Form Is Substance: Sixth Circuit Demands Non‑Speculative Highest‑and‑Best‑Use for Conservation Easements and Enforces Partnership‑Year Timing in Corning Place v. Commissioner

Introduction

In Corning Place Ohio, LLC v. Commissioner, the Sixth Circuit, in a published opinion authored by Chief Judge Sutton, affirmed the Tax Court’s denial of a multimillion-dollar conservation‑easement deduction, rejection of related expense deductions, and imposition of multiple penalties. The decision sets two central guideposts for taxpayers and advisors:

Formal tax timing and entity rules matter—“form is substance”—particularly when a partnership’s ownership changes render it a disregarded entity for part of a year; deductions taken in the wrong year by the wrong taxpayer cannot be salvaged after audit notice by a late “fix.”
Conservation‑easement valuations must rest on an objectively supportable, reasonably probable highest‑and‑best‑use (HBU), not on speculative, engineering‑light visions that ignore existing legal constraints and market realities.

The case involves Corning Place’s 2016 donation of a façade and height‑restriction easement on Cleveland’s historic Garfield Building. Although Corning Place bought the 11‑story building for $6 million and had just completed a tax‑credit‑supported rehab, it claimed a $22.6 million charitable deduction premised on a hypothetical 45‑story tower addition. The IRS disallowed the deduction, adjusted the valuation down to $900,000, rejected $665,000 of related expense deductions, and assessed negligence and gross‑valuation‑overstatement penalties. The Tax Court upheld the IRS across the board; the Sixth Circuit now affirms.

Summary of the Opinion

Wrong taxpayer/year: The partnership could not claim a May 25, 2016 easement deduction on its 2016 partnership return because, from May 15 to July 7, 2016, the entity had only one partner and thus was not a taxable partnership. The deduction, if any, belonged to the sole partner during that window. A belated partner‑level correction in 2020 came too late under the partnership‑procedures deadline.
Valuation: The court upheld the Tax Court’s rejection of the $22.6 million valuation as speculative and accepted a before‑and‑after valuation of $900,000, emphasizing that HBU must be reasonably probable and supported by concrete evidence of physical feasibility, regulatory permissibility, and market demand.
Expense substantiation: The partnership failed to substantiate $665,000 of appraisal and architectural “easement‑related” expenses for 2016 under accrual rules; engagement letters without proof of services provided, dates, determinable liability, or payment do not suffice—especially when the entity was not a partnership during the relevant period.
Penalties: The negligence penalties (for wrong‑year deduction and unsubstantiated expenses) and the 40% gross‑valuation‑overstatement penalty were sustained. Reliance on advisors cannot cure timeliness errors and is statutorily unavailable where a gross overvaluation (>200%) causes the understatement.

Factual and Procedural Background

Corning Place formed to purchase and redevelop the Garfield Building, an 11‑story 1893 structure in downtown Cleveland. It acquired the building in January 2015 for $6 million, a price it described as arm’s‑length and “at market.” In October 2015, it converted the former bank office building into 123 apartments, financed with roughly $9 million of state and federal historic‑preservation credits, committing that rooftop construction would not be visible from ground level.

In May 2016, Corning Place donated a “Historic Preservation and Conservation Easement” to a local charity restricting façade alterations and further height increases. Its appraiser and architect posited that, absent the easement, the Garfield could become a 45‑story, 547‑unit tower by adding 34 stories, inserting more than 40 steel columns through the existing structure, and excavating 130 feet for new bedrock supports—valuing the “lost development potential” at $22.6 million.

The IRS examined the 2016 partnership return, disallowed the charitable deduction and related expenses, and imposed penalties. After a trial, the Tax Court upheld the IRS’s determinations, valuing the easement at $900,000, and sustained penalties. On appeal, the Sixth Circuit affirmed.

Detailed Analysis

A. Partnership Timing and the “Wrong Taxpayer/Year” Rule

The court began with a structural point of partnership taxation: partnerships are pass‑throughs; they compute and report “partnership items,” which flow to partners, but a partnership exists for tax purposes only when it has more than one partner. The governing regulations treat a single‑owner entity as disregarded. Thus, a partnership’s “taxable year” comprises only the period in which it has multiple partners; when it has only one, the sole owner reports the items directly.

Here, all partners but one exited on May 15, 2016, and a new partner did not enter until July 7, 2016. The easement was donated on May 25—during a seven‑week period when the entity was a single‑member, disregarded entity. The court held that any charitable deduction for that donation belonged to the sole owner (Corning Place Investment), not to the partnership. Corning Place’s 2016 return acknowledged its tax year began July 7 but nevertheless claimed a May 25 deduction—an error the taxpayer conceded.

The court rejected two attempted workarounds:

“Harmless error” / same economic taxpayer: The notion that Investment also claimed the deduction on its own 2016 return could not rescue the partnership’s improper return. Citing United States v. Woods, the court emphasized the separation of partnership‑level and partner‑level proceedings; what may be available at the partner level is irrelevant to whether the partnership’s return complied with law.
Belated correction: The owner’s 2020 amended filing came too late under the partnership procedures. A partnership (or, as relevant, its owner) may request an administrative adjustment to correct an error, but must do so before the IRS notifies the partners of proposed adjustments or otherwise initiates the partnership proceeding. The IRS opened the exam in August 2018 and issued proposed adjustments in July 2020; the September 2020 submission missed the statutory deadline. Because untimely, the court did not reach whether the filing was substantively adequate.

Summarizing the principle, the court leaned on a familiar Sixth Circuit maxim—“form is substance” in tax—quoting Summa Holdings v. Commissioner: “The words of law (its form) determine content (its substance).” Deductions may not be taken “in the wrong year under the wrong category,” and a wrong‑entity, wrong‑year filing is not curable after the fact once the audit clock has crossed the statutory threshold (see also Crosley Corp. v. United States).

B. Conservation Easement Valuation: Reasonable Probability, Not Speculation

The governing regulation for façade/historic conservation easements requires valuation at “fair market value” as of the date of contribution. When comparable sales are unavailable, the “before‑and‑after” method applies: the difference between the property’s value immediately before the restriction and immediately after. Critically, the “before” value must reflect not only current use but “an objective assessment” of how immediate or remote is the likelihood that the property, absent the restriction, “would in fact be developed,” and must account for existing zoning and historic‑preservation constraints.

To implement that standard, courts frequently borrow eminent‑domain “highest and best use” (HBU) principles: fair market value depends on the most profitable use for which the property is adaptable and needed in the reasonably near future, excluding mere speculation and conjecture (Olson v. United States; United States ex rel. TVA v. 1.72 Acres; United States v. L.E. Cooke Co.). The Sixth Circuit presumes current use is the best use; any alternative HBU must be shown to be reasonably probable, not merely possible.

Applying these standards, the court held the Tax Court committed no clear error in rejecting Corning Place’s 45‑story hypothetical:

Physical feasibility not credibly shown: The structural analysis was disclaiming (“not to be used for actual construction”), the geotechnical assumptions relied on surveys of other buildings (not the Garfield), and no qualified witness testified to defend the analysis. Materials underpinning feasibility were inadmissible hearsay (see Alioto v. Commissioner). On this record, the likelihood of actually building the proposed tower was “remote.”
Regulatory/legal impediments ignored: The plan brushed past multiple constraints. The taxpayer’s own architect acknowledged the proposed vertical addition would violate the conditions of the five‑year historic‑preservation credit; the regulations require consideration of extant “zoning, conservation, or historic preservation laws” that already limit HBU. The court analogized: just as a homeowner in a residential zone cannot claim a deduction for refusing to build a ten‑story office, a building owner cannot value a conservation easement by assuming an immediate, incompatible 34‑story addition in the face of binding legal restrictions.
Market demand unproven: General assertions of apartment demand downtown did not establish demonstrated demand for a 547‑unit, 45‑story tower atop a century‑old frame. Comparable “vertical expansions” cited by the taxpayer involved modern foundations designed for future additions, underscoring that more realistic development opportunities existed elsewhere “at a far lower cost.”
Cost inputs speculative: A one‑page, unsupported $102 million construction cost estimate (for a massively complex structural intervention) lacked reliable underpinnings. The court reaffirmed that “speculative and remote possibilities” do not guide fair market value, especially where realizing the use would require extraordinary capital and engineering risk.

The court also rejected two legal arguments advanced by the taxpayer:

“As complete valuation” theory: Corning Place argued the regulations require valuing the pre‑easement property “as if” the asserted HBU were already established. The court explained that HBU analysis has a step one: the proponent must first prove the alternative use is reasonably probable. Only if that showing is made does the valuation proceed on an “as if entitled and feasible” basis. Skipping step one “wipes a critical chess piece off the table.”
Surplusage critique: The taxpayer claimed that because § 1.170A‑14 elaborates on “fair market value” for easements while § 1.170A‑1(c) uses a simpler FMV construct for fee interests, the Tax Court improperly borrowed fee‑valuation concepts. The Sixth Circuit disagreed. The Supreme Court has long applied the same FMV core to both settings (Olson), with conservation‑easement regulations adding context (zoning/historic overlays) rather than different meaning. No surplusage problem exists.

Bottom line: the $22.6 million claim—many multiples of the property’s recent $6 million purchase price—rested on an implausible tower fantasy, not a reasonably probable HBU. Corning Place did not challenge on appeal the Tax Court’s affirmative $900,000 before‑and‑after valuation, thereby forfeiting any objection to that number.

C. Accrual‑Method Expense Deductions: Economic Performance and Substantiation

Accrual‑basis taxpayers may deduct “ordinary and necessary” expenses in the year they are “incurred,” meaning when economic performance occurs and liability is determinable with reasonable accuracy. For services, economic performance occurs as the services are provided, and the liability must be fixed and determinable.

Corning Place claimed $665,000 in appraisal and architectural costs for 2016, relying on engagement letters. The court affirmed the Tax Court’s denial because:

The letters did not show when services were provided (or that they were provided within the partnership’s July 7–December 31 tax year); one letter expressly allowed fee adjustments until completion of a feasibility analysis.
Liability was not determinable with reasonable accuracy from the letters; there was no proof of the amount owed or paid.
Even treating the engagements as dating to May 2016, the partnership was not a taxable partnership during May 15–July 7, so any expenses incurred then would belong to the sole owner, not the partnership.

Absent invoices, proof of services rendered within the tax year, and proof of payment or fixed liability, the accrual rules barred the deduction.

D. Penalties: Negligence, Gross Valuation Overstatement, and Reliance

The Code imposes accuracy‑related penalties for negligence and valuation misstatements. A 40% penalty applies to a “gross valuation overstatement” (more than 200% of the correct amount). A reasonable‑cause/good‑faith defense is generally available, but not where the understatement results from a gross valuation overstatement; and, under Boyle, reliance on an agent does not excuse certain taxpayer obligations such as filing on time.

The Sixth Circuit upheld three penalties:

Negligence (wrong year/entity): Claiming a May donation on a partnership tax year that began July 7 was negligent. Reliance on advisors does not excuse timeliness and similar baseline compliance errors (Boyle).
Gross valuation overstatement (40%): The $22.6 million valuation exceeded the court‑found $900,000 by well over 200%, triggering the 40% penalty. Because the understatement “arises from” a gross overstatement, the reasonable‑cause reliance defense is statutorily unavailable.
Negligence (expense substantiation): The partnership provided no documentary proof that services were performed or paid for in 2016. Reliance cannot substitute for compliance with unambiguous substantiation rules.

The court reiterated that penalties deter taxpayers from playing the “audit lottery.” The record supported the Tax Court’s findings; no clear error was shown.

Precedents and Authorities That Shaped the Decision

United States v. Woods, 571 U.S. 31 (2013): Distinguishes partnership‑level from partner‑level proceedings; partner‑level consequences do not validate an improper partnership‑level return. This anchored the court’s rejection of “harmless error” arguments premised on the owner’s separate return.
Summa Holdings, Inc. v. Commissioner, 848 F.3d 779 (6th Cir. 2017): “Form is substance” quotation reinforced strict adherence to entity/year rules.
Crosley Corp. v. United States, 229 F.2d 376 (6th Cir. 1956): Deductions must be taken in the proper year and category; timing matters.
Hoffman Properties II, LP v. Commissioner, 956 F.3d 832 (6th Cir. 2020): Conservation‑easement framework and the notion of valuing the lost development opportunity, laying background for the Sixth Circuit’s application here.
Olson v. United States, 292 U.S. 246 (1934); United States ex rel. TVA v. 1.72 Acres of Land, 821 F.3d 742 (6th Cir. 2016); United States v. L.E. Cooke Co., 991 F.2d 336 (6th Cir. 1993): Eminent‑domain valuation principles, especially the need for HBU to be reasonably probable and to exclude speculation, were imported into the easement valuation analysis.
Alioto v. Commissioner, 699 F.3d 948 (6th Cir. 2012): Standards of review and evidentiary guardrails (e.g., hearsay) informed the court’s assessment of the taxpayer’s feasibility evidence.
Losantiville Country Club v. Commissioner, 906 F.3d 468 (6th Cir. 2018); Estate of Kluener v. Commissioner, 154 F.3d 630 (6th Cir. 1998): Penalty standards and the policy against the “audit lottery.”
United States v. Boyle, 469 U.S. 241 (1985); Mortensen v. Commissioner, 440 F.3d 375 (6th Cir. 2006): Scope and limits of the reliance defense; Boyle’s rule that reliance on an agent does not excuse a taxpayer’s non‑delegable obligations was decisive for the wrong‑year penalty.
General Dynamics Corp., 481 U.S. 239 (1987); Chrysler Corp. v. Commissioner, 436 F.3d 644 (6th Cir. 2006): All‑events/economic performance rules for accrual‑method taxpayers, applied to reject the expense deductions.

Impact and Practical Implications

1. Conservation Easements: Elevated Evidentiary Expectations

Site‑specific, admissible engineering: Aspirational renderings are not enough. Taxpayers must present competent, live testimony and project‑specific structural/geotechnical studies; disclaimers like “not for construction” undermine feasibility.
Regulatory reality: Existing historic‑tax‑credit covenants, zoning overlays, and preservation ordinances must be factored into the pre‑easement HBU. Ignoring legal constraints invites a finding of “remote” likelihood and steep penalties.
Market support: Generalized demand is insufficient. Concrete market evidence for the specific scale and type of proposed development is required, particularly where extraordinary engineering or capital would be needed.
Comparables must be comparable: Pointing to modern structures designed for vertical expansion does not prove feasibility atop a 19th‑century steel frame.

2. Partnership Compliance: Ownership Changes Can Collapse Your Tax Year

Monitor partner counts: Dropping to one partner can convert a partnership into a disregarded entity mid‑year. Deductions, credits, and expenses in that window shift to the owner’s return, not the partnership’s.
Timely corrections only: Administrative adjustment requests must be filed before the IRS issues audit notices/proposed adjustments. Late fixes are legally barred.

3. Accrual‑Method Documentation: Engagement Letters Are Not Enough

Prove economic performance: Keep dated invoices, detailed work records, and proof of payment. Open‑ended fee terms and undated letters will not satisfy the all‑events test.
Align with the right tax period/entity: Even well‑documented expenses cannot be deducted by an entity that did not exist for tax purposes during the period the liability was incurred.

4. Penalties: Reliance Has Sharp Limits

Gross overvaluation shuts the door: If an understatement stems from a valuation exceeding 200% of the correct amount, the reasonable‑cause reliance defense is statutorily unavailable.
Non‑delegable duties: Boyle remains a hard stop—reliance on advisors does not excuse basic compliance failures like timing and filing position errors.

Complex Concepts Simplified

Highest and Best Use (HBU): Think of HBU as the most profitable use that is realistically achievable in the near future, not a wish list. You must show it is physically buildable, legally permitted, and supported by market demand.
Before‑and‑After Method: Value the property right before the easement and right after it, and the deduction is the difference—nothing more. The “before” value cannot be inflated by fanciful development plans.
Gross Valuation Overstatement: If you claim a value more than double the true value, a 40% penalty can apply, and you cannot use “my advisor told me so” as a shield.
Accrual “Economic Performance”: For services, you deduct when the services are actually provided and your liability is fixed and determinable—not when you sign an engagement letter.
Disregarded Entity Interlude: A partnership with only one partner disappears for tax purposes; during that time, all tax items “belong” to the owner’s return, not a partnership return.

Conclusion

Corning Place underscores two durable themes in tax litigation. First, adherence to the Code’s formal architecture—who the taxpayer is and when an item belongs to a tax year—is not a procedural nicety; it is substantive. A partnership that momentarily becomes single‑member cannot claim deductions arising in that period, and late attempted cures after audit notice will not be entertained.

Second, conservation‑easement valuations are governed by market reality, not ambition. To justify a large before‑and‑after delta, the taxpayer must bring rigorous, admissible evidence that a more intensive use is reasonably probable given physical, legal, and market constraints. Where the evidentiary showing falls short, courts will pare valuations back—here, from $22.6 million to $900,000—and sustain steep penalties, especially when reliance defenses are foreclosed by gross overvaluation.

For taxpayers, developers, appraisers, and counsel, the opinion is a comprehensive roadmap of pitfalls to avoid and standards to meet. It will likely influence conservation‑easement litigation and partnership‑procedure disputes across the Sixth Circuit and beyond, elevating the evidentiary bar for HBU theories and reinforcing the unforgiving nature of tax‑timing rules.

Key Takeaways

Do not claim a partnership‑level deduction for a period when the entity had only one partner; that item belongs to the sole owner’s return.
File administrative adjustments before the IRS issues audit notices; late “fixes” are barred.
Support HBU with site‑specific engineering, regulatory analysis, and market data; speculative mega‑projects will not pass muster.
Engagement letters are not proof of economic performance; keep invoices, dates, and payment records.
Expect penalties where valuation overstatements are extreme or substantiation is lacking; reliance defenses are limited and often unavailable.