Spring 2003

A professional publication issued by
Cohn, Goldberg & Deutsch, LLC

Serving the legal needs of lenders and servicers throughout Maryland and the Disctrict of Columbia.

Do you have a question or concern that can be addressed in a future issue? Call Ron Deutsch at 410-296-2550, extenstion 3030. Or write us at 600 Baltimore Ave. Suite 208, Towson, MD 21204.

TRAINING SESSIONS AT CLIENT SITES ON MD AND DC FORECLOSURE PROCEDURES ARE NOW BEING FILLED. IF INTERESTED PLEASE CONTACT RON DEUTSCH 410-296-2550 x3030

• THE MARYLAND TAX MAN COMMETH CLOSE BUT NO CIGAR
• MARYLAND GROUND RENT REDEMPTIONS
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THE MARYLAND TAX MAN COMMETH CLOSE BUT NO CIGAR

THE MARYLAND LEGISLATURE RECENTLY PASSED A tax bill that impacts all real property transfers in the State. The purpose of the new legislation is to improve compliance, by non-resident sellers, with an existing Maryland requirement to report and pay income taxes on capital gains generated on the sale and transfer of real property. These transactions by non-residents were targeted, because the Legislature believed that such sales involved property other than the transferor’s primary residence and that such sales would likely trigger a capital gain tax in Maryland. Apparently, the State was having difficulty collecting this tax, since non-resident individuals and entities would not necessarily file the required Maryland tax return. Likewise, the non-resident’s Federal return would not necessarily indicate that the sale occurred in Maryland resulting in taxable income. Examples of these transactions might include conveyances of vacation or second homes sold by a non-resident. This law, effective October 1, 2003, is found in new section 10-912 of the Tax General Article, which was added by Chapter 203 of the Budget Reconciliation and Financing Act of 2003 (House Bill 935). The law will have a significant effect on Maryland real estate settlements, deed preparation and recording, with the necessity of the completion of several new State forms. However, before the industry worries too much, the newly promulgated regulations provide a path by which through proper planning and increased documentary submissions by the title attorney, should result in no additional tax being payable by any lender or servicer. The path is found in the various exemptions delineated in the Act.

The new law requires that every deed or other instrument that effects a change of ownership on the State Assessment records, contain, in addition to the usual affidavit of gross consideration, a statement by the seller of the “total payment”, in the recitals or the acknowledgment in the Deed, or in the accompanying affidavit made by the transferor or the transferor’s agent. This includes assignments of 99 year or perpetually renewable leaseholds and articles of sale and transfers, mergers and consolidations filed with the State Department of Assignments and Taxation. The term “total payment” has been defined as the net proceeds of the sale (i.e., the total sales price paid, less payments made at closing to satisfy mortgages and other liens on the property, and less other expenses of the transferor, arising out of the sale and disclosed on a settlement sheet prepared in connection with the sale). Any pay-offs to credit card companies or to secured lenders, including home equity lenders, where the debt or a draw was taken within 120 days do not reduce the “total payment”. Thus, the applicable amount will not necessarily correspond with the amount shown on Line 603 of the HUD-1 Settlement Statement. Obviously, detailed inquiries must be made and the honesty and good faith of the transferor is required since standard documentation does not disclose when disbursements were made. Once calculated, however, in order to record the deed, non-resident individuals must pay 4.75% of the “total payment” and non-resident entities must pay 7% of the “total payment” as a withholding tax on the capital gain. Even where there is no consideration, or the transfer is exempt, the “total payment” affidavit must be attached. The funds are collected by the Clerk, or State Department of Assessments and Taxation (SDAT), as the case may be, and remitted to the Comptroller within 30 business days following collection. Where funds are withheld, transferors are required to complete and file a Form MW 506 NRS at the end of the tax year in which the sale occurred.

The legislation provides several important exemptions from the withholding and payment requirements that guide the settlement officer as to qualifying the transaction from the requirements to collect withholding tax. Specifically, withholding and payment of tax is not required if:

1. The deed contains a certification under the penalties of perjury, in the recital or acknowledgment, or in an accompanying affidavit made by the transferor or the transferor’s agent, that the transferor is a Maryland resident. Based on Internal Revenue Service rules, a transferor must have lived in the property for at least two of the preceding five years. Individual calculations are utilized in cases of multiple owners. Residency, however, can be complicated in situations where the transferor splits residency between several states. The determination of whether an individual is a Maryland resident depends upon whether the individual meets the definition of “resident” found in Section 10-101(h) of the Tax-General Article.

   Neither the transferee nor the title agent will, ordinarily, be able to determine whether a transferor is, or is not, a Maryland resident. Sellers will need to be contacted early in the process in order to inquire as to whether they claim that they are Maryland residents. Although the applicable definitions for a resident and nonresident entity are straightforward (a resident entity is one formed under Maryland law, or otherwise qualified or registered to do business in Maryland), determining the status of an individual transferor based on the above definition is quite difficult. As a result, the new Section provides that the transferee, title insurance producer, title insurer, settlement agent, closing attorney, lending institution, and real estate agent or broker are not liable for any amounts required to be collected and paid over to the Comptroller.

2. A property’s use is a principal residence. A certification under the penalties of perjury, that the property being transferred is the transferor’s principal residence, must be contained in the acknowledgment of the deed or other instrument of transfer or in an affidavit signed by the transferor or the transferor’s agent, in order to exempt the transfer from the withholding tax. It should be noted that, if the property is improved by a dwelling, its use is also designated on the State’s tax assessment information. Those records are found on the State’s web site, which can be found at www.dat.state.md.us . The web site must be checked prior to closing to determine if a transferor’s certification matches the State’s records. If a non-resident seller or their Realtor represents that a property’s use was as a principal residence, but the State Department of Assessments and Taxation’s (“SDAT”) web site lists that property’s use as non-owner occupied, the transferor’s representations must be ignored and the tax withheld. An application for refund would then have to be filed by the transferor and approved by the Comptroller’s office for return of the funds collected and paid.

   Clearly, if the Sellers declare themselves non-residents of Maryland, and that the property’s use is not their principal residence, then the tax must be withheld. However, no affidavit of residency and use need be included with the recordation of the Deed.

3. The transfer is pursuant to a mortgage foreclosure or deed in lieu, or by the United States or one of its instrumentalities (HUD, VA, Farmers Home Administration, etc), or by the State and its political units or subdivisions. It appears that this exemption from the withholding requirements refers to both the transfer from the substitute trustees to the secured party or a third party bona fide purchaser, AND the subsequent REO transfer from such secured party to a third party, as well as deeds in lieu of foreclosure. An Application for Certificate of Full or Partial Exemption (MW506AE) should be completed and filed with the Comptroller twenty-one days prior to closing in cases where the Transferor entity is a nonresident and is not qualified to do business in the State.

4. The transferor presents a Comptroller’s certification, indicating a predetermination that no tax, or a reduced amount of tax, is due or that the tax liability has been previously adequately secured or satisfied. The draft regulations list 14 possible grounds for obtaining an exemption or Comptroller’s certification (11 of which refer to transfers made pursuant to provisions of the Internal Revenue Code). For example, transferors who convey property pursuant to a “like-kind” exchange under section 1031 of the Internal Revenue Code, transfers to partnership in exchange for an interest in the partnership or transfers between spouses or incident to a divorce are eligible for special exemptions. Parties to these transactions should file From MW506AE, Application for a Certificate of Full or Partial Exemption with the Comptroller at least 21 days before the settlement date.

Some commercial transactions may require the filing of Articles of Transfer or Article of Merger with SDAT. Once issued by SDAT and recorded, the certificates approving such Articles have the effect of transferring title to property. When such transfers also involve purchase money mortgages, confirmatory deeds from the transferor entity to the transferee are often utilized. Under the new law, affidavits of residency and use and “total payment” affidavits will have to be included in or attached to both the Articles and such “Confirmatory Deeds”. Tax withheld will be collected and paid but once (SDAT level).

If the amount paid to the Clerk or SDAT is in excess of the amount of tax due on the sale or transfer of the real property, a nonresident individual or corporation may complete and file a Form MW506R, Application for Tentative Refund of Withholding on Sales of Real Property by Non Residents. This application may be filed sixty days after the date the tax is paid, but not later than the last day of the taxable year in which the transaction occurred. Pass through entities (S Corporations, partnerships and limited liability companies) can not file the Application for Tentative Refund. Instead, any amounts paid on behalf of a pass through entity will flow through to its owners at the end of tax year and be reported on a modified federal Schedule K-1 or Maryland statement. Thereafter, owners report their allocable share of income and tax, paid to the Clerk or SDAT on their Maryland tax return for that year, and claim any applicable refund.

As an aside, settlement companies must remain cognizant of the additional FIRPTA rules. Obviously, there may be cases of overlapping federal and state income tax withholding requirements in the same transaction. This can occur where a non-resident seller is also a foreign national. The 10% deduction of the gross sales price needed to meet the federal requirement will probably be allowable in the calculation of the “total payment” under state law.

Although the new law applies to all deeds or other instruments of transfer recorded with the Clerk or SDAT, on or after October 1, 2003, a transition period is provided in the draft regulations, for deeds currently in the pipeline. As long as the effective date is prior to October 1, 2003, the deed or instrument may be recorded or filed before December 1, 2003 without having to comply with the new law. Thus, an extensive effort must be made to record as soon as possible all deeds executed before October 1, 2003, to avoid any problems resulting from the failure to comply with the new legislation.

We await the final regulations to see if changes to this discussion occur.

MARYLAND GROUND RENT REDEMPTIONS

HOORAY! HOORAY! HOW MANY lenders have faced extortion when attempting to redeem a ground rent during an ejectment proceeding. The Maryland Legislature has come to the rescue. Effective October 1, 2003, the new underwriting procedures and legislative provisions will apply.

As background, Maryland, in order to reduce the cost of home ownership, created a system of leasehold interests. This is a system where the owner of the house and the owner of the land do not have to be the same person or entity. Since the purchaser is merely purchasing the house, the price is reduced as the land is not included. The house purchaser, however, must pay a nominal rent which is paid in arrears, to use the land not owned by him. One difficulty is that the owner of the land can not be located easily.

Under the new provisions, if the seller is unable to provide information on the status of the ground rent (usually because the ground rent owner is unknown or cannot be located) the settlement agent should collect three years worth of back rent from the purchaser and $500.00, all of which is to be held in escrow. Usually, the back rent and $500.00 would be held from the seller’s side of the settlement statement (because the obligation to pay the ground rent rests with the seller). But in a case where the seller refuses to provide the funds for the escrow (such as where HUD is the seller following a foreclosure) the buyer would have to fund the escrow.

After October 1, 2003, ground rent owners are required to collect back rent from the buyer. The new law provides that, before the ground rent owner is entitled to collect expenses, the ground rent owner must first attempt to collect the back rent (without expenses) from the buyer. If 30 days passes without payment, the ground rent owner can claim all or part of the $500.00 expense fee by contacting the homeowner again, and by also notifying the title agent or attorney listed on the deed to the property or on the intake sheet recorded with the deed. If the homeowner fails to pay timely and an ejectment action is subsequently filed, the ground rent owner may collect, in addition, reasonable expenses incurred in preparing and filing the ejectment action (including filing fees, court costs, notice and service of process expenses), a maximum of $300.00 for additional title abstract and examination fees, and a maximum of $700.00 for reasonable attorneys’ fees.

This law will prevent the exorbitantly high legal fees that ejectment attorneys were previously charging.

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