Td 9463

Part I. Rulings and Decisions Under the Internal Revenue Code
of 1986
Section 42.—Low-Income
Housing Credit
The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of October 2009. See Rev. Rul. 2009-33, page 447.

Section 280G.—Golden
Parachute Payments
Federal short-term, mid-term, and long-term rates
are set forth for the month of October 2009. See Rev.
Rul. 2009-33, page 447.

Section 482.—Allocation
of Income and Deductions
Among Taxpayers
Federal short-term, mid-term, and long-term rates
are set forth for the month of October 2009. See Rev.
Rul. 2009-33, page 447.

Section 483.—Interest on
Certain Deferred Payments
The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of October 2009. See Rev. Rul. 2009-33, page 447.

Section 382.—Limitation
on Net Operating Loss
Carryforwards and Certain
Built-In Losses Following
Ownership Change

Section 642.—Special
Rules for Credits and
Deductions

The adjusted applicable federal long-term rate is
set forth for the month of October 2009. See Rev.
Rul. 2009-33, page 447.

Federal short-term, mid-term, and long-term rates
are set forth for the month of October 2009. See Rev.
Rul. 2009-33, page 447.

Section 412.—Minimum
Funding Standards

Section 807.—Rules for
Certain Reserves

The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of October 2009. See Rev. Rul. 2009-33, page 447.

The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of October 2009. See Rev. Rul. 2009-33, page 447.

Section 467.—Certain
Payments for the Use of
Property or Services

Section 846.—Discounted
Unpaid Losses Defined

The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of October 2009. See Rev. Rul. 2009-33, page 447.

Section 468.—Special
Rules for Mining and Solid
Waste Reclamation and
Closing Costs
The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of October 2009. See Rev. Rul. 2009-33, page 447.

The adjusted applicable federal short-term, midterm, and long-term rates are set forth for the month
of October 2009. See Rev. Rul. 2009-33, page 447.

Section 860.—Deduction of
Deficiency Dividends
26 CFR 1.860A–1: Effective dates and transition
rules.

T.D. 9463
DEPARTMENT OF THE
TREASURY
Internal Revenue Service
26 CFR Parts 1 and 602

2009–40 I.R.B.

442

Modifications of Commercial
Mortgage Loans Held by
a Real Estate Mortgage
Investment Conduit (REMIC)
AGENCY: Internal Revenue Service
(IRS), Treasury.
ACTION: Final Regulation.
SUMMARY: This document contains final
regulations that expand the list of permitted loan modifications to include certain
modifications that are often made to commercial mortgages. Changes to the regulations are necessary to better accommodate evolving practices in the commercialmortgage industry. These changes will
affect lenders, borrowers, servicers, and
sponsors of securitizations of mortgages in
REMICs.
DATES: Effective Date: These regulations
are effective on or after September 16,
2009.
Applicability Date: For date of applicability, see §1.860A–1(b).
INFORMATION
FOR
FURTHER
CONTACT: Diana Imholtz or Susan
Thompson Baker at (202) 622–3930 (not
a toll-free number).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collection of information contained in this final regulation has been
reviewed and approved by the Office of
Management and Budget in accordance
with the Paperwork Reduction Act of
1995 (44 U.S.C. 3507(d)) under control
number 1545–2110. The collection of
information in this final regulation is in
§1.860G–2(b)(7). This information is
required in order to show that certain modifications to mortgages permitted by this
final regulation will not cause the modified mortgage to cease to be a qualified
mortgage. The collection of information
is voluntary to obtain a benefit.

October 5, 2009

An agency may not conduct or sponsor,
and a person is not required to respond to, a
collection of information unless it displays
a valid OMB control number.
Books or records relating to a collection
of information must be retained as long
as their contents may become material in
the administration of any internal revenue
law. Generally, tax returns and tax return
information are confidential, as required
by 26 U.S.C. 6103.
Background
This document contains amendments
to 26 CFR part 1 under section 860G of
the Internal Revenue Code (Code). In
Notice 2007–17, 2007–1 C.B. 748 (March
19, 2007), the IRS and the Treasury
Department requested input on whether
the present REMIC regulations should
be amended to permit additional types
of modifications incurred in connection
with commercial mortgage loans. See
§601.601(d)(2)(ii)(b). The IRS and the
Treasury Department received several
comments in response to this request
(the Notice 2007–17 Comments). After consideration of the Notice 2007–17
Comments, the IRS and the Treasury
Department published in the Federal Register (72 FR 63523) on November 9, 2007,
proposed regulations (REG–127770–07,
2007–2 C.B. 1171) that would expand
the list of permitted loan modifications
to include certain modifications that are
often made to commercial mortgages. The
IRS and the Treasury Department received
additional comments in response to the
proposed regulations (the Proposed Regulation Comments). A public hearing was
requested and was held on April 4, 2008
(Announcement 2008–24 I.R.B. 692
[73 FR 12041]).
After consideration
of the Proposed Regulation Comments,
the proposed regulations are adopted as
revised by this Treasury decision.
Summary of Comments and
Explanation of Provisions
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

October 5, 2009

this purpose, the rules in §1.1001–3(e)
determine whether a modification is “significant.” See §1.860G–2(b)(2). Because
of when it is treated as having been acquired in the deemed exchange, a significantly modified obligation generally
fails to be a qualified mortgage. Section
1.860G–2(b)(3), however, contains a list
of modifications that are expressly permitted without regard to the section 1001
modification rules.
The final regulations expand this list of
permitted exceptions to include changes in
collateral, guarantees, and credit enhancement of an obligation and changes to the
recourse nature of an obligation. These
changes are permitted so long as the obligation continues to be principally secured
by an interest in real property. The final
regulations also clarify when a release of a
lien on real property securing a qualified
mortgage does not disqualify the mortgage.
The Proposed Regulation Comments
included requests for clarification and recommendations relating to the following:
(i) the lien release rule; (ii) the requirement to retest the collateral value; (iii)
the appraisal requirement; (iv) changes in
the nature of an obligation from nonrecourse to recourse; (v) investment trusts;
and (vi) other proposals set forth in the
Notice 2007–17 Comments that were not
included in the proposed regulations.
1. The Lien Release Rule
The proposed regulations would provide that a lien release pursuant to certain
changes in collateral would not cause a
qualified mortgage to cease to be a qualified mortgage on the date the lien is
released. Commentators indicated that, as
drafted, the proposed regulations could be
interpreted to prohibit other types of lien
releases, including lien releases that are
occasioned by a default or reasonably foreseeable default under §1.860G–2(b)(3)(i)
and lien releases that are permitted pursuant to the terms of the mortgage loan
and are not modifications for purposes
of §1.1001–3. In response to these comments, the final regulations clarify that a
release of a lien on real property that does
not result in a significant modification
under §1.1001–3 (for example, a release
or substitution of collateral pursuant to
the borrower’s unilateral option under the

443

terms of the mortgage loan) is not a release
that disqualifies a mortgage loan, so long
as the mortgage continues to be principally secured by real property after giving
effect to any releases, substitutions, additions, or other alterations to the collateral.
Similarly, the final regulations clarify that
a lien release occasioned by a default or
a reasonably foreseeable default is not a
release that disqualifies the mortgage, so
long as the principally-secured test continues to be satisfied.
2. The Requirement to Retest the
Collateral Value
Section 1.860G–2(a)(1) of the regulations provides that an obligation is principally secured by an interest in real property
if the fair market value of the real property
that secures the obligation equals at least
80 percent of the adjusted issue price of
the obligation. The regulations require the
80-percent test to be satisfied either at the
time the obligation was originated or at the
time the sponsor contributes the obligation
to the REMIC. After the startup day, the
regulations do not require ongoing satisfaction of the 80-percent test.
Because certain types of modifications
permitted by the proposed regulations
could affect the value of the collateral
securing the mortgage loan, the proposed
regulations would require the 80-percent
test to be satisfied at the time the mortgage
loan is modified with respect to changes
in collateral, guarantees, and credit enhancement of an obligation or with respect
to changes to the recourse nature of an
obligation. Commentators indicated that
retesting should be required only when
the modification could cause a decrease
in the value of real property collateral relative to the mortgage loan amount. For
this reason, commentators further indicated that changes in guarantees, credit
enhancements or the recourse nature of an
obligation, as well as the addition of collateral, do not have the effect of decreasing
the value of the real property securing the
mortgage loan and, therefore, these types
of changes should not require retesting.
To ensure that a modified mortgage
loan continues to be principally secured by
an interest in real property, the IRS and the
Treasury Department continue to believe
that it is appropriate to retest at the time
of the modification. Accordingly, the final

2009–40 I.R.B.

regulations retain the retesting requirement, but amend the proposed standards
for satisfying the principally secured test
as described in section 3 in this preamble.
In addition, to provide a more flexible
standard for changes that do not decrease
the value of real property securing the
mortgage loan, the final regulations provide an alternative method for satisfying
the principally secured test.
For these types of changes (for example, a change from recourse to nonrecourse, or vice versa), the final regulations
provide that a modified mortgage loan
continues to be principally secured by real
property if the fair market value of the interest in real property that secures the loan
immediately after the modification equals
or exceeds the fair market value of the
interest in real property that secured the
loan immediately before the modification.
This alternative test is consistent with the
general rule that a decline in the value of
collateral does not cause a mortgage loan
to cease to be principally secured by real
property. The final regulations provide
an example to illustrate the application of
this alternative method for satisfying the
principally secured test.
The final regulations also require retesting with respect to a lien release that is
not a significant modification for purposes
of §1.1001–3 (for example, a release of
real property collateral pursuant to the borrower’s unilateral option under the terms
of the mortgage loan). Here as well, the
principally secured test is satisfied if either
the 80-percent test is satisfied based on the
current value of the real property securing
the mortgage or the value of the real property collateral after the modification is no
less than the value of the real property collateral immediately before.
For purposes of retesting with respect to
alterations to real property collateral, the
transaction causing the alteration is looked
at in its entirety in determining the value
of the real property collateral. For example, if, as part of an overall plan to make
improvements to real property collateral
that secures a mortgage loan, a borrower
demolishes an existing building and constructs a new building on that real property,
the fair market value of the real property
collateral is determined by taking into account both the demolition of the existing
building and the construction of the new
building.

2009–40 I.R.B.

3. The Appraisal Requirement
For purposes of retesting as of the date
of modification, the proposed regulations
would require a current appraisal determined by an independent appraiser. Several commentators indicated that requiring a formal appraisal in connection with
a loan modification is a stricter standard
than is currently required for satisfying the
80-percent test at the startup day. See
§1.860G–2(a)(3). For a number of business reasons, commentators indicated that
servicers need more flexibility in complying with this retesting requirement and,
therefore, requested that the proposed regulations be amended to permit servicers
to use other types of reasonable valuation
methods.
In response to these comments and to
make the retesting requirement more consistent with the current rules for satisfying the 80-percent test at the startup day,
the final regulations provide that the principally-secured test will be satisfied if the
servicer reasonably believes that the modified mortgage loan satisfies the 80-percent
test at the time of the modification. The final regulations provide that a servicer must
base a reasonable belief upon a commercially reasonable valuation method. The
final regulations set forth a nonexclusive
list of commercially reasonable valuation
methods that can be used by servicers for
retesting purposes. These same commercially reasonable methods can be used under the alternative test to establish that the
value of the real property collateral immediately after the modification is no less
than the value of the real property collateral immediately before it.
4. Changes in the Nature of an Obligation
from Nonrecourse to Recourse
The final regulations clarify that
changes in the nature of an obligation from
nonrecourse (or substantially all nonrecourse) to recourse (or substantially all
recourse) are permitted so long as the obligation continues to be principally secured
by an interest in real property.
5. Investment Trusts
Section 301.7701–4(c) of the Procedure
and Administration Regulations provides
that an investment trust is not classified as
a trust if there is a power under the trust

444

agreement to vary the investment of the
certificate holders. The IRS and the Treasury Department understand that changes
to the terms of commercial mortgage loans
held by investment trusts may raise issues as to whether a “power to vary” is
present, and commentators recommended
that the scope of the regulation project
be expanded to permit investment trusts
to modify commercial mortgage loans in
the same manner as REMICs. To avoid
a significant delay in the publication of
these final regulations, their scope has not
been expanded to include modifications of
mortgage loans held by investment trusts.
In a separate notice to be published in the
Internal Revenue Bulletin contemporaneously with these final regulations, the IRS
and the Treasury Department intend to request comments on this issue.
6. Other Proposals Set Forth in the Notice
2007–17 Comments
In the Proposed Regulation Comments,
commentators requested that the IRS and
the Treasury Department reconsider other
proposed loan modifications that were set
forth in the Notice 2007–17 Comments
but that were not included in the proposed
regulations. For the reasons indicated in
the preamble to the proposed regulations,
the IRS and the Treasury Department determined that the remaining changes requested by commentators should not be included in the final regulations.
Special Analysis
It has been determined that this Treasury decision is not a significant regulatory action as defined in Executive Order
12866. Therefore, a regulatory assessment
is not required. It has also been determined
that section 553(b) of the Administrative
Procedure Act (5 U.S.C. chapter 5) does
not apply to this regulation.
It is hereby certified that the collection of information requirement in this regulation will not have a significant economic impact on a substantial number of
small business entities. This certification
is based on the fact that the REMICs affected by this regulation will not be classified as small business entities. According to the Small Business Administration
definition of a “small business,” 13 C.F.R.
121.201, a REMIC is classified under Sector 52 (Finance and Insurance), Subsector

October 5, 2009

525 (Funds, Trusts and Other Financial Vehicles) under the category “Other Financial Vehicle”, NAICS code 525990, and is
only considered a small business entity if it
accumulates less than 6.5 million dollars in
annual receipts. REMICs affected by this
regulation generally hold pools of commercial mortgage loans with an average
loan size of 18.1 million dollars, and have
greater than 6.5 million dollars in annual
receipts. Therefore, a Regulatory Flexibility Analysis under the Regulatory Flexibility Act (5 U.S.C. chapter 6) is not required.
Pursuant to section 7805(f) of the Internal Revenue Code, the notice of proposed
rulemaking preceding this regulation was
submitted to the Chief Counsel for Advocacy of the Small Business Administration
for comment on its impact on small business.
Drafting Information
The principal author of these regulations is Diana Imholtz of the Office of Associate Chief Counsel (Financial Institutions and Products). Other personnel from
the IRS and the Treasury Department participated, however, in their development.
*****
Adoption of the Amendments to the
Regulations
Accordingly, 26 CFR parts 1 and 602
are amended as follows:
PART 1—INCOME TAXES
Paragraph 1. The authority citation for
part 1 is amended by adding entries in numerical order to read in part as follows:
Authority: 26 U.S.C. 7805 * * *
Section 1.860A–0 also issued under
26 U.S.C. 860G(e).
Section 1.860G–2 also issued under
26 U.S.C. 860G(e). * * *
Par. 2. Section 1.860A–0 is amended
by revising the entry for §1.860G–2(a)(8)
and adding an entry for §1.860G–2(b)(7)
to read as follows:
§1.860A–0 Outline of REMIC provisions.
*****
§1.860G–2 Other rules.
(a) * * *

October 5, 2009

(8) Release of a lien on an interest in
real property securing a qualified mortgage; defeasance.
*****
(b) * * *
(7) Test for determining whether an
obligation continues to be principally
secured following certain types of modifications.
*****
Par. 3. Section 1.860A–1 is amended
by adding paragraph (b)(6) to read as follows:
§1.860A–1 Effective dates and transition
rules.
*****
(b) * * *
(6) Exceptions for certain modified obligations. Paragraphs (a)(8)(i),
(b)(3)(v), (b)(3)(vi), and (b)(7) of
§1.860G–2 apply to modifications made
to the terms of an obligation on or after
September 16, 2009.
Par. 4. Section 1.860G–2 is amended
by:
1.
Revising paragraphs (a)(8),
(b)(3)(iii) and (b)(3)(iv).
2.
Adding paragraphs (b)(3)(v),
(b)(3)(vi) and (b)(7).
The additions and revisions read as follows:
§1.860G–2 Other rules.
(a) * * *
(8) Release of a lien on an interest in
real property securing a qualified mortgage; defeasance. If a REMIC releases its
lien on an interest in real property that secures a qualified mortgage, that mortgage
ceases to be a qualified mortgage on the
date the lien is released unless—
(i) The REMIC releases its lien in a
modification that—
(A) Either is not a significant modification as defined in paragraph (b)(2) of this
section or is one of the listed exceptions
set forth in paragraph (b)(3) of this section;
and
(B) Following that modification, the
obligation continues to be principally secured by an interest in real property as
determined by paragraph (b)(7) of this
section; or
(ii) The mortgage is defeased in the following manner—

445

(A) The mortgagor pledges substitute
collateral that consists solely of government securities (as defined in section
2(a)(16) of the Investment Company Act
of 1940 as amended (15 U.S.C. 80a–1));
(B) The mortgage documents allow
such a substitution;
(C) The lien is released to facilitate the
disposition of the property or any other
customary commercial transaction, and
not as part of an arrangement to collateralize a REMIC offering with obligations
that are not real estate mortgages; and
(D) The release is not within 2 years of
the startup day.
*****
(b) * * *
(3) * * *
(iii) Waiver of a due-on-sale clause or a
due-on-encumbrance clause;
(iv) Conversion of an interest rate by a
mortgagor pursuant to the terms of a convertible mortgage;
(v) A modification that releases, substitutes, adds, or otherwise alters a substantial amount of the collateral for, a guarantee on, or other form of credit enhancement for, a recourse or nonrecourse obligation, so long as the obligation continues
to be principally secured by an interest in
real property following the release, substitution, addition, or other alteration as determined by paragraph (b)(7) of this section; and
(vi) A change in the nature of the obligation from recourse (or substantially all
recourse) to nonrecourse (or substantially
all nonrecourse), or from nonrecourse (or
substantially all nonrecourse) to recourse
(or substantially all recourse), so long as
the obligation continues to be principally
secured by an interest in real property following such a change as determined by
paragraph (b)(7) of this section.
*****
(7) Test for determining whether an
obligation continues to be principally
secured following certain types of modifications. (i) For purposes of paragraphs
(a)(8)(i), (b)(3)(v), and (b)(3)(vi) of this
section, the obligation continues to be
principally secured by an interest in real
property following the modification only
if, as of the date of the modification,
the obligation satisfies either paragraph
(b)(7)(ii) or paragraph (b)(7)(iii) of this
section.

2009–40 I.R.B.

(ii) The fair market value of the interest in real property securing the obligation,
determined as of the date of the modification, must be at least 80 percent of the adjusted issue price of the modified obligation, determined as of the date of the modification. If, as of the date of the modification, the servicer reasonably believes that
the obligation satisfies the criterion in the
preceding sentence, then the obligation is
deemed to do so. A reasonable belief does
not exist if the servicer actually knows, or
has reason to know, that the criterion is not
satisfied. For purposes of this paragraph
(b)(7)(ii), a servicer must base a reasonable
belief on—
(A) A current appraisal performed by an
independent appraiser;
(B) An appraisal that was obtained in
connection with the origination of the obligation and, if appropriate, that has been updated for the passage of time and for any
other changes that might affect the value
of the interest in real property;
(C) The sales price of the interest in
real property in the case of a substantially
contemporary sale in which the buyer assumes the seller’s obligations under the
mortgage; or
(D) Some other commercially reasonable valuation method.
(iii) If paragraph (b)(7)(ii) of this section is not satisfied, the fair market value of
the interest in real property that secures the
obligation immediately after the modification must equal or exceed the fair market

value of the interest in real property that
secured the obligation immediately before
the modification. The criterion in the preceding sentence must be established by a
current appraisal, an original (and updated)
appraisal, or some other commercially reasonable valuation method; and the servicer
must not actually know, or have reason to
know, that the criterion in the preceding
sentence is not satisfied.
(iv) Example. The following example illustrates the rules of this paragraph
(b)(7).
Example. (i) S services mortgage loans that are
held by R, a REMIC. Borrower B is the issuer of one
of the mortgage loans held by R. The original amount
of B’s mortgage loan was $100,000, and the loan was
secured by real property X. At the time the loan was
contributed to R, property X had a fair market value
of $90,000. Sometime after the loan was contributed
to R, B experienced financial difficulties such that it
was reasonably foreseeable that B might default on
the loan if the loan was not modified. Accordingly,
S altered various terms of B’s loan to substantially
reduce the risk of default. The alterations included
the release of the lien on property X and the substitution of real property Y for property X as collateral
for the loan. At the time the loan was modified, its
adjusted issue price was $100,000. The fair market
value of property X immediately before the modification (as determined by a commercially reasonable
valuation method) was $70,000, and the fair market
value of property Y immediately after the modification (as determined by a commercially reasonable
valuation method) was $75,000.
(ii) The alterations to B’s loan are a significant
modification within the meaning of §1.1001–3(e).
The modification, however, is described in paragraphs (a)(8)(i) and (b)(3) of this section. Accordingly, the modified loan continues to be a qualified
mortgage if, immediately after the modification, the

modified loan continues to be principally secured
by an interest in real property, as determined by
paragraph (b)(7) of this section.
(iii) Because the modification includes the release
of the lien on property X and substitution of property Y for property X, the modified loan must satisfy
paragraph (b)(7)(i) of this section (which requires satisfaction of either paragraph (b)(7)(ii) or paragraph
(b)(7)(iii) of this section). The modified loan does
not satisfy paragraph (b)(7)(ii) of this section because
property Y is worth less than $80,000 (the amount
equal to 80 percent of the adjusted issue price of the
modified mortgage loan). The modified loan, however, satisfies paragraph (b)(7)(iii) of this section because the fair market value of the interest in real estate
(real property Y) that secures the obligation immediately after the modification ($75,000) exceeds the
fair market value of the interest in real estate (real
property X) that secured the obligation immediately
before the modification ($70,000). Accordingly, the
modified loan satisfies paragraph (b)(7)(i) of this section and continues to be principally secured by an interest in real property.

*****
PART 602—OMB CONTROL
NUMBERS UNDER THE PAPERWORK
REDUCTION ACT
Par. 5. The authority citation for part
602 continues to read as follows:
Authority: 26 U.S.C. 7805.
Par. 6. Section 602.101, paragraph (b)
is amended by adding the entry in numerical order to the table to read as follows:
§602.101 OMB Control numbers.
*****
(b) * * *

CFR part or section where
identified and described

Current OMB
control No.

*****
1.860G–2

...........................................................

1545–2110

*****
Linda M. Kroening,
Acting Deputy Commissioner
for Services and Enforcement.
Approved September 9, 2009.
Michael Mundaca,,
Acting Assistant Secretary
of the Treasury (Tax Policy).

2009–40 I.R.B.

Section 860G.—Other
Definitions and Special
Rules

Section 1001.—Determination of Amount and
Recognition of Gain or Loss

Whether additional guidance related to modifications of commercial loans held by investment trusts similar to the changes permitted under
§1.860G–2(b)(3) is appropriate and the extent to
which the requested changes are consistent with
Service position under §301.7701–4(c), relating to
fixed investment trusts. See T.D. 9463, page 442.
See Notice 2009-79, page 454.

26 CFR 1.1001–3: Modifications of debt instruments.

446

This revenue procedure describes the conditions
under which modifications to the terms of certain
commercial mortgage loans that are at risk of default
will not cause the IRS to challenge the tax status of
certain securitization vehicles that hold the loans or to
assert that those modifications give rise to prohibited
transactions. See Rev. Proc. 2009-45, page 471.

October 5, 2009