Speculative Value, Forty Percent Penalty

Why you should read this. On October 19 and October 22, 2026, the Tax Court decided three conservation easement cases covering five partnerships. It cut $133.1 million of claimed deductions to $1.6 million of determined value, disallowed two of the deductions in full on a drafting defect, and sustained the 40 percent gross valuation misstatement penalty every time. This alert sets out what the court held, why each appraisal failed, and which valuation-dependent positions in your own structures deserve a second look before year end.

Valuation is where planning meets evidence. Myron Scholes put the general point well: the taxing authority is an uninvited party to all contracts. In an easement case that party arrives with its own appraiser, a file of local comparable sales, and the benefit of every arm’s length price the taxpayer paid for the land. These opinions show how little a cash flow model survives that encounter when the entitlements behind it do not exist.

Executive summary

• Three opinions, five partnerships. Watson Lake with Meadow Lake and Del Monte with Continental Downtown Properties came down on October 19, and Lontrac Enterprises on October 22 (Section 01).
• Comparable sales beat cash flow models. In each case the court adopted the government’s comparable sales analysis and set the taxpayers’ discounted cash flow valuations aside, often without reaching their inputs (Section 02).
• Highest and best use needs entitlements. A mine, a subdivision, and a 19-story tower all failed for the same reason: no zoning approval, no engineering, and no local market evidence (Section 02).
• Forty percent, with no escape. Section 6662(h) applied in all three opinions, and section 6664(c)(3) left no reasonable cause defense for the charitable property misstatements (Section 03).
• Perpetuity failed in Columbus. The extinguishment formula in the Del Monte deeds excluded development rights, which disallowed $39.4 million of claimed deductions outright, whatever the easements were worth (Section 04).
• The appraisal file is the exposure. The reasoning travels past easements to any discount, any GRAT funded with a hard-to-value asset, and any charitable gift of property (Section 05).

01 What the court decided

Judge Lauber decided Watson Lake Investments, LLC v. Commissioner, consolidated with Meadow Lake Investments, LLC, T.C. Memo. 2026-106, on October 19, 2026. Chief Judge Urda decided Del Monte LLC v. Commissioner, consolidated with Continental Downtown Properties, LLC, T.C. Memo. 2026-107, the same day, and Lontrac Enterprises, LLC v. Commissioner, T.C. Memo. 2026-108, three days later.

The five partnerships followed one pattern. A sponsor acquired property, moved it into a partnership for nominal consideration, offered investors a majority interest through a private placement memorandum, and granted a perpetual easement within weeks. The Lontrac memorandum offered a 95 percent stake for $8,800,100 and projected deductions between $49 million and $63.5 million. The easement, over 288.8 acres granted on December 29, 2014, supported a claimed deduction of $74,507,000. The court found it was worth $500,000.

Swipe sideways for the other columns.

Exhibit 1. Claimed deductions against the values the court determined.

02 Why the valuations failed

Highest and best use

Every appraisal rested on a use the property was not entitled to. The Lontrac appraiser assumed a commercial granite and aggregate mine and ran a discounted cash flow that produced $61.5 million to $75 million. The court found the pre-easement highest and best use was recreational land carrying future residential development rights, set the land at $1,100,000, or roughly $3,500 an acre, and pointed to a September 2014 arm’s length sale that corroborated the figure.

Watson Lake and Meadow Lake involved two unimproved tracts of 144 and 189 acres near Swainsboro, in Emanuel County, Georgia. The appraisal posited dozens of single-family lots plus multifamily, senior, and commercial sites. The court found the highest and best use was the existing one, low-density single-family residential with agriculture, recreation, and timber alongside it. There were no legal zoning approvals. The zoning letter offered for Meadow Lake was forged. Local home sales were few. The government’s expert put 13 local land sales in evidence, and they lined up with what the taxpayers themselves had recently paid.

Del Monte and Continental concerned facade easements and relinquished air rights on two historic downtown Columbus, Ohio office buildings. The appraisals assumed a 19-story condominium tower on one and a 16 and 23-story apartment addition on the other. There were no soil borings and no foundation verification, and the government’s expert found no downtown demand for vertical additions to historic buildings. The court called the proposals speculative “pies in the sky” and adopted comparable sales and direct capitalization instead, resting on a 2015 purchase, a 2016 bank appraisal that assumed office use, and a 2016 sale of a partnership interest.

Where the court did reach the models, it found arithmetic. The Meadow Lake cash flow omitted operating expenses. Corrected, it produced a negative net present value. In Lontrac the appraiser invoked the Fifth Amendment and did not testify. The court declined to draw an adverse inference, then gave his appraisal no evidentiary weight. It gave the trial experts none either, because their opinions were built on his 2014 reports, in what the opinion treats as a garbage-in, garbage-out problem.

The court did not discount the appraisals. It gave them no weight at all.

03 The penalty, and why reasonable cause did not help

Section 6662(h) raises the accuracy-related penalty to 40 percent when the claimed value is 200 percent or more of the correct value. The claimed Lontrac value came to about 14,901 percent of the amount the court found, so the threshold was not in question. Section 6664(c)(3) denies the reasonable cause defense for a gross valuation misstatement involving charitable deduction property, which left the taxpayers nothing to argue on that front.

Del Monte went further. The court sustained the 40 percent penalty on the valuation-driven underpayments and a 20 percent penalty on the remainder for negligence and intentional disregard of rules, and it rejected reasonable cause on the ground that reliance on the promoter was not in good faith. That is the point worth carrying to clients: a promoter’s opinion letter is not advice a court will credit.

The procedural defense also closed. Lontrac challenged the written supervisory approval of the penalty under section 6751(b)(1). The court applied Eleventh Circuit precedent in Kroner and found the approval came before the FPAA issued. The IRS also argued the appraiser was disqualified under Treas. Reg. section 1.170A-13(c)(5)(ii). The court declined, reading that provision to require collusion and deception about value rather than overvaluation alone, which is a small taxpayer win inside a complete loss.

Swipe sideways for the other columns.

Exhibit 2. Illustrative penalty arithmetic for Oakridge Family Holdings. Figures are illustrative only.

04 Perpetuity, and one clause in the deed

Del Monte and Continental lost on a ground with nothing to do with value. The extinguishment formula in each deed excluded development rights from the proceeds the donee would receive on a judicial extinguishment. The court held the easements were therefore not protected in perpetuity, and disallowed the deductions in full. It still determined values of $200,000 and $550,000, because those numbers set up the penalty.

That is $39.4 million of claimed deductions gone on the drafting of a single clause, before anyone argued about towers. For a family office reviewing a charitable gift of real property, the deed deserves to be read first and the appraisal second.

05 What this means for funds and family offices

Few of our clients hold syndicated easements. Most hold something else the same reasoning reaches. A discount on a closely held interest, a GRAT funded with pre-IPO stock, a charitable lead trust holding a fund interest, a carried interest valued at formation: each rests on an appraisal, and each appraisal rests on assumptions a court can test against actual transactions.

Three habits follow from these opinions. First, document the entitlement, not the ambition. A use that needs zoning, permits, or engineering is worth what the approvals make it worth, and the court will ask to see them. Second, keep the taxpayer’s own purchase price defensible. In every one of these cases the buyer’s recent cost was the anchor the court used. Third, retain the appraiser who will testify. An appraiser who cannot or will not take the stand leaves the file with no evidentiary weight, and later experts cannot repair the original work.

We would also revisit any 2022 through 2025 return still open that carries a valuation-driven deduction above $500,000, where section 170(f)(11) requires a qualified appraisal. The question to ask is not whether the number is high. It is whether the file would persuade a judge who already has the government’s comparable sales in front of her.

What we would watch next

• Whether Lontrac appeals to the Eleventh Circuit, where Kroner already governs the section 6751(b)(1) question it raised.
• How other judges treat the reading of Treas. Reg. section 1.170A-13(c)(5)(ii) that confines appraiser disqualification to collusion and deception.
• The pace of the docket. Five partnerships in four days suggests more opinions on the same pattern before year end.
• Whether the government presses the extinguishment formula argument outside the historic facade setting, where the same clause language is common.

Our take

These cases are no longer close, and they have stopped being about easements. The court is telling appraisers that a model is worth what its assumptions can be proved to be worth, and telling taxpayers that a promoter’s letter buys no protection at all. The 40 percent penalty, with the reasonable cause door shut by statute, turns an aggressive valuation into a liability larger than the tax it was meant to save.

Our own practice is unchanged by these opinions, which is the point of mentioning it. We will not support a return position that depends on a highest and best use the property has no right to pursue, and on a gift of real property we read the deed before we read the appraisal. If you would like us to look at a specific appraisal or deed this quarter, send it over and we will give you a view in writing.

Selected research and primary authorities

The three opinions are Lontrac Enterprises, LLC v. Commissioner, T.C. Memo. 2026-108 (Oct. 22, 2026), Del Monte LLC v. Commissioner, T.C. Memo. 2026-107 (Oct. 19, 2026), and Watson Lake Investments, LLC v. Commissioner, T.C. Memo. 2026-106 (Oct. 19, 2026). All three are available through the United States Tax Court’s DAWSON system, and we recommend reading them in full before relying on any point here.

We are indebted to Edward Zollars, CPA, whose Current Federal Tax Developments carried same-day technical analyses of each opinion: on Lontrac and on Watson Lake and Del Monte. Wolters Kluwer’s VitalLaw reported the Watson Lake penalty holding.

The governing provisions are I.R.C. sections 170(f)(11), 170(h)(5), 6662(h), 6664(c)(3), and 6751(b)(1), and Treas. Reg. section 1.170A-13(c)(5)(ii). The framing of tax as a party to private bargains is Myron Scholes and his co-authors in Taxes and Business Strategy, 5th ed., ch. 1, p. 20.

Important notes

This alert addresses United States federal income tax only. It does not consider state or local tax, and several states apply their own charitable and valuation rules. Figures in Exhibit 2, and the Oakridge Family Holdings example, are illustrative and do not describe any client. Memorandum opinions bind only the parties before the court, may be appealed, and are not precedent in the way a reported Tax Court opinion is. Our account of the three opinions draws on published same-day analyses, so read the opinions themselves before relying on a holding in client work.

This client alert is for general information only. It is not tax, legal, investment, or accounting advice. Consult your own advisers about your particular circumstances before acting on any matter discussed here.

C . A . S .

This alert is for general information only and is not tax, legal, investment, or accounting advice. Consult your own advisers before acting. Carlos A. Schmidt, MBT, MBA, CPA · carlos@lapresallc.com · (917) 558-6393.