From a proposed wealth tax in California to the enactment of state business liability shield statutes, we have recently seen some significant developments in estate planning and business law. To ensure that you stay abreast of these legal changes, we have highlighted a few noteworthy developments and analyzed how they may impact your estate planning and business law practice.
California Legislators Propose First-in-the-Nation Wealth Tax
Assem. Bill 2088, 2019-2020 Reg. Sess. (Cal. 2020)
On August 13, 2020, California state legislators introduced a bill that would impose a 0.4 percent wealth tax on taxpayers with net worths above $30 million, or in excess of $15 million for married taxpayers filing separately, raising approximately $7.5 billion annually. The tax, which would be applied to the net worth of approximately 30,400 wealthy Californians, would take into account all assets and liabilities held globally by those individuals. Certain assets would not be included as worldwide net worth, including directly held real property or liabilities related to directly held real property.
Because the bill includes a change in a state statute that would result in a taxpayer paying a higher tax within the meaning of Section 3 of Article XIIIA of the California Constitution, approval by two-thirds of the members of each house of the legislature is necessary. If passed, it would take effect immediately as a tax levy.
Takeaways: Although the imposition of the proposed wealth tax may spur some wealthy Californians to move out of state, as written, the bill would still impose the tax at a gradually decreasing rate on those former residents for up to a decade after they leave California (though some have questioned the constitutionality of attempting to tax a former resident). In addition, there is likely to be litigation associated with the valuation of assets, as the taxpayers will seek out appraisers that will provide lower valuations while the state’s appraisers will provide substantially higher ones.
IRS Applies Stricter Scrutiny to Conservation Easements
In late 2019, the Internal Revenue Service (IRS) announced an increase in enforcement actions for syndicated conservation easement transactions targeted at disallowing inflated deductions in cases in which there was a failure to comply with the requirements for claiming a charitable deduction for a donated easement. The IRS announced a settlement offer in June 2020 to certain taxpayers with cases pending in the Tax Court involving syndicated conservation easement transactions.
A substantial number of conservation easement cases have been decided in favor of the IRS during 2020, including the following recent cases.
Belair Woods, LLC et al. v. Comm’r, T.C. Memo. 2020-112 (July 22, 2020)
In December 2008, Belair, a Georgia limited liability company, acquired a 145-acre tract of land in Georgia. It donated a conservation easement of over 141 acres of the land to the Georgia Land Trust (GLT) in December 2009, and a deed of easement was recorded. Belair reserved the right to make a limited number of new improvements within the conserved area. The deed recognized the possibility that the easement could be extinguished in the future. It also provided that if the property was sold after an extinguishment, GLT would receive a share of any future proceeds determined by multiplying the fair market value of the property unencumbered by the easement (minus any increase in value after the date of the easement attributable to improvements) by the ratio of the value of the conservation easement at the time of conveyance to the value of the property at the time of the conveyance without a deduction for the value of the conservation easement. In addition, the deed stated that GLT would receive the proceeds after the “satisfaction of any and all prior claims.”
Although Internal Revenue Code (I.R.C.) Section 170(f)(3)(A) restricts a taxpayer’s charitable contribution deduction for the donation of “an interest in property which consists of less than the taxpayer’s entire interest in such property,” there is an exception for a “qualified conservation contribution.” However, the Tax Court found that the charitable contribution deduction claimed by Belair was properly disallowed because the easement did fall not within the exception, as it was not “protected in perpetuity” as required by I.R.C. Section 170(h)(5)(A). The regulations implementing that section state that “the conservation purpose can nonetheless be treated as protected in perpetuity if the restrictions are extinguished by judicial proceeding” and the easement deed ensures that the charitable donee, following sale of the property, will receive a proportionate share of the proceeds. Treas. Reg. Section 1.170A-14(g)(6).
The court found that the deed did not give GLT a proportionate share of the gross sales proceeds, but rather only the proceeds after a reduction by any increase in value related to improvements. In addition, the court stated that the provision in the deed specifying that GLT’s sales proceeds would also be reduced by the amount required to satisfy any and all prior claims, even if those claims represented liabilities of Belair or its successors, was contrary to the regulations. As a result, the charitable contribution deduction claimed by Belair was disallowed.
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Johnson v. Comm’r, T.C. Memo. 2020-79 (June 8, 2020)
Theron Johnson (Johnson) purchased a 121.14-acre ranch for $200,000 in 2002, on which he built a single-family home and several outbuildings to use for agricultural activities. In 2007, Johnson granted a conservation easement to Colorado Open Lands (COL) encumbering 116.4 acres of the ranch pursuant to a deed of conservation easement, leaving the remaining 5 acres unencumbered. The deed restricted the encumbered portion from being subdivided, used as a feedlot, or used for commercial activities. In addition, the deed restricted construction in the encumbered area except for a 5-acre “building envelope” in which certain improvements were permitted. On his 2007 tax return, Johnson claimed a $610,000 charitable contribution deduction for the conservation easement. He also deducted a combined carryover of $265,051 related to the conservation easement during tax years 2007 through 2011.
The IRS disputed the value of the contribution and the amount of the deduction. The fair market value of the conservation easement is determined by calculating the difference between the fair market value of the ranch before and after Johnson granted the easement. In examining the competing estimates of fair market value provided by the parties’ expert witnesses, the court noted that the property’s highest and best use should be taken into account in determining its fair market value. It found that the competing parties’ expert witnesses determined nearly identical highest and best uses for the ranch, but valued it differently based on comparable properties. The court approved, with some modifications, the approach of Johnson’s expert witness, arriving at a before-conservation-easement value for the ranch of $1,021,695.
In determining the value of the ranch after the conservation easement was granted, the court eliminated the outliers from the comparable sales provided by each of the experts and selected the midpoint of the remaining comparable sales, leaving an after-conservation-easement value of $648,776.
Thus, the court found that the difference between the before and after values of the ranch—and the amount Johnson was permitted to deduct—was $372,919.
Takeaways: It is unlikely that the IRS will relax its enforcement measures in the foreseeable future. It is important for attorneys and clients to make sure that they strictly comply with the extensive statutory and regulatory requirements in their implementation of charitable donations of conservation easements. Failure to comply can result in disallowance of the charitable deduction and substantial penalties.
Tennessee Latest State to Pass COVID-19 Business Liability Shield Statute
H.B. 8001, S.B. 8002, 111th Gen. Assemb., 2nd. Extraordinary Sess. (Tenn. 2020)
On August 17, 2020, Tennessee became the latest state to enact broad protections against liability lawsuits related to injuries caused by exposure to COVID-19. The new law, called the COVID-19 Recovery Act, protects businesses, healthcare providers, nonprofits, schools, and churches from COVID-19-related lawsuits. The statute protects businesses and certain other entities against liability unless the plaintiff is able to show the defendant’s actions amounted to gross negligence or willful misconduct and can provide a signed statement from a doctor attesting the doctor’s opinion that the plaintiff’s injury or sickness resulted from the defendant’s actions.
Similar laws have been passed in North Carolina, Utah, Wyoming, Mississippi, Oklahoma, Kansas, Georgia, Louisiana, Nevada, and Iowa, and they have been proposed in Arizona, Massachusetts, Michigan, New Jersey, New York, Ohio, and South Carolina.
At the federal level, the Health, Economic Assistance, Liability Protection and Schools (HEALS) Act proposed by the Senate on July 27, as presently written, provides businesses, schools and other institutions with favorable presumptions of good faith compliance with safety standards and guidance, and requires plaintiffs to prove gross negligence or willful misconduct (that a defendant acted or failed to act with a “conscious, voluntary [and] reckless disregard” of its legal duties) to establish liability. The bill includes protection for healthcare providers alleging harm arising out of the provision or omission of coronavirus-related medical services. If enacted, the HEALS Act would preempt and supersede any state legislation providing less protection, excluding worker’s compensation statutes.
Takeaways: Although critics have asserted that the statutes will encourage businesses to be lax in safeguarding the health of customers, clients, and employees, most of the statutes will not protect businesses that fail to adhere to applicable government public health guidance or whose conduct would amount to gross negligence, recklessness, or willful misconduct.
Federal District Court Strikes Down Parts of Department of Labor Final Rule Implementing the Families First Coronavirus Response Act—and the DOL Revives Them
New York v. U.S. Dep’t of Labor, 2020 WL 4462260 (S.D.N.Y. Aug. 3, 2020), Paid Leave Under the Families First Coronavirus Response Act, 29 CFR Part 826
The state of New York filed suit in the U.S. District Court for the Southern District of New York against the Department of Labor (DOL), asserting that several parts of the DOL Final Rule implementing the Families First Coronavirus Response Act (FFCRA) exceeded the agency’s authority. On August 3, 2020, the court issued an order invalidating four significant provisions of the DOL Final Rule:
- The court struck down the requirement that work must be otherwise available to an employee for an employee to be eligible for emergency paid sick leave (EPSL). The FFCRA extends certain types of paid leave under either the Emergency Paid Sick Leave Act (EPSLA) or the Emergency Family and Medical Leave Expansion Act (EFMLEA) to covered employees if they are “unable to work (or telework) due to a need for leave” for six specifically delineated reasons related to COVID-19. The DOL’s Final Rule excludes otherwise eligible employees from such benefits under a “work-availability requirement” if their employers do not have work for them. The court determined that the DOL’s interpretation was unreasonable on the basis that the Final Rule’s “differential treatment of the six qualifying conditions is entirely unreasoned.” The court also found that “the agency’s barebones explanation for the work-availability requirement is patently deficient.” The court concluded that the work-availability requirement applies only to three of the six qualifying conditions under the EPSLA, as well as family leave under the EFMLEA. The court’s order appeared to mean that employees who were furloughed for lack of work would be eligible for EPSL if they experienced a qualifying reason for EPSL while out on furlough.
- The court struck down the DOL’s expansive definition of “health care providers” for the purposes of which workers can be excluded from the FFCRA mandated leave on the basis that it was overly broad and exceeded the authority granted by the FFCRA. This change significantly narrowed the application of the “health care provider” exemption.
- The court struck down, in part, the Final Rule’s intermittent leave provision requiring that an employer agree to the use of FFCRA leave on an intermittent basis by employees for reasons not related to the possible spread of COVID-19 by the employee. The court held that the Final Rule “utterly fail[ed] to explain why employer consent is required for the remaining qualifying conditions (where the risk of viral transmission is low), which concededly do not implicate the same public-health considerations.” Thus, the court vacated the Final Rule to the extent it required employees to obtain employer consent to take intermittent leave where the risk of viral transmission is low.
- The court struck down the requirement that an employee must provide documentation requesting leave under the FFCRA before the beginning of the leave. The Final Rule required that employees submit to their employer, “prior to taking [FFCRA] leave,” documentation indicating, inter alia, their reason for leave, the duration of the requested leave, and, when relevant, the authority for the isolation or quarantine order qualifying them for leave. The court determined that the Final Rule’s documentation requirement “imposes a different and more stringent precondition to leave” and “is an unyielding condition precedent to the receipt of leave,” compared to the EPSLA and EFMLEA documentation requirements. Thus, pursuant to the court’s ruling, employers could not mandate that employees provide FFCRA documentation in advance of taking leave.
In response, on September 11, 2020, the DOL issued a revised temporary Final Rule, which is effective September 16, 2020 through December 31, 2020. The revised Final Rule reaffirms parts of the prior Rule, revises some parts of it, and provides further explanation of some parts that had been invalidated on the basis of a lack of explanation.
- The DOL reaffirmed that an employee may not take leave under the FFCRA if the employer does not have other work for the employee, revised the rule to explicitly include the work-availability requirement for all qualifying reasons for leave, and provided further explanation for the work-availability requirement.
- The DOL revised its broad definition of “health care provider” who can be exempt from the FFCRA to mean persons defined as health care providers under the Family and Medical Leave Act (FMLA) who can certify a need for medical leave, and other persons employed to provide diagnostic services, preventative services, treatment services, or integrated with and necessary to the provision of patient care. It is not enough under the new definition that an employee works for an entity that provides health care services.
- The DOL reaffirmed the requirement for both employees and employers to agree before intermittent leave can be taken under the FFCRA and provided further explanation of the requirement consistent with long-standing regulations implementing the FMLA. The DOL clarified that only partial-day, not full-day, increments of FFCRA leave would be intermittent leave.
- The DOL revised its requirement that documentation supporting the need for leave must be provided by an employee prior to taking leave. Under the revised rule, the employee must provide such documents as soon as practicable.
Takeaways: It is not clear whether there will be further legal challenges to the revised DOL Final Rule. In the meantime, employers should stay apprised of any additional developments and review policies to ensure consistency with the DOL’s revised temporary Final Rule.
Small Business Administration Issues New Paycheck Protection Program Interim Final Rule – Treatment of Owners and Forgiveness of Certain Nonpayroll Costs
SBA, Business Loan Program Temporary Changes; Paycheck Protection Program – Treatment of Owners and Forgiveness of Certain Nonpayroll Costs, 13 C.F.R. Part 120 (Aug. 24, 2020)
On August 24, 2020, the Small Business Administration (SBA) issued a new interim final rule providing further guidance regarding owner-employee compensation and the amount of certain nonpayroll costs eligible for forgiveness for Paycheck Protection Program (PPP) borrowers:
Owner-employee compensation. In an earlier rule (see also General Loan Forgiveness FAQs No. 8), the amount of loan forgiveness for owner-employee compensation was capped at either eight weeks’ worth (8/52) of owner-employees’ 2019 compensation (up to $15,385) for an eight-week covered period (for borrowers that received a PPP loan before June 5, 2020, and elect an eight-week covered period) or two and a half months’ worth (2.5/12) of 2019 compensation (up to $20,833) for a twenty-four-week covered period per owner in total across all businesses. The new rule establishes that owner-employees with less than a 5 percent ownership stake in a C or S corporation—and who thus have no meaningful ability to influence decisions over how loan proceeds are allocated—are not subject to the cap on the amount of loan forgiveness for payroll compensation established in the owner compensation rule.
Amounts attributable to the business operation of a tenant, subtenant, or household expenses. The new interim final rule clarifies that the amount of loan forgiveness for nonpayroll costs may not include any amounts attributable to the business operation of a tenant or subtenant of the PPP borrower. For example, if the PPP borrower rents a building for $10,000 per month, but sublets part of it to another business for $2,500 per month, the borrower may only obtain forgiveness for $7,500 per month. For home-based businesses, a borrower must determine the amount of nonpayroll costs eligible for forgiveness using the share of the covered expenses that were deductible on the borrower’s 2019 tax filings (or expected 2020 tax filings for new businesses).
Rent payments to related parties. In cases involving rent payments made to a related party (i.e., where there is an ownership in common between the business and the property owner), the rent payments are eligible for loan forgiveness as long as (i) the amount of loan forgiveness requested for that rent payment is no more than the amount of mortgage interest owed on the property during the covered period attributable to the space being rented by the business; and (ii) the lease and the mortgage were entered into prior to February 15, 2020. Mortgage interest payments made to a related party are not eligible for forgiveness, however.
Takeaways: The new guidance provides much-needed clarity to borrowers seeking loan forgiveness. The SBA’s authority to guarantee PPP loans expired on August 8, 2020, and it began accepting lender loan forgiveness submissions on August 10, 2020. Borrowers may apply for forgiveness at the end of their covered period—either eight or twenty-four weeks from the date the funds were disbursed to them. The SBA has indicated in other guidance that businesses may apply for PPP loan forgiveness before their covered period expires, though they may forfeit the safe harbor provision allowing them to restore reduced salaries or wages by December 31, 2020, with no reduction in loan forgiveness. Under Section 3(c) of the PPP Flexibility Act, the borrower must apply for forgiveness within ten months after the last day of the covered period or begin paying principal and interest on the loan. Borrowers may use the PPP Loan Forgiveness Application and those who are eligible may opt to use the PPP EZ Loan Forgiveness Application.
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