Senate Bill 436 and House Bill 1209 (Chapters 267 and 268 of the Laws of Maryland of 2013) entitled "Recordation Taxes – Exemptions." Effective July 1, 2013.
These bills raise the loan amount before indemnity deeds of trust become taxable
from $1 million to $3 million.
They provide that all loans, including those involving IDOTs, incur recordation tax when they are refinanced on the "new money" – the difference between the then current principal balance of the existing loan and the face amount of the new loan.
Background on IDOTs and Recordation Taxes
For at least a couple of decades, indemnity deeds of trust or indemnity mortgages ("IDOTs") were the financing device of choice by Maryland real estate finance practitioners in refinancing transactions. One of the key witnesses in the trial in My Cousin Vinnie said, "No self-respecting Southerner uses instant grits," but in this state it might have been said, "No self-respecting Marylander refinances a loan without looking hard at an IDOT."
Alas, the glory years of IDOTs have come to pass.
IDOTs are security instruments that are given by a person who is not the borrower of the subject loan. Generally, the grantor of the IDOT guarantees the loan and executes the IDOT as security for the guaranty. Under §12-105(f) of the Tax-Property Article of the Maryland Code ("TP"), recordation tax is not due at the time when an instrument is recorded if, or to the extent that, the debt has not been incurred. The substance of this statute has been in place since 1939. The use of this statute to support IDOTs was first endorsed by an opinion of the Maryland Attorney General in 1944. Subsequent opinions of the Maryland Attorney General published in 1973 and 1989 confirmed this position. The 1989 opinion said that the recordation tax becomes due when the debt becomes incurred, which in the case of an IDOT occurs when the borrower defaults under the underlying loan. At that time, the guarantor has the obligation to pay the tax, but the State does not have a lien to collect it.
Recordation taxes are imposed on instruments of writing recorded in the land records in Maryland or at the State Department of Assessments and Taxation (SDAT) under Title 12 of the Tax-Property Article of the Maryland Code. Each of the 24 Maryland jurisdictions is entitled to set its own tax rate, which rates range from 0.5% to 1.2%. Although recordation taxes are a creature of Maryland law and therefore should be administered consistently throughout the State, a number of jurisdictions have imposed their own rules about them.
Prior Legislative Attempts and 2012 Legislation on IDOTs
Perhaps unsurprisingly, tax collectors became annoyed about the situations when the IDOT guarantor and the borrower were related parties and many potential tax dollars were not collected in IDOT transactions. For many years, bills were submitted to the Maryland General Assembly that would have ended the use of IDOTs, but before 2012 none of those bills made it out of committee.1 However, in the First Special Session of 2012, the Maryland General Assembly passed Senate Bill 1302 (Chapter 2), which was a general revenue act. Section 3 of Senate Bill 1302 provides that IDOTs that are given in loan transactions in the amount of $1 million or more are taxable when they are recorded.
The Making of Senate Bill 436 and House Bill 1209
On the assumption that Senate Bill 1302 had widely overshot its mark in attempting to raise about $36 million, representatives of the real estate community submitted Senate Bill 436 and House Bill 1209. The bills as originally drafted would have set the threshold for making IDOTs taxable at $5 million. Further, they provided that recordation taxes on refinancing instruments would be based on the increase of the principal amount that may be secured thereby in excess of the principal face amount of the original security instrument (rather than the amount of the then outstanding principal balance of the loan). Of considerable importance, the bills provided that all loans, whether they be residential or commercial or secured by IDOTs, would be subject to this rule.
After hearings in both the Senate and House committees, the sponsors of Senate Bill 436 and House Bill 1209 and the Maryland Association of Counties (MACO) compromised on the final versions of the two bills. The bills were then unanimously passed by both houses of the General Assembly, and Governor O'Malley signed them into law on May 2. The versions of the bills as enacted are described below.
Senate Bill 436 and House Bill 1209 as Enacted
Senate Bill 436 and House Bill 1209 (Chapters 267 and 268) are entitled "Recordation Taxes – Exemptions." They amend provisions of Title 12 of the Tax-Property Article of the Maryland Code effective as of July 1, 2013. These bills do the following:
1. IDOTs that secure guaranties given in connection with loans that are below a certain amount are not taxable when they are recorded. Currently, that amount is $1 million. As of July 1, 2013, this amount will rise to $3 million. Senate Bill 436 and House Bill 1209 require that all loans in a series that are part of the same transaction must be aggregated to determine if the $3 million threshold is reached. TP §12-105(f)(7)(iii)(2).
2. Senate Bill 436 and House Bill 1209 change the definition of "supplemental instrument of writing" to specifically provide that IDOTs are instruments that may be amended by a "supplemental instrument" even if recordation tax was not paid on them. TP §12-101(l)(1). We believe that the provisions that permit IDOTs to be amended by supplemental instruments merely clarify existing law but do not change it, and I testified to this effect before the Senate Budget and Taxation Committee and the House Ways and Means Committee. The reasons for this conclusion are as follows.
TP §12-105(f)(7)(i), which was added as part of Chapter 2 (Senate Bill 1302) of the First Special Session of the 2012 General Assembly session, defines "indemnity mortgage" for purposes of that law. That term "includes any mortgage, deed of trust, or other security interest in real property that secures a guarantee of repayment of a loan for which the guarantor is not primarily liable." It is "indemnity mortgages" (or IDOTs) which have the other statutory characteristics that are taxable under Senate Bill 1302. Senate Bill 1302 does not limit the effect of exemptions in other sections of the Tax-Property Article, including the exemption for "supplemental instruments of writing" in TP §12- 108(e).2 Although a supplemental instrument of writing as defined in TP §12-101(l)3 is surely an instrument of writing, a supplemental instrument of writing is not an "indemnity mortgage" as defined in TP §12-105(f)(7)(i). Therefore, the exception for supplemental instruments of writing under TP §12-108(e) should not be lost as a result of the 2012 law. Instead, the exception should maintain its validity, even before the effective date of Senate Bill 436 and House Bill 1209.
The determination that the exemption for supplemental instruments of writing is currently in effect with respect to IDOTs, including those recorded between July 1, 2012 and June 30, 2013 and including those securing $1 million or more, has the following consequences:
a. Any supplemental instrument of writing that does not increase the amount secured by the original mortgage or deed of trust should not be taxable. This would include any document that substitutes a trustee, assigns a mortgage or deed of trust, corrects an error, adds collateral, or makes any other change in the underlying instrument that does not increase the amount secured. Such a change need not be deemed to be a "benign modification" by a good-hearted county attorney.
b. Consolidations or combinations of two instruments of record should not be taxable instruments if they do not increase the amount secured over the sum of the amounts secured by the combined instruments.
c. If the amount secured by an IDOT is increased as a result of the recordation of a supplemental instrument, the supplemental instrument should be taxable only to the extent of the amount of debt that is increased thereby.
Despite this analysis, a number of county attorneys have taken the position that if an IDOT is amended before July 1, 2013, taxes must be paid on the full amount of the new indebtedness, without any credit for the amount secured by the original IDOT. This is based on the general feeling that Senate Bill 1302 indicated that the General Assembly does not like IDOTs. When Senate Bill 436 and House Bill 1209 become effective, it will be crystal clear that IDOTs may be modified by supplemental instruments of writing.
3. Senate Bill 436 and House Bill 1209 provide that the recordation tax on a supplemental instrument will apply to the difference between the new loan amount and the outstanding principal balance secured by the instrument being modified "immediately prior to the time the supplemental instrument of writing is entered into," i.e., the "new money." TP §12-105(f)(7)(iii)(3) and TP §12-108(e)(2). The latter section currently provides that supplemental instruments of writing are only taxable on the amount of the increase in the debt secured by the supplemental instrument. The debt secured is the amount stated in the security instrument as the maximum principal amount that may be secured thereby.
This change will supersede a memorandum of advice from the Maryland Attorney General's Office dated April 1, 2005 that provided that the recordation tax on a supplemental instrument applied to the difference between the new loan amount and the maximum principal balance secured by the instrument being modified. Certain county attorneys have not been following the advice from the Attorney General's office. Presumably, they will follow Senate Bill 436 and House Bill 1209.
The effect of the changes described in paragraphs numbered 2 and 3 above is that IDOTs and other mortgages and deeds of trust will be treated in the same way for recordation tax purposes upon refinancings. They may be supplemented and increased, and the recordation tax will be based on the amount of the increase over the principal amount of the debt just before the supplemental instrument is signed.
Example: Consider a situation in which the original loan was $100 and it was paid down to $90, and then a supplemental instrument increases the loan to $110. Under the current law (effective until June 30, 2013), the recordation tax would be based on $10 (which is $110 minus $100). Under Senate Bill 436 and House Bill 1209, the recordation tax would be based on $20 ($110 minus $90) for IDOTs or regular mortgages or deeds of trust. (Unfortunately, and in our view inappropriately, a number of counties are now basing the recordation on the full amount of $110 if IDOTs are involved, and some counties are basing the tax on $20 now.)
4. Senate Bill 436 and House Bill 1209 provide that recordation tax may be calculated on an IDOT that secured property within and without Maryland by comparing the value of the property within Maryland to the value of all of the property that is security for the loan (as may be done with other mortgages or deeds of trust), or the tax may be calculated on the amount of debt stated to be secured by the IDOT. TP §12-105(f)(7)(iv).
5. Senate Bill 436 and House Bill 1209 provide that a mortgage or deed of trust is not subject to recordation tax to the extent that it secures the refinancing of an amount not greater than the unpaid principal secured by an existing mortgage, deed of trust, or IDOT at the time of refinancing, if the refinancing is by the original mortgagor. TP §12-108(g). Currently, a commercial borrower may avoid or reduce recordation taxes on refinancings by arranging for the current lender to sell the loan to a new lender, which will restate the loan documents' provisions in accordance with the new financing commitment. This is often a cumbersome and expensive procedure. Recordation taxes are due only to the extent that the new loan is larger than the maximum principal balance of the old loan.
This change effected by Senate Bill 436 and House Bill 1209 will enable borrowers (including commercial borrowers) to get the benefit of the refinance exemption even if their original lenders do not sell their loans to new lenders and even if IDOTs are involved. Under current law, this exemption is available only on the principal residence of an individual borrower. Moreover, because the focus of this provision is on the refinancing by an original mortgagor, rather than on the type of security instrument used, a refinancing transaction that uses a regular deed of trust or mortgage to refinance a previously existing IDOT should qualify for the exemption.
6. Senate Bill 436 and House Bill 1209 state that only IDOTs recorded after July 1, 2012 are subject to the provision in TP §12-105(f)(7)(ii), which was added by Senate Bill 1302, that secured debt under IDOTs is deemed to be incurred when and to the same extent as debt is incurred on the underlying loan. Older IDOTs are not subject to this rule.
Edward J. Levin is a member of Gordon Feinblatt LLC and was a member of the Indemnity Mortgage and Deed of Trust Workgroup under Senate Bill 1302.
1. Between 2004 and 2011 seven bills were introduced in the Maryland General Assembly that would have ended the tax advantage of IDOTs in Maryland loan transactions. Another bill would have ended the advantageous use of IDOTs in Montgomery County. All of those bills failed.2. TP §12-108(e) now provides as follows:
(e) Supplemental instruments. -- A supplemental instrument of writing is not subject to recordation tax except to the extent that:
(1) actual consideration is payable on the supplemental instrument of writing; or
(2) the amount of debt is increased by the supplemental instrument of writing.
3.TP §12-101(l) now provides as follows:
(1) "Supplemental instrument of writing" means an instrument of writing that confirms, corrects, modifies, or supplements a previously recorded instrument of writing.
(2) "Supplemental instrument of writing" includes an instrument of writing that secures a debt and grants a security interest in property in addition to or in substitution for property described in the previously recorded instrument of writing.
4. In fact, Senate Bill 1302 contains the first specific legislative expression of endorsement of IDOTs, albeit for those IDOTs executed in connection with loans of no more than a stated amount