Current developments in taxation of individuals: Part 1

This semiannual update surveys recent federal tax developments involving individuals. It summarizes notable cases, rulings, and guidance on a variety of topics issued during the six months ending April 2025. The update was written by members of the AICPA Individual and Self-Employed Tax Technical Resource Panel. The items are arranged in Code section order.

Sec. 25C: Energy-efficient home improvement credit; Sec. 25D: Residential clean-energy credit

The Inflation Reduction Act of 2022, P.L. 117-169, extended and revised the energy-efficient home improvement credit under Sec. 25C, which allows individuals a tax credit equal to 30% of the costs of qualified energy-efficient improvements and property installed during the year. Annual credit caps depending on property type replace a previous $500 lifetime limitation.¹

A similar credit is available under Sec. 25D, the residential clean-energy credit, for alternative energy property. Both credits are claimed on Form 5695, Residential Energy Credits.

The law known as the One Big Beautiful Bill Act (OBBBA), H.R. 1, P.L. 119-21, terminated both credits earlier than their sunset dates under the Inflation Reduction Act, which for the Sec. 25C credit had been for property placed in service after Dec. 31, 2032, and for the Sec. 25D credit, property placed in service after Dec. 31, 2034. Instead, under the OBBBA, both credits are no longer available for property placed in service after Dec. 31, 2025.

On Jan. 17, 2025, the IRS updated its frequently asked questions (FAQs) on the credits in Fact Sheet 2025-01, expanding information on credit requirements. New FAQs were added as well, including, for the Sec. 25C credit:

• Taxpayers can claim the credit for qualified property they install themselves.
• Window treatments, such as blinds or tinting, are not eligible for the credit.
• Energy-efficient building envelope components consisting of an insultation material or system must meet criteria established by the International Energy Conservation Code.
• Taxpayers residing in co-ops or condominiums where expenditures were paid by the co-op or condo management association may rely on the relevant rules provided in proposed regulations to determine their proportionate share of qualified property.
• How manufacturers can obtain “qualified manufacturer” status for the credit.
• Using qualified product identification numbers on qualified property placed into service on or after Jan. 1, 2025, to claim the credit.

In FAQs for both credits:

• Taxpayers should keep records to establish credit eligibility for as long as may be relevant to their tax return examinations. For example, as the Sec. 25C credit requires property basis reduction under Sec. 25C(g), a taxpayer should keep records for as long as property basis is relevant in determining income tax.
• Financing costs such as interest or an extended warranty should not be included in calculating the credit amount.

Sec. 61: Gross income defined

In Zajac,² the Tax Court considered whether a claim settlement payment was excludable from gross income. The facts as stated in the opinion include the following: Joseph Zajac III resided in Bolton, Mass., when he was arrested and taken to jail in a police vehicle on domestic assault and battery charges. He claimed in a letter to the town of Bolton that he sustained physical injuries when the arresting officer drove “recklessly,” resulting in his “being tossed around in the back seat,” and from conditions in a holding cell. His claim asserted that he suffered physical and emotional injuries as well as violations of constitutional and state law under the Second, Fourth, Fifth, Sixth, Eighth, Ninth, Thirteenth, and Fourteenth Amendments to the U.S. Constitution, including unlawful seizure of one of his firearms, suspension of his gun license, and an unlawful search of his residence.

On April 6, 2007, Zajac released his claim in exchange for an agreement and a $35,001 payment from the town of Bolton. He did not include the proceeds in gross income on his federal income tax return for 2007. In a separate legal case against his ex-wife, Zajac stated that the agreement was for “false arrest; false imprisonment; illegal search and seizure; intentional infliction of emotional distress; civil rights violations; malicious prosecution; abuse of process; conspiracy; and defamation of character.”

The IRS examined Zajac’s return and asserted that he underreported his income, including by omitting the settlement proceeds, and challenged several of his deductions. The Service asserted that since Zajac’s legal claim against his wife did not mention any physical injuries, the settlement with the town of Bolton was not for physical injuries.

The Tax Court, however, stated that the applicable test was not what the payee, Zajac, intended, but what the payer, the town of Bolton, intended with respect to the payment. Since the agreement did not state what specific claims were being settled, the court looked to the information available to the town of Bolton at the time of the settlement. Zajac had presented evidence to the town of Bolton of multiple physical injuries, including cuts and bruises, as well as emotional distress from those injuries. Zajac also presented to the town of Bolton claims that his constitutional rights were violated. Based upon all of these facts, the Tax Court concluded that some of the settlement payment was made to settle potential liability for infliction of pain and physical injury. The court determined that half of the payment was for physical injuries and emotional distress³ and excluded from income under Sec. 104(a)(2), and the other half was includible in income under Sec. 61(a).

The following summary of Hubbard⁴ follows up a summary of the plaintiff’s Tax Court case in the September 2024 individual tax update.⁵ The case was appealed to the Sixth Circuit, which reversed and remanded the Tax Court decision. In the original Tax Court case, the court ruled that Lonnie Hubbard’s forfeiture of his individual retirement account (IRA) to the government in connection with his drug conviction constituted his constructive receipt of the funds in gross income because it discharged an “obligation” that Hubbard owed.

The Sixth Circuit’s reversal rested on the type of forfeiture involved. The court stated that in a forfeiture:

[C]ourts … can either grant the government ownership of a specific asset or enter a money judgment that allows the government to collect on any of the defendant’s property. The forfeiture order in Hubbard’s case granted the IRS ownership of his IRA; it did not enter a money judgment against him. So when the IRS withdrew the funds from the IRA, it was not taking Hubbard’s money to discharge a debt. It was simply transferring its own money.

Sec. 408(d)(1) provides that the payee or distributee of withdrawn IRA funds “should pay these taxes,” the Sixth Circuit stated. “Because the IRS owned and controlled the IRA and received the funds, it qualified as the payee or distributee.” Thus, it held, Hubbard did not owe tax on the IRA distribution.

In Franklin,⁶ the question arose as to whether the taxpayer’s unauthorized withdrawal of funds from a public account was embezzlement — and thus subject to income tax⁷ — or a nontaxable loan. The taxpayer, a county sheriff, had control over an account used to purchase food for jail inmates. The taxpayer withdrew funds from the account to invest for 30 days on the promise of a 17% return. The investment was a Ponzi scheme, but due to a personal guarantee by a third party, the taxpayer ultimately received the funds back and redeposited them into the jail food money account.

The IRS claimed that the withdrawal without a promissory note was a misappropriation for personal use and thus was embezzlement income. The court, however, looked at the intent of the taxpayer, as required in Moore.⁸ The court determined that the taxpayer withdrew the funds with the intent of investing them and returning the funds with appreciation to the jail money food account. The court placed weight on the facts that the taxpayer did not try to conceal the withdrawal and that she was never charged with or convicted of embezzlement. The court also took into consideration that the funds were restored to the account. Based upon all of the facts, the court considered the withdrawal of the funds a loan and their restoration a repayment and thus held the transaction was nontaxable.

Sec. 66: Treatment of community income

In Stacey,⁹ a district court dealt with an inconsistency in claims made by Emma Stanley, the ex-wife of John Dee Stacey. Stanley had been granted innocent-spouse relief by the IRS from a $1.1 million tax obligation. As part of the process of receiving the relief, Stanley filed a Form 8857, Request for Innocent Spouse Relief, on May 16, 2016, showing that she had no assets.

Stacey owned ARTS Investments LLC, through which in 2004 he had acquired a mobile home park in Grand Prairie, Texas. On Jan. 14, 2025, the mobile home park was sold to enforce a tax lien on Stacey’s assets due to his tax obligation of over $3.7 million.

Stanley claimed that she was entitled to half of the proceeds of the sale since:

(1) [B]ecause the Grand Prairie property was acquired during her marriage to Mr. Stacey, it is subject to Arizona’s community property law; (2) because ARTS’s operating agreement does not provide for asset division, the Arizona Limited Liability Company Act entitles her to distributions according to the LLC’s members’ ownership interests in the LLC; and (3) that the 2024 Florida divorce court judgment recognizing her fifty percent ownership interest in ARTS precludes [the IRS] from contesting her entitlement to those proceeds under principles of res judicata.

The court held that res judicata did not apply since the IRS was not a party to the divorce case or adequately represented in it. It further held that the duty of consistency prevented Stanley from claiming an interest in the LLC, since she did not disclose the interest on Form 8857 when applying for innocent-spouse relief. This case is a reminder that the courts will not allow taxpayers to take inconsistent tax positions, since “[t]he duty of consistency is a type of estoppel developed in tax cases, known as quasi-estoppel.”¹⁰

Sec. 83: Property transferred in connection with the performance of services

The IRS published Form 15620, Section 83(b) Election, in November 2024 and revised it in April 2025, creating a standardized format for taxpayers to make a Sec. 83(b) election. Prior to the release of this form, taxpayers were required to draft their own version of the election in accordance with Rev. Proc. 2012-29. Use of the new Form 15620 when making a Sec. 83(b) election is not required but will simplify the process of making the election and ensure all requirements have been met.

Under Sec. 83(a), taxpayers generally must include in gross income the excess of any fair market value (FMV) of property received in connection with the performance of services over any amount paid for the property. This income inclusion occurs in the first tax year in which the rights of the person having a beneficial interest in the property are either transferable or not subject to a substantial risk of forfeiture (i.e., vested).

Sec. 83(b) allows a taxpayer to make an election within 30 days of the transfer of such property, such as restricted stock, to include the unvested property’s FMV as income at the date of the grant. This election accelerates the inclusion of income and may be advantageous when the property is anticipated to increase in value before it vests.

Sec. 104: Compensation for injuries or sickness

The IRS in Letter Ruling 202512001 (issued Dec. 9, 2024) ruled that, under the facts as stated, payments from a state plan to officers injured in the line of duty or to the families of officers killed in the line of duty were excludable from income. The plan provided for a one-time payment of an amount to a public safety officer who was determined by the retirement board to be permanently disabled as a result of bodily injury or disease sustained in the line of duty. Under the plan, the retirement board must determine that the permanent disability occurred in the line of duty and was not caused by intentional misconduct, intentional infliction of injury, or voluntary intoxication. The payment under the plan was not determined on the basis of age, length of service, or prior employee contributions, and the lump-sum payment was provided to a class that was restricted to employees with service-connected injuries who were determined to be permanently disabled. The IRS concluded that such payments were similar to those under a worker’s compensation act and were excluded from income under Sec. 104(a)(1). Similarly, payments to families of officers killed in the line of duty were excluded from income under Sec. 101(h)(1).

Sec. 162: Trade or business expenses

In Chopra,¹¹ the Tax Court upheld the IRS’s disallowance of expense deductions the taxpayer reported on Schedule C, Profit or Loss From Business (Sole Proprietorship), because they were improperly claimed unreimbursed expenses on behalf of a partnership.

Ishveen Chopra, a health care consultant, allegedly incurred $89,828 of unreimbursed expenses related to a partnership of which she was a 50% partner. Case law provides that a partner may not deduct partnership expenses on their individual income tax returns unless the partnership agreement specifically requires that such expenses be paid out of the taxpayer’s own pocket.¹² Chopra was unable to provide a partnership agreement showing this requirement of her in relation to the expenses claimed.

Among other contested deductions, Chopra claimed a Sec. 179 deduction for the cost of items allegedly used in the partnership’s business. The Tax Court determined that the deduction should be disallowed because Chopra failed to prove the items were acquired for use in the active conduct of a trade or business, as required under Sec. 179(d)(1)(C).

Sec. 165: Losses

In Hampton,¹³ the Tax Court upheld a deduction disallowance under the public-policy doctrine regarding business assets that were seized by the government.

The public-policy doctrine was more heavily used prior to the 1969 addition of Sec. 162(f) to the Code, which disallows ordinary and necessary business deductions for fines and penalties paid to a government or governmental entity for violating the law or in relation to an investigation or inquiry into a potential law violation. However, the public-policy doctrine is still used to disallow loss deductions that would “frustrate sharply defined national or state policies proscribing particular types of conduct, evidenced by some governmental declaration thereof.”¹⁴ Essentially, the doctrine provides that allowing a tax deduction in relation to a fine or penalty would reduce the “sting” of the penalty imposed and therefore frustrate public policy.

During 2009 and 2010, Douglas Hampton, a financial broker, engaged in illegal activities with a high school friend who had been appointed deputy treasurer of the state of Ohio. Hampton was directed a large amount of trading activity for the state, for which he received approximately $3.2 million in commissions. In return, Hampton kicked back approximately $524,000 to the deputy treasurer and two other individuals involved.

In 2014, Hampton was convicted of conspiring to commit bribery, wire fraud, and money laundering, and his solely owned S corporation’s assets were among those forfeited and seized as part of his sentence. On its 2016 return, the S corporation deducted a portion of the forfeiture, resulting in a net loss that flowed through to Hampton. The IRS disallowed the loss.

Hampton claimed that because his business was never indicted or charged for this illegal activity, the public-policy doctrine did not apply to it and the deduction for those forfeited assets should be allowed. The Tax Court found that the company was not deemed separate from Hampton and that the company’s assets were acquired from proceeds obtained as a result of Hampton’s law violations. Therefore, the court applied the public-policy doctrine to uphold the related loss disallowance.

Sec. 166: Bad debts

In Aboui,¹⁵ the issues included gross income of the taxpayer’s S corporation, cost of goods sold (COGS) and business expenses, bad debt deductions, net operating loss (NOL) deductions, real estate rental losses, shareholder distributions, and penalties. The discussion here relates solely to the findings regarding bad debt.

Mohamad Aboui was the sole shareholder of HPPO Corp. Autoville Motors, an S corporation for federal tax purposes. HPPO owned multiple used car lots starting in 2009, and Aboui contributed more than $5 million worth of used cars for its starting inventory. HPPO’s records were kept on a hybrid method of accounting, with sales and COGS reported on an accrual basis and many expenses reported on a cash basis. Many customers of HPPO had poor credit, had no checking accounts, and paid HPPO in cash. HPPO often repossessed cars within months of the sale, but not all cars were able to be repossessed.

The IRS audited Aboui’s and HPPO’s returns for 2013 through 2016. It disallowed HPPO’s bad debt deductions for each year at issue in their entirety, arguing that HPPO had not previously reported the amount of the debt as income and therefore did not incur a loss when it repossessed the cars for buyers’ failure to make payments.

The Tax Court found in favor of the taxpayer, stating that the record established that HPPO included all sale proceeds in its income for the year of sale under the accrual method. Further, HPPO did not repossess all cars, as Aboui testified regarding approximately 250 cars during the years at issue. The loss of the cars adequately substantiated the amount of HPPO’s bad debt deduction for the years at issue under the Cohan rule¹⁶ (i.e., there was sufficient evidence for it to reasonably estimate the amount). The court held that HPPO was entitled to the claimed bad debt deductions for the years at issue in their entirety.

Sec. 170: Charitable, etc., contributions and gifts

Several recent Tax Court decisions have dealt with IRS challenges to charitable deductions for donating conservation easements and other noncash property.

Donations of conservation easements

A conservation easement is a legal agreement to preserve a piece of land for future generations by permanently limiting its development. As discussed in our last semiannual individual tax update,¹⁷ Congress and the IRS have taken steps in recent years to deter donors from using inflated appraisals to take unjustifiably large deductions for donating conservation easements.

Congress put a ceiling on the size of these charitable deductions in the SECURE 2.0 Act of 2022,¹⁸ which generally disallows partnerships or S corporations from taking an income tax deduction for a qualified conservation contribution if the amount of the contribution exceeds 2.5 times the sum of each partner’s or S corporation shareholder’s relevant basis.¹⁹

In addition, the IRS issued final regulations in 2024 toughening substantiation and reporting requirements for noncash charitable contributions that exceed $500²⁰ — a rule not limited to qualified conservation contributions.

Discussed next are several Tax Court cases involving conservation easements donated prior to the effective date of the SECURE 2.0 Act.

Taxpayer liable for gross valuation misstatement penalty: In Seabrook Property, LLC,²¹ the Tax Court examined a $32 million charitable deduction claimed by Seabrook Property LLC in connection with the grant of a conservation easement. Although the Tax Court concluded that Seabrook was entitled to a deduction, it also determined that the value of the easement was $4.7 million, far below the amount claimed. Therefore, Seabrook was found liable for a 40% gross valuation misstatement penalty.

The property in question was a 637-acre tract of upland and marsh in Liberty County, Ga. It was owned by Meredith Devendorf Belford, who inherited it from her maternal grandfather. Belford intended to honor her grandfather’s legacy by protecting and preserving the property in its natural state; however, over time, the cost of maintaining the property became prohibitive. In 2015, a family friend of Belford’s suggested that she pursue a conservation easement, which would not only help her raise capital but also protect the property in perpetuity from development. Pursuant to this plan, Belford transferred the property to Seabrook, which executed a deed of conservation easement to the Southern Conservation Trust Inc., a qualified organization under Sec. 170(h)(1)(B).

Prior to the easement donation, Seabrook hired an appraiser, who determined that the property’s highest and best use was residential development, which resulted in an estimated easement FMV of $35,850,000 (a $37 million property value before the easement and $1.15 million value after the easement). With its 2017 Form 1065, U.S. Return of Partnership Income, Seabrook filed Form 8283, Noncash Charitable Contributions, reporting a noncash charitable contribution of $32,581,443, which represented the $35,850,000 FMV less a “conservation easement reserve” of $3,268,557. After auditing the transaction, the IRS disallowed the deduction entirely, citing issues with the easement’s claimed value, Seabrook’s donative intent, and whether the entity obtained a qualified appraisal under Regs. Sec. 1.170A-13(c).

The Tax Court found that Seabrook and its members had the necessary donative intent, as the perpetual conservation easement was donated to a qualified charitable organization. The IRS had argued that Seabrook did not obtain a qualified appraisal because it failed to adequately describe the property; include the terms of the relevant agreements; or include the exact date of the contribution, merely stating that the contribution would be made prior to Dec. 31, 2017. The Tax Court denied these arguments, describing the latter concern as “overblown” and noting that both the Form 8283 and the deed of conservation easement attached to Seabrook’s return included the contribution date (Dec. 28, 2017). The IRS also argued that the appraisal was not prepared by a qualified appraiser in accordance with generally accepted appraisal standards, but the court also rejected these arguments.

Having determined that Seabrook was entitled to a charitable deduction, the court then turned its attention to the easement’s value, considering the highest and best use of the property before and after the easement was granted. The court agreed with Seabrook that the highest and best use of the property before the easement was residential development, but it rejected the high-density development proposed by Seabrook’s experts. Instead, the court found that the property’s rural location in Liberty County limited its development potential because it was neither beachfront nor coastal property. The court also observed that Seabrook’s appraiser had failed to adjust for “extreme differences” between the Seabrook property and the comparables cited in the appraisal report, with one such comparable “quite literally down the road from Disney World.”

The court ultimately valued the Seabrook property at $4,718,000 using a comparable-sales approach, adjusting for differences in location, water access, and other factors. Because the deduction claimed on Seabrook’s originally filed return ($32.7 million) exceeded 200% of the corrected value, the court determined that Seabrook was liable for the 40% gross valuation misstatement penalty under Sec. 6662(h).

Similar ruling in another case: Following the Seabrook decision, the Tax Court reached a similar conclusion in Ranch Springs, LLC²² and sustained a 40% gross valuation misstatement penalty against a taxpayer for overstating the value of a conservation easement donation by $25,478,500 (7,694% of the correct value).

Conservation easement deduction denied; taxpayer liable for penalties: In Green Valley Investors LLC,²³ the Tax Court disallowed close to $90 million of noncash charitable contribution deductions made by four separate partnerships related to syndicated conservation easement transactions. The partnership representative was also found liable for gross valuation misstatement, substantial understatement, and negligence penalties after failing to convince the court that his limited educational background qualified as a reasonable-cause defense.

Bobby A. Branch worked as a successful real estate developer for almost 30 years, although he had no formal education beyond the ninth grade. In 2011, he acquired over 600 acres in Chatham County, N.C., for approximately $2.2 million, which he intended to develop for “open pit mining of metamorphic gneiss rock to be used as crushed stone construction aggregate.” In tax years 2014 and 2015, Branch conveyed the land to four partnerships: Green Valley Investors LLC, Big Hill Partners LLC, Tick Creek Holdings LLC, and Vista Hill Investments LLC. Each partnership subsequently conveyed a conservation easement over separate portions of the land to Triangle Land Conservancy, a qualified Sec. 501(c)(3) organization. The reported value of each easement was over $22 million (nearly $90 million in aggregate).

In an order from May 2021, the Tax Court determined that the partnerships were not entitled to claim noncash charitable contribution deductions in connection with their easement donation because the deeds of easement did not comply with Regs. Sec. 1.170A-14(g)(6). This regulation addresses the “protected in perpetuity” requirement for easement donations when an unexpected change makes it impossible or impractical for the donee to continue using the property for conservation purposes. In such cases, the easement is treated as being protected in perpetuity if the restrictions are extinguished by a judicial proceeding and all of the donee’s proceeds from a subsequent sale or exchange of the property are used by the donee in a manner consistent with the conservation purpose of the original contribution.

After analyzing the transaction, the court concluded that each partnership’s deed of easement violated Regs. Sec. 1.170A-14(g)(6) because any subsequent sales proceeds allocated to the donee would be reduced by any new improvements made to the property. For this reason, each partnership’s $22 million noncash charitable contribution deduction was denied. (Subsequently, in another case,²⁴ the Tax Court held the regulation in question, Regs. Sec. 1.170A-14(g)(6), to be procedurally invalid under the Administrative Procedure Act.)

That said, the court here still needed to address the value of the conservation easements to determine whether penalties would apply to Branch. At trial, Branch’s expert witnesses testified that the highest and best use of the donated property was a quarry mine, which would “conservatively” achieve sales of 500,000 tons of rock per year. In response, the IRS offered testimony from experts in geology and mineral market analysis, who believed that any hypothetical quarry mine would face significant barriers to entry due to the property’s rural location and competition from other quarries. The parties also disagreed on whether the value of the conservation easement should be determined based on the comparable-sales approach or the income approach. Branch argued that the income approach should be used to determine the property’s FMV because the property in question had the potential to generate income; conversely, the IRS argued that the comparable-sales approach was more appropriate, as is often the case for valuing raw and unimproved land.

After weighing these arguments, the Tax Court sided with the IRS and concluded that the property’s highest and best use was as an agricultural, residential, and/or recreational site. In the opinion of the court, there was insufficient data to conclude that Branch’s plan to develop the property as a quarry mine was either “financially feasible” or “maximally productive.” Therefore, the court rejected the income approaches offered by Branch that valued the property using a discounted-cash-flow analysis. Instead, the court relied on the sales-comparison approach, which yielded an FMV ranging between $1,371,000 and $1,426,699, which was significantly less than the $22 million value reflected on each partnership’s originally filed return.

Having concluded that the value of the easement donations was significantly less than the value reported on the partnership returns, the court needed to determine whether Branch was liable for accuracy-related penalties under Sec. 6662.

In general, taxpayers may avoid accuracy-related penalties due to reasonable cause if they acted in good faith with respect to the underpayment. Branch argued that he was not liable for penalties because he relied on paid professionals with respect to tax matters, which he justified “on the basis of his level of formal education.” The Tax Court rejected this line of reasoning. Although Branch did not have a thorough understanding of tax law, he did have a “sophisticated” understanding of land and real estate development, which he had acquired over his 30-year career. Moreover, the court believed that Branch failed to exercise ordinary business care and prudence in claiming that properties he acquired in 2011 for $2.2 million were worth close to $90 million in aggregate just three years later. For these reasons, the court concluded that Branch failed to establish reasonable cause and was liable for accuracy-related penalties.

Easement donation of inventory real property limited to basis: In a joint proceeding involving two unrelated taxpayers,²⁵ the Tax Court addressed whether the grant of a conservation easement over real property held as inventory entitles the taxpayer to a deduction based on FMV or basis. Denying the taxpayers’ motion for partial summary judgment, the Tax Court concluded that conservation easement donations of inventory property are limited to the taxpayer’s basis in the property under Sec. 170(e)(1)(A). This ruling is consistent with the Tax Court’s earlier analysis from Oconee Landing Property, LLC.²⁶

To recap, Sec. 170(e)(1)(A) requires a taxpayer to reduce the amount of their otherwise allowable charitable contribution deduction by the amount of any gain that would not be long-term capital gain if the donated property had been sold for its FMV at the time of contribution. Thus, if the donated property would have given rise to ordinary gain upon its sale (as is the case for inventory property), then the charitable contribution deduction is limited to the property’s basis.

With that background in mind, both taxpayers donated a conservation easement over land held as inventory to charity — in which case Sec. 170(e)(1)(A) generally applies to limit the amount of the easement deduction to the taxpayer’s basis in the land. However, the taxpayers argued that Sec. 170(e)(1)(A) did not apply because they did not donate the actual inventory property; rather, they simply donated a “restriction” over the property, while the land itself (i.e., the inventory) remained in their possession.

Citing its earlier holding in Oconee Landing, the Tax Court rejected the taxpayers’ argument. By its very terms, a conservation easement is a restriction that arises from a qualified real property interest; accordingly, the easement must have the same tax character as the underlying property from which it originates. Otherwise, a taxpayer who donates their entire interest in inventory property would be subject to Sec. 170(e)(1)(A)’s basis-reduction rule, whereas a taxpayer who donates a partial interest (i.e., an easement) over inventory property would hypothetically be able to claim the deduction in full. The court questioned why Congress “would have created such an advantage” for taxpayers donating an easement if a direct contribution of the underlying property would have unquestionably triggered Sec. 170(e)(1)(A). For these reasons, the court denied the taxpayers’ motion for partial summary judgment.

Other noncash donations

The following are some recent court decisions involving donations of property besides conservation easements.

IRS targets charitable deductions for donations of LLC units: In two pending cases, Roberson Legacy LLC²⁷ and Cucci Heritage LLC,²⁸ the taxpayers challenged in Tax Court the IRS’s disallowance of their charitable contribution deductions for lack of economic substance.

In each case, the taxpayers transferred a 99% nonvoting partnership interest in an LLC (Roberson Legacy LLC and Cucci Heritage LLC) to the Family Office Foundation Inc., a Sec. 501(c)(3) charity whose mission was “to provide financial assistance to other charitable organizations.” The other 1% voting interest in Roberson and Cucci was retained by the individual transferor.

In its notice of final partnership administrative adjustment, the IRS determined that the transfer of Roberson and Cucci units to the Family Office Foundation should be disregarded under the economic substance doctrine of Sec. 7701(o) because (1) the transactions did not change the taxpayers’ economic position in any meaningful way and (2) the taxpayers failed to prove that they had a substantial purpose for entering the transactions (apart from the federal income tax effects). Accordingly, the Service took the position that all income, gains, losses, and deductions allocated to the Family Office Foundation from Roberson and Cucci should be reallocated to each entity’s original owner (i.e., the transferor). The IRS also argued that even if the transfers had economic substance, the income allocated to the Family Office Foundation should be reallocated to the original owners anyway under the assignment-of-income doctrine, as the taxpayers never parted with “dominion and control” over their LLC interests or the underlying assets of each LLC.

The IRS’s focus on economic substance involving charitable contributions of LLC units is not surprising because the Service released an alert on this subject last December. In News Release IR-2024-304, the IRS warned taxpayers of a rise in fraudulent charitable contribution schemes targeting high-net-worth individuals. The schemes, sometimes referred to as “charitable LLCs” by promoters, involve transferring assets to a newly formed entity (such as a partnership or LLC), followed by a transfer of “nonvoting, nonmanaging, membership units” in the entity to charity. The promoters of this strategy claim that the transferor is entitled to a charitable deduction for the full value of the LLC units donated, even though the taxpayer often retains full voting rights over the entity and maintains dominion, control, and access to the entity’s underlying assets.

Donations of closely owned and/or privately held businesses can be a powerful tool to assist taxpayers in meeting their charitable objectives and other philanthropic goals. However, taxpayers must be mindful of dishonest promoters marketing abusive charitable contribution strategies — particularly those that promise purported tax (and nontax) benefits beyond the charitable income tax deduction. As Roberson and Cucci suggest, the IRS is currently scrutinizing donations of privately owned businesses and could challenge certain transfers to the extent they lack economic substance or do not reflect a bona fide charitable contribution.

Charitable donation of tangible personal property lacked proper appraisal: In Cade,²⁹ the IRS challenged a married couple’s $284,553 noncash charitable contribution deduction on the grounds that the taxpayers (1) failed to obtain a contemporaneous written acknowledgment (CWA) letter from the charitable donee and (2) failed to obtain qualified appraisals from qualified appraisers for the items donated.

The taxpayers timely filed their 2019 Form 1040, U.S. Individual Income Tax Return, reporting a balance due of $89,013; the originally filed return did not claim any charitable contribution deductions, and the taxpayers did not remit any payments with the return. After the IRS began collection proceedings, the taxpayers filed an amended income tax return in October 2020 to report a noncash charitable contribution deduction of $284,553 to the Victory Christian Church. The $284,553 deduction consisted of personal clothing items, granite cobblestones, and commercial vinyl tile and vinyl tile adhesive, which the taxpayers valued at $146,043, $89,100, and $49,410, respectively. The taxpayers reported the contributions in Section B of Form 8283 with their amended tax return. Upon examination, the IRS requested that the taxpayers provide copies of qualified appraisals for the donated items, the credentials of the appraisers who valued the property, and the CWA received from the donee.

The taxpayers initially argued that no additional documentation was needed because Form 8283 itself served as the CWA. After the IRS rejected this line of reasoning, the taxpayers eventually produced a CWA from the Victory Christian Church; however, the document contained several defects, including an incorrect address and an illegible signature. The taxpayers also furnished signed statements from the appraisers providing their opinion as to the “wholesale value” of the donated items. These statements were less than two pages long and were dated January 2023 — over two years after the amended return had been filed. Based upon these responses, the IRS determined that the taxpayers were not entitled to a noncash charitable contribution deduction.

Ruling generally in favor of the IRS, the Tax Court explained that Sec. 170 required the taxpayers to obtain both a CWA and a qualified appraisal. Citing Sec. 170(f)(8), the Tax Court noted that a charitable contribution must be substantiated with an acknowledgment letter from the charitable donee that is contemporaneous with the donation, which in this context means received on or before the earlier of (1) the date the taxpayer files their original return, or (2) the due date, including extensions, for filing the original return. Although the taxpayers eventually produced a letter from Victory Christian Church in support of their donation, this was only after the couple spent the first 11 months of the examination arguing that Form 8283 itself served as the CWA — an argument the court rejected, noting that a CWA must contain a statement indicating whether the donee has provided any goods or services in exchange for the donation — and Form 8283 contains no such statement. Further, the CWA provided by the taxpayers had several “questionable features,” which prompted questions about its “authorship and authenticity.”

Next, the Tax Court addressed the requirement to secure a qualified appraisal for any noncash charitable contribution deduction with a claimed value greater than $5,000. Consistent with their CWA argument, the taxpayers asserted that Form 8283 itself served as the qualified appraisal for their donation. The Tax Court described this argument as a “non-starter,” as Form 8283 is intended to function as an “appraisal summary” (which is not the same as a qualified appraisal). The court next determined that the signed valuation statements provided by the taxpayers did not constitute a qualified appraisal made by a qualified appraiser, as they were signed by individuals who did not meet the requirements to be a qualified appraiser and contained only the signatory’s “unsupported opinion” based on “industry experience” as to the wholesale value of the items donated. Furthermore, if a taxpayer files an amended return to first claim a charitable contribution deduction, any qualified appraisal in support of that deduction must be received before the amended return is filed. In this case, the taxpayers filed their amended return in October 2020, but the valuation statements were dated January 2023. Therefore, even if the valuation statements were qualified appraisals, the Tax Court concluded that they were received too late.

For these reasons, the court granted summary judgment to the IRS on the issue of whether the taxpayers had failed to secure qualified appraisals from qualified appraisers. But the court denied the IRS’s motion for summary judgment with regard to whether the taxpayers’ receipt from Victory Christian Church qualified as a CWA (despite the court’s questions about its legitimacy) and whether the taxpayers had reasonable cause for failing to obtain qualified appraisals. According to the court, both issues raised factual inquiries that would need to be determined at trial.

Taxpayer’s failure to secure qualified appraisal was due to reasonable cause: In WT Art Partnership LP,³⁰ the Tax Court determined that the taxpayer’s art donation to the Metropolitan Museum of Art (the Met) in New York City was not substantiated by a qualified appraisal, as required by Sec. 170(f)(11)(D); however, the taxpayer’s charitable contribution deduction was still allowed because his failure to obtain a qualified appraisal was due to reasonable cause.

Oscar Liu-Chen Tang was a prominent businessman and philanthropist who acquired a strong interest in early Chinese art after his sister married Wen Fong, a professor of Chinese art history at Princeton University. In April 1997, Tang acquired an extremely rare and valuable artwork collection, which he intended to donate to the Met over a multiyear period pursuant to an offer of promised gift deed. The paintings were contributed to and held by a partnership (WT Art) to facilitate the transfers to the Met.

WT Art made its first donation to the Met in 2005. To substantiate the value of the artwork, both Tang and Fong believed that they should use an appraisal firm located in Japan because that country was the second-largest market for Chinese art in the world. Therefore, WT Art attached an appraisal report prepared by an art expert at the London Gallery in Tokyo.

The IRS audited WT Art’s 2005 partnership return and challenged the value of the donated pieces of art; however, at no point did the IRS challenge the status of London Gallery as a qualified appraiser or its valuation report as a qualified appraisal. During the audit, Tang engaged China Guardian, an auction house in Beijing, to prepare “backup appraisals” of the donated artwork to support the value claimed on the 2005 return. Although China Guardian was not a formal art appraiser, it customarily provided “reserve” or “presale” estimates of artwork being offered at its auction house. To facilitate Tang’s request, China Guardian prepared appraisals of the artwork accompanied by a cover letter addressing the technical requirements for a qualified appraisal under Regs. Sec. 1.170A-13(c)(3)(ii).

After providing the backup appraisals prepared by China Guardian, Tang settled the 2005 audit with the IRS, which ultimately allowed an aggregate charitable contribution deduction equal to 90% of the value reported on the originally filed return. Tang not only attributed this positive outcome to China Guardian, but he also came away from this experience believing that the IRS viewed the auction house as a reputable company capable of supplying tax-compliant appraisal reports. WT Art donated additional pieces of artwork to the Met in 2006, 2007, and 2008, which were also accompanied by appraisals prepared by London Gallery and/or China Guardian. The IRS did not audit any of the donations made by WT Art in those years. From 2010 through 2012, WT Art continued its pattern of charitable giving to the Met, claiming charitable contribution deductions of $73,920,000 in the aggregate across all three tax years for five pieces of artwork, supported by an appraisal prepared by China Guardian. The IRS audited all three tax returns in question and disallowed the charitable contributions, determining that WT Art did not secure a qualified appraisal from a qualified appraiser of the donations in question.

In its review, the Tax Court began by emphasizing that, under Sec. 170(f)(11)(E)(ii), a qualified appraiser must be an individual person and not an entity. In addition, a qualified appraiser must demonstrate “verifiable education and experience” in valuing the type of property subject to the appraisal; none of China Guardian’s employees satisfied this education and experience requirement. Finally, the court said that the reserve or presale estimates prepared by China Guardian for its clients were not “appraisals” as the term is understood for Sec. 170 purposes. For these reasons, China Guardian could not be considered a qualified appraiser, and the valuation reports accompanying WT Art’s donations in 2010, 2011, and 2012 were not qualified appraisals.

Next, the court considered whether WT Art and Tang’s failure to secure a qualified appraisal was due to reasonable cause and not willful neglect under Sec. 170(f)(11)(A)(ii)(II). The court began its analysis by highlighting Tang’s previous experience with the IRS during the 2005 examination of WT Art’s donations. Specifically, the IRS had never questioned whether London Gallery was a qualified appraiser or whether its valuation reports were qualified appraisals, and WT Art was ultimately entitled to deduct 90% of the charitable contribution deduction claimed on its originally filed return. Tang credited this successful outcome to the backup appraisals prepared by China Guardian, which had been recommended to him by Fong as a distinguished professor of art history and the former chairman of the Met’s Asian Art Department.

Based on these facts and circumstances, the court concluded that Tang “entertained a good-faith belief” that China Guardian would produce appraisals that complied with the Sec. 170 substantiation requirements. The court also emphasized that a taxpayer’s “past experience with the IRS may form the basis for a reasonable cause defense.” For these reasons, WT Art and Tang were found to have reasonable cause for failing to obtain a qualified appraisal of the artwork donated.

“Bargain sale” contribution to a charity significantly reduced: In Leo,³¹ the Tax Court addressed a dispute between married taxpayers and the IRS over the FMV of real estate transferred to charity in a bargain sale. In such a transaction, a taxpayer sells property to a charitable organization for less than its FMV, intending the difference between the FMV and the amount realized — that is, the bargain aspect — to be a charitable contribution.

Ruling in favor of the IRS, the court concluded that the FMV of the property donated in the bargain sale was only $4,050,000 at the time of the contribution, which was significantly less than the $15,800,000 value claimed by the taxpayers on their originally filed return. As a result, the taxpayers were liable for a 40% gross valuation misstatement penalty under Sec. 6662(h), and they were not entitled to the charitable contribution deduction carryforward claimed on their 2016 and 2017 income tax returns.

Taxpayers Karl and Fay Leo owned real property located in Union County, Miss. (the Bankhead property). The Bankhead property originally housed a furniture factory constructed in 1948. Several buildings were added to the property throughout the years, including offices and manufacturing spaces, which were leased to various companies for use as warehouse and production facilities. Over time, portions of the property began to deteriorate. To address the poor condition of the buildings, the taxpayers sought to attract new tenants who would agree to perform repairs and improvements on the property, but their efforts to recruit such tenants were unsuccessful. The taxpayers ultimately decided to explore a sale of the Bankhead property after one of the tenants filed for bankruptcy and stopped making rent payments.

In July 2013, the taxpayers signed a nonbinding letter of intent agreeing to sell the Bankhead property to the Mercy Foundation, a qualified Sec. 501(c)(3) organization, for $575,000 in a bargain sale. The letter of intent indicated that the taxpayers’ charitable contribution deduction would be “$15,925,000 or more,” and the Mercy Foundation had the option to cancel the contract if the appraised value was “less than $15,000,000.” In August 2013, the Mercy Foundation informed the taxpayers that it found an appraiser to value the property, and the appraiser’s opinion of value was within the “acceptable ranges.” The appraisal report valued the Bankhead property at $15,800,000, and the sale to the Mercy Foundation for $575,000 was completed on Dec. 31, 2013.

On their 2013 Form 1040, the taxpayers reported a noncash charitable contribution deduction of $15,225,000, which represented the “bargain” element of the transfer (i.e., the excess of the property’s $15,800,000 appraised value over the $575,000 sales price). The taxpayers were able to deduct only $3,249,390 of the $15,225,000 contribution in the year of transfer due to the 30%-of-adjusted-gross-income limitation, and the excess contribution was carried forward to tax years 2014, 2015, 2016, and 2017.

In July 2020, the IRS issued a notice of deficiency disallowing the taxpayers’ charitable contribution carryforward to 2016 and 2017. According to the IRS, the FMV of the Bankhead property at the time of transfer was $4,050,000 (not $15,800,000), and because the taxpayers had already claimed charitable contribution deductions in excess of that amount in prior years, no carryforward remained for tax years 2016 and 2017. The IRS also assessed a 40% gross valuation misstatement penalty.

After reviewing the transaction, the Tax Court concluded that the original appraisal that valued the Bankhead Property at $15,800,000 was unconvincing. Not only did the property’s appraiser seemingly commit to the value before observing the property, but he also relied on poor assumptions about the property’s condition that were not substantiated by the evidence. For example, the appraisal described the property as being “well maintained” and “in average condition.” However, the property’s roof was in a state of disrepair, and the plumbing, heating, air, and electrical systems all needed significant improvements (which would explain why the taxpayers had difficulty obtaining new tenants).

Notably, the Mercy Foundation sold the Bankhead property for only $1,130,000 just 16 months after the original transaction, which reinforced the court’s belief that the $15,800,000 appraised value was overstated. The court ultimately concluded that the property’s value at the time of transfer was only $4,050,000, after being persuaded by the testimony of the IRS’s expert witness, who valued the property using a sales-comparison approach. Consequently, the taxpayers were found liable for a 40% gross valuation misstatement penalty.

Footnotes

¹For property placed in service before Jan. 1, 2023, under the prior section heading, “nonbusiness energy property.”

²Zajac, T.C. Memo. 2025-33.

³The court noted that while emotional distress is not itself a physical injury qualifying for the Sec. 104(a)(2) exclusion, damages for emotional distress that is associated with physical injuries can be excluded under Regs. Sec. 1.104-1(c)(1).

⁴Hubbard, 132 F.4th 437 (6th Cir. 2025).

⁵Hubbard, T.C. Memo. 2024-16, in Brennan et al., “Current Developments in Taxation of Individuals,” 55-9 The Tax Adviser 32 (September 2024).

⁶Franklin, T.C. Memo. 2025-8. See also Beavers, “Sheriff’s Withdrawal From Jail Food Account Was an Unauthorized Loan,” 56-4 The Tax Adviser 75 (April 2025).

⁷Gross income under Sec. 61(a) generally includes income from illegal activities such as embezzlement, the court noted, citing James, 366 U.S. 213 (1961), and Howard, T.C. Memo. 1997-473.

⁸Moore, 412 F.2d 974 (5th Cir. 1969).

⁹Stacey, No. 3:23-CV-00006 (N.D. Tex. 3/31/25).

¹⁰Quoting Herrington, 854 F.2d 755, 757 (5th Cir. 1988).

¹¹Chopra, T.C. Memo. 2025-2.

¹²Cropland Chem. Corp., 75 T.C. 288 (1980), aff’d, 665 F.2d 1050 (7th Cir. 1981), and Klein, 25 T.C. 1045, 1051–52 (1956).

¹³Hampton, T.C. Memo. 2025-32.

¹⁴Id., quoting Tank Truck Rentals, Inc., 356 U.S. 30, 33–34 (1958).

¹⁵Aboui, T.C. Memo. 2024-106.

¹⁶Cohan, 39 F.2d 540, 543–44 (2d Cir. 1930).

¹⁷Brennan et al., “Current Developments in Taxation of Individuals: Part 1,” 56-3 The Tax Adviser 46 (March 2025).

¹⁸Division T of the Consolidated Appropriations Act, 2023, P.L. 117-328.

¹⁹Sec. 170(h)(7).

²⁰T.D. 9999.

²¹Seabrook Property, LLC, T.C. Memo. 2025-6.

²²Ranch Springs, LLC, 164 T.C. No. 6 (2025).

²³Green Valley Investors LLC, T.C. Memo. 2025-15.

²⁴Valley Park Ranch LLC, 162 T.C. 110 (2024).

²⁵Habitat Green Investments LLC, No. 14433-17 (T.C. Feb. 10, 2025) (order denying motion for partial summary judgment), and St. Andrews Plantation LLC, No. 20849-17 (T.C. Feb. 10, 2025) (order denying motion for partial summary judgment).

²⁶Oconee Landing Property, LLC, T.C. Memo. 2024-25, discussed in Brennan et al., “Current Developments in Taxation of Individuals: Part 1,” 56-3 The Tax Adviser 46 (March 2025).

²⁷Roberson Legacy LLC, No. 17535-24 (T.C. filed Nov. 6, 2024).

²⁸Cucci Heritage LLC, No. 1157-25 (T.C. filed Jan. 27, 2025).

²⁹Cade, T.C. Memo. 2025-20.

³⁰WT Art Partnership LP, T.C. Memo. 2025-30.

³¹Leo, T.C. Memo. 2025-9.

Contributors

Elizabeth Brennan, CPA, is a practitioner in New Orleans. Karmen Hoxie, CPA, is a solo practitioner in the Minneapolis area. Amie Kuntz, CPA, is a partner in the national tax group of RubinBrown LLP. Stephen Mankowski, CPA, CGMA, is owner and founder of Mankowski Associates CPA, LLC, in Hatboro, Pa. Dana McCartney, CPA, is a partner with Maxwell Locke & Ritter LLP in Austin, Texas. Matthew Mullaney, CPA, is a director, Private National Tax, with PwC US Tax LLP in Florham Park, N.J. Patrick Sanford, CPA, is president of Probity Accounting PLLC in Van Buren, Ark. McCartney is the chair, and the other authors are members, of the AICPA Individual and Self-Employed Tax Technical Resource Panel. For more information about this article, contact thetaxadviser@aicpa.org.