject property, must
     be entitled to a portion of the proceeds at least equal
     to that proportionate value of the perpetual
     conservation restriction, unless state law provides
     that the donor is entitled to the full proceeds from
     the conversion without regard to the terms of the prior
     perpetual conservation restriction.

     With our understanding of the origins of section

170(h)(5)(A) and its relevant legislative history and regulatory

interpretation in mind, we now return to the question of whether

the donated property was protected in perpetuity.   Respondent

argues that the conservation purpose of the donated property is

not protected in perpetuity because NAT was not guaranteed a

proportionate share of proceeds in the event of a casualty or

condemnation before the mortgage held by First Republic Bank was

satisfied.12   Petitioner argues that the terms of the deed of

easement and New York law guarantee NAT’s right to receive a

proportionate share of future proceeds in the event of a casualty

or condemnation and that section 1.170A-14(g)(6)(ii), Income Tax

Regs., is therefore satisfied.   We agree with respondent.

     We recently decided whether taxpayers were entitled to a

deduction for the claimed charitable contribution of an easement


     12
      Respondent does not assert that LLC failed to meet the
subordination requirement of sec. 1.170A-14(g)(2), Income Tax
Regs.
                              - 22 -

under similar facts in Kaufman v. Commissioner, 134 T.C. 182

(2010) (Kaufman I).   In Kaufman I, the taxpayers contributed to a

donee organization a facade easement on a single-family rowhouse

which they owned in a historic preservation district in Boston.

At the time of contribution, the property was subject to a

mortgage which entitled the mortgagee to a “prior claim” to all

proceeds of condemnation and to all insurance proceeds resulting

from any casualty of the property.     The taxpayers claimed a

charitable contribution deduction equal to the value they

assigned to the facade easement, and the Commissioner disallowed

that deduction.

     In Kaufman I the Commissioner moved for summary judgment,

and we granted that motion insofar as it related to the

deductibility of the contribution of the easement.     We held as a

matter of law that the facade easement was not protected in

perpetuity because the donee organization was not guaranteed a

proportionate share of proceeds in the event of casualty or

condemnation as required by section 1.170A-14(g)(6)(ii), Income

Tax Regs.   We noted that the taxpayers could not avoid the

unconditional requirement that the donee organization “must” be

entitled to its proportionate share of future proceeds by showing

that they would most likely be able to satisfy their mortgage and
                              - 23 -

their obligations to the donee organization.13   We believe our

Opinion in Kaufman I to be squarely on point.

     As in Kaufman I, the lender agreement here is clear that

First Republic Bank retained a “prior claim” to all condemnation

and insurance proceeds “in preference” to NAT “until” that

mortgage was satisfied and discharged.   Thus, at any point before

the mortgage was repaid, the possibility existed for First

Republic Bank to deprive NAT of value that should have otherwise

been dedicated to the conservation purpose.    Such would be the

case, for example, if the servient property was substantially or

completely destroyed and no significant value remained in that

property after the mortgage was satisfied.    Under such

circumstances, the right of NAT to a proportionate share of the

future proceeds of a condemnation or casualty would not be

guaranteed.   LLC’s contribution of the donated property thus

fails to comply with the enforceability in perpetuity

requirements of section 1.170A-14(g)(6)(ii), Income Tax Regs.      We

find that LLC’s contribution was not protected in perpetuity and

therefore not a qualified conservation contribution under section

170(h)(1).

     Petitioner argues that notwithstanding the mortgage on the

property, the conservation purpose of the donated property is



     13
      The taxpayers moved the Court to reconsider our grant of
partial summary judgment, a motion which we denied in Kaufman v.
Commissioner, 136 T.C. __ (2011) (Kaufman II).
                                - 24 -

also protected in perpetuity under New York law.   Petitioner

relies on N.Y. Real Prop. Acts. Law sec. 1951(2) (McKinney 2008),

which petitioner believes “requires” that NAT be compensated

before the easement may be extinguished.   We are not persuaded.

N.Y. Real Prop. Acts. Law sec. 1951(2) authorizes a New York

court to extinguish an easement where the easement “is of no

actual and substantial benefit to the persons seeking its

enforcement or seeking a declaration or determination of its

enforceability, * * * [because] by reason of changed conditions

or other cause, its purpose is not capable of accomplishment, or

for any other reason”.   That section further provides that an

easement adjudged unenforceable shall be “completely

extinguished” upon payment of damages, if any, which the person

entitled to enforce the easement would sustain from the

extinguishment of that easement.

     Petitioner argues that LLC has satisfied the requirement of

section 1.170A-14(g)(6)(ii), Income Tax Regs., because a New York

court “may” adjudge the facade easement unenforceable, entitling

the beneficiary of the easement to compensation.   See N.Y. Real

Prop. Acts. Law sec. 1951(2).    But as we have discussed above and

in Kaufman I and II, section 1.170A-14(g)(6)(ii), Income Tax

Regs., requires that NAT “must” be entitled to its proportionate

share of proceeds in the event the easement is extinguished.

Petitioner cannot avoid the unconditional requirement of section
                              - 25 -

1.170A-14(g)(6)(ii), Income Tax Regs., by showing that a New York

court might adjudge the facade easement unenforceable, especially

where, as here, petitioner has not established that NAT would

sustain or recover actual damages in the event of extinguishment.

     B.   Section 170(h)(4)

     We are also not convinced that the donated property

satisfies the requirements of section 170(h)(4).   Under section

170(h)(4)(A)(iv), a contribution is for a conservation purpose if

it preserves a historically important land area or a certified

historic structure.   See Glass v. Commissioner, 124 T.C. at 277-

278; see also sec. 1.170A-14(d)(1), Income Tax Regs.   A

“certified historic structure” includes a building which is in a

registered historic district and is certified by the Secretary of

the Interior as being of historic significance to the district.

Sec. 1.170A-14(d)(5)(iii), Income Tax Regs.    The subject property

is a “certified historic structure” because it is within the

Metropolitan Museum Historic District and was certified as such

by the U.S. Department of the Interior National Park Service.

Petitioner’s entitlement to a deduction for a contribution of the

donated property, therefore, depends on whether the transfer of

the donated property in fact preserved the subject property.    See

Herman v. Commissioner, T.C. Memo. 2009-205.

     By virtue of its location in the Metropolitan Museum

Historic District, New York City law makes it unlawful for LLC to
                              - 26 -

alter the subject property unless LPC approves that alteration.

N.Y. City Admin. Code sec. 25-305(a)(1) (2002).   In determining

whether to allow such an alteration, the LPC must consider

whether the alteration would “change, destroy or affect any

exterior architectural feature” of the subject property and, in

the case of an improvement, “whether such construction would

affect or not be in harmony with the external appearance of

other, neighboring improvements”.   Id. sec. 25-306(a)(1).    This

determination would of course consider not only the external

appearance of the subject property’s facade but also the ability

of LLC to alter the aesthetics of the subject property by

building above it.   Thus it is local law and the rules of the LPC

that preserve the subject property and not the rights which NAT

possessed under the deed of easement.   See Herman v.

Commissioner, supra.   While petitioner argues that NAT’s

enforcement of the deed of easement affords additional meaningful

protection not already guaranteed by the LPC’s enforcement of

local law, petitioner has failed to persuade us that such is the

case.

     C.   Conclusion

     We hold that LLC’s contribution of the donated property does

not comply with the requirements of section 170(h)(4) and (5).

Accordingly, LLC’s contribution of the donated property was not

made “exclusively for conservation purposes”, see sec. 170(h)(1),
                               - 27 -

and LLC is not entitled to its claimed noncash charitable

contribution deduction under section 170(f)(3)(B)(iii).14

III.    Accuracy-Related Penalty

       Respondent determined that a 20-percent accuracy-related

penalty under section 6662(a) applies to any underpayment of tax

attributable to the $6,570,000 disallowance.     Respondent

determined that the accuracy-related penalty was appropriate

because of negligence or disregard of rules or regulations, or

alternatively, because of a substantial understatement of income

tax.    See sec. 6662(b)(1) and (2), (c), (d).   Respondent bears

the burden of production on the applicability of this accuracy-

related penalty in that he must come forward with sufficient

evidence indicating that it is proper to impose it.     See sec.


       14
      Respondent also determined that LLC did not properly
substantiate its claimed deduction for the noncash contribution
because none of the Haims appraisals were “qualified appraisals”
within the meaning of sec. 170(f)(11)(E) and sec. 1.170A-
13(c)(3), Income Tax Regs. To that end, respondent states that
the 2004 appraisal was prepared more than 60 days before the date
of contribution; the 2004 and 2005 appraisals did not value the
donated property as of the date of the contribution; and the 2009
appraisal was obtained long after the due date (including
extensions) of the return on which the deduction was claimed. We
agree with this determination. Sec. 170(f)(11)(D) requires that
a “qualified appraisal” be attached to the tax return reporting a
noncash contribution of more than $500,000, and LLC did not meet
this requirement for the reasons stated by respondent as to this
issue. We add that the appraisals also failed to be “qualified
appraisals” for the reasons set forth in Scheidelman v.
Commissioner, T.C. Memo. 2010-151. Whereas petitioner relies
upon the doctrine of substantial compliance to offset
petitioner’s noncompliance with any applicable requirement for
characterizing an appraisal as a “qualified appraisal”, we do not
do so. See id.
                                - 28 -

7491(c); see also Higbee v. Commissioner, 116 T.C. 438, 446

(2001).   Once respondent meets this burden, the burden of proof

remains with petitioner, including the burden of proving that the

penalty is inappropriate because of reasonable cause.      See Higbee

v. Commissioner, supra at 446-447.       The facts of this case lead

us to conclude that respondent has met his burden of production

with respect to the accuracy-related penalty.

     Petitioner argues that the accuracy-related penalty does not

apply because LLC meets the reasonable cause defense of section

6664(c)(1).     Pursuant to that section, the 20-percent accuracy-

related penalty of section 6662(a) does not apply to any portion

of an underpayment for which petitioner establishes that LLC,

through Mr. Asser:    (1) Had reasonable cause; and (2) acted in

good faith.15    Whether Mr. Asser acted with reasonable cause and

in good faith turns on the extent to which he, in the light of

his experience, knowledge, and education, tried to assess the

proper tax treatment of the contribution of the donated property.

See sec. 1.6664-4(b)(1), Income Tax Regs.      Reasonable cause may

exist where a position taken on a return involves an issue that

was novel at the time the return was filed.      See Bunney v.



     15
      We determine the application of this defense in this
partnership-level proceeding because petitioner claims that the
defense applies on account of the actions of Mr. Asser as LLC’s
managing member and tax matters partner. See Whitehouse Hotel
Ltd. Pship. v. Commissioner, 131 T.C. 112, 173 (2008), vacated
and remanded on another issue 615 F.3d 321 (5th Cir. 2010);
Tigers Eye Trading, LLC v. Commissioner, T.C. Memo. 2009-121; see
also sec. 301.6221-1(c), Proced. & Admin Regs.
                               - 29 -

Commissioner, 114 T.C. 259, 266 (2000); Lemishow v. Commissioner,

110 T.C. 110, 114 (1998); cf. Van Camp & Bennion v. United

States, 251 F.3d 862, 868 (9th Cir. 2001) (“Where a case is one

‘of first impression with no clear authority to guide the

decision makers as to the major and complex issues,’ a negligence

penalty is inappropriate.” (quoting Foster v. Commissioner, 756

F.2d 1430, 1439 (9th Cir. 1985), affg. in part and vacating as to

an addition to tax for negligence 80 T.C. 34 (1983))).

     We agree with petitioner that Mr. Asser made a reasonable

attempt to comply with the Internal Revenue Code and that he

acted in good faith.   We understand that Kaufman I is the first

time that a court has considered the effect of a mortgage on a

contribution of an easement claimed to be a qualified

conservation contribution.   That interpretation of the relevant

regulation was not published until more than 4 years after Mr.

Asser filed the 2004 return.   We do not believe that the

regulations interpreting the perpetuity requirement of section

170(h)(5) are so crystal clear and unambiguous as to make the

imposition of the accuracy-related penalty appropriate.     We also

find that Mr. Asser acted in good faith by securing three

separate appraisals of the donated property and disclosing the

contribution of that property on LLC’s 2004 return.     See Rolfs v.

Commissioner, 135 T.C. 471 (2010).      Accordingly, in the light of

all of the facts and circumstances, we find that Mr. Asser acted
                                - 30 -

reasonably and in good faith and hold that LLC is not liable for

an accuracy-related penalty under section 6662(a).

IV.   Conclusion

      We have considered all arguments made by petitioner for a

contrary holding as to the deficiency, and we have considered all

arguments made by respondent for a contrary holding as to the

accuracy-related penalty.   To the extent that we have not

discussed those arguments above, we have rejected them as moot,

irrelevant, or without merit.


                                          Decision will be entered

                                     for respondent as to the

                                     deficiency and for petitioner

                                     as to the accuracy-related

                                     penalty.
