As first mortgagee, I'm set to receive a commercial building free and clear under a Chapter 11 reorganization plan, in full satisfaction of my $90 million loan. The plan also wipes out an unrelated second mortgage on the same building with no payment to that lender. Does the discharged second mortgage debt count as part of MY consideration for New York's Real Property Transfer Gains Tax, even though I'm not paying it and get no benefit from its discharge?

Plain-English summary

This tax no longer exists. New York's Real Property Transfer Gains Tax (former Article 31-B of the Tax Law) was a 10% tax on the GAIN from transferring New York real property where consideration was $1 million or more. It was repealed for any transfer occurring on or after June 15, 1996. This 1993 opinion is preserved here for historical and research value, not as current law.

Prudential Insurance Company of America had loaned $90 million to a New York limited partnership, secured by a first mortgage on a New York City commercial building. The building was also encumbered by a second mortgage held by an unrelated Illinois general partnership (though that second mortgagee was itself affiliated with the borrowing partnership's general partner). When the borrower defaulted, Prudential started a foreclosure, but the borrower filed for Chapter 11 bankruptcy, staying the foreclosure. Under the borrower's proposed reorganization plan, the building would be transferred to Prudential free and clear of all liens and encumbrances, in full satisfaction of the $90 million loan -- and, immediately before that transfer, the second mortgage would be discharged in full, with NO consideration paid to the second mortgagee (a total wipeout of that unrelated lender's position, confirmed by the Bankruptcy Court's order approving the plan).

The Department confirmed a bankruptcy reorganization transfer is a taxable "conveyance upon liquidation" under the gains tax (former 20 NYCRR § 590.65, citing the federal bankruptcy court's holding in In re Jacoby Bender, Inc. that debtors aren't exempt from state gains tax liability under the Bankruptcy Code). Consideration includes the cancellation or discharge of indebtedness (former § 1440.1(a)). The key question was whether the SECOND mortgage's discharged balance should be added to Prudential's own consideration, even though Prudential wasn't paying it and received no direct benefit from that specific discharge. Applying its own earlier ruling in John S. Pereira (TSB-A-91(4)R) -- which held that where the transferee isn't the sole mortgagee and other liens don't survive the transfer, consideration is the portion of indebtedness the TRANSFEREE extinguishes, or the bid price if higher -- the Department concluded Prudential's consideration for the building was simply the amount of its OWN loan being extinguished ($90 million, less anything not actually released), with the second mortgagee's separately-discharged, unrelated debt playing no role in that calculation.

What this means for you

First mortgagees receiving property through a bankruptcy reorganization plan

Under this now-repealed tax, your gains-tax consideration for a bankruptcy-plan property transfer was measured by YOUR OWN extinguished debt, not by every lien that happened to be wiped out in the same plan -- an unrelated junior lienholder's total loss doesn't inflate your tax base.

Bankruptcy and workout attorneys structuring Chapter 11 property transfers to a secured creditor

This opinion is a useful confirmation that the gains tax followed ordinary foreclosure-consideration principles (from the earlier Pereira ruling) even in the more complex bankruptcy-plan context, and that "consideration" isn't simply the total debt wiped out across every lienholder in the deal.

Accountants calculating gains-tax exposure for pre-1996 secured-creditor property transfers

If you're reconstructing the gains-tax consideration for a historical bankruptcy-plan transfer to a secured lender, this opinion and the underlying Pereira ruling are the key authorities for isolating the transferee's own extinguished debt from other creditors' unrelated losses.

Common questions

Q: Does this bankruptcy-transfer consideration rule still matter today?
A: Not under this specific tax -- it was repealed for transfers on or after June 15, 1996. Current New York real estate taxes have their own separate rules for consideration in distressed-property transfers.

Q: Why didn't the discharged second mortgage add to Prudential's consideration?
A: Because Prudential wasn't the one discharging it, received no payment or benefit tied to that discharge, and the second mortgagee got nothing in return -- consideration under the gains tax measures what the TRANSFEREE gives up or extinguishes to get the property, not everything that happens to disappear in the same bankruptcy plan.

Q: Would the answer have been different if Prudential itself held both mortgages?
A: Likely yes -- the Pereira rule the Department applied here specifically addresses the situation where the transferee is NOT the sole mortgagee; if Prudential held both liens, the calculation would presumably include the full amount of debt Prudential itself extinguished across both mortgages.

Q: Can another secured lender receiving property through bankruptcy rely on this exact ruling?
A: No, apart from the repeal -- an Advisory Opinion binds the Department only as to the petitioner and facts presented, and this result depended on the specific fact that the second mortgage was discharged for no consideration to an unrelated, non-transferee lender.

Citations and references

Statutes and regulations:

• former Tax Law § 1440.1(a) (consideration includes any price paid or required to be paid, including the cancellation or discharge of an indebtedness or obligation)
• former Tax Law § 1440.1(b) (special consideration rules for options and leaseholds involving use and occupancy)
• former Tax Law § 1440.1(c) (apportionment of consideration where a transfer includes other assets in addition to real property)
• former 20 NYCRR § 590.65 (a transfer pursuant to a bankruptcy liquidation or reorganization plan is a taxable transfer; consideration is the amount paid by the purchaser plus liens taken subject to, or, for a transfer to a creditor mortgagee, the amount of indebtedness extinguished; a bankruptcy trustee may file returns on behalf of the debtor)
• In re Jacoby Bender, Inc., 40 B.R. 10, 15 (Bankr. 1984) (the federal Bankruptcy Code does not exempt a debtor from liability for the New York gains tax under 11 U.S.C. § 1146(c))
• John S. Pereira, Adv. Op. Comm. T&F, May 23, 1991, TSB-A-91(4)R (where the transferee is not the sole mortgagee and additional mortgages don't survive the transfer, consideration is the portion of indebtedness the transferee/mortgagee extinguished, or the bid price, whichever is higher)

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/real_prop_tran_ao_1993.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/real_property/a93_3r.pdf

Original ruling text

New York State Department of Taxation and Finance

Taxpayer Services Division
Technical Services Bureau

TSB-A-93 (3)R
Real Property
Transfer Gains Tax
January 19, 1993

STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. M921207C

On December 7, 1992, a Petition for Advisory Opinion was received from Prudential
Insurance Company of America, 10 Rockefeller Plaza, New York, New York 10020.
The issue raised by Petitioner, Prudential Insurance Company of America, is whether for
purposes of Section 1440.1 of the Tax Law, unpaid principal and interest on a second mortgage
which is either released, cancelled, discharged or annulled will be included in the consideration
received by a limited partnership with respect to the conveyance of property to Petitioner pursuant
to the terms of the reorganization plan.
Petitioner loaned $90,000,000 (the "Loan") to a New York limited partnership (the
"Partnership"). The Loan is secured by a first mortgage on a commercial building located in New
York City (the "Property"). The Property is also currently encumbered with a second mortgage (the
"Second Mortgage") which secures a loan made to the Partnership by an Illinois general partnership
("Second Mortgagee"). The Second Mortgagee and Petitioner are not affiliated. However, the
Second Mortgagee is an affiliate of the general partner of the Partnership.
The Partnership defaulted on the Loan and Petitioner initiated a foreclosure proceeding.
Thereafter, the Partnership filed a petition in the United States Bankruptcy Court for the Southern
District of New York (the "Bankruptcy Court"). The bankruptcy filing stayed the foreclosure.
The Partnership has proposed a reorganization plan under Chapter 11 of the .,United States
Bankruptcy Code (the "Plan"). Under the terms of the Plan, the Property will be transferred to
Petitioner free and clear of all liens and encumbrances in satisfaction of the Loan. The Plan also
provides that immediately prior to the conveyance of the Property to Petitioner the Second Mortgage
will be discharged in full with no consideration being paid to the Second Mortgagee. The Second
Mortgage will be discharged pursuant to the Plan and the action of the Bankruptcy Court in
confirming the Plan.
Specifically, the Plan provides that the Second Mortgage will not be paid under the terms of
the Plan and that such mortgage, as well as other secured claims to related parties, will be "cancelled,
released, discharged and annulled." The Plan requires the Second Mortgagee to execute documents
dated as of the confirmation date of the Plan in recordable form to evidence the "release,
cancellation, discharge or annulment" of the Second Mortgage. After the conveyance of the Property
to Petitioner, the Second Mortgagee will have no interest whatsoever in the Property, nor will the
Second Mortgagee have recourse against the Partnership with respect to the discharge of the Second
Mortgage.

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TSB-A-93 (3)R
Real Property
Transfer Gains Tax
January 19, 1993
Section 1440.1 of the Tax Law provides as follows:
Sec. 1440. Definitions.- - In this article:

1. (a) "Consideration" means the price paid or required to be paid for real
   property or any interest therein, less any customary brokerage fees related to the
   transfer if paid by the transferor, including payment for an option or contract to
   purchase or use real property. Consideration includes any price paid or required to
   be paid, whether expressed in a deed and whether paid or required to be paid by
   money, property, or any other thing of value and including the amount of any
   mortgage, purchase money mortgage, lien or other encumbrance, whether the
   underlying indebtedness is assumed or taken subject to. Consideration includes the
   cancellation or discharge of an indebtedness of obligation.
   (b) In the case of (i) the granting of an option with use and occupancy of real
   property or (ii) the creation of a leasehold or sublease that is a transfer of real
   property, as defined in subdivision seven of this section, consideration shall also
   include the value of the rental and other payments attributable to the use and
   occupancy of the real property or interest therein and the value of any option to
   purchase or renew included in such transfer.
   (c) In the case of a transfer which includes other assets which are in addition
   to real property or an interest therein and for which there is no reasonable
   apportionment of the consideration for such real property or interest, consideration
   means that portion of the total consideration which represents the fair market value
   of such real property or interest. In the case of a transfer of a controlling interest in
   an entity with an interest in real property to the controlling interest for the purpose
   of ascertaining the consideration for the transfer of such controlling interest.
   (emphasis added) Section 590.65 of the Gains Tax Regulations provides as follows:
   590.65 Bankruptcy. [Tax Law, §1440(1), (7)]
   Question: Is a transfer pursuant to a plan under the liquidation or
   reorganization provisions of the Bankruptcy Code taxable?
   Answer: Yes. Section 1440(7) of the Tax Law defines transfer of real
   property to include a transfer of any interest in real property, including a conveyance
   upon liquidation or by a receiver. Therefore, such a conveyance is subject to the gains
   tax.
   The U.S. Bankruptcy Court held that the debtor is not exempt from liability for the
   gains tax under section 1146(c) of the Federal Bankruptcy Code, In re Jacoby Bender,
   Inc., 40 BR 10, 15 (Bkrtcy. 1984).

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TSB-A-93 (3)R
Real Property
Transfer Gains Tax
January 19, 1993
Consideration is defined to include the cancellation or discharge of an indebtedness
or obligation. Therefore, the consideration for a transfer or real property pursuant to
a liquidation or reorganization plan is the amount paid by a purchaser of the real
property pursuant to such a plan plus the amount of liens the property was taken
subject to (if any) or, in the case of a transfer to a creditor mortgagee, the amount of
indebtedness extinguished.
A trustee in bankruptcy may file returns on behalf of a bankrupt transferor, and
should withhold the tax due under the gains tax until the tax is paid.
In John S. Pereira, Adv 0p Comm T & F, May 23, 1991, TSB-A-91(4)R the Commissioner
held that in situations where the transferee is not the sole mortgagee and additional mortgages do not
survive the transfer, the consideration for the transfer in bankruptcy would be the portion of the
indebtedness the transferee/mortgagee extinguished or the bid price, whichever was higher.
Accordingly, pursuant to Section 1440.1 of the Tax Law, Section 590.65 of the Gains Tax
Regulations and John S. Pereira, supra, since in the instant case the second mortgage will be
discharged by the Second Mortgagee prior to the transfer of the Property to Petitioner and Second
Mortgagee will have no interest in the Property being transferred to Petitioner, the consideration
received by the Partnership for the transfer of the Property to Petitioner will be the portion of the
indebtedness extinguished by Petitioner pursuant to the terms of the reorganization plan.

DATED: January 19, 1993

/s/
PAUL B. COBURN
Deputy Director
Taxpayer Services Division

NOTE: The opinions expressed in Advisory Opinions
are limited to the facts set forth therein.