My client can't keep up with interest payments on two large mortgages. The bank will agree to defer the unpaid interest, but only if additional interest accrues on that unpaid interest (compounding), while the mortgages' already-taxed maximum principal caps stay the same. Does adding compound interest to the mortgage trigger additional mortgage recording tax?

Plain-English summary

This ruling, later cited directly by the Department's 1993 Ticor Title opinion (TSB-A-93(12)R) as the leading authority on compounded vs. deferred interest, involves a client whose real property was subject to two large first mortgages held by "X Bank" — with maximum principal caps of $209,000,000 and $220,000,000 respectively, on which mortgage recording tax had already been paid in full when the mortgages were originally recorded. The mortgages also secured any accrued and unpaid interest, but never beyond those same maximum caps. When the client couldn't keep up with interest payments, the bank agreed to defer the unpaid interest — but only on condition that ADDITIONAL interest would accrue on that unpaid interest (compounding), even though the stated maximum principal caps in the mortgages would stay unchanged.

The Department confirmed the general rule first: citing Matter of Cosmopolitan Broadcasting Corporation and Matter of Michael Dubroff Associates, Inc., "accrued interest loses its character as interest when additional interest is allowed to accrue on the unpaid interest, and, thus, becomes part of the principal indebtedness or obligation secured by the mortgage." In other words, compounding interest is treated, for tax purposes, as if the interest had actually been paid and then re-lent as new principal. But here, that reclassification didn't matter in practice: because the mortgages' maximum secured amounts ($209 million and $220 million) had already been fully taxed and remained UNCHANGED by the modification, and the outstanding balances plus any foreseeable compounded interest stayed within those existing caps, the modification created no NEW taxable indebtedness beyond what was already taxed — so no additional mortgage recording tax was due on the modification agreement itself.

The Department flagged an important separate risk, however. Tax Law § 258 bars a mortgage from being released, discharged, or enforced (including through litigation) unless all taxes due on it have been paid. If the compounding interest, when added to the outstanding principal balances, ever pushes the TOTAL secured amount ABOVE the mortgages' stated maximum caps, those mortgages become enforceable only up to the stated maximum — the lender loses the ability to enforce the excess unless additional mortgage recording tax is paid on that overage.

What this means for you

Borrowers and lenders in interest-deferral workouts

Compounding unpaid interest onto a mortgage doesn't trigger new mortgage recording tax as long as the compounded total stays within the mortgage's already-taxed maximum secured amount. But watch that ceiling carefully over a long-running deferral — if compounding pushes the running total past the cap, the mortgage becomes unenforceable for the excess without paying additional tax.

Workout lenders structuring long-term interest deferrals

Model out how much the deferred interest will compound to over the full deferral period, and compare it against the mortgage's stated maximum secured amount. If there's a real risk of exceeding that cap, either build in a mechanism to pay additional recording tax before that happens, or structure the deferral (as in TSB-A-93(12)R) as fixed, non-compounding interest instead to avoid the issue entirely.

Real estate attorneys and title insurers

This ruling and its 1993 successor (TSB-A-93(12)R, Ticor Title) work together as a matched pair: this one shows what happens when interest DOES compound (recharacterized as principal, tax-free only within the existing cap, with an enforcement trap above it); the later one shows the safer alternative (fixed, non-compounding deferred interest, which never becomes principal at all).

Common questions

Q: Does compounding interest on a mortgage always avoid additional mortgage recording tax?
A: Only if the compounded amount stays within the mortgage's already-taxed maximum secured amount. If it exceeds that cap, additional tax becomes due on the excess, and until it's paid the mortgage is unenforceable for that portion.

Q: What's the difference between this ruling's outcome and the outcome in the later Ticor Title ruling?
A: Here, interest was allowed to compound (bear its own interest), which reclassifies it as principal under Cosmopolitan Broadcasting/Dubroff Associates. In Ticor Title (TSB-A-93(12)R), interest was deferred to a FIXED sum at maturity with NO compounding, so it never converted into principal at all -- a cleaner structure with no enforcement-cap risk.

Q: Can another borrower or lender rely on this specific ruling?
A: No. It binds the Department only as to this petitioner and these facts, though the underlying compounding-interest-becomes-principal rule (and the § 258 enforcement trap) reflects general statutory interpretation likely to apply broadly.

Citations and references

Statutes:

• Tax Law § 255.1(a) (supplemental mortgage treatment -- no new tax if secured debt isn't increased)
• Tax Law § 250 (increase in mortgage indebtedness taxable as a new mortgage)
• Tax Law § 258 (mortgage cannot be released, discharged, or enforced unless all accrued taxes are paid)

Prior opinions cited:

• Matter of Cosmopolitan Broadcasting Corporation, TSB-H-79(22)M (Sept. 28, 1979) (mortgage recording tax computed on the aggregate of a lesser indebtedness plus its interest)
• Matter of Michael Dubroff Associates, Inc. et al. (Dec. 18, 1976) (unpaid interest secured by a supplemental instrument is taxable further indebtedness, regardless of its origin as interest)

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/mortgage_rec_ao_1991.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/mortgage/a91_5r.pdf

Original ruling text

New York State Department of Taxation and Finance

Taxpayer Services Division
Technical Services Bureau

TSB-A-91 (5) R
Mortgage Recording Tax
May 28, 1991

STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. M910206A

On February 6, 1991, a Petition for Advisory Opinion was received from John P. Napoli, c/o
Dreyer and Traub, 101 Park Avenue, New York New York 10178.
The issue raised by Petitioner, John P. Napoli, is whether additional mortgage recording taxes
are due upon the recording of a modification agreement which modifies an existing mortgage in
order to secure, as additional interest, interest on accrued and unpaid interest on the original
mortgage indebtedness, without increasing the maximum principal indebtedness secured by the
original mortgage.
Petitioner's client (hereinafter the "client") owns fee title interest in real property located
within the State of New York. The real property is held subject to a number of first mortgages in
favor of X Bank. The mortgage recording tax, pursuant to Section 253 of the Tax Law, has been paid
in full on the original principal indebtedness secured by the mortgages when such mortgages were
recorded. By its terms, the X Bank mortgages also secure any accrued and unpaid interest on the
mortgage funds, but in no event does the amount secured by the mortgage exceed the original
indebtedness (the "maximum principal indebtedness").
The Client was not able to pay the interest obligations on a current basis. As a result, the
Client and X Bank will agree to defer such accrued and unpaid interest (referred to as the "unpaid
interest") provided, however, that additional interest accrues on the unpaid interest. The maximum
principal indebtedness secured under the mortgages (equal to the original principal balance of the
mortgages) will not change as a result of either the deferral of the unpaid interest or the imposition
of additional interest on the unpaid interest. X Bank requires that the existing mortgage be modified
in order to secure the original principal indebtedness together with interest earned thereon and, as
additional interest, on the unpaid interest.
The maximum principal amounts under the mortgages on which mortgage recording tax has
been paid are $209,000,000 and $220,000,000. The entire principal amounts under these mortgages
have not yet been fully advanced by the mortgage lenders. The outstanding principal balance of each
mortgage is approximately $204,413,000 and $192,750,000, respectfully. To date there have been
no payments made to the lenders which have reduced the principal amounts of the subject mortgages.
Section 255.1(a) of the Tax Law provides, in part, as follows:
If subsequent to the recording of a mortgage on which all taxes, if any, accrued under this
article have been paid, a supplemental instrument or mortgage is recorded for the purpose of
correcting or perfecting any recorded mortgage, or pursuant to some provision of covenant therein,
TP-9 (9/88)

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TSB-A-91 (5) R
Mortgage Recording Tax
May 28, 1991

or an additional mortgage is recorded imposing the lien thereof upon property not originally
covered by or not described in such recorded primary mortgage for the purpose of securing
the principal indebtedness which is or under any contingency may be secured by such
recorded primary mortgage, such additional instrument or mortgage shall not be subject to
taxation under this article, except as otherwise provided in paragraph (b) of this subdivision,
unless it creates or secures a new or further indebtedness or obligation other than the
principal indebtedness or obligation secured by or which under any contingency may be
secured by the recorded primary mortgage, in which case, a tax is imposed as provided by
section two hundred and fifty-three of this chapter on such new or further indebtedness or
obligation. (emphasis added)
The State Tax Commission held in Matter of Cosmopolitan Broadcasting Corporation, Dec
St Tx Comm, September 28, 1979, TSB-H-79(22)M that where the mortgage secures the payment
of a lesser indebtedness, plus interest thereon, the principal indebtedness secured by the mortgage
was the sum of lesser indebtedness and the interest and mortgage recording tax was to be computed
on such aggregate amount.
The State Tax Commission held in Mater of Michael Dubroff Associates, Inc. et al, Dec St
Tx Comm, December 18, 1976 that the principal debt, upon which the mortgage recording tax is
measured pursuant to Section 253 of the Tax Law, secured by the agreement includes further
indebtedness than that secured by the prior recorded primary mortgages, and that the taxability of
this further indebtedness is unaltered by the fact that it represents unpaid interest on the primary
mortgages. (emphasis added)
Further, Section 258 of the Tax Law provides, in part, as follows:
No mortgage of real property shall be recorded by any county clerk or register, unless
there shall be paid the taxes imposed by and as in this article provided. No mortgage
of real property which is subject to the taxes imposed by this article shall be released,
discharged of record or received in evidence in any action or proceeding, nor shall
any assignment of or agreement extending any such mortgage be recorded unless the
taxes imposed thereon by this article shall have been paid as provided in this article
....
Pursuant to Section 255 of the Tax Law, the agreement entered into between Client and X
Bank to modify the existing mortgage constitutes a supplemental mortgage, the recording of which
is subject to the mortgage recording taxes to the extent that the agreement creates or secures a new
or further indebtedness or obligation other than the principal indebtedness or obligation secured by
or which under any contingency may be secured by the recorded primary mortgage. Pursuant to the
decisions of the State Tax Commission in the matters of Cosmopolitan Broadcasting Corporation
and Michael Dubroff Associates, Inc., et al, accrued interest loses its character as interest when
additional interest is allowed to accrue on the unpaid interest, and, thus, become part of the principal
indebtedness or obligation secured by the mortgage. Nevertheless, as aforementioned, the maximum
principal amounts secured under the recorded primary mortgages are $209,000,000 and

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Mortgage Recording Tax
May 28, 1991
$220,000,000, and the entire principal amounts under these mortgages have not yet been fully
advanced by the mortgage lenders. These amounts are said to remain the same despite the
modification agreement to include the unpaid interest. Therefore, the modification of the mortgage
is not subject to any additional mortgage recording taxes pursuant to Section 255 of the Tax Law
since it does not create or secure a new or further indebtedness or obligation other than the principal
indebtedness or obligation secured by or which under any contingency may be secured by the
recorded primary mortgages.
However, Section 258 of the Tax Law would prevent the release, discharge or enforcement
of the prior recorded mortgages where principal advances, including principal advances in the form
of unpaid interest, are made that exceed the amount upon which the tax has been paid. Accordingly,
if the advances attributable to the modification for the unpaid interest when aggregated with the
outstanding principal balances of $204,413,000 and $192,750,000 exceed the maximum amounts
secured of $209,000,000 and $220,000,000, respectively, such mortgages will only be enforceable
up to the stated maximum amounts.

DATED:

May 28, 1991

s/PAUL B. COBURN
Deputy Director
Taxpayer Services Division

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