INSIGHT: Vornado’s Appeal for Relief From NYC Transfer Tax Fails

Vornado found itself with a steep transfer tax bill after its 2011 refinancing of One Park Avenue in New York City.

Vornado Realty Trust entities owed a total of $12.5 million in New York City Real Property Transfer Tax—not the $3 million they reported on their return—because the transfer of interests in the property didn’t qualify for the reduced rate as a real estate investment trust (REIT) transfer, the New York City Tax Appeals Tribunal ruled in In the Matter of VCP One Park REIT LLC, No. TAT(E) 14-26 (RP) (N.Y. City Tax App. Trib. 2/16/18).

Vornado Realty Trust related entities—One Park Avenue Mezz Partners LLC (parent) and its subsidiaries, VCP One Park REIT LLC and VCP One Park Parallel REIT LLC (collectively, the “REITs”)—were, respectively, the grantor and grantees in a transfer that occurred on March 1, 2011. Before the transfer, the parent owned 100% of One Park Avenue Senior Mezz Partners LLC (company), which owned 100% of One Park Avenue Partners LLC (property owner), which owned a fee interest in the real property located at One Park Avenue in Manhattan (property).

The parent transferred 100% of the membership interests in the company to the REITs. The REITS were both limited liability companies and elected to be taxed as a real estate investment trusts under federal tax code Section 856(c)(1).

On Feb. 28, 2007, the parent borrowed $32.6 million from Bank of America N.A. (junior mezz loan). On the same date, the company borrowed from a consortium of lenders $75.45 million (senior mezz loan). The property owner was the borrower on a mortgage loan of $375 million secured by the property.

On the day prior to closing, the grantee REITs acquired undivided interests in the junior mezz loan and the senior mezz loan by paying $16 million of cash. At the closing, the parent transferred its interest in the company to the REITs in repayment of the junior mezz loan. The senior mezz loan was satisfied simultaneously with the transfer. In addition, the parent received $2.25 million of cash from the REITs, $2.25 million non-voting preferred shares in the REITs, and “profits shares” in each of the REITs having an aggregate value of $1.125 million.

The parent and the REITs timely filed a Real Property Transfer Tax (RPTT) return reporting total consideration of $241 million and total tax due of $3 million. The tax due was calculated at the RPTT tax rate (1.3125%) applicable to a “qualifying REIT transfer.” The New York City Department of Finance determined that the transfer did not so qualify. Thus, the department computed RPTT due using the tax rate of 2.625% applicable to transfers of non-residential property where the consideration is $500,000 or more.

‘40% Test’ Flunked

New York City Administrative Code Section 11-2102.e(1) provides that for transfers qualifying as REIT transfers, the RPTT is computed at one-half of the otherwise applicable rate. Section 11-2102.e(2) provides: a transaction shall not constitute a REIT transfer unless (i) it occurs in connection with the initial formation of the REIT...and the value of the ownership interests in the REIT received by the transferor as consideration for such transfer must be equal to an amount not less than 40% of the value of the equity interest in the real property transferred. The value of the equity interest in the real property transferred shall be computed by subtracting from ‘the consideration for the transfer’ the unpaid balance of any loans secured by mortgages which are liens on the real property immediately before the transfer (emphasis added).

Thus, the starting pointy for determining whether the 40% test is met is to determine the amount of consideration for the transfer. Section 11-2101.9 defines consideration: The price actually paid for the real property without deduction for mortgages, liens and encumbrances. It shall include the cancellation or discharge of an indebtedness or obligation. Section 11-210.e(3) provides that for purposes of determining the consideration for a REIT transfer, the value of the real property shall be equal to the estimated market value as determined by the Commissioner of Finance for real property tax purposes.

The parent and the REITs asserted that paragraph (3) supersedes the general definition of consideration and that it should be read as meaning that the consideration is equal to the estimated market value. The court disagreed. In general, the court noted, when the legislature intends one specific provision of a statute to supersede another generally applicable provision, that intent is made clear by the use of a phrase starting with the word, “notwithstanding” or words to that effect. Rather than using similar language, Section 11-2102.e(3) starts: “For purposes of determining the consideration...” suggesting that it was not intended to supersede or override the general definition of consideration in Section 11-2102.9.

We must examine, the court said, whether under the statute and other authorities “the value of the real property...” is ever taken into account “for purposes of determining the consideration.” Section 11-2102.d states: “In the case of a transfer of an economic interest in any entity that owns assets in addition to real property...the consideration subject to tax shall be deemed to be equal to the fair market value of the real property” (emphasis added). Thus, the court reasoned, “when the legislature meant that consideration shall be equal to the value of the real property, it said so expressly and used language different from that in Sec. 11-2102.e(3).” Moreover, there are provisions in the department’s rules relating to the RPTT that also use the value of the property in determining consideration. Where it is intended that the consideration be equal to the value of the property, that intention is clearly expressed in the statutory or regulatory language.

The parent and the REITs did not cite any legislative history or other authority that suggested that Section 11-2102.e(3) was intended to be read as the parent and REITs would have us do, i.e., “the consideration for a REIT transfer shall be equal to estimated market value.” We therefore, the court said, reject the interpretation of Section 11-2102.e(3) proffered by petitioners and adopted by the Administrative Law Judge.

In the instant case, the consideration was equal to the cash received ($2.25 million), the unpaid principal amount of pre-existing mortgage(s) ($375 million), the junior and senior mezz loans discharged $108 million, and the value of the shares received ($3.375 million), resulting in a grand total of $489 million. The amount of the RPTT paid by the REITs should also be included in consideration, bringing the final total to $495 million.

To apply the 40% test, the court noted, “we must reduce the consideration” by the amount of the mortgage, which was secured by the property immediately before the transfer, and by the outstanding amounts of the Mezz Loans, which appeared to have been indirectly secured by the property immediately prior to the transfer. The balance was $11.7 million. Forty percent of that amount is $4.69 million. The parent’s and REITs’ valuation of the interests in the REITs received by the parent was only $3.375 million. Therefore, the 40% test was not satisfied. As a consequence, the transfer did not qualify as a REIT transfer and the RPTT due on the transfer had to be calculated at the otherwise applicable 2.625 rate.

Note: This decision was appealed to the Appellate Division of the Supreme Court of New York. See Matter of VCP One Park REIT, LLC v. N.Y. City Tax App. Trib. (N.Y. App. Div. 4/25/19). The Appellate Division held that the determination of the New York City Tax Appeals Tribunal was unanimously confirmed and the proceeding commenced in the appellate division was dismissed. “The Tax Appeals Tribunal properly applied the relevant code provisions in determining that the transfer at issue here did not satisfy the 40% Test so as to qualify as a REIT transfer subject to the reduced RPTT rate, and properly calculated the amount of consideration subject to the RPTT,” the appellate division said. The RPTT actually owed by petitioners was determined to be $12.5 million.

This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.

Robert Willens is president of the tax and consulting firm Robert Willens LLC in New York and an adjunct professor of finance at Columbia University Graduate School of Business.