Herman v. Commissioner, T.C. Memo 2009-205 (U.S.T.C. 2009)

Between 1975 and 1998, J. Maurice Herman owned an 11-story apartment building (Building) located on Fifth Avenue in New York City. The Building is in a national and city historic district. In August 2003, Herman requested and received National Park Service designation of the Building as a 'certified historic structure.' In December 2003, Herman donated a historic preservation easement to the National Architectural Trust, a nonprofit 501(c)(3) organization. Under then-current zoning ordinances, Herman had the right to build up to 22,000 additional square feet on the top of the Building. The easement limited development to only 10,000 additional square feet, extinguishing 12,000 feet of developable 'air rights.' It also provided that any alterations to the Building would be in accordance with applicable federal, state and local laws and regulations. Based on an appraisal report showing that the easement reduced the highest and best use from a 16-story building to a 13-story building, Herman claimed a deduction of $21,850,000. The IRS challenged the deduction in its entirety, determining a deficiency of $3,906,531 and an accompanying accuracy-related penalty under section 6662(h) of $1,562,612. The IRS moved for summary judgment on the issue of whether the easement preserves a 'historically important land area' or a 'certified historic structure' under I.R.C. § 170(h)(4)(A)(iv).

Holding: The Tax Court held that the easement did not meet the requirements of I.R.C. § 170(h)(4)(A)(iv) and denied the deduction. Included in the opinion were a number of holdings: ?

First and foremost, the Tax Court determined that the easement affected only vertical expansion of the Building, and did nothing to protect the existing Building from being demolished or modified.

The Court further held that even if the easement did protect the existing Building, because Windsor was the actual owner, and Herman owned only the additional development rights, those protections would flow from restrictions on Windsor, not Herman. ?

Next, the Court held that the easement did not protect any specific view, because Herman and Windsor could have built their additional 10,000 square feet in any configuration, including six stories covering the top of the street frontage half of the Building. ?

The Court found that the easement's incorporation of federal, state, and local zoning land use laws and ordinances was redundant and did not strengthen the protections on the Building. ?

Finally, the opinion notes that because the easement does not protect the Building, it cannot protect any related 'historically important land area,' which would be historically important only in connection with the Building. ?

April 2012 Update: In a subsequent trial, Herman took a different track, claiming that the easement was deductible as a contribution of his entire interest in the air rights property under § 170(f)(3)(A). In a bench order (essentially an unpublished opinion) following the trial, the Tax Court first ruled that Herman did not own the additional development rights at the time of the easement donation because he could not prove that Windsor executed the assignment of such rights to him. Next, the court found that the easement did not constitute a donation of Herman's entire rights in the property, because the easement extinguished those rights and did not contribute them to NAT. Third, the court ruled that the easement did not qualify under § 170 (f) (3) (B) (ii) because Herman did not contribute an undivided interest in the entire 22,000 square feet of air rights. Finally, the court cited to Scheidelman and ruled that substantial compliance could not rescue the flaws in the Form 8283 (omission of cost basis and date of acquisition of property).

Analysis and Notes: As the opinion points out in a footnote, the holding with respect to 'certified historic structure' is of limited precedential value, because Section 170(h)(4)(B), added to the statute in 2006, tightened the requirements in this regard. At the same time, the Court did leave open the possibility, however remote, that an easement that extinguished only 'air rights' could qualify as protecting a 'historically important land area' under the right set of facts. In a subsequent order, the Court denied Herman's motion for an interlocutory appeal.