The availability of one popular feature of securing business loans — the indemnity deed of trust, commonly known as an “IDOT” – was significantly limited by the Maryland legislature over the summer. Under the new law, the IDOT security structure, by which real property is provided as collateral to secure a loan, with recordation of the lien being free of recordation and transfer taxes, is now available only for loans of less than $1 million.
Under the traditional IDOT security arrangement, a company that owned its business real estate would form a separate entity to accept the loan from the bank. That separate entity would lend to the loans proceeds to the operating company, and the operating company would guaranty the loan, securing it with a lien on the business real estate. In the alternative, a business might borrow directly from the bank, with individual owners guaranteeing the loan, securing the guaranty obligation with a lien on personally owned real estate.
Either way, the recordation of the lien in the land records would not be subject to recordation and transfer taxes because the obligation being secured – a guaranty – was indirect. Otherwise, any such security given by the actual borrower would be a direct obligation for which any liens granted as security would be subject to recordation and transfer taxes. These taxes vary among Maryland’s jurisdictions, with parts of it being calculated as so many dollars per $500 of consideration. In Baltimore City the aggregate rate works out approximately as 3%; in Baltimore County, approximately 2.5%.
The new law, which took effect July 1, now limits those arrangements to securing loans of less than $1 million. Anything greater is taxed in full. For example, an IDOT filed on or after July 1 securing a loan of $1.5 million would be subject to recordation and transfer tax on the entire $1.5 million.
Refinancing old loans and amending old IDOTs recorded before July 1 will make those new recordations subject to tax. For example, an IDOT securing the guaranty of a $750,000 loan that was recorded last year, and that is amended and restated to secure a loan increased to $1.5 million, will be subject to tax on the full $1.5 million loan amount. However, if the loan amount is not increased, and the change does not amount to a refinancing, changes to terms such as the maturity date and interest rate will not trigger tax liability.
Breaking up the security of a loan guaranty with liens on properties in different jurisdictions will be unavailing against the new law. The tax would apply proportionately in each jurisdiction. For example, a $1.5 million loan guaranty, of which $900,000 is secured by real property in Baltimore City and $600,000 is secured by real property in Baltimore County will be taxable on a pro-rata basis in each jurisdiction.
Any attempt to break up a financing transaction into discrete parts, each under $1 million to qualify under the new statute, will be subject to scrutiny in the land records office as a possible “step transaction”, meaning that the separate transactions are really “steps” in the same transaction. If land records officials find that various parts amount to a step transaction, the separate financing amounts will be aggregated for purposes of the tax.
With the new law applying to all manner of financing and refinancing, it is best to consult a real estate lawyer on the structure and potential recordation and tax liability for any loan security.