From the Corporate & Business Practice.

Important Changes to IDOT Recordation Taxes in Maryland

January, 2011

During the Special Session held on May 14-16 of this year, the General Assembly passed a budget bill that includes a considerable limitation on the widely used deferral of recordation taxes on Indemnity Deeds of Trust (IDOTs). Governor O’Malley signed the bill into law on May 22, 2012.

The new law, which will apply to all IDOTs recorded on or after July 1, 2012, imposes recordation tax on IDOTs securing loans of $1 million or more to the same extent that recordation tax would be imposed on a deed of trust or mortgage granted by the borrower. Recordation tax rates range from approximately ½ percent to just over 1 percent depending upon the jurisdiction in which the real property is located.

IDOTs have long been used in Maryland to defer (and frequently avoid altogether) payment of recordation taxes on the recording of mortgages and deeds of trust. In the typical IDOT structure, a related third party, usually an owner or subsidiary of the borrower, guarantees the borrower’s obligations and secures the guaranty by an indemnity deed of trust on the guarantor’s real property. It had been established in several written opinions by the Attorney General of Maryland that no state recordation tax is due at the time of recording an IDOT. Relying on Section 12-105(f) of the Tax-Property Article of the Maryland Code, which provides that recordation tax need not be paid at the time of recording on debt that has not yet been incurred, the Attorney General’s reasoning was that because the guarantor’s liability is secondary and conditioned on a future event, usually a default under the loan to the borrower, the indebtedness secured by the IDOT has not yet been “incurred” at the time of recording. The recordation tax only had to be paid when and if the guarantor became primarily liable, such as if the borrower were to default.

The new law changes this long-standing practice, providing that for purposes of the recordation tax, debt secured by the IDOT is deemed to be incurred at the same time the debt is incurred by the borrower. To the extent the borrower has incurred the loan debt at the time of recording, recordation tax is therefore due as well. A $10 million loan in Baltimore City, for example, where the recordation tax rate is approximately 1 percent of the principal amount of secured debt, will now have recordation tax of $100,000 due at the time of recording if the loan has been fully advanced at the time of recording. Prior to the law change, the obligation to pay that $100,000 would have been deferred until a possible future default, or extinguished altogether when the loan was repaid without default.

Even though the IDOT structure will no longer result in the recordation tax savings achieved in the past, certain deeds of trust and mortgages may be partially or fully exempt from recordation tax under Section 12-108 of the Tax-Property Article of the Maryland Code. As one example, if the borrower obtains a loan to buy real property and the purchase money deed of trust is dated within 30 days of the date of the deed and recorded within 30 days of the date the deed is recorded, the purchase money mortgage exemption under Section 12-108(i) of the Tax-Property Article of the Maryland Code may be used to the extent of the purchase price.

Parties to loan transactions should also keep in mind that the new law only applies to IDOTs securing at least $1 million. For loans closing after July 1 that would otherwise be in the $1 million range, there may be significant savings in financing costs by slightly reducing the amount, to $990,000 for example, to ensure it is under the $1 million threshold.

Note that the new law does not apply to IDOTs recorded before July 1. We anticipate that there will be a surge of IDOTs rushed into recording prior to the end of June, and the various Clerk’s offices are likely to become backlogged. In addition, some jurisdictions have historically taken two weeks or more to review IDOTs before recording them. Due to these expected backlogs and the typical recording process, it is highly unlikely that documents will be recorded the same day they are received. While the matter is not entirely free from doubt among practitioners interpreting the new law, we take the position, and, more importantly, we believe that the Clerk’s offices will take the position that an IDOT received before July 1 but recorded on or after July 1 will fall under the new law. June 30 falls on a Saturday, so Friday, June 29 is the final day IDOTs may be recorded to receive the tax deferral for loans a $1 million or more. To be safe, we are urging our clients to deliver documents to be recorded to the appropriate Clerk’s office with at least several business days to spare and, to the maximum extent possible, have the documents walked through the recording process by individuals familiar with the customary practices of the applicable Clerk’s office.

To discuss strategies for handling real estate financing transactions in light of this significant change in the law, please contact any of the following attorneys: