TIC CONSIDERATIONS

As with any investment, there are areas of potential concern that every prospective TIC investor should evaluate when considering an investment. Below are five of the most important considerations.

Real Estate Risks

Any investment entails a certain amount of risk. Since tenant-in-common investments generally represent investments in commercial (or multi-family) real estate, they share many of the same risks common to any investment real estate. Unfavorable national or local economic conditions, changes in interest rates, declines in the financial strength of tenants, environmental hazards, unexpected capital expenditures, and rising operating costs are just several of the risks common to any real estate investment, including TICs. Under adverse conditions, TIC owners can suffer a loss of monthly income and the possibility of losing the full amount of their investment if the bank holding the loan took over the property due to non-payment of the loan. It is important to realize, however, that these risks are fundamentally no different than the risks currently being borne by many sole-owners of investment real estate. Perhaps ameliorating these risks for a TIC owner is the fact that most TICs utilize non-recourse debt, require that the property be held in a bankruptcy-remote vehicle like an LLC, and often feature well-located, newer buildings with credit tenants and solid leases. These features may be attractive to many investors, and can be used as a comparison against their current properties and/or situations (see Planning Checklist).

Tax Risks

Despite the IRS’s issuance of Revenue Procedure 2002-22, which clarified the IRS’s position on TICs as qualifying replacement properties in a 1031 Exchange, it should be noted that there can be no absolute assurance of any TIC investment qualifying for Code 1031 purposes. Instead, the IRS has outlined their guidelines for structuring a tenant-in-common investment which, if complied with, should qualify it for a Private Letter Ruling. It should be noted that few TIC sponsors actually seek an opinion from the IRS or request a Private Letter Ruling; most sponsoring real estate companies instead rely upon independent private counsel to issue a “should qualify” opinion, which usually appears in a TIC offering’s Private Placement Memorandum.

Costs

Similar to other real estate transactions, purchasing a TIC interest involves several costs from different sources, among them: broker commissions, acquisition costs, marketing expenses, attorney fees, closing costs, and other fees. It is important to understand how much you are paying and for what purpose these costs are being incurred. Though broken down and spelled out in a TIC property's offering memorandum, these costs are often bundled or built-in to the asking price that the TIC owner pays for the TIC property.

What this means for investors is two things. First, the TIC property must appreciate by a sufficient amount to cover these up-front costs. If the TIC compares favorably with comparable properties in the area on a per square foot asking price and a per square foot rental rate, however, then a TIC owner could still enjoy a good overall return on their investment over a multi-year holding period, even after the sponsor's "mark-up." Second, any projected yields quoted to a TIC owner already reflect these up-front costs. So, for example, if a TIC property had a first year projected cash return of 7%, and a TIC owner invested $1 million, the first year's income would be $70,000. This net income is inclusive of the sponsor's up-front charges and therefore the fees would not further reduce the TIC owner's yields.

Liquidity

An investment in a TIC is an investment in real estate and, as such, should not be considered a liquid investment. Many factors will determine the ability of an owner to sell an investment property at a time and price that is desirable, among them: current economic conditions, interest rates, current vacancy rates, the quality and status of current tenants and leases, the existence of competing properties in the area, and many other factors. A TIC interest carries similar liquidity risks, with the additional consideration that any transfer or sale of a TIC interest will generally require the lender’s consent, and may also be subject to various securities regulations. Depending on how the sale is structured, there could also be significant time and costs involved. In general, however, a TIC owner will retain the ability to sell or transfer TIC interests to another party. Most TIC Agreements will require that the other co-owners be given the first right to purchase the interests of an investor who wishes to sell. Should the co-owners decline, the sponsoring real estate company is then typically given the right to purchase the interests from the owner. If neither the co-owners nor the sponsoring real estate company wishes to acquire the selling TIC owner’s interests, this could be indicative of a less-desirable or problematic property. If such a problem exists, then a TIC owner desiring to sell at this time may be required to take a discount in the sales price, which could, of course, be less than the amount originally invested.

Beyond the possible need for “early” liquidity, addressed above, most TIC property sponsors, in their role as asset manager, will have an exit strategy in place for the eventual disposition of the property, on behalf of the TIC owners. A multi-year holding period (5-10 years) is a common time-frame within which many TIC properties are anticipated to be held. Upon sale of the TIC property, TIC owners are free to do what they wish with their proceeds, including another 1031 Exchange into a traditional single-owner property, or into another TIC property. There is no obligation to purchase a TIC from the same sponsor or to purchase a TIC property at all.

Co-Ownership Issues

As one of several co-owners, an investor will lose some autonomy with respect to decision-making on a TIC property. Some key decisions affecting the property (e.g., negotiating or re-negotiating leases, hiring or firing property managers, securing or refinancing a loan, or the sale of the property) typically require unanimous consent of all co-owners. Other decisions may only require a simple majority of co-owners for approval; in either case an individual owner is not the sole decision maker on issues affecting the property. In most cases, TIC ownership agreements are structured in such a way as to reduce the frequency and necessity of co-owners voting on key issues, and for dealing with any “stalemate” issues arising from one or two dissenting owners. For example, a typical TIC Agreement may provide that, if 80% of the TIC owners vote a certain way, then the minority (or dissenting) TIC owners will agree to have their interests bought out at fair market value by either the majority TIC owners, or the sponsoring real estate company. In this way, one or two recalcitrant owners will not necessarily block the legitimate desires of the majority; on the other hand, compensation (fair market value) will be provided for those minority owners with differing opinions.