Saving Clients Money: Statutory Methodologies To Minimize Tax (Part 3)

While not as well-known as the Florida documentary stamp tax, the Tennessee indebtedness tax crops up in secured transactions and increases transaction costs associated with lending transactions. In this three-part series, attorneys Robert Harris and Lindsay O’Tousa will unpack the Tennessee indebtedness tax, detail the process of calculating and paying it, and explore statutory methodologies to minimize it. A must-read for banks, finance companies and private equity firms doing lending transactions with a Tennessee nexus.

Tennessee statute provides that upon filing a financing statement or other instrument evidencing indebtedness with the Tennessee Secretary of State, a recordation tax must be paid. However, there are a number of statutory strategies to mitigate the amount owed under Tennessee law.

One method is proration, which parties may utilize when collateral is located in multiple states. As covered in Part I to this Blog Series, Tennessee law requires a recordation tax to be paid based on the amount of indebtedness being secured. However, parties to the transaction must pay the tax on the portion of the indebtedness that corresponds to the portion of Tennessee collateral in the overall collateral package. According to T.C.A. § 67-4-409(b)(7)(B)(iv), “Tennessee collateral” means all collateral in which a security interest may be perfected by filing an instrument, like a UCC-1 or deed of trust in Tennessee, but specifically excludes any personal property physically located outside of the state of Tennessee such as FF&E, certificated securities, chattel paper, documents, instruments and money. It also excludes any intangible property and mobile goods if the debtor's chief executive office is located outside of Tennessee.

By utilizing proration, the total indebtedness is reduced by multiplying it by a ratio reflecting the portion of “Tennessee collateral” that is included in all collateral. That ratio is a fraction, the numerator of which is the value of the “Tennessee collateral” securing the indebtedness and the denominator of which is the value of “Total collateral” securing the indebtedness. Once the Tennessee proportion is calculated, it can be multiplied by the total indebtedness to determine the proportion for which the Tennessee tax is owed.

Another method to mitigate the amount owed on indebtedness in Tennessee is by pledging the securities in a Tennessee-organized debtor rather than its assets, which potentially removes perfection from Tennessee law altogether, and therefore obviates the necessity of paying the Tennessee indebtedness tax. Additionally, if a Tennessee entity has a non-Tennessee entity parent, pledging certain types of collateral, such as the Tennessee subsidiary’s equity, would put the collateral under the investment property exception to the recording tax pursuant to T.C.A. § 67-4-409(b)(1). Under Tennessee law, “investment property” is defined as “a security, whether certificated or uncertificated, security entitlement, securities account, commodity contract, or commodity account.” T.C.A. § 47-9-102(a)(49) (2016). In practice, this would require the lender to forego a lien on the hard assets of the Tennessee entity.

There is also an exemption from the tax for the recording and rerecording of all instruments evidencing the indebtedness of any health and educational facility corporation formed pursuant to T.C.A. § 48-101-301.

These are just a handful of creative strategies that sophisticated Tennessee counsel can use to help borrowers and lenders comply with the Tennessee indebtedness tax statute, while minimizing potential tax. In an era where every dollar counts and can drop to the bottom line, it is critical for companies, sponsors and lenders to get ahead of the issue and creatively structure transactions in the most tax-efficient way possible. The savings can be material.

To read the full series:

“Caveat Lender” - The Tennessee Indebtedness Tax (Part 1)

The Tennessee Indebtedness Tax in Practice (Part 2)

Saving clients money: statutory methodologies to minimize tax (Part 3)