DC Metropolitan Business Law Alert

Maryland Legislature Effectively Kills the IDOT

Aaron Rosenfeld — Wed, 16 May 2012 17:08:55 -0500

The Maryland Senate’s passage of the widely debated and publicized Budget and Taxation bill effectively eliminates a long-used approach to avoid the current payment of mortgage recordation taxes on a commercial real estate loan. Rather than providing a direct deed of trust on the real estate to secure the loan, the property owner would create a related entity to act as borrower (usually a wholly owned subsidiary) and the property owner would guaranty the loan, securing the guaranty with an indemnity deed of trust (an “IDOT”). Under existing law, there is no current recordation tax on the IDOT. Effective July 1, 2012, Maryland’s recordation tax law will apply to IDOTs (except in the case of an IDOT securing a loan of less than $1,000,000 or to the extent recordation tax is paid on another instrument securing such loan). We expect this amendment to the recordation tax law to end the general use of IDOTs in Maryland, thereby increasing the cost of financing for most commercial real estate borrowers.

Maryland Court Reaffirms Rule That Agents of Disclosed Principals Cannot Be Held Individually Liable

Elizabeth Johnson — Wed, 16 May 2012 15:39:19 -0500

The United States District Court for the District of Maryland recently reaffirmed the rule that an agent who discloses his or her principal cannot be held personally liable for any representations made on behalf of that principal.

In Sears, Roebuck and Co. v. Riggs Distler & Co., Inc., 2012 WL 1391838 (D. Md. Apr. 20, 2012), Sears sued Riggs, a utility service company, for damage caused when Riggs hit an underground water line while performing drilling activities on Sears’ property at the White Marsh Mall. Riggs then sued a White Marsh Mall manager individually for indemnification and contribution, claiming that the manager had agreed that the Mall would assume any liability if the Riggs crew struck an unmarked water line during its drilling activities. Riggs’ Complaint specifically alleged that “the Mall was owned and managed by General Growth Properties (GGP)” and that, in her capacity as a Mall manager, the third-party defendant was “an employee and agent of GGP.”

In response to the manager’s motion to dismiss, Riggs claimed that the manager could be held personally liable because the Complaint did not allege (1) that the manager was an agent for “White Marsh Mall, LLC” (the full legal name of the entity); or (2) that the manager identified GGP and/or White Marsh Mall, LLC as her principal when she made the alleged indemnification agreement. The Court rejected these arguments, calling them “a crabbed, unreasonable reading of the [Complaint].” First, the Court noted that in Maryland, the mere omission of a corporate identifier like “LLC” is insufficient to hold an agent personally liable. Second, the Court held that it followed from Riggs’ own allegations (i.e., that the Mall manager was an agent of GGP; that GGP owned and operated the Mall; and that the Mall manager made the alleged representations on behalf of the Mall) that the Mall was the manager’s principal, thus precluding individual liability. The Court then dismissed Riggs’ claims against the manager.

The Sears Court’s holding is consistent with the reluctance Maryland courts have shown to taking an overly formalistic approach to the law regarding agent liability. Though agents should be sure to identify their principals if they wish to avoid personal liability, they should be aware that neither a “mere misnomer” in a principal’s corporate name, nor a failure to recite their principal’s entire corporate structure, will be sufficient to hold an agent liable for its principal’s obligations.

Maryland Court Holds Arbitration Clause in a Contract Partially Unenforceable

Stephen R. Freeland — Mon, 07 May 2012 11:57:49 -0500

In College Park Pentecostal Holiness Church v. General Steel Corp., Civ. No. PJM 09-2070 (D. Md.), the United States District Court for the District of Maryland struck down several portions of an arbitration clause in a standardized construction contract as unconscionable. The case was filed by the plaintiff church after the defendant construction company failed to erect a new building on the church’s property as required by the parties’ contract. After being pressured to sign the standardized contract used by the construction company, the church paid the construction company a $45,000.00 deposit. A year later, the church paid an additional $50,000.00 for what the defendant characterized as a “building change order.” The construction company thereafter refused to construct the building and, moreover, did not return any of the church’s money.

The church filed suit in Maryland federal court, asserting various claims for relief. The construction company filed a motion to enforce the arbitration clause in the contract which provided, inter alia that arbitration and enforcement of any award occur exclusively in Denver, Colorado and that the church, as the party “initiating” the dispute, advance all costs of the arbitration. The church argued that these portions of the arbitration clause were “unconscionable” and, therefore, unenforceable.

Applying Colorado state contract law, the choice of law selected by the parties in the contract, the Court agreed with the church and held the provisions in dispute unenforceable. Among other things, the Court noted that the Church was given a one-day turn around time to sign the agreement and thus had little time to familiarize itself with the onerous terms of the arbitration clause. In fact, the Court noted that the arbitration provisions were the most “oppressive” the Court had ever seen as the contract required the church to: (1) arbitrate its claims solely in Denver, Colorado, some 1,400 miles away from its College Park location, (2) advance all costs of the arbitration, and (3) pay the attorney’s fees and costs of defense incurred by the construction company, regardless of whether the church prevailed or not. Given these and other factors, as well as the economic disparity between the parties, the Court struck the fee-shifting provisions entirely, and ordered that the arbitration take place in Maryland, not Colorado.

While this case was decided under Colorado state law, arbitration clauses have been challenged as unconscionable under Maryland law too. See, e.g., Walther v. Sovereign Bank, 872 A. 2d 735 (Md. 2005). Under Maryland law, a court will not enforce an agreement on grounds of unconscionability where it is both “procedurally” and “substantively” unconscionable, that is where “extreme unfairness” is found in both the formation and substance of the contract. Doyle v. Finance America, 918 A. 2d 1266, 1273 (Md. Sp. Ct App. 2007). While “[u]nconscionability is an amorphous concept that evades precise definition”, id., a court could nonetheless hold the arbitration clause terms in General Steel unconscionable under Maryland law given the unfairness in the substance of those terms and more generally in the formation of the contract itself.

Virginia Supreme Court Ruling Denies Real Property Taxation of Non-Exempt Entity for Taxes Associated with an Exempt Entity's Ownership Interest in Property Owned as Tenants in Common.

Aaron Rosenfeld — Thu, 05 Apr 2012 17:42:38 -0500

The Virginia Supreme Court recently considered whether a municipal corporation has the authority to impose additional real property taxes against a tax paying entity which owns real property as a tenant in common with a tax exempt entity. The court held that there is no such authority.

The City of Richmond sought to impose real property taxes (both prospectively and retroactively) on two properties that SunTrust Bank, a tax paying entity, and Richmond Redevelopment and Housing Authority (“RRHA”), a tax exempt entity, owned as tenants-in-common. As a tax exempt entity, RHHA did not pay real property taxes on its interests in the properties. Agreements between SunTrust and RHHA allowed SunTrust to use the entirety of the properties without paying rent to RHHA for use of its undivided interests in the properties. The City contended that it had the authority to tax SunTrust for RHHA’s ownership interest because:

i. pursuant to the operating agreements, SunTrust had the exclusive right to use and possess the properties as if it were the fee simple owner;

ii. SunTrust did not use the properties for a "public purpose”; and

iii. leasehold interests exempt from taxation of the owner are assessed to the lessee and the practical effect of the agreements between SunTrust and RRHA was to create a leasehold interest in RHHA’s undivided property interest.

The court held, however, that, as a tenant in common, SunTrust has the right to use and possess the properties without any agreement with RRHA; no Virginia law imposes a “public purpose” requirement to maintain RHHA’s exempt status; and the arrangement between SunTrust and RHHA do not constitute a leasehold because the parties are tenants-in-common. Consequently, the City’s arguments did not prevail. Throughout its opinion, the court indicated that holding title to the properties as tenants-in-common, rather than as joint venturers, was a significant factor in its decision.

Maryland House and Senate Approve Recordation Tax on Indemnity Deeds of Trust (IDOTs).

Aaron Rosenfeld — Tue, 03 Apr 2012 10:27:08 -0500

The Maryland State Senate and House of Delegates have approved the 2012 budget bill that included provisions that require the application of the state recordation tax at the time of recording on all indemnity deeds of trust (and indemnity mortgages) (IDOTs) securing the guaranty to repay loans of $1 million or more. The budget is now with a conference committee that will propose revisions to resolve the differences between the House and Senate versions, which may allow for additional changes to the bill. Assuming that the current language is included in the final budget bill, the new tax on IDOTs shall apply starting on July 1, 2012. We will keep you posted on further developments.

Register Today For Kelley Drye's State of the Real Estate Market Seminar

Joseph B. Hoffman — Mon, 02 Apr 2012 15:22:56 -0500

Please join Kelley Drye & Warren LLP on April 24th for our upcoming seminar "State of the Real Estate Market: A Conversation with Ethan Penner." The seminar will feature a discussion of the current state of the commercial mortgage market and anticipated trends in 2012. Ethan Penner of CBRE Capital Partners and Cliff Mendelson of Metropolis Capital Finance will share their expert market commentary of the national and local real estate market. Click here to register for the seminar.

Featuring Ethan Penner, President and founder of CBRE Capital Partners, which is CBRE's global real estate finance platform. Mr. Penner was the founder of Capital Company of America, formerly known as Nomura Asset Capital Corporation. Mr. Penner is a renowned expert in the fields of finance and real estate, and considered by many to have pioneered the application of securitization to real estate finance.

Cliff Mendelson will lead a conversation with Mr. Penner about the status of today's capital markets in the real estate industry, and industry trends to expect through the balance of 2012. Mr. Mendelson, a principal of Metropolis Capital Finance, specializes in funding unique debt and equity capital for commercial real estate projects. Prior to Metropolis Capital, Mr. Mendelson was the head of the Structured Finance Group at Transwestern.

When:

April 24, 2012
8:00 AM -10:30 AM
Registration begins at 7:30 AM, Breakfast will be served.

Location:

Hyatt Regency Bethesda
One Bethesda Metro Center
Bethesda, MD 20814

RSVP:

Email dcevents@kelleydrye.com or contact Cassidy Russell at 202.342.8400

This seminar is free of charge, but space is limited.

Reserve your place today!

U.S. Tax Court Reviews Apartment Cost Segregation Analysis Mostly To Taxpayers's Chagrin

Allan Weiner — Mon, 19 Mar 2012 14:50:14 -0500

In a lengthy decision (Amerisouth XXXII, Ltd., et al. v. Commissioner, Tax Court Memo 2012- 67), the United States Tax Court decided yesterday that a taxpayer’s cost segregation analysis was, for the most part, ineffective to establish differing components for depreciation purposes. The taxpayer purchased a large apartment complex in 2003. Soon thereafter, the taxpayer engaged an independent firm to prepare a cost segregation analysis of the complex. As a result the taxpayer allocated its total cost of the complex to a number of differing components with different depreciable lives ranging from 5 years to 27.5 years. On examination, the IRS asserted that the complex qualified only for 27.5 year depreciation. The court describes the matter this way:

The Commissioner argues that with minor exceptions the apartment complex is one asset that AmeriSouth must depreciate over 27.5 years. AmeriSouth argues that, whatever the apartment complex may look like to an untrained observer, to a tax adept it is not a single asset but a collection of more than 1,000 components depreciable over much shorter periods.

The court then carefully analyzes the cost segregation report along with the applicable tax laws. In sum, the court held that the taxpayer’s allocation of costs for the part was ineffective. In particular, the court determined that the starting point is not a barebones building structure with additional separate components. Rather, the determination focuses on whether the items are structural components of the building. With that, the court held that the water-distribution system, sanitary sewer system, gas lines, most electrical systems and equipment, HVAC and plumbing (including the kitchen sinks) are structural components subject to 27.5 year depreciation.

While the taxpayer for some unknown reason chose not to press its case through counsel or post-trial briefs, the court nonetheless reached a decision rather than simply dismissing the case. With this win, it seems likely that cost segregation (like its predecessor component depreciation) will become a focus for IRS auditors examining real property owners.

The case may be found here.

Virginia Supreme Court Holds Private Cause of Action Permitted Under State Consumer Real Estate Settlement Protection Act

Elizabeth Johnson — Mon, 05 Mar 2012 16:40:46 -0500

Last week, in First American Title Insurance Co. v. Western Surety Co., the Virginia Supreme Court ruled that a title insurance company, First American Title Insurance Co., could maintain a private cause of action based in common law against its surety company, Western Surety Co., for Western’s breach of a surety bond required under the Virginia Consumer Real Estate Settlement Protection Act (“CRESPA”), Va. Code Ann. § 55-525.16, et seq.

The Virginia Supreme Court first held that CRESPA did not afford First American a private right of action to bring suit under the statute itself. However, the Court noted that CRESPA did not expressly abrogate a common law cause of action for parties injured by a breach of a required bond. As a consequence, the Court held that in Virginia, a statutory bond that expands liability from the statute requiring the bond, like CRESPA here, was still enforceable as a “common law voluntary obligation.”

In this case, the CRESPA-required surety bond issued by Western to First American specifically provided that “any aggrieved person may maintain an action in its own name against this bond.” Based on this language, the Court held that a party could maintain a common law cause of action for breach of contract under the surety bond. The Court went on to find that while First American had no standing to sue under the surety bond in its own right, it could stand in the shoes of the bank that had been insured by First American, and that, as a party to the real estate transaction in question was protected by the bond required by CRESPA. Once First American paid off the claim by the bank under the title insurance policy – which claim was apparently based on the negligence of First American’s title agent in the course of the real estate settlement – First American became the subrogee of the bank with entitlement to sue Western and recover under the surety bond.

First American Title Insurance Co. is an important decision for title insurance companies seeking recovery from their surety company. Title insurance companies should be aware that, depending on the terms of their own title insurance (e.g., whether they have subrogation rights to the claims of their insureds) and the terms of their surety bonds (e.g., whether such bonds provide for a private right of action), they may be able to pursue a breach of contract claim on a CRESPA-required bond.

Maryland Budget Proposes to Eliminate Deferred Recordation Taxes on IDOTs in Excess of $1 Million

Aaron Rosenfeld — Mon, 05 Mar 2012 13:38:03 -0500

Buried within the Governor of Maryland’s budget is a proposal that eliminates the ability of a grantor, as guarantor of a loan, to defer payment of Maryland mortgage recordation taxes on an indemnity deed of trust (“IDOT”) until such time when the loan liability becomes directly payable by the grantor. Currently, based on a Maryland attorney general’s opinion, the grantor does not pay recordation tax at the time the IDOT is recorded because it only secures a contingent liability as the grantor, as guarantor of the loan, is not primarily obligated to pay the debt secured by the IDOT. In the past, various standalone bills that attempt to impose recordation taxes on IDOTs at the time of recordation have failed to pass; however, this is the first bill to be included in the Governor's budget. The current bill ties the IDOT provision directly to funding of teacher pensions. If enacted, the costs to most commercial borrowers in Maryland are expected to increase significantly because all new IDOTs in excess of $1 million would be subject to mortgage recordation tax. If the bill passes, the change would take effect on July 1, 2012.

Largest Maryland Trade Mission to India Coincides with Liberalization of Indian Securities Laws

Rebecca Tzou — Tue, 31 Jan 2012 12:19:26 -0500

Maryland is working hard to actively develop new business and investments in India. Late last year, more than 100 state officials and business leaders, accompanied by Maryland Governor Martin O’Malley, traveled to India for six days to foster new commercial relationships. This, the largest Maryland trade mission to India and the only one headed by a sitting Maryland governor, was primarily self-funded by the participants. O’Malley cites upwards of ten Maryland businesses that signed term sheets or actually entered into joint ventures with India business partners during the trade mission for a touted $60 million in investments to date. The business deals signed ranged from consulting and engineering transactions to biotech and pharmaceuticals and should aid in continuing to fuel increased trade to and from India evident in the Port of Baltimore trade statistics, registering a 49% increase in India trade from 2010. This Maryland initiative comes at an opportune moment in India’s business development as India’s Securities and Exchange Board recently liberalized the Indian securities market regulations to permit certain investors meeting specified requirements (“Qualified Foreign Investors” or “QFIs”) to directly invest in India public companies. While there are still protocols to follow, an individual QFI can now hold up to 5% of the share equity in an Indian company and can sell such shares and receive bonus shares and dividends. For further details on this developing opportunity, see a Client Advisory Note from our affliate Mumbai office, "Qualified Foreign Investors Can Now Invest Directly in Public Companies." Maryland has opened a trade office in India to support its states’ entrepreneurs in utilizing the momentum instigated by the recent trade mission and expects the positive outcome from the mission to continue to develop, aided by the facilitating changes in the Indian equity markets. Kelley Drye & Warren welcomes the opportunity to partner with Maryland business owners to expand their reach into India, take advantage of the more permissive Indian securities regulations and offer our firm’s already well-established ties to India and our colleagues resident there.