Earlier this month, the New York State Senate (S318) and Assembly (A407) reintroduced proposed legislation seeking to extend the New York State mortgage recording tax to mezzanine debt and preferred equity financings. This proposed legislation provides that mortgage recording taxes will be assessed on mezzanine and preferred equity financing transactions where the mezzanine or preferred equity financing is "related to the real property upon which a mortgage instrument is filed." Lenders and preferred equity investors would be motivated to ensure that the tax is paid, since under the proposed legislation, remedies under the New York Uniform Commercial Code (UCC) would not be available to the mezzanine lender or preferred equity investor unless the mortgage recording tax was paid. The proposed legislation also would amend the UCC to provide that a security interest with respect to such mezzanine debt or preferred equity investment could only be perfected if a UCC-1 financing statement is filed.
This is now the third time in less than three years that legislation to extend the mortgage recording tax to mezzanine loan and preferred equity financings has been proposed. In the case of both previously proposed legislations, the proposed legislation failed to be adopted into law before the legislative session ended.
As highlighted in our March, 2020 Note from the Real Estate Group, if this proposed legislation is enacted into law, it would increase the cost of mezzanine debt and preferred equity financing significantly, and in turn, have a material impact on the real estate finance market for properties in New York. The mortgage recording tax in New York State varies by locality, but can be as high as 2.8 percent in New York City for mortgages on commercial real estate with principal amounts over $500,000.
As was the case with the prior proposed legislations, this new legislation is ambiguous and leaves many questions unanswered. For example, the legislation appears (although it is vague) to provide that the tax is to be extended only to mezzanine debt financings and preferred equity investments that occur simultaneously with a mortgage being placed on the affected real property. In addition, there is no clear guidance as to what type of "special rights or preferred rights" under a preferred equity investment would trigger the imposition of the mortgage tax on a preferred equity investment. Furthermore, as stated above, the legislation relies on the conditioning of remedies under the UCC to secure enforcement of the payment of the mortgage tax on mezzanine loan and preferred equity financings. However, unlike mezzanine loans, preferred equity investments typically are not secured by security interests under the UCC, and a preferred equity investor would not typically file a UCC financing statement.
Is the third time a charm? While it may be tempting to be skeptical about the potential for this new legislation to become law, given the outcome of the previously proposed legislations, it is important to keep in mind the political posture of New York State and its need to seek ways to boost tax revenue from sources acceptable to the general public: such as by taxing the financing of commercial real estate. In the event the proposed legislation is enacted into law, sponsors and developers of real estate projects will invariably be faced with either accepting mezzanine debt and preferred equity financing subject to mortgage taxes or, in the alternative, raising more equity that is not subject to the tax. All of the alternatives would appear to result in higher costs to the sponsors and developers of real estate projects in New York.
As the proposed bills proceed through the legislative process, we anticipate that the details will be clarified, and the Tannenbaum Helpern Real Estate Group will provide updates on the status of these pending bills as they become available.
Originally published 18 January 2023
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