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IRS Rev. Proc. 2008-28 Overview:
1. One to 4 unit single family residence
2. Owner occupied
3. Not more than 10% of stated principal of REMIC total assets are loans 30 days
of more past due at time of securitization
4. Servicer reasonably believes a significant foreclosure risk is present
5. Terms of the modified loan are “less favorable” to the holder/lender
6. Servicer reasonably believes a modified loan will substantially reduce foreclosure risk.
Rev. Proc 2008-47 (replaces 2007-72) Overview:
1. IRS will not challenge ...REMIC...as not within exception for modifications made in
anticipations of default in IRS 1.860G-2(b)(3);
2. IRS will not assert ... disposition of qualified mortgage subject to 100% prohibited
transaction tax;
3. IRS will not challenge ... REMIC on grounds that modification caused reissuance of
REMIC regular interests;
4. If securitization is Grantor Trust, IRS will not assert ... modifications resulted in prohibited
power to vary investments.
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Secondary Market Alert –
Modifications & Tax Exempt Trusts – Step Two? ™
IRS Rev. Proc. 2008-28 follows Rev. Proc. 2007-72
(Rev. Proc. 2008-47 Replaces 2007-72 ( www.irs.gov/irb/2008-31_IRB/ar13.html )
re Loan Modifications & REMICS
Mortgage Backed Securities (“MBS”)
By Richard Ivar Rydstrom, Esq.
rrydstrom@gmail.com
We inch closer. Are we there? The need for comprehensive reconciliation and clarification of various authorities that hold back the damn for en mass modifications broadens its scope after overly restrictive prior efforts fail to satisfy the public and industry (lender and investor) demands.
The IRS issued Revenue Procedure 2008-28 on May 26, 2008 to clarify or broaden the authority to allow modifications in advance of actual default without violating the ‘active management’ prohibition of the tax-free status afforded mortgage pools held in Real Estate Mortgage Investment Conduits (REMICs) governed by sections 860A through 860G of the Internal Revenue Code. A seminal recap of the issues are found in Section 3.08 as quoted:
.08 Section 860F(a)(1) imposes a tax on a REMIC equal to 100 percent of the
net income derived from “prohibited transactions.” The disposition of a qualified
mortgage is a prohibited transaction unless the disposition is pursuant to (i) the
substitution of a qualified replacement mortgage for a qualified mortgage; (ii) a
disposition incident to the foreclosure, default, or imminent default of the mortgage;
(iii) the bankruptcy or insolvency of the REMIC; or (iv) a qualified liquidation.
Section 860F(a)(2)(A).
The heart of the risks is discussed in part under Section 3, as follows:
SECTION 3. BACKGROUND—REMICS
.03 With limited exceptions, a mortgage loan is not a qualified mortgage unless it
is transferred to the REMIC on the startup day in exchange for regular or residual
interests in the REMIC. See section 860G(a)(3)(A)(i).
.04 The legislative history of the REMIC provisions indicates that Congress
intended the provisions to apply only to an entity that holds a substantially fixed pool of
real estate mortgages and related assets and that “has no powers to vary the 3
composition of its mortgage assets.” S. Rep. No. 99–313, 99th Cong., 2d Sess. 791–92;
1986–3 (Vol. 3) C.B. 791–92.
.05 Section 1.1001–3(c)(1)(i) defines a “modification” of a debt instrument as any
alteration, including any deletion or addition, in whole or in part, of a legal right or
obligation of the issuer or holder of a debt instrument, whether the alteration is
evidenced by an express agreement (oral or written), conduct of the parties, or
otherwise. Section 1.1001–3(e) governs which modifications of debt instruments are
“significant.” Under § 1.1001–3(b), for most federal income tax purposes, a significant
modification produces a deemed exchange of the original debt instrument for a new
debt instrument.
.06 Under § 1.860G–2(b), related rules apply to determine REMIC qualification.
Except as specifically provided in § 1.860G–2(b)(3), if there is a significant modification
of an obligation that is held by a REMIC, then the modified obligation is treated as one
that was newly issued in exchange for the unmodified obligation that it replaced.
See § 1.860G-2(b)(1). For this purpose, the rules in § 1.1001–3(e) determine whether a
modification is “significant.” See § 1.860G-2(b)(2). Thus, even if an entity initially
qualifies as a REMIC, one or more significant modifications of the loans held by the
entity may terminate the qualification if the modifications cause less than substantially
all of the entity’s assets to be qualified mortgages.
.07 Certain loan modifications, however, are not significant for purposes of
§ 1.860G-2(b)(1), even if the modifications are significant under the rules in § 1.1001–3
and thus cause section 1001 to apply. In particular, under § 1.860G–2(b)(3)(i), if a
change in the terms of an obligation is “occasioned by default or a reasonably 4
foreseeable default,” the change is not a significant modification for purposes of
§ 1.860G-2(b)(1), regardless of the modification’s status under § 1.1001–3.
.08 Section 860F(a)(1) imposes a tax on a REMIC equal to 100 percent of the
net income derived from “prohibited transactions.” The disposition of a qualified
mortgage is a prohibited transaction unless the disposition is pursuant to (i) the
substitution of a qualified replacement mortgage for a qualified mortgage; (ii) a
disposition incident to the foreclosure, default, or imminent default of the mortgage;
(iii) the bankruptcy or insolvency of the REMIC; or (iv) a qualified liquidation.
Section 860F(a)(2)(A).
What does Rev Proc 2008-28 propose to do? Section 6 states as follows:
SECTION 6. APPLICATION
If one or more modifications of mortgage loans are described in Section 5 of this
revenue procedure—
.01 The Service will not challenge a securitization vehicle’s qualification as a
REMIC on the grounds that the modifications are not among the exceptions listed in § 1.860G–2(b)(3);
.02 The Service will not contend that the modifications are prohibited
transactions under section 860F(a)(2) on the grounds that the modifications resulted in one more dispositions of qualified mortgages and that the dispositions are not among the exceptions listed in section 860F(a)(2)(A)(i)–(iv);
.03 The Service will not challenge a securitization vehicle’s classification as a
trust under section 301.7701-4(c) on the grounds that the modifications manifest a
power to vary the investment of the certificate holders; and
.04 The Service will not challenge a securitization vehicle’s qualification as a
REMIC on the grounds that the modifications resulted in a deemed reissuance of the REMIC regular interests.
Revenue Procedure 2008-28: http://www.irs.gov/pub/irs-drop/rp-08-28.pdf
For Revenue Procedure 2008-28 Click Here.
Queries: Are the key definitions or concepts meeting the needs for broad or en mass modifications with respect to risks of litigation, the threat of the general rule of taxation due to loss of tax exceptions, investor tier conflicts, etc., and for each diverse and often conflicting self-interest? What sections of the regulations are critical for your self interests? 1.860G-2? 1.860C-2? 1.860E-2? 1.860E-1? 1.860G-1? 1.860G-3T? 1.860D-1? Reference is made to the following sections:
1.860A-0 Outline of REMIC provisions.
1.860A-1 Effective dates and transition rules.
1.860A-1T Effective dates and transition rules (temporary).
1.860C-1 Taxation of holders of residual interests.
1.860C-2 Determination of REMIC taxable income or net loss.
1.860D-1 Definition of a REMIC.
1.860E-1 Treatment of taxable income of a residual interest holder in excess of daily accruals.
1.860E-2 Tax on transfers of residual interests to certain organizations.
1.860F-1 Qualified liquidations.
1.860F-2 Transfers to a REMIC.
1.860F-4 REMIC reporting requirements and other administrative rules.
1.860G-1 Definition of regular and residual interests.
1.860G-2 Other rules.
1.860G-3 Treatment of foreign persons.
1.860G-3T Treatment of foreign persons (temporary).
How should key definitions or concepts for the following be worded to serve your self interests? Consider:
a. default or reasonably foreseeable default?
b. significant modification (1.860G-2(b)(1) vs. 1.1101-3)
c. assumption of the obligation
d. qualified replacement mortgage
e. treatment of credit enhancement contracts - as as of the mortgage or pool of mortgages or as a separate asset? What about new product credit enhancements that might pay on default or delinquencies as well as bankruptcy, or on losses or expenses incurred by not only the REMIC but other related parties?
f. defective obligation
g. permitted investments
h. regular or residual interests
i. clean up call -
j. safe harbor - no more than 10% of its original principal balance
k. substantially of of its assets consist of qualified mortgages and permitted investments - no more than de minimis
l. 1% Safe Harbor - de minimis - if the aggregate of the adjusted basis of those assets is less than 1% of the aggregate of the adjusted bases of all of the entity’s assets (1.860D-1(b)(3)(ii)
m. powers to vary the composition of its mortgage assets (S. Rep. No. 00-313, 99th Cong., 2nd Sess. 791-92
n. 860F(a)(1) - 100% tax of REMIC on net income derived from “prohibited transactions”
o. “prohibited transactions”
p. Section 5 Conditions - .03(1) re no more than 10% of ...total assets...represented by loans the payments on which were then overdue by 30 days or more; .04 re The holder or servicer reasonably believes that there is a significant risk of foreclosure of the original loan - whose foreclosure prevention guidelines? what factors are considered credible and systematic? - what factors must be used and which may not: FICO, LTV, CLTV, ABILITY TO PAY, PAYMENT HISTORY, CHANGES IN PROPERTY VALUES OF A PARTICULAR PROPERTY WITH OR WITHOUT CHANGE OF NEIGHBORHOOD VALUES; DEBT SERVICE RATIOS, EMPLOYMENT, MEDICAL STATUS, INSURED vs UNINSURED MORTGAGE OR LOSSES, DOCUMENTATION OF INCOME AND ASSETS EVEN IF NONE WERE REQUIRED ON ORIGINAL LOAN, LOAN OR NON LOAN LEVEL DATA OR MODELS, MACRO OR MICRO STATISTICAL DATA OR MODELS? .05 The terms of the modified loan are less favorable to the holder than were the unmodified terms of the original mortgage loan.; etc.
q. obligations principally secured - 80% test re fair market value or adjusted issue price
r. defeasance - release of liens - substitute collateral
s. modification
t. FAIR MARKET VALUE - what rules govern - how does IFRS and BASEL II impact FAS rules, or what is or will be the acceptable or safe harbor method of valuation? How does Rev Proc 2008-28 impact the OFHEO’s FINAL RULE FOR LOSS SEVERITY CALCULATIONS UNDER RISK-BASED CAPITAL REGULATION, and ASF GUIDELINES found in the American Securitization Forum: Recommended Definitions and Investor Reporting Standards for Modifications of Securitized Residential Mortgage Loans
December, 2007 (American Securitization Forum Streamlined Foreclosure and Loss Avoidance Framework for Securitized Subprime Adjustable Rate Mortgage Loans
Executive Summary December 6, 2007)?
Query: How does Rev Proc 2008-28 interplay with loss mitigation options or procedures, interest rate reductions or extensions, principal forgiveness or reductions, or alternative quarantined principal, extensions of maturity, and alterations in the timing of changes in an interest rate, shared appreciation mortgage concepts, en mass modifications, foreclosure prevention programs and actual foreclosure, bankruptcy, securitization, writedowns, valuations, FASB rules, IASB rules, and various other aspects of self interests?
Comments for Rev Proc 2008-28
Query: How does a Modification with a reduction in principal and a devaluation of home prices affect the reporting, taxes, reimbursements and relative conflicts of interest among the participants, including the tier investors, borrower, servicer, lender and REMIC? How does that compare to the Foreclosure Option when you net out the tax affect to the foreclosing Lender/Servicer/Holder? ProCouncilAdvisory™
Internal Revenue Bulletin: 2008-31
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August 4, 2008
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INCOME TAX
Table of Contents
Limited partner’s distributive share. This ruling addresses whether a limited partner’s distributive share of interest expense attributable to indebtedness allocable to property held for investment described in section 163(d)(5)(A)(ii) of the Code is taken into account when determining the limited partner’s adjusted gross income. See Announcement 2008-65, in this Bulletin, for additional information. Rev. Rul. 2008-12 amplified.
Characterization of management fees. This ruling addresses the characterization of the management fees paid by an upper-tier investment partnership (UTP) and by lower-tier trader partnerships (LTPs) to their respective managers under sections 162 and 212 of the Code where the UTP’s activities consist solely of acquiring, holding, and disposing of interests in the LTPs and UTP’s management fee is not paid or incurred by UTP on behalf of any LTP in connection with the trades or businesses of the LTPs.
Federal rates; adjusted federal rates; adjusted federal long-term rate and the long-term exempt rate. For purposes of sections 382, 642, 1274, 1288, and other sections of the Code, tables set forth the rates for August 2008.
Final, temporary, and proposed regulations under section 956 of the Code provide guidance to determine the basis in property acquired by a controlled foreign corporation as a result of certain transactions that otherwise qualify for nonrecognition treatment.
Final, temporary, and proposed regulations under section 956 of the Code provide guidance to determine the basis in property acquired by a controlled foreign corporation as a result of certain transactions that otherwise qualify for nonrecognition treatment.
This notice sets forth and requests comments on a proposed revenue ruling concerning the income, gift, estate, and generation-skipping transfer tax consequences in situations in which family members create a private trust company to serve as the trustee of trusts in which family members are grantors and beneficiaries.
This notice solicits comments on a proposal to require taxpayers to disclose to the IRS their groupings and regroupings of activities and the addition and disposition of specific activities within the chosen groupings of activities for purposes of section 469 of the Code and regulations section 1.469-4.
This notice provides for the suspension of certain requirements under section 42 of the Code for low-income housing credit projects in the United States in order to provide emergency housing relief needed as a result of the devastation caused by severe storms and flooding in Missouri beginning on June 1, 2008.
This procedure describes the conditions under which changes to certain subprime mortgage loans will not cause the Service to challenge the tax status of certain securitization vehicles holding the loans. Rev. Proc. 2007-72, 2007-52 I.R.B. 1257, provided similar guidance regarding fast-track loan modifications that were effected in a manner consistent with certain principles, recommendations, and guidelines (the “Framework”), which the American Securitization Forum (ASF) released on December 6, 2007. On July 8, 2008, the ASF released an updated Framework, which covers additional fast-track loan modifications. Rev. Proc. 2007-72 amplified and superseded.
This announcement clarifies that the limited partner described in Rev. Rul. 2008-12, 2008-10 I.R.B. 520, properly includes the allowable amount of his distributive share of the trading partnership’s interest expense in computing the limited partner’s ordinary business income or loss on Schedule E of the partner’s Form 1040. Rev. Rul. 2008-12 clarified.
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