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Tenants-In-Common
Anyone involved in investment real estate today is aware of the challenge in finding a replacement property that qualifies for a 1031 tax deferred exchange. In 2002 the IRS issued a set of 15 guidelines under which investors looking for an exchange property would be permitted to utilize the Tenants in Common (TIC) ownership structure in order to provide an additional avenue for deferring the payment of capital gains taxes.
Holding title as Tenants in Common is defined as a form of asset ownership in which two or more persons have an undivided interest in the asset, where the ownership shares are not required to be equal, where ownership interests can be inherited, and each co owner has a separate deed.
The most common way to become a Tenants in Common co owner is by joining a group of investors who are interested in being Tenants in Common and who are usually sponsored by a TIC Sponsor or Developer. A TIC Sponsor locates suitable properties, arranges to purchase the properties, prepares comprehensive due diligence material, raises the necessary funds and takes care of the management of the property post closing.
Some of the advantages of Tenants in Common (TIC) ownership interest are:
• Little to No Management: TIC ownership allows the investor to leave the management to someone else and receive a monthly income. No management headaches are one of the most compelling reasons for purchasing a TIC.
• Diversification: Investors can spread the risk that is inherent in any investment, among a number of properties. Risk management is key to successful investing and diversification is one of the best means of managing risk. Diversification should be by geography, asset class (not everything in retail for example) and by risk category.
• Certainty of Close: For 1031 investor’s certainty of close is vital. Because a TIC’s financing and due diligence are already complete the likelihood of a successful close is increased significantly over a conventional real estate transaction.
• Plan B Value: For 1031 investors TICs are an excellent Plan B strategy. To guard against the risk of the due diligence and financing contingencies not being completed prior to the end of the 45 day identification period when trying to purchase conventional real estate, including a TIC one of your ID'd properties, can save the day.
• Strength of Larger Properties: Investors can invest in larger properties than otherwise possible with the funds available. Frequently these larger properties have a better risk reward ratio because of stronger tenants, demographics etc. Owning a part of a $100 million dollar Class A Office Building with Long Term Credit Tenants can provide peace of mind that a small apartment building with management headaches can’t really compare to.
• Liquidity: Each TIC investment is different when it comes to liquidity. Most commonly, the terms of the loan on the TIC property will define if the investment is liquid before the entire property is sold (typically 5 to 7 years). TIC investors need to check with the TIC sponsor as to liquidity before they invest.
• Increased After Tax Cash Flow: Buying into a larger property can increase the amount of depreciation that can be taken thus sheltering more income. TICs are an excellent way to invest in larger properties and avoid management headaches.
The downside of TIC ownership is the lack of control (the investor does not have sole control over who manages the property, when the property is going to be sold or refinanced etc.). Another potential negative is the lack of liquidity that has already been discussed.
With all that said investors should look at the Tenants in Common option as a point of comparison to other real estate investment alternatives at the very least.
The ability to diversify and have management free income are exceptionally strong arguments for TIC investment that should be considered and, for many investors outweigh the negatives.
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