New Rules Aim to Curb Excessive Closing Costs

New York Law Journal

By Adam Leitman Bailey and Dov Treiman

December 09, 2009

After extensive study, the federal Department of Housing and Urban Development has issued new rules under the Real Estate Settlement Procedures Act (RESPA), 12 U.S.C 2601-2617, of 1996. The regulations represent a victory for borrowers since they will impose on lenders and their allies more pricing and product accountability.1

Purpose and Goals

Applying to federally-related mortgage loans, and not private investor and commercial transactions,2 the amended law required HUD to develop and prescribe rules and standard forms governing the purchase of real estate.

Although the new regulations only apply to federally related first and second mortgage loans on private housing on and after Jan. 1, 2010, many lenders have been utilizing the new forms since this past summer and even transactions exempt from the law have adhered to its requirements.

The law, combined with its rules and regulations, seek to:

• Require greater disclosure of loan terms and closing fees;

• Encourage consumers to do comparison shopping for loans and closing cost vendors;

• Cause transparency and real competition to drive loan and closing costs down;

• Protect consumers from unnecessarily high closing costs; and

• Provide a balanced and competitive market for all closing cost vendors. 3

Achieving These Goals

Under the new regulations, borrowers will, shortly after the application's completion, better understand the loan product being offered as well as the real cost of a loan and relevant closing fees. The chief tools the law uses to achieve its goals are the mandatory Good Faith Estimate (GFE) and HUD-1 Closing Statement forms.

GFEs and HUD-1s already existed, although they bore almost no resemblance to the new forms. Yesterday's toothless, incomprehensible and relatively useless GFE has been replaced with this three-page compressive GRE form—one adopted by HUD only after the kinds of market studies one would normally expect from a major corporation looking to launch a new product line.

By means of the lender's completion of the new GFE form, the consumer can now accurately understand the loan product offered and make an easy comparison to other loan products offered by competing lenders. The new GFE includes the loan amount, term, the interest rate, terms under which the loan's interest rate may increase, payment penalties, and balloon payments.

While the GFE must set forth the fees of the lender's attorney, it is not required that it set forth any expenses the borrower has that have essentially nothing to do with the lender such as, for example, the borrower's privately retained counsel.

Similarly, the GFE may include a suggested title company, but if the borrower chooses to independently select a title company, the fees involved are outside of the RESPA restrictions.

The new GFE requires all fees that will be charged at the closing to be listed at the time the lender issues the good faith estimate. Naturally, interest rates may change depending on promises in the GFE.

The new HUD-1 form at the closing is designed to display any discrepancies between the promised closing costs and the real ones—but with limited exceptions. This form should ensure that key final terms of the loan are disclosed to the borrower at closings. Via itemization, borrowers will now know who got how much money at closing, including the lender and each vendor.

An Abuse Unmasked

While the changes to RESPA are undeniably sweeping, an examination of a reported case under the old rules highlights the kind of problems the new regulations were designed to be better at preventing. In Cohen v. JPMorgan Chase,4 the Plaintiff brought a class action in Federal Court over an ostensible $225 "Post Closing Fee."

The suit demonstrated that the consumer was being charged only in New York and Connecticut, a now obsolete fee, for the expenses the bank would have if, as, and when the bank would want to sell the note. The court, finding issues of fact, denied summary judgment but strongly indicated that the fee was for a service of no benefit whatsoever to the consumer and that upon the resolution of the facts, the court would disallow it.5

The new GFE would, however, have revealed that this fee was going to be charged and that it saw no analog in the fees charged by other banks, making it far less likely to occur.

The New GFE

HUD requires lenders to issue the GFE by mail, e-mail, fax or other high speed method within three days of receiving the applicant's name, monthly income, social security number, property address and an estimate of the property's value. No GFE becomes necessary when a loan is denied before the third business day after the receipt of an application. All GFEs automatically expire within 10 days, when the loan commitment expires, or upon the passing of another date given by the lender. The most notable exception to this timing rule applies to newly constructed properties, where the GFE may change any time until 60 days before closing, provided there is a disclosure in the GFE warning that there may be a revised GFE in that period.

The Price Guarantee

Once issuing the GFE, the lender must guarantee to the borrower the accuracy of the amounts listed for transfer taxes and for the costs of the loan, including origination fees, points and the charge for the specific interest rates selected. The overall sum of the amounts listed for the purchaser's and lender's title insurance and services and governmental recording charges can only increase 10 percent at closing when the borrower uses companies recommended by the lender. When the borrower chooses a title company not recommended by the lender, there is no limitation to an increase in fees. Other fees without price increase restrictions include the cost of homeowner's insurance, the daily interest charges, and sums deposited for the escrow account.

Amending the GFE

Despite these rigid restrictions, the regulations under the name of "changed circumstances" provide ways the lender can amend or deviate from the GFE. A GFE may be amended upon changed circumstances which include:

• A change in the loan as a result of an act of God, war, disaster or other emergency;

• When the borrower provides inaccurate information relied upon by lender;

• When new information surfaces that had not been relied upon when the lender completed the GFE; or

• Other information learned, such as a boundary disputes, the need for flood insurance or environmental problems that impact the loan.

When a "changed circumstance" occurs, the lender must issue a new GFE within three business days of receiving the new information and this information must be retained for three years. Lenders may only change those parts pertaining to the specific changed circumstance causing the amended GFE.

One common changed circumstance occurs when on the eve of closing the borrower announces the need to attend the closing through an attorney in fact. Formerly, the lender's attorney's fee for drafting a power of attorney would simply be added to the HUD-1 as an additional fee that arose after the original GFE. However, under the new RESPA regulations, the lender must issue an amended GFE.

Newly Constructed Properties

Construction loans may or may not be covered by RESPA. If they are for two years or more, they are covered. If they are bridge loans or swing loans, they are not. Temporary financing is not covered by RESPA, but if it is to be converted to permanent financing, it is.

The HUD-1's New Purpose

Because of its linkage to the GFE, the HUD-1 will no longer be a document merely to be filled out at closing, signed and filed in the closing file. The new HUD-1 totals the cost of the loan and compares it to the requirements of the GFE, allowing for the notice of any discrepancy between the GFE and the HUD-1.

However, there is some degree of flexibility in the GFE/HUD-1. To allow lenders some flexibility when obtaining pricing from third party vendors, lenders may use so-called "average charges" for closing services.

Use of Average Charge

The amount stated on the HUD-1 for any itemized service cannot exceed the amount actually received by the settlement service provider for that itemized item unless the charge is an "average charge."

Average charges are amounts paid for a closing service provider to another on behalf of borrowers and sellers for a particular class of transactions involving federally related mortgage loans and can include things like credit reports, flood certifications, appraisals, title searches and third party attorneys. Per page recording fees also allow for average charge calculations.

Flattening Fees

The new regulations' goal of flattening fees finds expression through an effective plan to stop unsubstantiated and numerous extra fees padded to and increasing the closing bill. By abolishing the itemization of excess charges such as overnight couriers, preparation fee, closing fee, mailings and administrative and processing fees and by lumping them into the total lender and title insurance bills, the GFE/HUD-1 ensures that the borrower will not have any unexpected fees at closing.

This is especially true with regard to the fees charged by title companies. While title fees generally come within the 10 percent permissible flex, that flex includes title companies along with other charges like appraisals, credit reports, surveys, and pest inspections. They must therefore be shared so that the total of the increases in all these items lumped together is less than 10 percent above the GFE amount. If the overall flex is over 10 percent, the lender has to absorb it. By being grouped with the overall flex with the bank having to absorb new fees that arise at closing, the title company will have to choose between foregoing these charges or biting the hand of the bank that recommended it. If any one of these kinds of services subject to the group flex of 10 percent needs to go over the 10 percent, it can ask the lender to issue an amended GFE.

To avoid the 10 percent tolerance cap, any new fees arising from changes in circumstances will now require amending the GFE. However, this requires a genuine change in circumstances and not merely a late decision to charge more money.

However, for third-party vendors like title companies, simply issuing a new GFE is not their decision to make. If they prefer that the lender not have to absorb any new charges, they will have to either:

• Get better at predicting what services they need to perform and what to charge for them;

• Write the additional charges into the initial estimate as part of the entire package, at the risk of appearing uncompetitive; or

• Be prepared to sustain losses in those cases where the services they actually perform exceed the 10 percent flex.

Thus, to a certain extent, the title companies are being punished by being placed in the position of having their fees controlled without their expenses being similarly controlled. This may well require a general upward shift of their fee structure throughout the industry.

Under RESPA, only a foolhardy lawyer would simply accept the lender's figures without putting the HUD-1 side by side with the GFE and going line by line, making sure that the numbers are matching. While that kind of task can be delegated to a paralegal, it is the attorney's responsibility to make sure it's right.

Complex Loan Structures

The modern economy is not limited to straightforward deals. While these simple transactions are still common enough across the nation, so too are more complex mortgage structures involving first and second mortgages, assignments, subordination agreements, and other variations on the ancient themes. RESPA's new regulation of this, however, is relatively simple. If there is a new loan from a new federally related lender, there must be a GFE and HUD-1 for each such loan in the deal. If the loan is merely changing hands, there need be only one set of GFE and HUD-1, but the HUD-1 must clearly describe who the players are and what other players were in the deal.

Penalties

RESPA is not generally intended to create a new area of business for litigators. It sets up private causes of action and is also intended to be enforced by the federal and state agencies. Authorized private causes of action under RESPA entitle a successful plaintiff to attorneys' fees. However, the amounts involved may be so small that the borrower may go to small claims court.

The regulations deem certain activities to be violations of the statute. These include failure to follow any of the requirements that we have set forth earlier. Both the regulations and the statute are somewhat vague about what can happen to mortgage brokers and lenders who fail to abide by RESPA's requirements. However, remedies the federal agencies can impose include disqualification from conducting the lending business.

If upon examination of a HUD-1, it appears that there was an overcharge, it is up to the lender to make good on that within 30 days. It seems clear that violations would be so clear that any solvent lender would take advantage of the opportunity to cure harmlessly within the allotted thirty days. If the lender fails to do so, treble damages can be imposed and collected in a private cause of action, but the plaintiff can also file a complaint with HUD and seek administrative remedies against the lender and/or mortgage broker.6

If there is a kickback scheme, it can result in a year's incarceration and/or a $10,000 fine. This statutory authority for prosecuting kickbacks as a crime has actually been on the books for quite a few years now.

RESPA also authorized injunctive actions by the HUD and the states' attorneys general.7

Discounts

The new RESPA regulations are very strict on the subject of discounts. While generally speaking, a lender can offer a discount, that is not true when it comes to new construction. At the heart of RESPA is the concept of genuineness. Therefore, in its layout of the new regulations, HUD wanted to make sure that smoke and mirrors vanished from these transactions. Therefore, the regulations are so structured that a lender that is claiming to give a discount cannot create an offsetting fee somewhere else so as to make the discount entirely illusory.

Where the GFE claims that a particular service as set forth on the GFE represents a discount when provided by a particular vendor, the regulations specify, "The discount must be a true discount below the prices that are otherwise generally available, and must not be made up by higher costs elsewhere in the settlement process." The use of such discounts to induce borrowers to use particular services is not forbidden by the RESPA regulations. What is forbidden is that the service provider kicks back to the lender anything more than the lender's equity interest in the service provider if, in fact, there is an ownership interest of the provider by the lender.

There is no requirement that the GFE sets forth any particular number of recommended vendors. However, it must set forth what if any relationship it has with the vendors it recommends and to what extent it has in the recent past recommended those vendors. The old rules had no requirement for any such disclosure.

Obviously, the consumer is overwhelmingly more likely to select the vendor indicated on the GFE, at least because the GFE provides a form of cap on how much that vendor will finally be able to charge.

Of course, the consumer is encouraged to look at the bottom line of the GFE to figure out what the bottom line of the loan expense is to be. Whatever legerdemain there may be in arriving at the figures, under the new RESPA regulations, the total loan cost shows up loud and clear.

Brokers' Complaints

Under the newly revised GFE, mortgage brokers who have no affiliation with the actual lender must set forth in the form and in the HUD-1 just what their profit is on the deal, known in the industry as the "yield spread premium" or "YSP." However, the in-house brokers employed by the lenders have to make no such disclosure. This is seen, correctly enough, as lopsided by the brokers. However, HUD conducted numerous market studies to determine how real life consumers would treat the various proposed forms of GFE. According to those studies, as reported in National Association of Mortgage Brokers Inc. v. Donovan,8 in some 80 percent of cases, consumers using the new GFE were able to realize that when it comes to comparison shopping, the bottom line is the bottom line and the figures on the way to getting there, while informative, are not determinative of how big a check one has to write. So even though the brokers had to separately disclose their profit, if they were cheaper than a brokerless transaction, the consumer selected them.

Those studies notwithstanding, the brokers remain unconvinced and in all fairness to their position, the consumers only had an 80 percent accuracy rate in spotting the bargain, not the 100 percent the brokers would want.

Conclusion

While the new RESPA regulations are not being greeted by cheering crowds, least of all by mortgage brokers, on the whole, it looks like HUD got this thing right. They put much into studying how consumers would react to the new forms and rules in the real world and it appears that the work was well worth the effort. For some, it will take some work to get accustomed to the new honesty, but rather like for controls on the securities industry, it had become long obvious that it was not a good idea to simply leave people to their own devices.

Adam Leitman Bailey is the founding partner and Dov Tremain a partner of Adam Leitman Bailey, P.C. Law student Jesse Cohn assisted in the research and preparation of this article.

Endnotes:

1. HUD News Release, 11/12/2008.

2. We refer the reader to 24 CFR 3500 for all the specifics of the new regulations to which we allude.

3. HUD News Release, 11/12/08.

4. 608 F.Supp.2d 330 (EDNY 2009).

5. Cohen v. JPMorgan Chase & Co. et ano, 608 F.Supp.2d 330 (EDNY 2009).

6. HUD website section: "More on RESPA." http://www.hud.gov/offices/hsg/ramh/res/respamor.cfm.

7. 12 U.S.C. 2607(d)(4).

8. 2009 WL 2259085 (D.D.C. 2009).

Census: Small US cities lose luster in downturn

Associated Press Financial Wire

November 16, 2009

BY HOPE YEN and FRANK BASS, Associated Press Writers

America's small cities are losing some of their traditional appeal to upwardly mobile families seeking wholesome neighborhoods, a stable economy and affordable living.

A review of newly released census data shows, for example, that cities of between 20,000 and 50,000 residents have lagged behind their larger counterparts in attracting higher-educated residents in this decade.

In 2000, small cities, which include remote towns and the distant suburbs known as "exurbs," ranked at the top in the share of people with college diplomas. They slipped to No. 2 last year with 30 percent holding degrees in between medium-sized cities, which had 31 percent, and big cities, at 29.8 percent.

Poverty is growing in the small cities, fueled partly by population growth, although average median income of $60,294 in those communities is still higher than other places.

Small cities looking more and more like bigger cities over the decade ranged from places like Hobart, Ind., and Mount Pleasant, Mich., to Anniston, Ala., and Greenville, Miss. Compared with previous years, they had smaller incomes, higher housing costs, longer commutes, more poverty and more single-parent families.

Demographers attributed some of the shifts to the housing downturn and a spike in gasoline prices, which has hit residents in the far-flung exurbs harder. Many families in smaller towns also are looking for jobs in larger cities because of the current recession and are rethinking the wisdom of a lengthy commute to work.

Some small cities may have become victims of their own success. As their local economies boomed mid-decade, many places grew rapidly and attracted lower-income residents needed to build roads, schools and other public works projects. Some of these areas have shot up in size and are now medium-sized communities.

"Small towns have a certain appeal to people, and their quality of life there is backed up by the data," said Mark Mather, associate vice president of the nonprofit Population Reference Bureau. "But as more people move in, small towns start to lose the qualities that attracted people there in the first place."

The shifts are notable in the ranks of the educated.

According to census data, smaller cities in California, Texas, Florida, Michigan and New York had declines in the share of residents with bachelor's degrees, ranking among the lowest in the nation. They included Bell, Calif.; San Benito, Texas; Jasmine Estates, Fla.; Hamtramck, Mich.; and Newburgh, N.Y.

North Potomac, Md., posted some of the highest shares of college graduates in the nation. Still, its share fell in the last decade, from 75 percent in 2000 to 70 percent. Other highly educated towns that saw brain drains were East Lansing, Mich., North Druid Hills, Ga., and Greenbelt, Md.

The findings come as President Barack Obama has pledged to upgrade mass transit and other urban priorities in inner cities and their close-in suburbs. That could create additional shifts in residential patterns to larger-populated areas, especially for younger couples and small families who more readily move.

The AP review found both extreme poverty and wealth in smaller-sized cities.

For example:

Poverty has risen in small cities, from 10.8 percent in 2000 to 12 percent. In big cities, poverty declined slightly, from 17.7 percent to 17.6 percent.

Homeownership costs in small cities are growing less rapidly, partly a reflection of the housing collapse in many exurbs. In 2000, big cities trailed small cities when it came to the share of residents with monthly costs of more than $1,000 56 percent to 61 percent. By 2008, 82 percent of big-city residents were paying the high costs, compared with 78 percent for small cities.

Carbondale, Ill., had the lowest median income, at $17,508, followed by small cities in New York, Louisiana, Alabama and Ohio. Darien, Conn., topped all other cities with the highest median income, at $188,823.

"There are lots of small towns and rural areas that are struggling," Mather said. "Many were struggling before the current recession, so it might take more than a dose of stimulus funds to put them on the road to recovery."

The data, from the American Community Survey, represent three-year averages covering 2006 through 2008, providing a snapshot of every community with at least 20,000 residents. Medium cities are defined as having 50,001 to 150,000 residents, and big cities have more than 150,000.

Letters Of Intent And Avoiding The Unintended

Article by Michael Szlamkowicz and Alex Radetsky

Letters of intent or memoranda of understanding are frequently used in private equity transactions to evidence the preliminary understanding of a potential transaction before the parties commit significant time and resources to the transaction. Often such documents are prepared and negotiated by deal professionals based on the precedent from the last deal or another similar deal with limited or no review by outside counsel. A recent case suggests that this approach is not without risks and that careful drafting of letters of intent and memoranda of understanding is important.

In the case of Vacold LLC v. Cerami, a decision by the United States Court of Appeals, 2nd Circuit, the court held that some preliminary agreements, such as letters of intent or memoranda of understanding, may bind the parties and require them to complete the contemplated transaction even if the parties are unable to reach agreement on definitive documents for the transaction. The court considered the language of the agreement, the context of the negotiations between the parties, and the existence of open terms in determining whether the preliminary agreement in question was binding on the parties. The court concluded that a preliminary agreement that clearly manifests the intention of the parties to be bound will obligate the parties to fully proceed with the transaction.

The court presented several factors that, if present, could result in a preliminary agreement binding the parties to complete the transaction, including:

* the failure to draft an expressed reservation of the right not to be bound in the absence of a definitive written agreement;

* the partial performance of the agreement;

* the parties reaching agreement on all of the material terms of the transaction; and

* the transaction is the type that is usually committed to a more formal and definitive agreement.

As a result, when drafting a letter of intent, memorandum of understanding or other similar preliminary agreement it is imperative for private equity sponsors to always consider that such an agreement may bind them to more than they may have intended if they are not vigilant when negotiating and drafting the documentation.

The following are tips for private equity sponsors to consider when preparing letters of intent, memoranda of understanding or other similar documents in order to mitigate the risk that they will become bound to complete a transaction when it was not the sponsor's intention to do so:

* Use unambiguous language for the title of the document. Use a title for the preliminary agreement containing words such as proposal, letter of intent or memorandum of understanding. A document entitled "letter agreement" may be interpreted as manifesting the intent of the parties to be bound. However, one should not rely alone on the title of a document to manifest the intent of the parties not to be bound by such agreement.

* Include a conspicuous disclaimer that the document is not intended to be binding. In order to strongly indicate the intention of the parties not be bound by a preliminary agreement, a conspicuous disclaimer within the document should indicate that the understandings contained therein are for discussion purposes only and do not constitute a binding agreement (except, of course, with respect to certain provisions which the parties may intend to be binding, such as exclusivity and confidentiality) but merely express a summary of current discussions with respect to the transaction and that any terms discussed in the document shall only become binding upon the negotiation and execution of definitive agreements.

* Indicate terms that remain open. Including a list or a discussion of terms that remain open strongly indicates that the parties do not intend for the preliminary agreement to be definitive or binding and that a definitive agreement is necessary in order to bind the parties to complete the transaction. It is recommended that parties include clear and unambiguous language that specifies that the parties do not intend to be bound until (a) the private equity sponsor completes the due diligence process to its satisfaction, (b) the investment committee of the private equity sponsor approves, in its sole discretion, any potential transaction and (c) the parties enter into a definitive written agreement to complete the transaction.

Letters of intent, memoranda of understanding and similar preliminary documents are important components of private equity deals. However, sponsors need to be aware of the risks that such preliminary documents may be deemed binding. There is also a risk in some jurisdictions that a court may impose a good faith duty of negotiation on the parties and require them to work together to negotiate definitive agreements for a transaction. By following the practice tips identified above and having counsel carefully review all preliminary documents, private equity sponsors can lay out the intent of the parties while still avoiding the unintended.

Huge Tax Savings Available Through Cost Segregation

Cost-Segregation Solutions

These studies can provide tax advantages even after property sales.

By Harvey Berenson

Cost segregation is an accepted Internal Revenue Service method of allocating the purchase price paid for real estate property. Generally, cost segregation enables owners to increase the depreciation deductions from their properties, providing substantial present value benefits by reducing income taxes during the initial years of ownership.

Although most cost-segregation studies are completed when the taxpayer acquires or constructs a building, the IRS allows owners to complete cost-segregation studies for buildings they have sold. This can generate significant tax savings in the year of sale — and owners do not need to amend prior tax returns.

A cost-segregation analysis breaks down construction and acquisition costs, allocating the costs to specific categories: tangible personal property, land improvements, and real property. Under the applicable tax rules, a substantial percentage of a typical building’s cost often qualifies for shorter cost recovery periods, generating tax savings from accelerated depreciation.

How Does It Work?
The following example illustrates the cost-segregation concept. An owner buys a commercial property on January 1 of year one for $10 million; $2 million is allocable to land and $8 million to the building. A cost-segregation study is not performed. The owner is entitled to $196,580 of depreciation (11.5 months under the applicable rules) in year one.

Now consider the benefits if a cost-segregation study were performed. The cost-segregation expert allocates 10 percent ($800,000) of the building’s original $8 million tax basis to five-year property depreciation and 5 percent ($400,000) to land improvements qualifying for 15-year depreciation.

The cost-segregation study effectively converts $1.2 million of the tax otherwise depreciable over 39 years into property that will be depreciated over five or 15 years. As a result, the owner deducts $347,100 of depreciation in year one, which is $150,000 in additional deductions. If the owner is in the 35 percent federal tax bracket, he saves almost $53,000 in taxes.

The owner will continue to enjoy larger depreciation deductions for the next several years.

After a Sale
An owner is never precluded from benefiting from a cost-segregation study, even if the study is done after the owner sells the property, as illustrated by the following example.

The owner sells the property on the first day of year six for $10 million. Except for depreciation and gain on sale, the owner does not have any taxable income or loss from the property. Prior to sale, costs were not segregated.

Based on a 39-year life for the building, the owner deducted a total of $1,026,600 of depreciation during the period he owned the property. The depreciation deductions reduce the basis of the property from $10 million to $8,974,400 at the time of sale.

In year six, the owner deducts $8,500 of depreciation and recognizes $1,025,600 of gain (equal to the prior depreciation deductions), which will be taxable at a maximum federal rate of 25 percent. If the owner is in a 35 percent federal tax bracket, the owner pays $253,400 in net tax in year six.

What would be the outcome if the owner commissioned a cost-segregation study for the building following the sale? Assume that, as of the date of purchase, the owner’s depreciable basis should have been allocated in the same manner as set forth above: $800,000 to five-year property, $400,000 to 15-year property, and $6,800,000 to 39-year property.

Based on the study, the owner recalculates the depreciation deductions he should have taken for years one through five, which total $1,769,100 instead of the $1,017,100 actually deducted.

In year six, the owner is entitled to a deduction of $752,000 to make up for the depreciation that he did not take in the first five-year period. This deduction offsets the owner’s ordinary income, subject to a 35 percent federal tax rate.

In addition, for the short period that the owner had the property in year six, he is entitled to depreciation of $65,900, which also reduces his ordinary income.

The owner deducts $817,900 of depreciation in year six, as compared with $8,500 before the cost-segregation analysis — without affecting the deductions he took in earlier years.

The property’s tax basis is now smaller because the owner has taken more depreciation. When the owner sells the property for $10 million, he will recognize $1,835,000 of gain because the property’s tax basis has been reduced to $8,165,000.

The federal tax on the owner’s gain is a more-complex calculation than in the simple case where his only depreciable asset was a 39-year property. Under the tax rules, any gain (up to the amount of the owner’s prior depreciation deductions) on the five-year property or the 15-year property will be subject to a 35 percent tax rate. At the same time, it may be possible to convert a portion of the gain, which otherwise is subject to a 25 percent tax rate, into gain treated as long-term capital gain that is subject to a 15 percent federal tax rate. The owner’s tax cost from the sale of the property thus depends on the relative value of the various components of the building.

Assume that the owner determines at the time of sale that the value of the five-year property is $200,000 (25 percent of original cost) and the value of the land improvements is $270,000 (two-thirds of original cost). In this case, $233,100 of gain will be taxable at 35 percent, but $730,100 of gain will be taxable at 15 percent; the balance of $871,800 will be taxable at 25 percent. Because not all of the additional depreciation deductions resulting from the property’s reclassification as a five-year property or 15-year property are recaptured on sale, this excess amount ($730,000) is taxed at 15 percent even though the owner received a 35 percent tax benefit from the prior depreciation deductions.

Substantial Tax Savings
The owner’s net tax bill in year six is reduced from $253,400 to $122,650, a savings of more than $130,000. (See chart "Cost-Segregation Tax Savings" below.)

As the values allocated to the five-year and 15-year property decrease, the owner’s tax savings increase. For example, if the five-year and 15-year properties are sold for their tax book value, the federal tax on the gain decreases from $408,950 to $362,500, and the owner saves more than $168,000 in 2009 federal tax liability by undertaking the cost-segregation study. The owner does not amend his earlier tax returns. He is simply required to include the required information in his year six tax return.

Cost-Segregation Tax Savings

Year of sale, No cost segregation study, Tax benefit (liability), Cost-segregation Study, Tax benefit (liability),

Depreciation deductions ($8,500), $3,000, ($817,900), $286,300,

Gain on sale $1,025,600, ($256,400), $1,835,000, ($408,950)

Total tax: ($253,400), ($122,650)

New Provision Offers Relief To Troubled Debtor Taxpayers

By Ezra Dyckman and Lana Kalickstein
New York Law Journal
October 28, 2009

In today's economic climate, an increasing number of taxpayers are struggling to repay loans, and seek concessions from their lenders. These concessions often involve a reduction in the principal balance of a debt, which typically generates taxable income from the discharge of indebtedness ("COD income"). With the aid of ameliorating tax code provisions, taxpayers have been able to avoid the recognition of COD income in certain cases. Now, thanks to a new Internal Revenue Code provision added by Congress, taxpayers can elect to defer certain COD income.

Internal Revenue Code Section 108(i), added by Congress earlier this year, provides welcome relief for many taxpayers, allowing the deferral of COD income generated in 2009 or 2010 in connection with certain debt transactions. For a taxpayer who takes advantage of this provision, COD income will not be included in gross income until 2014, and even then, included only ratably over a five-year period. Revenue Procedure 2009-37, issued by Treasury this past August, contains helpful guidance, clarifying some issues left open by section 108(i), and providing the election procedures.

Background

If a lender cancels all or a portion of a borrower's indebtedness, the borrower generally will have taxable income equal to the amount of the discharge. Section 108 provides various exceptions (i.e., bankruptcy, insolvency) to the general rule that COD income must be included in gross income in the year of the discharge. Generally the price of this exclusion is a reduction in basis or other tax attributes of the taxpayer.

Section 108(i), added by Congress as part of the American Recovery and Reinvestment Act of 2009, provides a new election under which a taxpayer can defer COD income. Under this provision, a taxpayer who has COD income generated in 2009 or 2010 from the "reacquisition of an applicable debt instrument" can elect to defer such income until 2014, and then recognize such COD income ratably over the five-year period beginning in 2014.

Under the statute, an "applicable" debt instrument is defined as a debt instrument issued by either (1) a C corporation, or (2) any other person (including a partnership) "in connection with the conduct of a trade or business by such person." The "reacquisition" of such a debt instrument is defined as an "acquisition" of the debt by either the debtor which issued the debt (or is otherwise the obligor under the debt), or a person related to the debtor. "Acquisition" of the debt includes: (1) acquiring the debt for cash or property, (2) exchanging equity for the debt, (3) exchanging new debt for the debt, (4) debt contributed to capital, or (5) complete forgiveness of the debt by the holder.

Rules for Partnerships

In the case of partnerships and S corporations, section 108(i) requires that the election to defer COD income be made at the entity level. This initially caused a great deal of concern, as partners in a partnership often have conflicting interests regarding whether to defer COD income or apply a different exclusion under section 108. Luckily, Revenue Procedure 2009-37 resolves this problem favorably by giving a taxpayer the ability to make a "partial" election. Under the Revenue Procedure, a taxpayer can elect to defer all, part, or none of its eligible COD income. In the case of a partnership, the partnership must first allocate to each partner its distributive share of COD income under the partnership agreement. The partnership can then decide, on a partner-by-partner basis, how much, if any, of each partner's distributive share of COD income will be deferred under the partnership's election. Although section 108(i) states that no other exceptions under section 108 (i.e., bankruptcy, insolvency) are applicable for COD income deferred under the election, the Revenue Procedure clarifies that a taxpayer can apply another section 108 exception to any COD income that is not deferred and would otherwise be included in income. Thus each partner can effectively decide whether it will (1) defer its share of COD income, (2) take advantage of a different exclusion, or (3) recognize COD income in the current year (and perhaps apply expiring net operating losses). For example, in the case of a partnership with one partner who is an individual and another partner who is a C corporation, the individual may prefer to reduce his basis in depreciable property under the "qualified real property business indebtedness" exclusion (section 108(a)(1)(D)), while the C corporation, to which such exclusion is not available, may prefer to defer its share of COD income.

There is more good news for partnerships. Generally, when a partner's share of partnership liabilities is reduced, there is a decrease in the partner's basis in his partnership interest, which could result in the recognition of gain. However, section 108(i) provides a helpful exception to this rule. In the case of a partnership that has made an election under section 108(i) and has chosen to defer a particular partner's share of COD income, the decrease in such partner's share of partnership liabilities will not be taken into account at the time of the discharge, to the extent it would cause the partner to recognize gain. The deferred decrease in the partner's share of liabilities must be taken into account by the partner at the same time as the related deferred COD income is ultimately included in such partner'sincome. As a result, at the time a partner takes into account any decrease in its liability share due to a debt discharge, the partner will generally have enough basis to absorb the decrease in basis resulting from the deemed distribution.

Acceleration Events

Although deferred COD income, which is treated as ordinary income, generally will not be included in an electing taxpayer's gross income until 2014, certain events will trigger earlier inclusion. Under section 108(i), all deferred COD income of a taxpayer is accelerated at the time of: (1) the death of the taxpayer, (2) liquidation or sale of substantially all the assets of the taxpayer, (3) cessation of business by the taxpayer, or (4) in the case of a partnership or S corporation, the sale, exchange or redemption by a partner or shareholder of its interest in the partnership or S corporation. For those taxpayers considering an election, it is important to evaluate any potential acceleration transactions that might occur in the foreseeable future.

Election Procedures

Revenue Procedure 2009-37 specifies the procedures for making the section 108(i) election. An election statement must be filed by the taxpayer and attached to the tax return for the year the COD income is generated, and must include certain details abut the COD income reacquisition transaction. The Revenue Procedure grants an automatic one-year extension to this deadline. There are also annual filings required by the taxpayer for each year beginning the year following the deferral, through the year all deferred COD income is recognized. Partnerships and S corporations have additional filing and record keeping requirements, including attaching certain statements to K-1's issued to their owners.

Additional Guidance Needed

Section 108(i) provides relief to troubled debtor taxpayers and favorable rules for partnerships. Unfortunately, even with the release of Revenue Procedure 2009-37, some of the crucial terms found in section 108(i) remain undefined, making it difficult for some taxpayers to determine whether they qualify for the election and which actions will trigger acceleration. For example, there is no definition provided for the term "issued in connection with the conduct of a trade or business." If a partnership engaged in a trade or business issues debt in order to make distributions to its partners, is that debt considered to be "issued in connection with a trade or business?" Will a partnership's trade or business be imputed to one of its partners in the case where the partner borrows money in order to buy a partnership interest or make a contribution to the partnership?

Similarly, certain acceleration events, such as "sale of substantially all of the assets of the taxpayer" and "cessation of business by the taxpayer" need clarification. For example: a taxpayer in the real estate business has made an election to defer COD income. One year later the taxpayer sells a large portion of its real estate portfolio and immediately purchases a new real estate portfolio, continuing to operate a real estate business. Has there been a "sale of substantially all the assets of the taxpayer" or a "cessation of business by the taxpayer?" Should there be an exception in this case to prevent acceleration? The current guidance leaves these and other related issues unresolved.

We hope that further guidance from Treasury will be forthcoming to aid the growing number of troubled borrowers wishing to take advantage of section 108(i).

Judges Reject Residency Rule In Determining SEQRA Standing

By Joel Stashenko
New York Law Journal
October 28, 2009

ALBANY - Standing to challenge the environmental impact of a proposed development need not be confined to residents or neighbors of the area where the project would be located but can be extended to any avid users of the affected property, the Court of Appeals suggested yesterday.

The proper course, the Court determined in Matter of Save the Pine Bush, Inc. v. Common Council of the City of Albany, 134, is to make plaintiffs prove standing by showing they have an interest that is greater than the general public's at large in using and enjoying the resource at risk.

The Court of Appeals decision appears on page 25 of the print edition of today's Law Journal.

"Striking the right balance in these cases will often be difficult, but we believe that our rule—requiring a demonstration that a plaintiff's use of a resource is more than that of the general public—will accomplish that task better than the alternatives," Judge Robert S. Smith wrote for the Court.

The judges observed that they were neither seeking to erect barriers to standing that were so "insuperable" that virtually no one could challenge a project under the State Environmental Quality Review Act (SEQRA) nor so elastic that the act could be used to cause "interminable" delays.

The judges ruled in a case involving the proposed construction of a 124-unit hotel on 3.6 acres of commercially zoned property in Albany County. The property is near, but not in, the Pine Bush reserve, a unique wildlife habitat containing the largest remaining pine barrens on inland sand dunes in the United States.

While granting standing to project opponents, the Court ruled that the city of Albany had met its obligations under SEQRA.

The case has been watched carefully by environmentalists and government regulators, especially for how the Court would interpret a major precedent in SEQRA jurisprudence, Society of Plastics Industry, Inc. v. County of Suffolk, 77 NY2d 761 (1991).

Environmentalists have argued that many courts have used Society of Plastics to preclude SEQRA suits filed by plaintiffs who did not live close to the natural resources where environmental harm was being alleged.

Judge Smith stressed that the Court was not departing from Society of Plastics but that its ruling granting the Pine Bush plaintiffs standing is consistent with that 18-year-old ruling.

In Society of Plastics, the Court held that for standing purposes, a plaintiff has to show it "would suffer direct harm" and an injury that is in "some way different from that of the public at large."

"Society of Plastics does not hold, or suggest, that residence close to a challenged project is an indispensable element of standing in every environmental case," Judge Smith wrote.

The Court rejected the city of Albany's argument that the plaintiffs in the Pine Bush case had to either live in the land preserve, or next to or across the street from the protected land. The closest plaintiff in the case before the Court yesterday lives a half-mile away.

"That [residency] rule would be arbitrary, and would mean in many cases that there would be no plaintiff with standing to sue, while there might be many who suffered real injury," Judge Smith concluded.

While affirming an Appellate Division, Third Department, panel on the standing question (NYLJ, Oct. 10, 2008), the Court nevertheless dismissed the Save the Pine Bush group's challenge to the city of Albany's approval of the hotel project plans under SEQRA.

Save the Pine Bush had argued that the environmental review failed to take into account the hotel's impact on the Pine Bush reserve and on several plant and animal species in the pine barren, including the Karner Blue butterfly, the Hognosed snake, the Worm snake, the Eastern Spadefoot toad, the Frosted Elfin butterfly and the Adder's Mouth orchid.

A government agency seeking to comply with SEQRA need not "investigate every conceivable environmental problem" associated with a project, but must pass judgment on those it deems "relevant" within "reasonable limits." the Court held.

"While it is essential that public agencies comply with their duties under SEQRA, some common sense in determining the extent of those duties is essential too," Judge Smith wrote.

Echoing concerns he raised last month during oral arguments (NYLJ, Sept. 16), Judge Smith noted yesterday that scientists have described the extremely elusive nature of the Worm snake and the Eastern Spadefoot toad and how "formidable" a task it would be to gather conclusive evidence about their use of the Pine Bush habitat and the hotel's effect on them.

The final result in yesterday's case was joined by all seven judges but two issued a concurring opinion objecting to what they called a broadening of the standing rule.

'Special Harm' Contested

Judge Eugene F. Pigott Jr. and Judge Susan Phillips Read said they agreed that the Pine Bush project was properly approved under SEQRA. But they argued that the plaintiffs did not suffer "special harm" to give them standing under Society of Plastics or its progeny.

"The majority's holding, in my view, reinterprets much too broadly the special harm requirement that has been the cornerstone of our standing jurisprudence in land use cases," Judge Pigott wrote in the opinion joined by Judge Read.

The plaintiffs' claim they are injured by the loss of recreation and enjoyment in the Pine Bush case are not unique enough to give them standing, Judge Pigott held.

"The concerns of the petitioners amount to the same general concerns of the community as a whole and are not specific to the petitioners," the concurring judges agreed. "In short, because petitioners fail to specify any direct injury that is any different from that of the general public, they lack standing under our precedent."

An environmental law expert, Michael B. Gerrard of Arnold & Porter, said environmentalists and municipal planners have been waiting nearly two decades for a clarification from the Court of Appeals of the Society of Plastics ruling.

"That had been interpreted by many lower courts as strictly narrowing the right to standing in SEQRA cases," Mr. Gerrard said yesterday. "The Court of Appeals has now greatly broadened the conception of standing."

Mr. Gerrard, who was not involved in the Pine Bush litigation, said he also found "remarkable" the Court's reliance on a U.S. Supreme Court precedent in Sierra Club v. Morton, 405 US 727 (1972).

In that ruling, the Supreme Court held that a plaintiff gained standing by demonstrating injury to the "aesthetic and environmental well-being" of a resource rather than showing a generalized "interest" in the environment.

Mr. Gerrard said the Supreme Court was generous in the early 1970s about granting standing to environmental plaintiffs but has narrowed grounds for standing, especially since Justice Antonin Scalia joined the Court in 1986.

"The '72 ruling was never explicitly overturned, but the spirit of the subsequent decisions was far different," said Mr. Gerrard, who writes a column for the New York Law Journal.

Stephen F. Downs, a retired attorney from Selkirk who represented the plaintiffs pro bono, said the case was a "perfect" one from his standpoint in that no one, even in arguments before the Court of Appeals, suggested that the motivations of Save the Pine Bush or its members were financially driven and not based on preservation of the habitat.

"I am thrilled with the standing argument," Mr. Downs said yesterday. "I think it is a huge victory for standing, for getting the public involved again in these cases."

Mr. Downs said the Sierra Club provided valuable assistance in lining up amici curiae support for Save the Pine Bush's position.

Albany Corporation Counsel Jeffrey V. Jamison argued for Albany. He said he agreed with the Court that the city had taken the requisite "hard look" required under SEQRA at the environmental effects of the hotel project.

But Mr. Jamison said he was troubled by the Court's ruling on the standing question. The city has been sued nearly two dozen times by Save the Pine Bush alone for various projects in and around the reserve over the past three decades, he said, and has been worried about a broadening of Society of Plastics that could open what he called the "flood gates" of litigation by interest groups.

Mr. Jamison said it was unclear whether the North Dakota-based developer of the hotel would move forward with the project, which was first proposed in 2003.

Assistant Solicitor General Andrew B. Ayres appeared on behalf of the Department of Environmental Conservation.

The state agency, which rarely takes sides in litigation not involving the department directly, had urged in a amicus curiae brief that the Society of Plastics ruling has been interpreted too narrowly and that some plaintiffs with bona fide interests in the environment have been barred from pursuing claims on standing grounds.

Rents on Stuyvesant Complex Units Were Illegally Decontrolled

New York Law Journal

By Joel Stashenko

October 23, 2009

ALBANY - Rents on thousands of units in one of New York City's largest apartment complexes were illegally decontrolled, the Court of Appeals ruled today.

With the dissenters warning of dire legal and financial fallout from today's ruling, a four-judge majority decided that the owners of the massive Peter Cooper Village and Stuyvesant Town complexes in Manhattan were precluded from taking advantage of luxury decontrol provisions of the Rent Stabilization Law on units where owners had accepted tax incentive benefits.

The majority of the Court said in today's 4-2 per curiam ruling that a "practical" reading of the Rent Stabilization Law and of the debate in the state Legislature in 1993, when lawmakers approved extending New York City's so-called J-51 tax benefits to apartments subject to vacancy decontrol, indicates that the luxury decontrol does not apply to units on which landlords accepted tax breaks for improvements.

The ruling in Roberts v. Tishman Speyer Properties, 131, applies to about one-quarter of the 11,200 units at Peter Cooper Village and Stuyvesant Town, which comprise 110 buildings over 80 acres between 14th and 23rd streets along the East River.

A group of residents had contended that rents on the units were illegally raised past the luxury decontrol threshold once improvements were made to the apartments, with the help of taxpayer-funded programs.

Judge Susan Phillips Read, writing in a dissent joined by Judge Victoria A. Graffeo, predicted that today's ruling would spawn a long series of litigation "over many novel questions."

"In the absence of meaningful legislative action, uncertainty will reign in an industry already rocked by the bursting of the great residential real estate bubble," Judge Read wrote.

She argued that the majority of the Court today rejected a "reasonable and longstanding statutory interpretation" of the Rent Stabilization Laws and eligibility for luxury rent decontrol of units made by the state Division of Housing and Community Renewal.

Today's ruling affirmed a finding by the Appellate Division, First Department (NYLJ, March 6).

Chief Judge Jonathan Lippman did not take part in today's ruling.

Judges Ponder Constitutionality of State's Use of Eminent Domain for Atlantic Yards Project

By Joel Stashenko
New York Law Journal
October 15, 2009

ALBANY - The state's highest court yesterday confronted the issue of whether eminent domain should have been used to advance a massive private development in Brooklyn.

Philip E. Karmel, arguing for the Empire State Development Corp. on behalf of developer Bruce C. Ratner's Atlantic Yards project, told the Court of Appeals that the development would replace 22 acres of largely "substandard and unsanitary" land.

"It's extremely well-established, from many, many decades that that is an adequate constitutional basis for use of eminent domain," Mr. Karmel told the judges in Matter of Goldstein v. New York State Urban Development Corp., 178.

See the Appellants' Brief, Respondent's Brief and Appellants' Reply Brief.

Matthew D. Brinckerhoff countered for project opponents that the nearly $4 billion Atlantic Yards, whose centerpiece would be a new arena for the NBA's New Jersey Nets, does not fit the Public Use Clause of Article I, §7 of the state Constitution.

The clause, which first appeared in the Constitution in 1821, prohibits taking private property for public use without just compensation. Mr. Brinckerhoff argued that Empire State Development failed to show how the project meets the definition of "public use" that has developed in state courts since.

"Won't it provide recreation facilities for the residents of Brooklyn, athletic facilities for school children, etc.?" Judge Carmen Beauchamp Ciparick asked Mr. Brinckerhoff. "Is that part of the proposed plan? …That's a public purpose, right?"

"Right, but I don't think anybody can argue that its primary purpose is to provide facilities to community groups," Mr. Brinckerhoff replied. "It's primary purpose is to house a for-profit professional basketball organization."

Mr. Brinckerhoff argued that Empire State Development failed to properly make an accounting of the projected private benefits of the project to Mr. Ratner and his Forest City Ratner Companies and weigh those against the benefits to the public before allowing the project to go forward in 2006.

At that time, the state agency authorized the condemnation and taking of 123 parcels of privately owned land, or about 20 percent of the property in the project zone. Some landowners have since sold out to Forest City Ratner.

Though little or no work has been done on the project for months, Mr. Ratner has recently reached an agreement to have Russian billionaire Mikhail D. Prokhorov invest $200 million in the Nets, the 18,000-seat arena and in Atlantic Yards in exchange for an ownership share in all three. He faces an end-of-the-year deadline to break ground.

There was limited discussion before the Court yesterday about the U.S. Supreme Court's controversial ruling in Kelo v. City of New London, 545 U.S. 469 (2005). Kelo allowed, with what critics called an overly broad definition of "public use" under the Fifth Amendment to the U.S. Constitution, the taking of private land for a private development in Connecticut.

Judge Robert S. Smith did ask Mr. Karmel yesterday how Kelo related to Atlantic Yards.

"Are you asking us to follow Kelo and say that any public use is good enough, or do you acknowledge that you have to show blight here to justify the use of the eminent domain power?" the judge asked.

"The result in this case is the same whether you follow Kelo or you don't follow Kelo" based on the state Constitution and case law, Mr. Karmel replied.

State Precedent

Justices Susan Phillips Read and Victoria A. Graffeo both said at several points they wanted to know more about state precedents and how they relate to the use of eminent domain under the state Constitution.

Mr. Brinckerhoff also challenged whether public funding for Atlantic Yards—the state and the city have each pledged $100 million—is legal under Article XVIII, §6 of the state Constitution. It allows public financing for residential housing projects only when low-income units are being replaced by other low-income units.

Atlantic Yards calls for construction of about 3,000 market-value housing units and 2,250 low-income units.

Chief Judge Jonathan Lippman asked whether public funding was going to the project in violation of Article XVIII, §6.

"Are public subsidies going to market-rate housing here?" he asked.

"No," Mr. Karmel responded.

"There are no public subsidies going to market-rate housing?" Judge Lippman asked again.

"The only subsidies identified in the record are the $100 million appropriation by the state Legislature, which is for a state-owned arena and a state-owned rail yard," Mr. Karmel said. "The state has had the authority to fund state-run facilities of that kind forever."

Mr. Karmel said city funding for the project was not subject to Article XVIII, §6.

Filing Timeframe

The judges also probed both sides on whether the state court action before the Court yesterday was filed in a timely fashion. The plaintiffs challenging Empire State Development's approval of the project went first to federal court and, Mr. Karmel contended, missed a 30-day filing notice in state court as they were pursuing their federal claims.

"Can that serve to toll for a couple of years the 30-day requirement in the [Eminent Domain Procedure Law]?" Judge Read asked. "That seems to be the implication."

"I think there is no question that it can and it did here," Mr. Brinckerhoff argued.

The judges yesterday heard an appeal of an Appellate Division, Second Department, unanimous ruling rejecting arguments by Atlantic Yards' opponents that the project's environmental impact statement and use of eminent domain are improper (NYLJ, May 18).

The prime organizer, the coalition Develop Don't Destroy Brooklyn, also tried unsuccessfully to challenge the project and the Empire State Development Corp.'s approval of it in another state court action, Develop Don't Destroy Brooklyn v. Urban Development Corp., (NYLJ, Feb. 27), and in a federal court case, Goldstein v. Pataki, in which the U.S. Supreme Court ultimately denied certiorari (NYLJ, June 24, 2008).

J. Kevin Healy of Bryan Cave and Charles S. Webb III and Kenneth J. Applebaum of Berger & Webb are also representing the Empire State Development Corp.

Eric Hecker of South Brooklyn Legal Services is aiding Mr. Brinckerhoff's representation of the plaintiffs.

In an amicus brief filed in support of the Atlantic Yards project, New York City's Law Department argued that many privately developed projects have been made possible in the city by the condemnation of private property.

Kelo has prompted the filing of a series of bills in the New York state Legislature concerning the use of eminent domain. In 2009, they included A1568/S1669, which would give citizens more time to contest proposed property takings, and A1570/1670, to create an eminent domain ombudsman to ensure the even-handed application of the condemnation of private property.

Again this year, none of the bills gained traction.

The Arlington, Va.-based Institute for Justice, which represented property owners in Kelo, released a report last week in which it named New York as among the most permissive states in the country for the use of eminent domain to aid in the development of private projects. It cited recent projects sponsored by the New York Stock Exchange, Costco and Stop & Shop as among those in which private businesses benefitted from the public taking of private property.

Another Suit Filed

On Tuesday, the Straphangers Campaign of the New York Public Interest Research Group, Develop Don't Destroy Brooklyn and several lawmakers filed another suit related to the Brooklyn Yards project.

The Manhattan Supreme Court suit alleges that the sale by the Metropolitan Transportation Authority of its Vanderbilt Rail Yard to Forest City Ratner vastly undervalued the true worth of the 8.5-acre property. (See the Verified Petition and the Petitioners Memorandum of Law.)

The rail yard, owned by the MTA's Long Island Railroad Co., accounts for about 40 percent of the Atlantic Yards site.

The Court of Appeals is expected to hand down a ruling by the end of November in the case it heard yesterday.

Mr. Prokhorov's investment deal is contingent on Forest City Ratner's securing title to the remaining parcels at the site as well as financing for the project by Jan. 1.

Power-of-Attorney Changes Scramble Property Transfers

By Adam Leitman Bailey and Dov Treiman
New York Law Journal
October 14, 2009

As of Sept. 1, New York has abolished its old easy single-sheet statutory power of attorney form (POA) and replaced it with a tremendously complicated new law1 describing a highly complex new document with a misleadingly named optional rider.2

The 1948 original form and its successors were designed to be general-purpose forms consumers with nothing but access to a stationery store and a notary could use with ease. The new form, designed specifically for estate planning, is so complicated that those who use it without attorney guidance do so at their peril and few attorneys will fully understand the pitfalls the new form presents. Attorneys working with them do so at their peril as well.

Among the most common uses of POAs is in real estate transactions, especially purchases and sales of land. However, the new law and form create so many problems for such transactions that until either the Legislature restores the old law or heavily repairs the new one, many of these transactions will prove impossible.

Perhaps even more important than this new form POA, is the new law's insistence that all POAs must be in 12-point type and contain the statute's verbatim explanations to the power-giver3 and the agent.4 These, at about 650 words, remove any incentive to use anything but the full statutory form.

Amending the Law

Various attorneys' Internet chat spaces have been abuzz with conversations about this new law, most notably those dealing with Elder Law, Trusts and Estates, and Real Property. They report that many banks are refusing to accept the new form, this in spite of a provision making it mandatory that they do so, creating a new species of lawsuit to compel it.5

Banks, title companies, and law firms are scrambling to issue internal memoranda to explain what to do and some institutions are refusing to recognize any POA, new or old, executed since the change in law, or before. Bar associations and industry groups are scrambling to propose amendments to it to clear up "technical" problems with it and many are calling for its repeal and restoration of the old statute.6

Clearly, no number of purely technical amendments will change the underlying philosophy of this law that providing the power-giver with a great mass of reading to do when signing this instrument somehow empowers the power-giver to decide whether signing it is really a good idea. Ideally, a power-giver would read not only the warnings, but the entire document. However, we believe in actual practice, few power-givers will actually read anything but the signature line. A bold print warning of a dozen words or so might have alerted a power-giver to the magnitude of the power conveyed, but not the current form that so over-informs as to prevent informing at all.

Which Form When?

Under the new statute, the old forms are still valid if they were signed on or before Aug. 31. The new forms are only valid if signed on or after Sept. 1. So, the old forms are rendered invalid if signed too late and the new forms invalid if signed too soon.7 Nobody is in a position to know how many people knowing that the form had changed, jumped the gun in using it too early. While the statute as it currently stands obliges us to look at whether a power-giver signed the POA before or after Sept. 1, 2009, further tinkering with the statute could create a situation where there are three or more possible periods and wordings attached to them—requiring one not only to examine the wording, but what that wording meant under the statute in effect at the moment of signature. Therefore any action the Legislature takes to repair this mess will require even more heightened caution than the usual. Before enacting any technical corrections, the Legislature should consult with a far broader base of practicing attorneys than it used in creating the new POA.

Instability and Unreliability

The new POA has enormous potential for mischief in real estate law where the two most important principles are stability in the meanings of documents8 and reliability in their authenticity.9

This new POA appears to violate both of those principles. As a result, numerous real estate transactions are simply not taking place or are taking place in exactly the manner the parties sought to avoid —requiring the physical presence of the very people who gave POA's because it was a hardship for them to be physically present.

Other Law Journal articles about the new law:

• "Condominiums and the New Power of Attorney Law," Marc J. Luxemburg and Mark S. Borten, Oct. 9.

• "Proposed Technical Corrections to New Power of Attorney Law," Sanford J. Schlesinger and W. Gyongyi Gulyas, Sept. 22.

• "The Best Intentions—and a Newly Complex Power of Attorney Law," Sanford J. Schlesinger and W. Gyongyi Gulyas, Sept. 17.

• "Power of Attorney Statutory Overhaul Set to Take Effect," Benjamin Weinstock and Meeka Levin, Aug. 24.

• "Making Gifts and Property Transfers Under New Power of Attorney Law," C. Raymond Radigan and David R. Schoenhaar, March 9.

For example, the execution of a new POA revokes all previous ones unless otherwise specified.10 Some proposed amendments would change that so that a POA would revoke its predecessors only when it specifically says so. In the mean time, so as to prevent confusion in the meaning of any form a practitioner prepares, the preparer should expressly both override the provision revoking previous POAs and insert a provision specifically reaffirming them.

Along with the new POA is a so-called "Statutory Major Gifts Rider" (SMGR). However, while the check boxes on the new form cover real property transactions, some analysts are finding that the SMGR is required not only when the attorney-in-fact is making a gift on behalf of the power-giver, but also when there is an ordinary transfer of a real property interest. It therefore appears that so long as this new statute is around, prudent practitioners should require an SMGR with every single POA.

A solution one title company has implemented to limit exposure to a claim that the new POA is invalid for the lack of an SMGR is to call the power-giver on the telephone in all instances and have him or her confirm the authority of the agent. The problem with that procedure is that the new POA is now, unless otherwise specified, still in effect when the power-giver is no longer of sufficiently sound mind to answer such a question.11 The person making the telephone call therefore has no way of knowing whether the person receiving the telephone call is sufficiently mentally acute to answer the question, given the fact that such acuity has no effect on the value of the POA itself.

The title company taking that approach is also advising that it will require an SMGR on a conveyance for consideration where there is an obvious disparity between the price being paid and the property's value, such that the transfer may be deemed to be, in part, a gift. It also advises that whenever a property interest is being transferred by a power of attorney, if there is no POA validly executed under the prior law and a new POA must be signed, it is prudent to also execute an SMGR. Another title insurer requires an SMGR to insure any transfer pursuant to a new POA.

Authenticity an Issue

Authenticity is a major issue with the new POA. First, since the POA now survives the power-giver's dementia, there is no way to check with a demented power-giver whether the agent is really doing the power-giver's will or whether there is fraud happening, potentially even involving forging the power-giver's signature. Absent court intervention, rather than the old law which automatically revoked a demented person's POA, this new law makes it effectively irrevocable.

If the power-giver is demented, it is difficult to prove that the power-giver was not demented at the time of the execution of the POA also.

Secondly, the law allows the creation of a power which can only be exercised by two agents acting simultaneously, but creates an exception to this for when two factors are present: "absence, illness or other temporary incapacity" of one of the agents and potential "irreparable injury" to the power-giver. If both of those factors are present, the remaining able bodied agent may act alone.12

How shall one prove the missing agent is really absent, ill, or incapacitated? How to prove that delaying this closing would inflict irreparable injury on the power-giver? The title company's representative might well refuse to recognize the validity of the present agent's authority to act alone. Perhaps some kind of affidavit procedure will evolve to deal with this issue as well. However, some analysts have concluded that giving a POA to two agents who can only exercise it jointly is asking for too much trouble.

New Suits

The statute purports to create a special judicial proceeding when there is a dispute about whether to recognize the sufficiency of the POA.13 The statute authorizes making a bank a respondent, if the bank cannot show good cause why it refuses to recognize the effectiveness of the POA. Of course, the bank will have good cause if the title company deems the presence of the POA an obstacle to the title being insurable. Thus, while the bank might have problems with refusing to recognize a POA from its own customer, from across the table, it has little to fear.

Under the new law, as a practical matter, anybody can refuse to honor a POA at any time. The burden to bring suit is on the one who wants to insist that the POA is honored. The one who wants to refuse to honor it can also sue, but has no such motivation.

Note, we have been discussing the emergency scenario. Few law firms and few impecunious consumers have the resources to put together an emergency court application or appeal. Finding affiants with personal knowledge can prove challenging and may, if the real estate contract is "of the essence," be too late.

However, when valuable commercial interests are at stake, courts have the power to stop the calendar.14 Therefore, perhaps a special proceeding under the new statute brought just inside an "of the essence" deadline could take as much time as it needs to resolve the issue without the time ever expiring. But, in order to bind everyone, it would be necessary to name as parties respondent everyone who has touched the deal: grantor, grantee, bank, and even the title company.

If that is indeed to be the procedure, then the new POA once again appears to be a tool exclusively for those wealthy enough both to use it and to enforce it. Those who most need a POA, the less wealthy, cannot reliably use one.

Unintended Consequences

Those of us who use word processors are well aware of the dangerous power of the command "change all." When one uses that feature, often one finds truly nonsensical results. This metaphor finds expression in many fields of human endeavor. It should therefore be with only extreme caution that a legislature passes a law that changes a large variety of activities. There is little evidence to suggest that the Legislature here exercised such caution.

For example, ever since the very first condominium came into existence in New York, the scheme has included unit owners issuing so-called "unit POAs" to the board of managers. These powers enable the board to carry on various relatively ministerial functions without having to get the unanimous consent of the unit owners. While unit POAs are valid so long as they were executed prior to Sept. 1, it appears under the new law any new ones will not be valid unless they are in 12-point type and include the 650 word warnings. While amendments to the new law might remove these condominium POAs from the scope of the new statute, who is to say what other POAs are equally quietly being rendered void?

As another example, it is very common in various kinds of contracts to imbed POAs in them. It appears that under the new law, such imbedded POAs are of doubtful validity. While the drafter of such contracts could redraft the document in 12-point type and incorporate the 650-word warnings to meet the two statutory criteria for validity, or move the POA to a rider, schedule, or exhibit, it would appear better to keep the POA a separate document and in the original contract insert a clause which says, "Party A has executed the Power of Attorney of even date herewith."

Powers With an Interest

Previous POA law had it that a POA died with the power-giver unless it was a so-called "power coupled with an interest."15

While the entire scope of a "power coupled with an interest" is beyond the embrace of this article, suffice it to say that we are referring to powers of attorney granted to persons who are supposed to benefit from or are supposed to be protecting their own interests with the receipt of this power.

Consider this simple example of a "power coupled with an interest." D borrows from C $5,000 and signs a promissory note promising to repay the $5,000 on a schedule of payments, further providing that if D defaults, C has a POA to sell the shares of stock that D has put up as collateral. This POA is not for D's convenience, but is to secure C's interest in D's property. Thus this power (the POA) is "coupled" with the interest C has in D's property.

Such a power coupled with an interest does not die when D dies.

However, under the new law,16 all POAs die with the power-giver, without exception. Having to guess whether the courts will take the Legislature at its word leaves the current status of powers coupled with interests unknown and unknowable.

As a further example of an issue relating to a power coupled with an interest, two property owners establish a single zoning lot with the developer-owner having the right to further expand the zoning lot. The other party agrees to execute any further documents that are required to do so, but, if it does not execute the documents necessary to expand the zoning lot, the developer-owner is granted a power of attorney coupled with an interest to execute them on its behalf. Such a power granted in a document executed on or after Sept. 1 may no longer be effective after its signatory's death.

On a related note, however, it should be noted that the new law makes no exceptions for people in genuinely desperate straits without access to a computer or stationer to get the exact wording required for an effective power of attorney. For such people, it is just plain too bad; their transactions cannot go forward.

Governments and Businesses

It should be noted that although fairly obtusely worded, the statute has no application to POAs executed by or on behalf of governments and business entities. However, although the ability to transfer property frequently comes from the operating agreement, in some instances the ability to transfer property will flow from one individual to another by power of attorney. These powers, as non-statutory powers, may need to comply with the provisions of the new statute applicable to non-statutory powers.

Consider a small corporation, for example five friends who get together with each other, one of whom actually has money, another who is the monied one's brother, and three of whom are friends, working the business. The monied brother could issue a POA to his brother to sign all the forms the business has to sign through the year. This would be a POA for a business purpose where the power-giver wants to be a non-participating shareholder, leaving the actual participation to his brother. This could be incorporated in a shareholder agreement.

If so, any POAs executed in such contexts are invalid if they lack the 650-word warning and 12-point type the statute requires for all individuals' POAs executed on or after Sept.17

Well Meaning, but...

There can be little doubt that the intent of this statute is benign and principally aimed at giving the old and infirm a cheap simple procedure to have their affairs taken care of by a trusted friend or relative while ensuring that the helper does not become an oppressor.18

Perhaps a much simpler overhaul of the old statute is all that is necessary: requiring that a POA be accompanied by a contemporary photograph of the power-giver or valid identification; requiring that the power-giver incorporate a current address and telephone number.

However, as currently crafted, the statute is so riddled with problems, both substantive and procedural, that it has injected into the entire legal system huge instabilities, particularly those endangering the orderly secure transfer of real property.19 Until the Legislature finishes the job of amending out its kinks and the courts have had a chance to construe what all that language means, it's going to be a real mess. While they are at it, the Legislature should give serious thought to a more terse warning to the power-giver, something like the kind of text that would fit on a pack of cigarettes.

Adam Leitman Bailey is the founding partner and Dov Treiman is a partner of Adam Leitman Bailey, P.C. Michael J. Berey, general counsel and senior vice-president of First American Title Insurance Company of New York, assisted with this article.

Endnotes:

1. The session law version of this enactment is roughly 50 percent larger than the U.S. Constitution.

2. Chapter 644 of the Laws of 2008, as amended.

3 We say "power-giver" here so as to speak to the title of the document, "Power of Attorney." The statute itself says "principal" and "agent," avoiding the common, "attorney in fact." One should not say "signatory" because under this new law, there are a minimum of three signatures: principal, agent, and notary and the rider requires two witnesses. GOL §5-1514(9).

4. GOL § 5-1501B.

5. GOL §5-1510, discussed infra.

6. Bill A8392/S5910 in the State Legislature specifically proposes "technical" amendments to the new law.

7. Chapter 644 of the Laws of 2008, as amended by Chapter 4 of the Laws of 2009.

8. Holy Properties Ltd., L.P. v. Kenneth Cole Productions Inc., 87 NY2d 130 (1995).

9. Adam Leitman Bailey & Carly Greenberg, "Growing Fraud," NYLJ, 1/31/07; Adam Leitman Bailey, "Expense of Theft Prevention Dwarfed by Cost of Fraud," NYLJ, 4/8/09.

10. GOL §5-1513.

11. GOL §5-1501A.

12. GOL §5-1508.

13. GOL §5-1510.

14. First National Stores Inc. v. Yellowstone Shopping Center Inc., 21 NY2d 630 (1968).

15. Weber v. Bridgman, 113 N.Y.600 (1889).

16. GOL §5-1511(a).

17. GOL §5-1501B(1) Preamble; §5-1501B(4). Some of the provisions of the revised article may actually apply to business entities and governments, but the extent of that problem is beyond the scope of this article.

18. NYS Law Revision Commission Report on Powers of Attorney (2007), pp. 5, 13-17, 19-22.

19. The Law Revision Commission Report which was the genesis of the new POA did not consider that the proposed changes could affect real property law.

DIP Financing, Bankruptcy Concerns For Transactional Real Estate Lawyers

By S.H. Spencer Compton and Andrew D. Jaeger
New York Law Journal

September 25, 2009

It has been said that capitalism without bankruptcy would be like Christianity without hell (or, perhaps, more properly, purgatory). There must be a place of punishment and redemption in order to maintain faith in both God and capital markets.

As the current economic cycle wears on (and on), as tenants either renegotiate their rents or default, many borrowers are unable to meet their debt obligations and are seeking relief in the federal bankruptcy courts. Young real estate lawyers today have little or no experience with bankruptcy matters, having only practiced in healthy, even exuberant, financial climates. This article will attempt to familiarize real estate lawyers with the basic elements of real estate related issues in connection with bankruptcies that may arise in their transactional practices. It is not intended to be an in-depth discussion of bankruptcy law, but rather a primer for real estate lawyers who find themselves working alongside bankruptcy lawyers.

A Few Definitions

Debtor in Possession: The debtor which remains in control of operations.

Exit Financing: Financing under a plan of reorganization that allows the debtor to exit bankruptcy.

Petition: (Bankruptcy Petition or Petition for Relief). The document that commences a bankruptcy proceeding.

Plan of Reorganization: A plan that sets forth the manner in which a bankrupt company intends to satisfy its creditors and exit bankruptcy.

Prepackaged Bankruptcy: A bankruptcy case in which the debtor and certain of its creditors agree to the terms of a plan of reorganization before filing a bankruptcy petition. The court then confirms the plan and the company emerges from bankruptcy quickly.

Pre-Petition Debt: Debt incurred by the debtor before a bankruptcy filing.

Post-Petition Debt: Debt incurred by the debtor after a bankruptcy filing.

Rollups: Pre-Petition Debt that is combined with/converted into post-petition debt as a condition to providing additional financing to the debtor.

Section 363 Sale: A sale of debtor assets free and clear of liens pursuant to Section 363 of the Bankruptcy Code.

Stalking Horse: A proposed buyer chosen by the debtor to make an initial bid on the debtor's asset(s). The stalking horse sets the bar that other bidders have to bid against, often in an auction setting. The court generally grants expense reimbursement and/or a break-up fee to the stalking horse.

Chapter 11 Reorganization

Chapter 11 of the Bankruptcy Code governs the reorganization of debtor entities, and while there are other types of bankruptcies, this article will focus on certain transactional issues related to Chapter 11 filings.

The goal of a Chapter 11 filing is to de-lever the debtor through the plan of reorganization process, with the hopes of turning it into a profitable venture. To give the debtor necessary time to propose a plan, the debtor is given the exclusive right to file a plan for a set period and Section 362 of the Bankruptcy Code imposes an automatic stay on all creditor collection/foreclosure efforts.

An effective reorganization will likely require additional capital which may be obtained in two ways. The debtor may sell assets pursuant to Section 363, which will be discussed below. Where practicable, the debtor also may seek Debtor in Possession (DIP) financing. Section 364 authorizes a debtor to borrow money to preserve the estate or to further the debtor's rehabilitation efforts. Most lenders extend DIP financing on a secured basis. While the collateral may not typically be comprised of material real estate, there are transactions where real estate can be a significant part of the collateral.

There are two types of DIP financing: defensive DIP loans extended by existing secured lenders to protect their collateral and the value of their pre-petition claims, and third-party DIPs extended by lenders seeking high returns. In addition to the traditional lender motives (e.g., collecting fees, an attractive rate of return and adequate security), potential DIP lenders may be induced by the opportunity to gain access to non-public information, to influence the debtor's management decisions, and/or to acquire equity in the debtor upon exiting bankruptcy. DIP loans can be profitable due to the debtor's immediate need for working capital. Additionally, a lender can be more certain of repayment because of DIP loan protections under the Bankruptcy Code.

DIP Financing

Section 364 provides four levels of secured financing:

• First: A super-priority claim over other administrative expenses (Section 364(c)(1)); (administrative expenses typically include legal and other professional and consulting fees plus other post-petition expenses);

• Second: A lien on unencumbered assets of the debtor (Section 364(c)(2));

• Third: A junior lien on already encumbered assets (Section 364(c)(3)); and

• Fourth: A senior or equal lien on previously encumbered assets—a priming lien (Section 364(d)).

A court will examine the loan terms to ensure that they are fair and reasonable. The court will only authorize a higher level of security if credit cannot be obtained at the lower level. The court may authorize a junior lien on the debtor's assets even where the senior lien documents prohibit a junior lien. A priming lien usually only occurs when a pre-petition senior lender becomes the DIP lender and primes itself or if adequate protection is provided to the pre-petition senior lender.

Mortgage/Deed of Trust

Whether a DIP loan is adequately perfected by its court-ordered lien pursuant to Section 364 of the Bankruptcy Code or whether mortgages or deeds of trust are required to perfect the DIP lien on real property can be a source of debate between real estate and bankruptcy attorneys.

Bankruptcy attorneys will assert that the Section 364 lien on all the debtor's assets provides adequate security for the DIP loan and that, if the debtor defaults, the Bankruptcy Court will enforce the order granting such lien. Furthermore, mortgages and deeds of trust are expensive and time-consuming in a situation where lack of funds and urgency prevail.

Nevertheless, real estate attorneys will ask: How can we be sure that a state court would honor the DIP lender's lien where no mortgage/deed of trust is of record? Doesn't a mortgage/deed of trust need to be recorded in accordance with applicable state law? Doesn't applicable mortgage tax have to be paid?

Further, what if in a bankruptcy with multiple debtors, an SPE subsidiary is dismissed from the bankruptcy case? If the Bankruptcy Court no longer has jurisdiction, how can a DIP lender enforce its lien in state court when there is no mortgage or deed of trust?

All of the foregoing appear to be questions of first impression. We have found no case law to answer them.

Although the real estate attorneys' concerns may be myriad and well-founded, in the absence of further collateral-specific issues (such as breaks in the chain of recorded title due to poorly documented corporate mergers and acquisitions), the cost, complexity and delay of creating and recording mortgages or deeds of trust are often prohibitive.

363 Sales

Another way a debtor can raise operating capital is to sell assets. Section 363 of the Bankruptcy Code allows a debtor to sell property in the ordinary course of business without court approval (Section 363(c)); or other than in the ordinary course of business with court approval (Section 363(b)). The court is empowered to order these sales to be made free and clear of existing liens (Section 363(f)).

Most often, to maximize the value of the asset to be sold, a debtor will negotiate an asset purchase agreement with a potential purchaser who will then act as a stalking horse. After evaluating all offers, the debtor enters into a contract with a proposed purchaser, which is subject to both Bankruptcy Court approval and to being out-bid, sometimes in an auction-like process. Although the stalking horse purchaser may get outbid, it nonetheless gains several advantages. The stalking horse bidder will likely receive a break up fee and expense reimbursement as well as enjoying an inside track with the debtor, official committees, counsel and their advisers.

Alternatively, rather than use the stalking horse method, the debtor can proceed straight to auction with the outcome subject to Bankruptcy Court approval.

Exit Financing and Asset Sales

Exit financing is a loan made pursuant to a confirmed plan of reorganization in connection with the debtor's exit from bankruptcy. It is analogous to a take out loan entered into after completion of construction to pay off a higher cost construction loan. Exit financing may pay off the DIP loan, certain creditors and fund operations. Unlike DIP financing, there is no lien created by the Bankruptcy Court order. Accordingly, mortgages/deeds-of-trust are required to create the lender's lien. Exit financing, however, does not require payment of mortgage tax (Section 1146(a)).

Additionally, a debtor may sell assets pursuant to a confirmed plan of reorganization. A sale pursuant to a confirmed plan of reorganization does not require the payment of transfer taxes (Section 1146(a)) and may be free and clear of liens (Section 363(f)).

Practitioners should be aware of a recent case concerning the court-ordered exemption from mortgage recording taxes and/or transfer taxes arising out of a Section 363 sale. Section 1146(a) exempts from stamp or similar taxes the delivery of a transfer instrument under a confirmed plan. The issue is whether "under a confirmed plan" includes a transfer prior to but in accordance with a subsequently confirmed plan.

In Florida Dept of Revenue v. Piccadilly Cafeterias Inc., 128 S. Ct. 2326 (2008), a transfer was made by a debtor prior to a confirmed plan. The Bankruptcy Court, Federal District Court and the U.S. Court of Appeals for the Eleventh Circuit all held that the transfer was exempt under Section 1146(a). The Supreme Court reversed, holding that to be eligible for the Section 1146(a) exemption, the plan must have been previously approved.

Title Insurance Concerns

Title insurance will likely be unavailable to the DIP lender without recorded mortgages or deeds of trust. What risks does this present? In addition to raising state court enforceability questions, a Bankruptcy Court order does not confirm the ownership of real estate, the quality of title or, in some cases, the existence or priority of pre-existing liens. Furthermore, creditors improperly or not noticed in the bankruptcy action may not be bound by the Bankruptcy Court order authorizing the DIP financing.

Whether the transaction is a sale, a DIP financing or exit financing, involving the title insurance company early on in the transaction is advantageous. The title insurance company will review the motion, the Bankruptcy Court order and the parties noticed. The real estate attorney should point out to its client that, despite a Bankruptcy Court order authorizing a sale "free and clear" of liens, local municipalities have consistently refused to honor the Bankruptcy Court order as it applies to real estate taxes. Accordingly, real estate taxes will probably have to be paid to be removed from a municipality's tax rolls.

Because the sale of real estate in a Section 363 sale is unlikely to be in the ordinary course of business, the title insurance company will probably require court approval to insure the transaction. This might not apply where the debtor is a homebuilder or a condominium sponsor, but the outcome will be fact-specific.

A recent court decision is giving title insurance companies concerns. In it, the Bankruptcy Appellate Panel for the Ninth Circuit reversed a lower court order and held that the senior lien holder could not purchase the real property free and clear of a junior lien, notwithstanding the junior lien holder's failure to obtain a stay pending appeal of the sale order. In Re PW, LLC, 391 B.R. 25 (9th Cir. BAP 2008). As a result, title insurance companies are now taking a much closer look at Bankruptcy Courts' "free and clear" orders before agreeing to insure.

Last, there is often confusion surrounding the statutory 10-day stay of the Bankruptcy Court order for the sale of property and the 10-day right of appeal period. It is important to distinguish between these two different 10-day periods.¹

A Bankruptcy Court order for the sale of property is stayed for 10 days. However, this may be waived by the court. (Rule 6004(g)). Note that the waiver of the stay does not vitiate the 10-day appeal period. This separate and distinct 10-day period may not be waived by the court. (Rule 8002). Generally, title insurance companies will not insure over the 10-day appeal period and will require that the order become final to insure. See In Re PW, LLC, 31 B.R. 25 (2008).

S.H. Spencer Compton is a senior vice-president and special counsel, and Andrew D. Jaeger is a senior vice-president and counsel, both at First American Title Insurance Company of New York. Diane Meyers, counsel at Paul, Weiss, Rifkind, Wharton & Garrison, contributed to this article.

Endnotes:

1. The 10-day period for the stay and the 10-day appeal period will both increase to 14 days on Dec. 1, 2009, unless Congress enacts legislation to reject, modify, or defer the proposed amendments.