The IRS on Dec. 23 released Notice 2017-10 that identified certain syndicated conservation easement transactions as listed transactions. Investors who have entered into such transactions since 2010 or who enter into such transactions prospectively must comply with certain disclosure requirements, and appraisers acting as advisors must comply with certain disclosure obligations under the notice.
Specifically, the notice requires investors entering into syndicated conservation easement deals on or after Jan. 1, 2010, to file a tax shelter disclosure statement. The promoters, including appraisers and other material advisors, must file Form 8918 for the same period. This form must be filed by May 1, and failure to do so carries significant penalties.
The IRS intends to challenge the purported tax benefits from these transactions based on the overvaluation of a conservation easement. The IRS may also challenge the purported tax benefits from these transactions based on the partnership anti-abuse rule, economic substance or other rules or doctrines.
The IRS describes a typical syndication arrangement as:
Promoters identify a pass-through entity that owns real property or form a pass-through entity to acquire real property. The promoters then syndicate ownership interests in the pass-through entity that owns the real property, or in one or more of the tiers of pass-through entities, using promotional materials suggesting to prospective investors that an investor may be entitled to a share of a charitable contribution deduction that equals or exceeds an amount that is two and half times the amount of the investor’s investment.
The promoters obtain an appraisal that purports to be a qualified appraisal as defined in § 170(f)(11)(E)(i), that is said to greatly inflate the value of the conservation easement based on unreasonable conclusions about the development potential of the real property.
After an investor invests in the pass-through entity, either directly or through one or more tiers of pass-through entities, the pass-through entity donates a conservation easement encumbering the property to a tax-exempt entity. Investors who held their direct or indirect interests in the pass-through entity for one year or less may rely on the pass-through entity’s holding period in the underlying real property to treat the donated conservation easement as long-term capital gain property under § 170(e)(1).
The promoter receives a fee or other consideration with respect to the promotion, which may be in the form of an interest in the pass-through entity.
The Appraisal Institute has issued two previous warnings about syndication arrangements. The AI Government Relations Committee is reviewing the notice, and appraisers who practice in this area are encouraged to contact committee members or the AI Washington office with questions or concerns.
AI is concerned that it may not be clear to appraisers that an entity is/was a syndicated arrangement, or have knowledge of how the property was marketed, which is complicated by the fact that the policy applies six years retroactively. To address this concern, practicing appraisers likely would benefit from obtaining a sworn disclosure statement from clients as to whether a proposed assignment meets the criteria for a listed transaction.
The Federal Housing Finance Agency on Dec. 13 issued a final rule that requires Fannie Mae and Freddie Mac to submit plans for improving the distribution and availability of safe and sound residential mortgage financing in underserved markets. Markets of particular concern involve manufactured housing, affordable housing preservation and rural areas.
The rule implements the “duty to serve” provisions outlined in the government-sponsored enterprises’ authorizing statutes and establishes a method for FHFA to annually evaluate, rate and report to Congress on the GSEs’ compliance with its required duty-to-serve obligations.
During the open comment period for the rule, there were several mentions about the need for loan products that address the breakdowns in markets that occur when appropriate comparison data is not available to support appraisals. No particular action was taken relative to appraisals, except one provision related to unoccupied units that allows appraisers for underwriting purposes to set the market rent for similar units and receive duty to serve credit.
The Appraisal Institute on Oct. 31 sent a letter to the Federal Housing Finance Agency expressing “serious concern” about a policy change made to Freddie Mac’s Loan Advisor Suite in which appraisals would be waived in lieu of an “appraisal alternative” in multiple situations, including first purchase loans.
Unlike the Property Inspection Waiver policies announced by Fannie Mae Oct. 24 — which are limited to lower-risk refinance transactions — the policy change by Freddie Mac appears to target purchase mortgage transactions, which carry higher risk from a property information standpoint. It has become standard practice to obtain a complete interior inspection appraisal for mortgage transactions in order to better understand such things as property conditions, which are more likely to change between purchase transactions than between refinance transactions. That likelihood is why appraisal data, including an inspection, is so important to managing risk.
AI noted in its letter, “The decision by Freddie Mac to veer from fundamental risk-management practices appears reckless and imprudent, and harkens back to the loan-production-driven years leading up to the financial crisis. Similar actions were taken by government-sponsored enterprises in the early to mid-2000s, and the resulting decline in risk management by mortgage lenders was disastrous for the economy. In fact, the Government Accountability Office confirmed that such appraisal waivers were in widespread use leading up to when the government-sponsored enterprises were taken into conservatorship, with as many as 30 percent of loans receiving such waivers.”
AI further noted, “It has taken many years for the mortgage finance sector to recover, but progress has been made, in large part, because fundamental risk-management activities like appraisal have been reinforced by mortgage lenders. Reducing appraisal requirements sends the wrong signal to mortgage loan sellers about the importance of fundamental risk-management practices.”
The Appraisal Institute met with Freddie Mac leadership in December to discuss the letter and their concerns. Freddie Mac confirmed that use of appraisal alternatives would include purchase mortgages, but that they are targeting loan risk transactions, and claimed that a supermajority of loans will still require appraisals. The Appraisal Institute reiterated its concerns about unintended consequences resulting from reduced appraisal requirements, particularly those that rely on automated analytical systems that attempt to analyze collateral risk, known as “black boxes.” The Freddie Mac officials agreed to continue to discuss the concerns with the Appraisal Institute and address education and awareness issues.
The U.S. Environmental Protection Agency on Dec. 7 published a final rule that added "subsurface intrusion” and “vapor intrusion” components to the Hazard Ranking System used to evaluate sites for the Superfund National Priorities List.
The Hazard Ranking System quantifies negative impacts to air, groundwater, surface water and soil to determine what sites qualify for the National Priorities List.
The EPA stated that the regulatory change will not affect the status of sites currently on or proposed for the National Priorities List. The modification only augments criteria for applying the Hazard Ranking System to sites that will be evaluated in the future.
The federal bank regulatory agencies charged with issuing a report to Congress on the burdens imposed on banks by the Paperwork Reduction Act was delayed, and instead of being released at the end of 2016 as expected, should be released early this year, the Appraisal Institute noted Jan 17.
The report is significant because it should indicate the direction the agencies will go relative to regulatory pursuits related to appraisal requirements, including, but not limited to, appraisal threshold levels.
AI anticipates changes of some sort to be advanced by the agencies, but remains hopeful the agencies will continue to emphasize sound appraisal policies by financial institutions of all sizes.
The U.S. Department of Justice on Dec. 6 released an interim version of the long-awaited sixth edition of the Uniform Appraisal Standards for Federal Land Acquisitions, known as the Yellow Book. The publication was last updated in 2000.
The interim version can be downloaded from the DOJ website, but it is not printable and does not include a finalized index, table of authorities or appendix. The final version is expected to be posted in the coming weeks and will be available to the public for free.
The Appraisal Institute on Jan. 11 hosted a free webinar on the major changes to the Yellow Book, and an archive is available online
. AI also is developing a comprehensive classroom course on the updated edition.
The U.S. Department of Agriculture on Oct. 18 published a final rule for the Agricultural Conservation Easement Program, in which policies related to the Wetlands Reserve Program and the Farm and Ranch Lands Protection Program were consolidated with land eligibility elements from the Grassland Reserve Program, as called for in the 2014 Farm Bill.
The final rule for ACEP intends to make the program more flexible and responsive to the special needs of farmers and ranchers.
Under the final rule, an entity eligible for the program is responsible for obtaining a fair market value determination of the easement by using one of the approved methods in accordance with the Agriculture Department’s Natural Resources Conservation Service specifications and applicable industry standards. The NRCS approved the use of the Uniform Standards for Professional Appraisal Practice, the Uniform Appraisal Standards for Federal Land Acquisition and area-wide market analysis procedures. USPAP may serve as an industry standard for area-wide market analysis.
NRCS stated that it will review any standards submitted by eligible entities and compare them with the appraisal standards under USPAP or the Uniform Appraisal Standards for Federal Land Acquisition to determine if the alternative methodology sufficiently determined the fair market value of the easement.
During development of the final rule, the NRCS reviewed the benchmark valuation model from the Farm Credit Association and determined that that methodology alone is not sufficient because it only derives market value of the fee estate, and not the easement value as required by statute.
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