Lessons from the Pros

Real Estate

Tenant-in-Common Property – How Do They Work?

In the last couple of years there has been an increase in the number of 1031 exchanges. One of the factors that may be leading to this movement are baby boomers. Boomers, as they are reaching their golden years, are looking for ways to increase monthly cash flow, reduce taxes and have less hands-on management.  Using a Tenant-in-Common or a Delaware Statutory Trust along with a 1031 exchange can help facilitate all these benefits. Let’s look at the benefits of a TIC and how it differs from a DST.

Three men discussing a real estate deal.

TICs (Tenant-in-Common Properties) are defined as property owned by a group of individuals who each have an undivided interest in the property.  In other words, everyone is actually on title to the property and owns a fractional interest in the entire property based on their investment amount.  For example, Mary might own 10%, Sally 15%, Gene 31 ½%, Fred 7 ½% and so on.  This opens up opportunities for real estate investors. The goal of most TICs is to hold the property for 5 to 7 years and then sell at a substantial gain. For the investor who wants a monthly cash flow without management responsibilities, TICs make a great deal of sense.

At one time, there were a lot of questions as to how Tenant-in-Common investments should be structured and how many people could be involved in ownership. IRS revenue procedure 2002-22 gave TIC’s answered these concerns.

Tenant-in-Common Rules and Guidelines

  • Number of co-owners can’t be greater than 35
  • If structured properly, can qualify for a 1031 Exchange
  • Regardless of investment size, all co-owners have equal voting rights
  • Property is held as Tenants in Common, not as partners
  • Each co-owner must be able to transfer their interest without undue restrictions
  • Loans for the property are under each co-owner (often non-recourse and assumable loans)

Advantages to investing in TICs

  • Tenant-in-Common properties are great for people who are tired of being landlords but still desire the benefits and safety of real estate ownership. Rather than selling their properties outright and paying a huge amount of capital gains, they can 1031 exchange the entire sales proceeds into a TIC and defer the tax.
  • A TIC gives real estate investors the opportunity to invest in many different types of properties that otherwise might have been out of their reach. This includes the purchase of apartment complexes, commercial office buildings, malls, multi-use facilities, etc. Tenant-in-common properties offer great flexibility.
  • TICs allow an investor to diversify property ownership into other areas of the country where the real estate market and growth potential might be stronger than in their own backyard, and they can do so with no management concerns.
  • A good TIC sponsor who is selective about the prices of properties they pick can provide an opportunity for the investors to obtain a very healthy return on their investment even in a weak real estate market.
  • A TIC is an ideal vehicle for 1031 exchanges, but they aren’t exclusively used for exchange investments.  Investments in a TIC can be within  your IRA or 401K.  The retirement account becomes titleholder. There are other nuances if the asset is financed.

As with all real estate, you must do your due diligence when selecting a sponsor company and understand the implications of the type of investment you are making.

What to Look for in a Tenant-in-Common Sponsor

  • Invest with a company that has a great track record. A track record is not a guarantee of future performance, but it’s a good indicator.
  • Don’t invest with a company that does not provide audited financial statements. An independent financial audit needs to be prepared and distributed on an annual basis to the investors.
  • Invest with a company that stays active as an owner alongside you, the investor. A responsible TIC sponsor will retain a percentage ownership of the property as well as provide property management.
  • Invest with a company that has owners who are both strong financially and are willing to sign the recourse carve outs. Most commercial loans are non-recourse loans which means if the bank forecloses on the property, they can only take the property back, not come after the owners for a deficiency judgment.  Often banks want someone responsible if there was fraud or mismanagement.  This is where the sponsors of the TIC should be willing to sign the recourse carve outs.

Differences Between a DST and TIC

Free Real Estate Investing WorkshopThere is one main difference between a Delaware Statutory Trust and a Tenant-in-Common. Where owners of the TIC actually have title to the property (equal to their investment) with a DST there is an ownership in the trust which holds title to the property.  The biggest advantage to the DST model over the TIC is that transfer or sale of the interest is easier.

Both of these vehicles provide ways to grow your wealth by deferring the taxes, simplifying your involvement in management, participating in larger scale assets and potential increase in cash flow (by starting a new clock on depreciation).

Great Fortune,

Diana Hill – dhill@tradingacademy.com

DISCLAIMER This newsletter is written for educational purposes only. By no means do any of its contents recommend, advocate or urge the buying, selling or holding of any financial instrument whatsoever. Trading and Investing involves high levels of risk. The author expresses personal opinions and will not assume any responsibility whatsoever for the actions of the reader. The author may or may not have positions in Financial Instruments discussed in this newsletter. Future results can be dramatically different from the opinions expressed herein. Past performance does not guarantee future results. Reprints allowed for private reading only, for all else, please obtain permission.

Join over 170,000 Lessons from the Pros readers. Get new articles delivered to your inbox weekly.