Huda T. Scheidelman & Ethan W. Perry, Petitioners

laW T .C . Memo . 2010-15 1 UNITED STATES TAX COURT HUDA .T . SCHEIDELMAN & ETHAN W . PERRY, Petitioner 3 v . COMMISSIONER OF INTERNAL REVENUE, Responden t Docket No . 15171-08 .

Filed July 14, 2010 .

Frank Agostino , Eduardo S . Chung ,-and Matthew Vie a , for petitioners .

John V . Cardone , Marc L . Caine , and Marie E . Smal , fo r respondent .

MEMORANDUM FINDINGS OF FACT AND OPINIO N COHEN, Judge : By one statutory notice dated-Marc 21, 2008, respondent determined deficiencies of $16,873 and $17, 37 wit h respect to Huda T . Scheidelman's (petitioner's) Federa income taxes for 200 4.and 2005, respectively . Respondent_als Served July 14, 2010 2 _ determined 'section 6662(a) penalties of $3,374 .60 and $3,507 .40 .for 2004 and 2005, respectively . By a second statutory notice of deficiency dated-March 21, 2008, respondent determined a "deficiency of $1,015 with respect to petitioners' Federal income tax for 2006 and a section 6662(a) penalty of $203 .

The issues for decision are : (1) Whether petitioners ar e entitled to charitable contribution deductions with respect to a historic facade easement donation ; .(2) whether a mandatory cash payment made to the donee organization is deductible as a charitable contribution ; and (3) whether petitioners are liable ".. .for section 6662(a) penalties . Unless otherwise indicated, all section references are to the Internal Revenue Code in .effect for the years in issue .

FINDINGS OF FACT .

Some of the facts have been stipulated, and the stipulated facts are incorporated in our findings by this reference .

Petitioners resided in New York at the time that they filed their , :petition . Petitioner is a registered nurse, has no tax .

,G experience, and has . not been trained to value real estate .

On September 24, 1997, petitioner purchased a property o n Vanderbilt Avenue within . the Fort Greene Historic District i n Brooklyn, New York , for $255, 000 and became'the fee simple owner .

The Fort Greene Historic District is designated (1) a "registere d phistoric district" within the meaning of section 47(c)(3)(B) by the Secretary of .the Interior ;through the National Par Service (NPS), a bureau within the U .S . . Department of the Interior ; and (2) a historic district by New York City and its Landmarks , Preservation Commission . =In .New York City'it .is unlawful to' alter, reconstruct, or demolish a building in a .histor'c district without the prior consent of the Landmarks .Pres,eZvatiorl .

Commission . N .Y . . City Admin .

.Code sec ..... 25-305 (cid:127)('2002) Sometime-, .in the fall .-of 2002, . . petitioner, receive d a postcar d from the Nationale- Architectural Trust'(NAT) .,' a section 501-(c) (3 ) organization (that later' became :known as the Trust fo r Architectural Easements), announcing an'upcoming meeting in the New York City areato,provide information regarding the-donation of a facade .conservation easement, including possible elated tax benefits. Petitioner was interested in'preserving the historic facade of her house, . particularly because she'observed real estate development increasing in and around :For .t Greene .- She also wanted to .obtain .the tax benefits-suggested by NA Petitioner called NAT and inquired generally about the program . Petitioner also called John Somoza (Somoza), the .

accountant who had prepared .her tax returns=for 'approx mately 1 0 years before 2004,' and asked him about the . programsbec use . of the- noted tax implications of a donation .. Somoza .has :a college .

degree, has practiced as an accountant for over 40 yea s, and .has prepared thousands-of tax returns during his career . omoza 4 - ' ;informed petitioner that he was not familiar with the donation of historic facade easements, but he offered to attend'NAT's upcoming seminar .

At the seminar attended by Somoza, a representative from NAT presented information regarding facade easements and distributed .an informational flier that Somoza forwarded to petitioner .

'Somoza conducted some additional research and informed petitioner ,that the facade easement contribution deduction did exist under the Internal Revenue Code . He also cautioned petitioner that encumbering the property might make it more difficult to sell in the future .

On March 24, 2003, petitioner completed a facade ,:conservation easement application for the .Vanderbilt property to ,.-be considered for a . facade conservation easement donation to NAT .

On the application, petitioner identified two lenders that held rmortgages on the property . NAT required a deposit of $1,000 to be submitted with the application, which was fully refundable if the necessary approvals for the facade easement donation could not be obtained . The application stated that NAT's "operating .

funds come solely from cash donations made by persons donating an .,easement . An agreed upon cash donation of 10% of the easemen t :ji value is required at the time the easement donation is accepted .by [NAT]" .

_ 5 a letter, dated April ._2, 2003, the NAT Directo r o f Operations informed petitioner that her application-ha bee n accepted and that processing would commence . The letter informed petitioner that NAT :

will place significant effort to the processing o your application . Processing an application is complex and time consuming . It .involves(cid:127)obtaining approvals rom the State and Federal Governments, and your lende .

There is nothing required of you until all approvals are received .

NAT sought the approval of petitioner's mortgage holder s regarding the placement of a preservation restriction agreemen t on her Vanderbilt property . The two mortgage holders Execute d lender agreements that were submitted to NAT during t h process .

On May 12, 2003, to comply with another componen t approval process, petitioner executed a National Park Servic e Form 10-168, Historic Preservation Certification Application Part 1 - Evaluation of Significance, to request that the NP certify the historic significance of the Vanderbilt property . The NP S determined that petitioner ' s Vanderbilt property contr bute s the significance of the Fort Greene Historic District nd is a "certified historic structure" for a charitable contr i ution fo r conservation purposes in accordance .with the Tax Treat ent Extension Act of 1980 .

Later in-2003, petitioner informed NAT that she had decided not to pursue the donation until 2004 . . Petitioner needed time to F$isave the additional required cash due, as outlined in th e application . By letter dated April 22, 2004, NAT informed petitioner that all of the necessary approvals had been received and that she needed to order an appraisal . NAT provided in th e d;let(cid:127)ter a list of appraisers "qualified to do easement "appraisals" . . Petitioner hired one of the listed appraisers, Michael Drazner (Drazner), formerly of Mitchell, Maxwell & Jackson, Inc ., to perform an appraisal . of the Vanderbilt property .

D.razner and James Kearns (Kearns), president of NAT, first communicated-in December 2001 when Kearns contacted Drazner to inquire whether he would be able to prepare . appraisals fo r .homeowners who were . interested in donating facade . easements to NAT . Kearns sent copies of reports to Drazner that had bee n prepared by another appraisal firm outside of the, New York City area along with some information regarding court cases that involved the charitable contribution of facade easements .

Drazner completed an appraisal (the Drazner report) for th e subject property on May 20, 2004 . The .report states that the ,appraisal was completed in accordance with title XI of th e Federal Financial Institutions Reform, Recovery, and Enforcement ,Act of 1989 and the Uniform Standards of Professional Appraisal .

Practice .

Drazner is a qualified expert in the field o f rea l estate appraisal and valuation' .

Petitioner ' s Vanderbilt property was described in the Drazner report as :

an attached four story, three family townhouse located in the Boerum Hill neighbbrhood of Kings County . The subject is physically and functionally adequate ` s is' * * * [and] . features a rear deck, patio, and clean tiled subcellar below the garden level . -This home also includes a wealth . of turn of the century details .hat generate strong demand for such homes in the area . These include wood mouldings, paneling and wainscotting, volume ceilings, exposed brick walls , stained glass windows, original wood planking, a n fireplaces .

Drazner determined that the estimated market valu property was $1,015,000 as of the appraisal date . The report outlined the,use of the three classic approach e (sales comparison, cost, and income) that were conside ed to determine the-market value of the Vanderbilt property . The report stated that the sales comparison . approach is thE "Most applicable and has been given greatest weight-in th e determination of the final value * * * [and] the cost' . .pproac h was given least weight due to the age of the subject property ."

The . stated purpose of the report was ."to estimate `as s' value of the subject . property and to estimate the . impact on the subject property if granted an'`architectural facade . easement . " The report explained that .

An easement is `a particularly useful histori preservation tool in several respects . First, it allows an individual to retain private .ownership of the property and obtain potential financial benefits . Second, an easement binds not only the current owner, but all future owners as well, ensuring that the property will be maintained and observed by future owners . Third,'easements are tailored to meet the needs of the property owner, the individual resource, and the mission of the protecting organization .

If certain criteria are met, the owner also may receive a Federal income tax deduction equivalent to the value of the rights given away to a charitable, or governmental organization . ** * The deduction the taxpayer is entitled to, is equal to the fair marke t ~,, value of the easement, which is generally the decrease in fair market value of the property caused by the . restrictions placed on the property because of the easement .

The Drazner report briefly discussed two cases involvin g easement valuation, Hilborn v . Commissioner , 85 T .C . 677 (1985), ;and Richmond v . United States , 699 F . Supp . 578 (E .D . La . 1988) , and stated tha t As these cases depict, it is extremely difficult for appraisers to estimate the probable and possible impact on a property's value by the imposition of a facade conservation easement that is granted in perpetuity . For most attached row properties in New York City, where there are many municipal regulations restricting changes to properties located in historic districts, the facade easement value tends to be about, 11 - 11 .5% of the total value of the property . That figure is based on the appraiser's experience as to what the Internal Revenue Service has found acceptable (on prior appraisals ) The D.razner report further . stated tha t This facade easement can, and . often does, have an effect on marketability and the market value of a property . The measurement of this effect or impact is difficult to quantify with any supported precision . Articles, periodicals, and books have been written on the subject (measurement of the value of the historic easement) . However, in this market area, there is no measure .or formula that is .applicable f.or'all properties . The individual properties are so unique .that each case must be evaluated on its own . Additionally, . while there are accepted methods for measuring this effect, only the market can provide the true test . Nonetheless, there are market measures that provide . . sufficient data with which to bracket and support a reasonable market indicator .

Estimating.

. .the value of a property after the donation of a conservation easement is very much .like condemnation appraisal practice where easements o partial .fee interests are taken from property owners by a-sovereign .. Attempts must be made to define wha rights have been lost by the property owners .and That elements of damage (or enhancement) are involved-in the loss . Because real estate is not bought and sold in a vacuum, the appraiser has . endeavored to place him elf in the mindset of competent buyers'and sellers an to examine considerations they have actually had, or are likely to have, in the buying or selling of a property encumbered by a facade easement .

The donation of a commercial property results It-is now generally recognized by the Internal Re enue Service that the donation of a facade easement of a property results in a loss of value * * * between 10% and 15% . in a loss of value of between 10% or 12% or highe if development rights are lost . The inclusive data support at least these ranges, depending on how extensive the facade area is in relation to the 1 nd parcel .

It is our opinion'that the presence of the f cade conservation easement would'alter the .market valu of the subject property . . In the subject's market ar a, the appraiser cannot precisely estimate the exten to which this "loss in value" will result from the f cade easement due to the lack of market data . In this situation it is'the appraiser's conclusion that the value of the facade conservation easement * * * o the . subject property would be . estimated at $115,000, which is approximately 11 .33% of the fee simple value o $1,015,000 . of range of value that the .I .R .S . has historically .

This conclusion is . based on consider tion found to be acceptable as well as historical precedents . Therefore, the presence of the historic facade easement would decrease the fair market value of the property rights held by . the homeowner of the subject property to $900,000 .

An article entitled "Facade Easement Contributions" was ~jprepared by Mark Primoli of the Internal Revenue Service ..(IRS) '-'sometime before 2002 and was included as a part of the IRS' 199 4 Market Segment Specialization Program Audit Technique Guide on the Rehabilitation Tax Credit--used to assist in training . IRS .personnel . The article stated tha t Internal Revenue Service Engineers have concluded that the-proper valuation of a facade easement should range from approximately 10% to 15% of the value of th e property . Once fair market values have been determined, the same ratios are used to allocate the basis of the building and the underlying land to the facade easement for both rehabilitation tax credit and depreciation . purposes . See Treasury Regulation 1 .170A- 14(h) .

An excerpt from this . article was posted on the NPS' Web site until early 2003 but was revised in 2003 to remove the first sentence quoted above . The Drazner report does . not cite this article .

By letter dated June 7, 2004, NAT informed petitioner that it was in receipt of the Drazner report valuing the Vanderbilt property facade easement at $115,000 . In the letter, NAT also ,informed petitioner that if she closed on the facade easemen t contribution transaction by June 30, 2004, the cash payment due 'would be $9,275 (applying a 15-percent discount to 10 percent of the easement value and deducting-,a processing fee of $500 that one of the lenders charged . from the initial-$1,000 deposit) .

Petitioner sent a :check : .for $9,275 to NAT dated June 18 , 2004, and NAT confirmed receipt of the moneys by letter dated July 2, 2004 . The letter also stated that NAT "certifies that you : have received no goods-or services in .return for your gifts" and informed petitioner that attached was a Form 8283, Noncas h Charitable Contributions, executed by the appraiser and NAT .

On June 23,°2004, Kearns signed the . conservation eed on behalf of NAT .. On September 21, 2004, .the City of New York recorded the conservation deed of ;easement for-the Vanerbilt property` . The deed of easement for the subject property is considered to be only an architectural facade conserva ion easement .

Petitioner attached Form 8283 to her 2004 Form 10 0, U .S .

Individual Income Tax Return, and reported a $115,000 ift to charity on line 16 of Schedule A, Itemized Deductions ., The For m 8283 filed had two versions of page 2, with one signed' by th e appraiser and president of NAT and the other lacking tt es e signatures . Both reported essentially the same information : (1) A description of the donated property as a facadeeasement with respect to the Vanderbilt property ; (2) the overall physica l condition being a "Historic Preservation Easement Dona ion" ; and .

(3 .) a stated appraised fair market value of $115,000 for the donated property . On the executed page 2, D .razner signed the 1declaration of appraiser section and identified the appraisal ,date as,Ma .y 20, 20 .04, and Kearns, as president of NAT, signed a n acknowledgement of receipt of the contribution by .NAT, as-donee, on June 23, 2004 .

On her 2004 .t a.x return, petitioner did not claim a deduction for the full $115,000 because of limitations provided under section 170(b) . Petitioner carried over $63, .083-of the reporte d Tcontribution to her 2005 tax return .and claimed a deduction of $59,959 according to section 170(d)(1) . The remaining $3,124 .was .carried over and claimed as a deduction on petitioners' jointly !filed 200 6.tax return . No charitable contribution deduction for the cash payment to NAT was claimed on the tax return filed for 1'2004, 2005, or 2006 .

Somoza prepared petitioner's tax returns for 2004 and 200 5 ,,.,and petitioners ' joint tax return for 2006 using informatio n ,supplied by petitioners .

In the notice of deficiency sent . to petitioner for 2004 and 200.5, petitioner's deduction for a charitable contribution of property was not allowed because :

The . contribution of property to a qualifying organization is measured by the fair market value of that property at the time the gift'is made . Based upon, all available information, you have not established the fair market value . Therefore, we have disallowed your charitable contribution deduction of property in full .

The carryovers claimed for 2005 and 2006 were according l y - 1 3 disallowed .

OPINION

.

Section 170(a)(1) .-allows as .a deduction any charit abl e contribution verified-under regulations prescribed by t h e Secretary . Generally, an individual claiming a noncas charitable contribution of more than $5,000 is required to :

(1) Obtain a qualified appraisal of such, property, (2),attach a fully completed appraisal summary ..(i .e ., Form 8283) to the ta x return on which the deduction is-claimed, and (3) maintai n records pertaining to the claimed deduction in accordance with section 1, .170A-13 .(b)(2)(ii), Income Tax Regs . Sec .

1 .170A- .13(c)(2), Income Tax Regs .

Section 170(f)(11), added as part of the . American Jobs .

Creation Act` of 2004, Pub . L. . 108-357,sec . 883, 118 S at . 1631, is effective for contributions made after June 3, 2004 .E Sectio n 170(f)( 11)(E) provides that the term ." qualified appraisal" mean s an appraisal that-is treated .as a qualified appraisal ender regulations or other guidance prescribed by the Secre t try .

.Section 170(f)(11)(H) gives the Secretary authority to prescribe .regulations to carry out .the purposes of this section .

Fo r appraisals prepared with respect to returns filed on o before August 17, 2006 , the requirements under section 1 .17.0A -13(c), 14 - Income Tax Regs ., related to a qualified appraisal and . qualifie d appraiser, apply . See Notice 2006-96, 2006-2 C .B . 902 .

The regulations state, among other things, that a qualified appraisal is made .not earlier than 60 days before the date o f ,,contribution of the appraised property nor later than the due date of the tax return on which a deduction is first claimed; i s :prepared, signed, and dated by a qualified appraiser ; an d :includes the following. information : .

(A) A description of the property in sufficient detail for a person who is not generally familiar with the type of property to ascertain that the property that was appraised is the-property that was (or will be) contributed ; '(B) In the case of tangible property, the physical .

condition of the property ; (C) The date (or expected date) of contribution to the donee ; . .(D) The terms of any agreement or understanding entered into (or expected .to be entered into) by or on behalf of the donor or donee that relates to the use, sale, or other disposition of the property contributed, * * (E) The name, address , and * * * identifying .number of .the qualified appraiser ; * * * (F) The qualifications of the qualified appraiser who signs the appraisal, including the appraiser' .s background, experience, education, and membership, if any, in professional appraisal associations ; (G) A statement,that the appraisal was prepared for income tax purposes ; (H) The date (or dates) on which the property was appraised ; 15 - (I) The app.raised .fair market value (within t e meaning of §1 .170A-1(c)(2)), of the property on the date (or expected date) of . contribution ; (J) The method of valuation used to determine fair market value, such as the income approach, th market-data approach, and the, replacement-cost-les depreciation approach ; .and the e s- (K) The specific basis for the valuation, suc specific comparable sales-transactions or statisti sampling,, including a justification for using samp and an explanation of .the sampling procedure emploi h as cal ling yed .

Sec . 1 170A-13 (c) (3) (ii) , Income Tax Regs .

.

.The appraisal .-summary must include, among other things, a description of the. property in sufficient detail for a person who is, not generally familiar with the type of property to ascertain that the property appraised is the . property that was contributed, a brief summary of the property's physical` condition, he manner and date of acquisition, and the cost or other-basis o th e .property . See sec . 1 .170A-13(c)(4)(ii), Income Tax Re s .

Respondent argues-that,the Form 8283 attached t o petitioner' s 2004,.tax° return''did 'not satisfy the requi ~ eme.nt s outlined in section 1 .170A-13,(c)(4), Income Tax Regs Petitioners assert that the Form 8283 included all the require d information .

The Form 8283 attached to petitioner's 2004 tax return di d not include the date and manner of acquisition of the ropert y purportedly contributed or the cost or other basis of h e property purportedly contributed , . adjusted as provided by section 1,6 - 1016 . These defects alone demonstrate that there has not been strict compliance with the regulation requirements .

Respondent contends further that petitioners did not satisfy the requirements of section 1 .170A-13(c), Income Tax Regs ., ,regarding obtaining a qualified appraisal because the Drazne r report did . not describe .the property contributed ; did not include the terms of the deed of easement ; did not include a statement ;,that it . was prepared for income tax purposes ; and did not provid e the method and specific basis for valuing the easement .

,Petitioners assert that these requirements were satisfied .

The evidence at trial, notably conflicting expert testimony, and the arguments of the parties, deal in large part with valuation of the facade easement by traditional fair market .analysis . Because we . conclude that the Drazner report is not a ,qualified appraisal, we. do not discuss this evidence or reach a conclusion as to the value of the easement .

Section 1 .170A-13(c)(3)(ii)(J), Income . Tax Regs ., provides ,`;that the qualified appraisal is to include the method of (valuation used to determine . the . fair market value, such as the income approach, the market-data approach, and the replacement- cost-less-depreciation approach . These methods are suggested, .but not mandatory . . Further,_ other valuation methods were contemplated in-the legislative history of the Act of Dec . 17, 1980, Pub . L . 96-541, 94 Stat . 3204., regarding the deduction for charitable contributions of real property for conservat io n purposes under section 170 :

In general, a deduction . is allowed for a charitable contribution in the amount of the fair market value of the contributed property, defined as the price at which the property would change . hands between a willing buyer and a willing seller . Thus, the amount of the deduction for the contribution of a conservation easement or other restriction is the fair market value of the interest conveyed to the recipient . However, because markets generally are not well established for easements or similar restrictions, the willing buyer/willing seller test may be difficult to apply .* * * . As a consequence, conservation ease ents are typically (but not necessarily) valued indirectly as the difference between the fair market value of the property involved before and after the grant of t1e easement . .(See Rev . Rul . 73-339, 1973-2 C .B . 68 allnd' Rev . Rul . . 76-376, 1976-2 C .B . 53) . Where this test is used, however, the committee believes it should not be applied mechanically . [S . Rept . 96-1007, at 14-15 (1980), 1980-2 C .B . 599, at 606 .

] As the Drazner report states, and we have previously noted, comparable sales transactions involving real estate wi h similar facade easements are not always available . See Hilborn v .

Commissioner , 85 T .C . at 688 ; Simmons v . Commissioner , T .C . Memo .

2009-208 . The "before and after" approach has been Used on numerous occasions to determine the fair market values of restrictive easements with respect to which charitable contribution deductions are claimed . See, e .g ., Hilbo n v .

Commissioner , supra ; Simmons v . Commissioner , supra ; Griffin v .

Commissioner ; T .C . Memo . 1989-130, affd . 911 F .2d 1124 (5th Cir .

1990) .

As we outlined in Hilborn v . Commissioner , supra at-689-690 :

18 - "Before" value (before value) is arrived at b y first determining the highest and best use of the property in its current condition unrestricted by the easement . At this, stage, the suitability of the property's current use under existing zoning and market conditions and realistic alternative uses are examined . Any suggested use higher-than current use requires both "closeness in time" and "reasonable probability . ." Next, to the extent possible, the three commonly recognized methods of valuing property (capitalized net operating income, replacement cost, and comparable sales) are .us.ed, but are modified to take into account any peculiarities of the property which impact on the relative weight to be afforded each respective method .

"After" value (after value) is arrived at by first determining the highest and best use of the property as encumbered by the easement . At this stage the easement's terms and covenants are examined, individually and collectively, and compared to existing zoning regulations and other controls (such as local historic preservation ordinances) to estimate whether, and the extent to which, the easement will affect current and alternate future uses of the property . Next, the above-mentioned three approaches to valuing property are again utilized to-estimate the value of the property as encumbered by the easement .

The Drazner report purportedly employed the before and after 1imethod . To determine the "before" market value of the Vanderbilt property, Drazner considered the three approaches to value (sale s .comparison, cost, and income) . Drazner's determination of the "after" .value stated that it was "based on consideration of a range of value that the I .R .S . has historically found to be acceptable as well as historical precedents ." Petitioner s contend that this satisfies the requirements of section 1 .170A- 13(c)(3)(ii)(J) .and ( K), Income Tax Regs ., by identifying :

- 19`- (a) the method of valuation used to determine the fair market value (i .e ., the appraiser's comparison of the Primoli Memorandum's accepted range of values a s narrowed down according to .the appraiser's judgment) ; .and (b) the specific basis for the valuation (i .e ., the lack of market data, IRS publications and case .law) .

We have previously held that such information as ti e valuation method used or the basis for the appraised value is essential because Without any reasoned analysis, * * * [th e appraiser's] report is useless .'" Friedman v'. Commissioner , T .C .

Memo . 2010-45 (quoting Jacobson v . Commissioner , T .C . Memo . 19.99- 401) . In Nicoladis v . Commissioner ; T .C . Memo . 1988-163, w e found that the . facade . easement did result in a 10-percet decrease in value under the facts and circumstances of the case , but further stated tha t we do not mean . to imply that a general "10-percent rule" has been established with respect to facade donations . There was a fair amount of discussion by the parties at trial about whether the Court had established a "10-percent' rule" in Hi1born .-' We did not there and do:,not here . acceptable the before and after method of valuation, and while under the circumstances 'of that case, a 1~0- percent-figure was relied upon, valuation itself is still a question of facts and . circumstances .

Hilborn establishes as * There have been additional cases in which percentag e .reductions-have been accepted to determine an easement's value based on qualitative factors that suggest such .a value .. See, e .g ., Griffin v . Commissioner , supra ; Losch v . Co mm issoner, T .C .

Memo . 1988 -230 . However, Drazner's report failed to outline and analyze-qualitative factors for the Vanderbilt propert~ .

20 - Petitioners argue . that the Drazner report outlined the methodology set forth to .determine the "after" fair market value and assert that Drazner explained at trial that his appraisal was "not mechanical, it was reasoned ." However, .the application of a percentage to the fair market value before conveyance of th e facade easement, without explanation, cannot constitute a metho d of valuation as contemplated under section 1 .170A-13(c).(3)(ii), Income Tax .Regs . Drazner's report applied mechanically a 4percentage with no demonstrated support as to its derivation, !other than acceptance of similar percentages in prior controversies . Further, no meaningful analysis was provided in the Drazner report to explain why Drazner applied .11 .33 percent .

to the before fair market value of the property to calculate the facade easement value other than his statement :

For most attached row properties in New York City, where there are many municipal regulations restricting changes to properties located in historic . districts, .the facade easement value tends to be about 11 - 11 .5% of the total value of the property . That figure . is based on the appraiser's experience as to what th e =k Internal Revenue . Service has found acceptable (on prior appraisals) .

This assertion fails to explain how the specific attributes of the subject property led to the value determined in the Drazner report .

The Drazner report indicated that estimating the value of a property after the donation of a facade conservation easement i s much like condemnation appraisal practice that includes attempts 2 1 define what rights have been lost .by the property ow~ers an d what elements of damage (or enhancement) are involved iI th e loss . Such an analysis was not included in the Drazne r for the Vanderbilt property .

At trial, . when asked by respondent's counsel to ex lain how he determined the after value o the propert y of and how he measured the effect of the facade easement on the property, Dra z ne r testified :

A : Based on prior legal cases in summaries that the facade easement donations were between 10 and 15 percent . So, I applied the fee simple value and .I multiplied them by a factor of 11 percent to arrive at the effect of the easement donation as to that would be the deduction of the fee simple value, the deduction from the before value .

Q : Did you'round the value at all after you applied 11 percent, round the value of . the effect the easement ?

of A : I usually did .

Q : What was the number approximately that you did round ?

A : I would say the closest $5,000 .

Q : Now, did you use this process for any othe r easements * A : Yes, I did .

* * * * * Q ; Did your methodology or process change in an y way?

A : In`some cases I would use a different percentage factor .

Q : What was that based on ?

A : Whether the property * * * [was]-attached, semi -attached, or detached on all sides .

Q : Did you base it on anything else ?

A : No . In general I . based it on between the 10 and 15 percent : standard,,-and within that range I would use a lower number if the property * ** [was] attached on both sides, as in the case of'* * * [petitioner's] property . In other cases if the property were detached, I would use a slightly higher percentage .

Petitioners' counsel questioned Drazner about the number of sale s of easement-encumbered properties that he was aware of at the time he . conducted the . appraisal for, petitioner, with Drazner testifying tha t A : I believe that I only knew of one .

Q : The one that you knew of , was that on Willow Street. ?

A : Yes, it was .

Q : Did you personally appraise that property ?

A : I believe that I appraised it for the easement donation purpose .

.Q : How did you come to .the conclusion that your appraisal was correct ?

A : Which appraisal are you referring to ?

Q : The subsequent sale of the property was les s than .

A : I had done many appraisals in that neighborhood., and based on sales of properties similar to that property on Willow Street in records to lot size and the building square footage, their property . sold for a lower. price than I believe it wouldhave sold without the easement encumbrance .

No further information regarding the details or - 23-- specifications of the Willow Street property was suppli d, and it was . not .-a,part of the Drazner report . Drazner testifie that he had performed many appraisals in'the neighborhood of th Willow Street property, and on the basis of-sales of similar properties in the area, : he was able to determine that the property sold for a .lower price than the property' .s market value without th e easement encumbrance . Draznerstated that he believed this sale confirmed.

. .that-an easement encumbrance reduces the fair market value-of a-property . Further information regarding the Willow Street property, such as the fair market value assumed y .Drazner at the time of the sale, had it been sold without the encumbering easement-, compared to the actual- .sale price ; terms of th e easement ; and whether the property is within a recogni- z abl e historic district would be necessary to assess the reli ability o f .the Drazner' analysi s Petiti'one.rs rely on a quotation from Simmons v .

Commissioner , T .C . .- .Memo . 2009=.2 .0'8, that "appraisals als o include discussions of IRS practice and cases of this Court con cerning facade easements", to assert that the Drazner methodol o gy i s sufficient to satisfy the qualified appraisal reporting requirements .- However, :in Simm ons -, the appraisals inc l uded statistics gathered by the donee`organizati.ons that the ,appraiser took into account ; and each appraisal identified .the me thod, of valuation used and the basis for the valuations reached . The Drazner. report used only . estimates based on prior cases an d displayed no independent or reliable methodology applied to th e subject property as the basis for the valuation-reached . Thus,, we conclude that petitioners have failed to comply with the substantiation requirements under section 170(f) and sectio n 1 .170A- 13, Income Tax .Regs .

Petitioners argue that their compliance with the substantiation requirements should be excused on the ground of reasonable cause . . Section 170 ( f)(11)(A )( ii)(II ) provides tha t .the requirement to obtain a qualified appraisal under section 170(f) .(11)(C) will not apply-if it is shown that the failure t o ° meet the requirement is due to reasonable cause and not due to, willful neglect .

-Petitioner obtained an appraisal that we have concluded is not a qualified appraisal under . section .170(f)(11) . Although the regulations do not require that a specific method of valuatio n d'beused to determine the fair ; market value for noncash .contributions of more than $5,000, the appraisal must :still `include the method of valuation used and the specific basis for . the . valuation . See sec . 1 .170A-13(c)(3)(ii)(J) and (K), Income ;Tax Regs . Petitioners Nave not persuaded us . that reasonable .cause existed and excuses the . .failure to comply with .th e requirements :for'obtaining a qualified appraisal .

Petitioners next assert that they are entitled to a deduction for the charitable contribution of the facade .easement because they substantially complied with the regulatio n s .

.Under the substantial compliance doctrine, the cri tical question is whether the requirements relate "'to the su bstance or essence .of the statute ."'(cid:127) Bond v .FCommissioner , . 100 T .

C . 32, . 40-

41 (1993) (quoting Sperapani v . Commissioner , 42 T .C . 308, 33 1 (1964)) . If so, strict adherence to all-statutory-and regulator y requirements' is mandatory . See Dunavant v . Commission er, 63 T .C .

316, 319-320 .(197.4) .

However, . if the requirements are procedural or directory in that they are not of the essence of the things to be done but are given with a view to the orderly conduct .of business, then they may be fulfil-led by substantial compliance .

See id . . We have previously held that the-reporting re uirement s of section 1 :170A-13,-Income Tax Regs, ., are directory and require only substantial compliance .

Bond v . Commissioner , supra at 41- 42 .

In Bond , the taxpayers donated two blimps to a charitabl e organization` and=obtained :a professional appraisal o f he blimp s in that . same , month . ; ; The appraiser completed an apprai summar y for inclusion with the taxpayers' tax return but did not provid e a separate written report of the appraisal . The appraisal ' summary contained most of the information required for a qualified appraisal,and the taxpayers promptly furnished the IRS 26 - with a letter outlining the appraiser's qualifications and .the appraisal methodology used shortly after the audit of .their tax return commenced ."

Id . at 34-35 .

In Simmons v . Commissioner , . supra , we found that the taxpayer had substantially complied with the substantiation requirements of section 170 because she "includedall of the .required information in the appraisals attached to her returns o r on the . face of : the returns . " Petitioners claim they substantially complied with the substantiation requirements of section 170 because, as in Bond and Simmons, the documents that they .submitted included the information required for a qualified appraisal and appraisal :summary . We disagree . . In this case the lack of a recognized .

methodology or specific basis for the calculated after-donation value is too significant for us to ignore under the guise of substantial compliance .

.

When a qualified appraisal has not been submitted, we have .not applied the doctrine of substantial compliance to excuse a taxpayer's failure to meet the qualified appraisal .requirement .

See, e .g ., Hewitt v . Commissioner , 109 T .C . 258, 264-266 (1997), affd . without published opinion 166 F .3d 332 (4th-Cir . 1998) ; D'Arcangelo v . Commissioner , T .C . Memo . 1994-572 . We canno t accept the Drazner report as a . qualified appraisal complying with the substantiation requirements of section 170 .

27 - We conclude that petitioners did not substantially with section 1 .170A-.l3(c),,Inccme Tax Regs . According) petitioners are'not-entitled'`to-the-claimed noncash'cha contribution deduction . .

Respondent argues in the alternative that petition er' s contribution of the . easement . failed to meet the section 170 (h ) requirements for a qualified conservation contribution because i t was not exclusively, for conservation purposes and is no t protected in perpetuity according tocsection 1 .170A-14( g) (6), .

Income Tax Regs .

See,e .g ., Kaufman v . Commissioner , 1

34 T .C .

(2010) . 'We do not reach the contentions that the easement does meet the requirements of section 170(h) because'we conclude that petitioners .did not satisfy the requirement of obtaining a qualified appraisal .

Deductibility of Cash Paymen t Petitioner did not claim a charitable contribution deduction on her 2004 tax return for the $9,275 check dated June 18, 2004, paid to NAT . Petitioners noted this in their pretrial memorandum and raised . the. deductibility of this payment . at trial . Respondent initially objected to trying this issue, but subsequently conceded that this issue was tried by consent .

Respondent asserts that petitioner's cash payment to NAT wa s not a "contribution or gift" under section 170(a)-and that the payment was made as a quid . pro quo because NAT accepted the ~; - 2 8 facade easement .and assisted petitioner in claiming a tax deduction in return for petitioner's cash payment,(cid:127)calculated as a percentage of-petitioner's,valuation of .the facade easement .

A payment of cash to a qualified organization may be deductible under section 170 if the payment is ,a "contribution or gift" . A payment of money or transfer of property generally cannot constitute a charitable contribution if the contributor expects a substantial benefit . in return . . See United States v .

Am . Bar Endowment , 477 U .S . 105, 116 (1986) .

If a transaction is structured in the form of a quid pro quo, where it is understood that the taxpayer's money will not .pass to the charitable organization unless the taxpayer receives a specific benefit in return, and where the taxpayer cannot. receive the, benefit unless he pays the required price, then the . transaction does not qualify for the deduction under section 170 .

, Graham v . Commissioner , 822 F .2d 844, 849 (9th Cir . 1987), affd .

. .sub nom . Hernandez v . Commissioner , 490 U .S . 680 (1989) .

A taxpayer who receives or expects to receive a benefit in ,.return for a purported contribution may nonetheless be allowed a deduction if . the money or property transferred clearly exceeds the benefit received and the excess is given with .the intent to make a gift . See United States v . Am . Bar Endowment , supra at 117 . A taxpayer claiming a charitable contribution deductio n . .under this "dual character" theory, . however, "must at a minimum demonstrate that * * * [she] purposely contributed money or property in excess of the value of any benefit * * * [she] received in-return ." (cid:127) . Id . 'at 117-118 .

Petitioners failed to provide evidence . necessary f )r us t o determine that in return for the payment of cash to NAT the y received . nothing of substantial value or, if they did receive something of substantial value, that they are entitled o a partial charitable contribution deduction because the payment exceeded the value of the benefits received .. Accordingly, we hold .that petitioners have not sustained their burden of proving that they are entitled to deduct any portion of the amount paid to NAT as a charitable contribution under section 170 .

Section 6662 Accuracy-Related Penalt y Petitioners contest the imposition of an accuracy-related penalty under section 6662(a) . Section 6662(a) and (b)(1) and (2 .) imposes~a .20- .percent accuracy-related penalty on-any underpayment of Federal income tax attributable to a taxpayer's negligence or disregard of rules or regulations, or a substantia l understatement of income tax .

Section -6662 (d) (1) (A) define s "substantial understatement of income tax" as an amoun t the greater of 10 percent of the tax required to be shown on the return or $5,000 .

Under section 7491(c), the Commissioner bears the burden of production with regard to penalties and must . come forward with sufficient evidence indicating that it is proper to impose 3 0 penalties .

Higbee v . Commissioner , 116 T .C . 438, 446 (2001) .

However, ,once the Commissioner has met the burden of production, the burden of proof remains with the taxpayer, including the burden of proving that the penalties are inappropriate because of reasonable cause or substantial authority .

Id . at 446-447 .

Respondent asserts that substantial understatements of income tax exist for .2004 and 2005 . Each of .the deficiencies , after disallowance of the charitable contribution deductions attributable to the' easements , is greater than $5,000 and greater than 10 percent of the amount of-tax required- .to be shown on the return . Respondent's burden of production has been met for .2004, and 2005 .

FU The accuracy-related penalty under section 6662(a) is not ' .imposed with respect to any-portion of the underpayment as to which the taxpayer . acted with reasonable cause and in good faith .

Sec . 6664(c)(1) . The decision as .to whether a taxpayer acted with reasonable cause and in good faith is made on a case-by-case basis,-taking into account all of the' pertinent facts and circumstances, including the taxpayer's . experience, knowledge , and education . Sec . 1 .6664-4(b) .(1),,Income Tax Regs . .

"Generally, the most important factor is the extent of the taxpayer's effort to assess the taxpayer's proper tax liability ."

Id .

Reliance on professional advice may-constitute reasonable cause and good faith, but only if, under all the circumstances, - 31, - such reliance was reasonable . .

; Fr(cid:127)eytag v . Commissioner ; 89 T .C .

849, 888 -(1987), affd . .904 F .2d .1011 .(5th,_Cir . 1990), .affd . 50 1 U .S . 868 ,,(199 .1) ; sec . 1 .6664 .-4(b) .(1'),, .Income Tax Regs .

Reasonable-cause exists where a taxpayer .relies~in good faith o n the advice of ;a,qualified .tax .adviser where .the following three elements are .,.present : : "(1) The adviser was a competent professional .who had s .ufficie.nt!exp .ertise(cid:127)to-justify reliance,- , (2) the taxpayer provided necessary and accurate information to the adviser, and (3) the taxpayer-actually relied in good faith ,on the adviser's judgment .

Neonatology Associates, P .A . V .

Commissioner ) 115 T .C . 43, 99 (2000), affd . 299 F .3d 22 1 (3d Cir .

2002) .

Petitioner credibly testified that she was not a to x .exper t and hired Somoza. to ensure that her, tax returns were properl y filed . Somoza was (cid:127)a competent tax professional, though hot knowledgeable about facade easement donations . As petitioner's return preparer of many years, he was involved with petitioner's facade easement contribution from the beginning and had access to all the information needed to, properly evaluate the tax treatment of the facade conservation easement . Somoza relied in turn o n Drazner, whom the parties agree is a qualified appraiser for . .purposes of section 170, regarding the value of the noncash charitable contribution .

32 - We conclude that petitioner had reasonable cause and acted in good faith as to any underpayment for 2004 and therefore is not liable for .the penalty for that year . The 2005 and 2006 underpayments resulted from carryovers from 2004, so the penalties for those years also . will not be .sustained .

We have considered the other arguments of the parties but do not reach them because,of our conclusion on a decisive issue .

To reflect the, foregoing, Decision will be entered for respondent as to the deficiencies and for petitioners as to the penalties .