For Wes Herman, a farmer in southeastern Colorado, the decision to conserve his land and water in perpetuity was more than a management strategy – it was a long-term commitment to feeding his community.
“From childhood, you dream of owning land,” he says. “Whether it be my family or some other family, if the water is here, somebody is going to farm the land.”
Herman was able to guarantee that his property—where he grows corn, wheat and other crops—would not be developed by engaging in a voluntary legal covenant known as a conservation easement. Serving to protect the land’s character and the resources within its bounds, conservation easements allow landowners to retain ownership of their land and water but transfer development rights to a land trust, tribe, or governmental entity. The land trust can either purchase the easement or the landowner can donate it. A donated easement comes with similar tax benefits that a donated car or other charitable gift would: For easements that meet the legal requirements there’s a federal tax deduction that reduces taxable income and Colorado also offers a transferable tax credit that can offset state income taxes or be sold for cash.
When Herman, now 49, decided to donate an easement in 2010, doing so was far from popular in his small town of Rocky Ford, which abuts the Arkansas River 60 miles east of Pueblo. Many neighboring farmers were selling their water to Woodmoor Water and Sanitation District, transferring it to municipal use, which yielded better financial returns for the landowners. Set on “keeping the water with the land,” Herman completed the easement process with the Lower Arkansas Valley Water Conservancy District. Today there are five farms in his immediate area with conservation easements, and more than 60 easements spanning more than 17,000 acres held by the Lower Arkansas Valley Water Conservancy District, including his own property and that of his 27-year-old son, Ty.
In order to donate or sell an easement and conserve any associated water rights along with the land, property owners must hire a certified appraiser to determine the value loss they would incur by foregoing the chance to develop the property. But therein lies a challenge: Valuation is based on market data. It hinges on the concept that development brings value, while foregoing development incurs loss. In some cases—particularly now, during a pandemic—this presents a barrier to conservation. For many landowners, the question of whether to conserve comes down to one thing: Does it make financial sense?
Water and Land Valuation
When valuing any property for a conservation easement, the appraiser determines the value loss by subtracting the projected after-easement value from the before-easement value. For donated easements, landowners receive a financial return through a federal tax deduction and a Colorado tax credit—which comes in at 75 percent of the first $100,000 donated value and 50 percent of any remaining donated value, up to a $5 million per donation maximum.
As part of the valuation process, water rights—if there are any—must also be appraised. When pricing an agricultural water right, any indication of municipal interest in purchasing the right increases its value, but only when direct market evidence exists, says Kevin McCarty, a veteran appraiser and president of McCarty Land & Water Valuation, Inc. While appraisers can base their valuations to some extent on sales of similar water rights, they aren’t permitted to speculate about future municipal influence. When there’s no municipal influence on the horizon, even if water rights ostensibly seem vulnerable, their appraised value might come in lower than if a city was poised to purchase. In this instance, a landowner would only receive a small tax incentive for protecting their water rights with a conservation easement, dampening the prospect of conservation. On the other hand, if a municipal water market exists, water is appraised at a higher value, driven up by that market, so landowners capture more of the value of their water when encumbering their water rights in an easement, McCarty says. Nonetheless, the cash return is still much lower than if the water or land was sold outright.
A conservation easement held by the Colorado Cattlemen’s Agricultural Land Trust protects the Fetcher Ranch near Steamboat Lake in Routt County. Development rights on the property were purchased by the Routt County Purchase of Development Rights Program, which provides local landowners with an economically attractive alternative to selling land for development. Courtesy Colorado Cattlemen’s Agricultural Land Trust, by DJ Glisson
“Everything is based on the loss of a development right and that doesn’t always work out for landowners in every area of the state,” says Melissa Daruna, executive director of Keep It Colorado, a nonprofit coalition of conservation organizations and landowners. “[Valuation] is inequitably applied and it prevents conservation from moving forward in communities where we know we’re going to need it in the future but we can’t make the numbers work.”
In relying on market-based valuation, land trusts often lose opportunities to protect vulnerable land and water rights or important natural resources such as habitat or rare wetlands, says Erik Glenn, executive director of the Colorado Cattlemen’s Agricultural Land Trust (CCALT).
“You’re valuing in hypothetical loss of development and if there’s no development happening, even if that resource is really important to the state, you’re just not going to get it done,” Glenn says. By tying land and water appraisals to traditional development, the very real benefits of conservation aren’t being valued, leading to a financial disconnect that incentivizes development and not conservation, he says. On the other hand, by using real market data collected through appraisals, Colorado follows federal law and conservation efforts are being focused on the land and water rights where the threat of development is highest, says Jill Ozarski, who represents the general public on Colorado’s Conservation Easement Oversight Commission.
On a property with low development risk, a farmer might sell his or her water rights, or both water and land, rather than wait around indefinitely for municipal influence. This reality has aroused concern as Colorado’s farming and ranching population creeps toward its senior years. While the prospect of preserving property might incentivize some children to stay on family land, the complexities of engaging in this process often thwart the very conservationist ambitions that an easement aims to achieve.
Likewise, if the next generation has no intention of returning to the farm, then cashing out at, say, $5 million for an 88-acre tract of land and associated water rights might be the easiest option, McCarty says. By fully restricting the property through a conservation easement, the owner might realistically yield only about $2 million from the tax credit. Still, they would have the opportunity to continue to profit from their assets through ongoing operations, or by selling in the future to a new owner who assumes the same easement-related restrictions and agreements.
Regulating tax credits
While valuation and the process of donating an easement may hinder some conservation, the process is in place for good reason: Certain appraisers, attorneys, accountants and others—collectively known as promoters—exploited an under-regulated system in the not-so-distant past.
Tax credits for easements have been available since 1999, but conservation easements only gained popularity when the state’s tax credit cap increased in the early 2000s—it has risen from just $100,000 in 1999 to as much as $5 million today. After seeing hundreds of millions of dollars claimed, primarily between 2003 and 2007, the Colorado Department of Revenue asked the federal Internal Revenue Service for help, says Aaron Welch, director of the Colorado Division of Conservation.
“The majority of landowners weren’t abusing the program, but there were fraudulent appraisals,” Welch says.
Promoters trying to turn a profit approached willing landowners suggesting that they donate a conservation easement, then appraised properties at suspiciously high values. Those high appraisals meant that the landowners made money off of inflated tax credits, as did the attorneys and appraisers, with taxpayers shouldering the cost.
“It was too good to be true,” Welch says. “But sometimes, landowners were willing to either turn a blind eye or they just couldn’t resist.” Plus, landowners trusted unscrupulous promoters.
As the Colorado Department of Revenue worked through review and audits, the department began challenging easement donations, requiring landowners to repay tax credits plus interest, sometimes years later. By then, some of the farmers who put overvalued easements on their properties—mostly in southeastern Colorado—had rolled the money back into their operations. Repayment left them broke or bankrupt. Some landowners entered into legal battles, but much of that tax credit money, a total of about $220 million, was eventually paid back to the state. Landowners who were conned continue to demand compensation for their easements. Most recently, in June 2020, a controversial bill that would have provided money back to these landowners, SB20-135, was postponed indefinitely.
While challenging for those landowners involved, that period of inflated valuations prompted change in the form of increased oversight. In 2008, the state launched an official program requiring the certification of conservation easement holders. That was followed by a pre-approval process for the issuance of associated tax credits in 2014. Because this process was housed in the Division of Real Estate, however, reviewers began submitting problematic appraisal reports to the Board of Real Estate Appraisers as possible license violations, according to Welch. The ensuing investigations created a bottleneck in the system and caused appraisers to shy away from easement work, Welch explains.
“That is how the Division of Conservation was born,” he says. The division was created in 2018. “Basically, they recognized there was an insufficient firewall.”
Welch has directed the division for the past year, overseeing the assessment of both tax certificates and the entities that hold conservation easements. The division now ensures that unambiguous front-end review has replaced back-end bureaucracy, he says.
“Landowners are buying themselves a much lower level of risk,” Welch says. “I think on the whole it has been a large win for landowners across the state of Colorado.”
It has also been a win, in many ways, for taxpayers. “It’s a public program, these are public dollars, and there should be some form of oversight to make sure those dollars are being used in an efficient way,” says Ozarski.
Adding value to conservation
Coloradans looking to conserve don’t have to be limited by appraisals. Some landowners are making additional financial gains by stacking other elements onto conservation easements, such as reaping value from sequestered carbon, or implementing an alternative transfer method, or ATM—where they temporarily transfer their agricultural water rights to a non-agricultural use.
With ATMs, landowners can temporarily fallow their land and lease their water for municipal use, for example, under an Interruptible Water Supply Agreement, which allows such a lease for no more than three out of 10 years. In this way, they bring in money through the easement’s tax credits, but also continue to generate a financial return from their ag business and occasional water leases.
The Lower Arkansas Valley Water Conservancy District has become particularly successful at implementing conservation easements that enable landowners to lease their water. McCarty went so far as to call the region “a model” for other parts of Colorado.
Jay Winner, general manager of the Lower Arkansas district, stresses that this winning combination of ATMs employed on top of conservation easements provides farmers in the region with “a permanent revenue stream,” while granting cities the assurance that they will have water in the future. It also protects the agricultural heritage and prosperity that irrigated farmland brings to the region, keeping land and water rights in the hands of producers.
The same goes for carbon markets, which are less tested than ATMs. The May Ranch in eastern Colorado’s Prowers County is protected by an easement held by the CCALT but the Mays have also partnered with the Pinhead Climate Institute, a Telluride-based carbon offset program; Audubon’s Conservation Ranching Initiative; and Ducks Unlimited, which assessed the ecosystem services or benefits that the public obtains from the property. According to Ducks Unlimited, the ranch contains 14,500 acres of native prairie that, if tilled or developed, would release around 8,000 metric tons of carbon dioxide per year for the next 50 years. Through its Conservation Ranching Initiative, Audubon is conducting soil monitoring on the May Ranch to evaluate the ranch’s potential to increase soil health and carbon sequestration. The May family signed a 100-year agreement to forgo tilling and conserve 85 percent of their ranch, storing carbon in crop residue, with Pinhead purchasing 7,000 tons per year. On other properties, the Natural Resources Conservation Service and others provide compensation for the same natural assets.
Could the State of Colorado do something similar, providing compensation for ecosystem services, making conservation more cost effective for landowners?
“There is a whole different way to value properties,” Ozarski says. “Landowners who have critical water rights could do things like soil carbon sequestration. We should have a way to reimburse them because those are important services. However, that is not a conservation easement—it’s payment for ecosystem services.”
While payment for ecosystem services can be layered on top of a conservation easement, or can exist separately, for some willing landowners conservation may still not make financial sense in Colorado’s existing market-based system.
New valuation methods
Glenn with CCALT suggests flipping the equation to reconsider whether today’s valuation methods truly account for the worth of the land and water on a property—perhaps it’s time to reconsider how valuation is conducted. “What are we valuing?” he posits. “Are we valuing no houses or are we valuing preserving sage grouse habitat [for example]? If it’s habitat, we’ve got to find a different way to place value.”
The market is forcing appraisers to reckon with this proposed paradigm shift. Lands protected by conservation easements as early as the 1990s are beginning to be sold on the market. In some remote areas, like in northwestern Colorado where people are purchasing private hunting and fishing grounds for recreation, conserved properties are selling for more than those without easements. It’s because the properties that have been conserved have a higher resource value, Glenn says. “Now you’re seeing appraisers look at these comparables and say, ‘Well this sold for as much as it would have if you didn’t have an easement,’” he says. This dynamic raises questions for appraisers as they look toward the future.
On the no-till May Ranch in Prowers County, a conservation easement protects the land, a carbon sequestration agreement through the Pinhead Institute protects the soil, while certification by Audubon’s Conservation Ranching Initiative helps make the ranch economically viable, which is essential for keeping the native prairie intact for birds and wildlife, like this lark bunting. Courtesy Audubon Rockies, by Evan Barrientos
Land trusts are planning toward a tomorrow that accommodates this proposed paradigm shift. A group convened by Keep It Colorado has been exploring alternative valuation methods—this is a new iteration and continuation of work initiated last year by HB19-1264. The aim now is to agree on a desirable alternative valuation method or two to test through pilot projects in different parts of the state.
“We need to find better solutions for more conservation. To help more landowners,” says Keep It Colorado’s Daruna. “That’s why we’re picking the conversation up now,” she says, referring to the pandemic-stemming economic challenges that landowners are facing this year. COVID-19 has made rural Colorado’s agriculture sector more vulnerable, which could lead to increased development and subdivision of ag lands.
The group hasn’t yet honed in on specific valuation techniques—though, as part of this effort, a report was published in late October by Andrew Seidl with Colorado State University’s Regional Economic Development Institute, assessing a wide variety of alternative valuation methods. While there’s some urgency to move forward, the group is cautiously considering the measures necessary to protect the integrity of the state’s conservation program. “It’s something to slow walk and be methodical and careful about, especially given the history that we’ve seen of the program being abused in the past,” Daruna says.
One thing is certain: Any new, Colorado-specific valuation method wouldn’t wholly replace the current methodology. If the state develops an innovative, credible way to value conservation easements that isn’t based on value loss, by nature it wouldn’t align with the IRS charitable deduction statute and therefore landowners wouldn’t qualify for the federal tax deduction that they get today, only for the state tax credit. “It would be a point where we have to say to landowners, ‘If you’re looking to do an easement, we have two paths forward,’” Daruna says. “’If you don’t have development pressure and you’re not going to see the financial return to make [conservation] happen for you [with traditional valuation], we could value it a different way.’”
For now, McCarty stresses that landowners must remember that a conservation easement is considered a charitable donation for a reason. “If the appraisal is done right, you are always going to end up with something less than you started with,” McCarty says. “You cannot make money by doing a conservation easement, but you can preserve land.”
Sharon Udasin is a Boulder, Colo.-based environment and energy reporter, who recently completed a 2019-2020 Ted Scripps Fellowship in Environmental Journalism at the University of Colorado. She previously spent nearly a decade in Israel, where she primarily reported for The Jerusalem Post.
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