Some companies that handle TICs have completed due diligence on a variety of possible investment properties. To do this, registered investment representatives complete the due diligence within their company, usually through their due diligence department; while others seek the outside services of "due diligence consultants" and attorneys.
Types of Tenants in Common 1031 Exchanges
1031 Tenants in Common Exchanges can be structured in a variety of ways, and these opportunities often come packaged with management and financing in place.
A non-recourse loan is sometimes offered, which prevents the lender from going after the borrower’s other assets in case of default. The lender’s security in the loan is limited to the value of the property.
However, some lenders have recently begun requiring a responsible entity to sign for liability in the event that the rents received from the property are not used to repay the loan but instead are diverted for repairs, etc. Other lenders have stipulated that a TIC and, sometimes each individual buyer, must guarantee the lender against any future environmental issues. Investors are urged to closely scrutinize loan documents and the PPM to avoid the possibility of liability far in excess of their original investment.
When carrying out due diligence on TIC programs, investors should carefully compare the structure and conformity with the 15 Rev. Proc. guidelines. A transaction that substantially deviates might result in the IRS disallowing it, thus subjecting investors to future tax consequences.
Offerings are structured with a document signed by each owner, providing the sponsor with the authority to handle the daily management of the property. There may be a master lease or a management agreement that contain variances in the way rents and funds collected are dispersed to the TIC co-owners.
Offerings may also contain a tenants in common agreement, which describes the relationship between the individual investor and the other TIC co-owners. A TIC may be also be structured as a Special Purpose Entity (SPE) where no individuals are listed as owners. Under a SPE, a single limited liability company purchases and owns the TIC interest. This structure provides an extra layer of liability protection for the co-owners and the lender. Usually the TIC Sponsor will not be responsible for the management of the investment and independent management must be employed.
Are Tenants in Common Exchanges Securities or Real Estate?
Most sponsors treat TIC investments as securities because they meet the definition of a security either in the state where the property is or in the various states where the Sponsor intends to offer it for sale. This means that means only licensed securities dealers can market these investments, with the oversight of the SEC. However, all TIC interests, including those that are securities, are conveyed by deed and most states classify them as real estate.The question of whether a real estate investment is a security can be complex and the issue is causing considerable consternation. While the purchase of a TIC interest is a real estate transaction for 1031 purposes, most are sold as securities. However, it is not surprising that some sponsors continue to sell TIC interests as real estate and do not market them as securities.
Since real estate brokers are usually involved in the sale of the Relinquished Property, marketing TIC offerings through these same brokers only seems logical as they are in a position to identify prospective investors. The conflict lies in the rules of FINRA, (Financial Industry Regulatory Authority) and the Securities and Exchange Commission, which prohibit the payment of a fee or commission to anyone who does not hold a securities license.
This effectively rules out the payment of referral fees or commissions to real estate brokers. It is unfortunate that these rules, intended to protect investors, do not encourage real estate professionals to present the advantages of a TIC transaction to their 1031 exchange clients.
Demand for Tenants in Common 1031 Exchanges is Strong
An investor should view a TIC as a property that will be held as a moderate- to long-term investment. If liquidity is important, then alternative options should be considered.
The demand for Tenants in Common properties continues to grow with each passing year. Suffice to say, the sheer velocity of the TIC marketplace and the 1031 exchange process can be daunting to investors unfamiliar with TIC, but the opportunities for profit and tax savings are enormous.
Securities offered through Pacific West Securities, Inc. Member FINRA/SIPC.
This material is neither an offer to sell nor the solicitation to purchase any security. The information is for discussion and information purposes only. It is not intended to replace competent legal, tax or financial planning advice. The applicable tax codes apply to and relate to federal law only. Individual states may have their own additional tax codes. Please contact the appropriate tax and legal professional in your state. This information is provided from sources believed to be reliable but should be used in conjunction with professional advice that is consistent with your personal situation.
