Clean-energy CPACE assessments count as real-property-secured obligations for REMIC purposes

Plain-English summary

A company holds CPACE assets (Commercial Property Assessed Clean Energy) and plans to package them into a real estate mortgage investment conduit (REMIC). CPACE programs let a commercial property owner finance clean-energy or resiliency improvements and repay the cost over time through a special property tax assessment that becomes a lien on the whole property, senior to mortgages and running with the land. The company asked whether these CPACE assets are "obligations secured by an interest in real property" under § 860G(a)(3), one of the requirements for a REMIC's qualified mortgages. The IRS ruled that they are, because each CPACE asset is backed by a superior-priority lien on the entire real property that persists until fully repaid. The IRS expressly did not rule on whether the assets are "principally" secured by real property or on whether the company otherwise qualifies as a REMIC.

Ruling snapshot

• Question: Are CPACE assessment assets "obligations secured by an interest in real property" under § 860G(a)(3)?
• Outcome: Approved; the CPACE assets are obligations secured by an interest in real property
• Key authorities: IRC § 860G(a)(3); Treas. Reg. §§ 1.860G-2(a), 1.856-3, 1.856-10

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 202429003 Third Party Communication: None
Release Date: 7/19/2024 Date of Communication: Not Applicable
Index Number: 860G.00-00
Person To Contact:
----------------- -------------------, ID No. -----------------
----------------------------- Telephone Number:
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-------- Refer Reply To:
--------------------------------------------- CC:FIP:B02
--------------------------- PLR-107933-22
--------------------------------------- Date:
------------------------------ April 16, 2024

LEGEND:

Company = ------------------------------------------------------------------
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Series LLC = --------------------------------------------

State A = -------------

State A Program = -------------------------------------

State B Program = ------------------------------------------------------------------------------
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State C Program = ------------------------------------------------------------------------------
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State D Program = ------------------------------------------------------------------------------
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State E Programs = ------------------------------------------------------------------------------
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Municipality Program = ------------------------------------------------------------------------------
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Date 1 = ----------------------
PLR-107933-22 2

Dear -----------------:

   This letter is in reply to your letter dated March 31, 2022, and supplemental

correspondence, in which Company requests a ruling that certain Commercial Property
Assessed Clean Energy (“CPACE”) Assets (as described below) are
“obligations…secured by an interest in real property” under section 860G(a)(3) of the
Internal Revenue Code.

                                     FACTS

    The facts are represented as follows:

   Series LLC is a limited liability company formed under the laws of State A on

Date 1. Series LLC has issued several limited liability company interests, one of which
is Company. Company is a registered series of Series LLC within the meaning of the
State A Limited Liability Company Act. Company holds CPACE Assets and intends to
make one or more real estate mortgage investment conduit (“REMIC”) elections.

     CPACE Assets arise from CPACE programs administered by local property

taxing jurisdictions. CPACE programs provide funding for a property owner to finance
the cost of eligible improvements on commercial property. The property owner then
repays the cost plus interest over time through a voluntary property tax assessment.
These eligible improvements include the installation of improvements related to
renewable energy, energy efficiency, climate resiliency, water conservation, seismic
retrofitting, and similar clean energy pursuits.

    Typically, a property owner that wants to participate in a CPACE program enters

into a contract with a governmentally established entity for the CPACE program (the
“Local Authority”) whereby the property owner agrees to a special property tax
assessment being imposed on the owner’s commercial property (the “CPACE
Assessment”). The processing of a property owner’s request for a CPACE Assessment
is similar to that of the underwriting for a traditional property loan. This includes a
review of the real property, proposed improvements, other debt secured by the property,
and certain limited credit criteria on the property owner at the time of the application.
For the property owner incurring the obligation to pay the CPACE Assessment, an
advance of cash is made from a third party CPACE program participant to the property
owner secured by the owner’s real property and recovered through installment
payments required to be made by the property owner pursuant to the CPACE
Assessment. Similar to a mortgage, a CPACE Assessment is recorded in the relevant
land title records pursuant to the laws of the applicable local jurisdiction. Company
holds the secured right to receive repayment of the cash advance through the Local
Authority’s collection of the CPACE Assessment (“CPACE Asset”). Company acquires
PLR-107933-22 3

a CPACE Asset by either participating in the CPACE program as the third party who
advances cash to the property owner or by acquiring the right from an affiliate who
participates and advances the cash.

   A CPACE Assessment represents a lien on the entire property and not just on

the specific improvement that is funded and installed pursuant to the contract. Company
represents that a CPACE Asset is secured by the real property upon which the
improvement was made and failure of the property owner to pay an installment of the
CPACE Assessment will result in the ability to seize the entire property to satisfy the
amount due.

   Company was formed for the purpose of holding CPACE Assets that will be

either directly originated by Company or acquired through an affiliate. The CPACE
Assets that the Company intends to hold arise from the following CPACE programs:
State A Program, State B Program, State C Program, State D Program, Municipality
Program, and State E Programs.

    CPACE Asset payments are made by the property owner as an additional

amount due alongside the property owner’s regular property taxes and are paid in
installments. The obligation to make CPACE Asset payments remains with the
property, regardless of any intervening sales, until it is fully paid. State A Program and
Municipality Program CPACE Assessments are pari passu with ad valorem real
property taxes and other special assessments and senior to all other encumbrances.
Additionally, State B Program, State C Program, State D Program, and State E
Program’s CPACE Assessments are junior to ad valorem real property taxes and
special assessments and senior to all other encumbrances. Thus, in all jurisdictions in
which Company is participating, the CPACE Assessment, and, thus, the secured right of
CPACE Assets, are senior to mortgages.

    In the event that a property owner fails to make an installment payment on a

CPACE Asset, only the amount of the missed payment is due. Enforcement of the
CPACE Assessment can be undertaken following the missed payment, but only for the
missed installment. Because each CPACE program is a product of local law the
mechanism for enforcement of the CPACE Assessment may differ, but generally if a
property owner does not make a payment on a CPACE Asset, the property owner can
lose the property, which in turn will be used to satisfy the missed payment. Future
installment payments on the CPACE Asset remain due and the property will continue to
be encumbered by the CPACE Assessment during the remainder of its term. Since a
CPACE Asset retains a security interest in the property, any subsequent property owner
will be subject to future installment payments and the remedies for missing said
payment.
PLR-107933-22 4

                                LAW AND ANALYSIS

    Section 860D(a) defines REMIC to mean any entity that meets several

requirements including that as of the close of the 3rd month beginning after the startup
day and at all times thereafter, substantially all of the assets of the entity consist of
qualified mortgages and permitted investments.

    Section 860G(a)(3)(A) defines “qualified mortgage” to include any obligation

(including any participation or certificate of beneficial ownership therein) which is
principally secured by an interest in real property and which (i) is transferred to the
REMIC on the startup day in exchange for regular or residual interests in the REMIC, (ii)
is purchased by the REMIC within the 3-month period beginning on the startup day if,
except as provided in regulations, such purchase is pursuant to a fixed price contract in
effect on the startup day, or (iii) represents an increase in the principal amount under
the original terms of an obligation described in clause (i) or (ii) if such increase (I) is
attributable to an advance made to the obligor pursuant to the original terms of a
reverse mortgage loan or other obligation, (II) occurs after the startup day, and (III) is
purchased by the REMIC pursuant to a fixed price contract in effect on the startup day.

    For purposes of section 860G(a)(3), section 1.860G-2(a)(4) of the Income Tax

Regulations defines “interests in real property” by reference to section 1.856-3(c) and
“real property” by reference to section 1.856-3(d). Section 1.856-3(c) defines “interests
in real property” to include, in part, fee ownership and co-ownership of land or
improvements thereon, leaseholds of land or improvements thereon, options to acquire
land or improvements thereon, and options to acquire leaseholds of land or
improvements thereon. Section 1.856-3(d) defines real property by reference to section
1.856-10. Section 1.856-10(b) defines “real property” to mean land and improvements
to land. Section 1.856-10(d) defines “improvements to land” as inherently permanent
structures, which includes buildings, and their structural components.

    Section 1.860G-2(a)(1) provides that, for purposes of section 860G(a)(3)(A), an

obligation is principally secured by an interest in real property only if it satisfies the test
of either section 1.860G-2(a)(1)(i) or (ii). Section 1.860G-2(a)(1)(i) provides that an
obligation is principally secured by an interest in real property if the fair market value of
the interest in real property securing the obligation (A) was at least 80 percent of the
adjusted issue price of the obligation at the time the obligation was originated, or (B) is
at least equal to 80 percent of the adjusted issue price of the obligation at the time the
sponsor contributes the obligation to the REMIC. Section 1.860G-2(a)(1)(ii) provides
that an obligation is principally secured by an interest in real property if substantially all
of the proceeds of the obligation were used to acquire or to improve or protect an
interest in real property that, at the origination date, is the only security for the
obligation.
PLR-107933-22 5

    Section 1.860G-2(a)(5) provides that obligations secured by interests in real

property include the following: mortgages, deeds of trust, and installment land contracts;
mortgage pass-thru certificates guaranteed by GNMA, FNMA, FHLMC, or CMHC
(Canada Mortgage and Housing Corporation); other investment trust interests that
represent undivided beneficial ownership in a pool of obligations principally secured by
interests in real property and related assets that would be considered to be permitted
investments if the investment trust were a REMIC, and provided the investment trust is
classified as trust under section 301.7701-4(c) of the Procedure and Administration
Regulations; obligations secured by manufactured housing treated as single family
residences under section 25(e)(10) (without regard to the treatment of the obligations or
the properties under state law).

   Section 1.860G-2(a)(7) provides that for purposes of section 860G(a)(3) and (4),

the term “obligation” includes any instrument that provides for total noncontingent
principal payments that at least equal the instrument’s issue price even if that
instrument also provides for contingent payments.

     Under the CPACE programs at issue in this ruling, the property owner is

obligated to repay the entire amount of funds borrowed to make an eligible improvement
on their property plus interest through the CPACE Assessment. Additionally, Company
represents that each CPACE Asset is secured by a lien on the entirety of the real
property on which the improvements are installed. The security interest in the property
runs with the land, encumbering the property until all payments are made under the
CPACE Asset. Company also represents that each lien is of superior priority to all other
obligations other than property taxes and special assessments.

                                  CONCLUSION

   Based on the facts represented, we rule that CPACE Assets held by Company

constitute obligations secured by an interest in real property for purposes of section
860G(a)(3) of the Code.

                                    CAVEATS

    This ruling’s application is limited to the facts, representations, Code sections,

and regulations cited herein. Except as specifically ruled upon above, no opinion is
expressed concerning any federal income tax consequences related to the facts herein
under any other provisions of the Code. In particular, no opinion is expressed or implied
regarding whether CPACE Assets are principally secured by an interest in real property.
Additionally, no opinion is expressed or implied regarding if Company otherwise
qualifies as a REMIC under part IV of subchapter M of Chapter 1 of the Code.

   This ruling is directed only to the taxpayer that requested it. Section 6110(k)(3)

provides that it may not be used or cited as precedent.
PLR-107933-22 6

  The ruling contained in this letter is based upon information and representations

submitted by Company and accompanied by a penalty of perjury statement executed by
an appropriate party. While this office has not verified any of the material submitted in
support of the request for rulings, it is subject to verification on examination.

     In accordance with the Power of Attorney on file with this office, a copy of this

letter is being sent to your authorized representatives.

                                              Sincerely,


                                              _______________________________
                                              Andrea M. Hoffenson
                                              Senior Technician Reviewer, Branch 3
                                              Office of Associate Chief Counsel
                                              (Financial Institutions & Products)

cc: ----------------------------------
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