Tenant-in-Common Real Estate Investments
TENANT-IN-COMMON REAL ESTATE INVESTMENTS
A Tenant in Common (TIC) property is one in which an investor owns an undivided fractional interest in an entire property and shares in the pro-rata portion of the net income, depreciation, amortization, and property appreciation. The investor receives a separate deed and title insurance for its percentage interest in the property. Each tenant in common is entitled to share with the other tenants the possession of the whole parcel and has the associated rights to a proportionate share of rents or profits from the property, to transfer the interest, and to demand a partition of the property. These rights generally provide a tenant in common many, but not all, of the benefits of sole ownership of real property.
Because TIC opportunities are often “packaged” by a sponsor with management and financing in place, TICs offer efficiencies in the identification, acquisition, financing, closing, and operating stages of real estate ownership.
TIC properties provide an opportunity for diversification, and low equity requirements that may allow smaller individual investors to invest in large institutional investment properties. But, TICs involve additional costs over the costs of direct ownership. Income generated from a TIC property can often be sheltered from tax through using depreciation and interest deductions.*
Section 1031 exchanges may include acquisition of real estate interest through Tenant in Common (TIC) ownership.
Potential Advantages of 1031 TICs
Generally, 1031 exchanges and TICs are attractive in that they allow:
1. Greater investment – Because capital gains taxes are deferred, the investor has a higher adjusted basis, creating greater leverage, than if the tax liability was paid on a current basis. This may increase the investor’s available equity for reinvestment.
2. Diversification – One large property can be exchanged into many TIC properties, offering additional asset and geographical diversification.
3. Compounding Effect – A property owner who conducts multiple 1031 exchanges and makes unrealized gains on each exchange will be able to reinvest the deferred capital gains on each subsequent exchange. A property owner who holds exchanged property until death avoids the deferred tax liability and his or her heirs inherit the property with a “stepped-up” tax basis.
4. Pricing Flexibility – An investor can experience greater pricing flexibility because the sale price of the relinquished property will not need to be inflated to cover capital gains taxes. This enables the seller to have increased flexibility with the selling price on the relinquished property without requiring the investor to contribute additional cash to defer capital gains taxes.
5. Property Life – An investor can exchange property that has reached a plateau for one that is on an upswing; an unproductive property can be exchanged for an income-producing property; a property that has been depreciated can be exchanged for a more expensive property which has more room for additional depreciation.
6. Institutional-Grade Properties – An investor can access ownership in larger commercial properties that have traditionally been accessible only to very wealthy individuals, pension funds, insurance companies, and other institutional investors. TICs may allow a client access to ownership in commercial properties that they may not otherwise be able to afford.
7. Access to Pre-packaged Choices – Archer has relations with sponsors who are offering properties for which they have generally already arranged financing, completed initial due diligence, and commissioned appraisals and environmental reports, prior to the property being presented to investors.
Potential Risks of 1031 TICs
As with any investment, 1031 exchanges and TICs have certain risks:
1. Fees and Expenses – The cost to acquire a TIC interest may be more than purchasing a property outright because of additional expenses of making the property available to multiple co-owners and marketing it in the form of a private security offering, including brokerage fees, which may outweigh the benefits of tax deferral.
2. Past Performance – Past performance does not ensure or indicate future earnings, and property appreciation is not guaranteed. Principal reduction or loss may occur depending on the performance of the underlying real estate.
3. Tax Status – The1031 exchange program through a TIC is a structured investment based on Revenue Procedure 2002-22; current applicable laws may not remain in effect. If laws are changed, or if the IRS determines that the requirements of Section 1031 have not been met, there is a possibility of other ramifications such as back pay under different tax provisions, and immediate tax liabilities, including tax penalties.
4. Real Estate Risks – TIC interests are direct investments in real estate and are subject to all risks of owning, operating and disposing of real estate. Results from investing in real estate vary through cyclical economic times.
5. Reliance Upon Others – An investor purchasing TIC interests relies upon the sponsor and property manager to make day-to-day decisions related to the property. Other decisions may require unanimous approval from co-tenants.
6. Illiquidity – A TIC interest is an investment in real estate, subject to a tenants-in-common agreement, and is an illiquid investment. There is currently no established secondary market for the resale of TIC interests.
7. Suitability – TIC investments may not be suitable for all 1031 exchange investors.
8. Conflicts of Interest – Conflicts of interest may exist that could adversely affect the investment.