You and the T.I.C.’s (Tenants in Common, that is…)
interest rates and increased demand for real estate have pushed down
capitalization rates resulting in higher valuation of most real estate
assets. As a consequence, equity positions have ballooned and investors
have found themselves considerably richer. Property-owners, flush with
cash, can transfer their appreciated equity positions (currently held in
depreciated assets with limited tax deductions left) into other assets
owned by a Limited Liability Corporation (LLC). Investors can do so by
becoming Tenants in Common under the LLC. The process (under Section
1031 of the Internal Revenue Code) is tax-free, and reaps the additional
benefits of higher returns and drastically lower management demands.
If you are one of those lucky investors with appreciated property in
your portfolio, you may have asked yourself the question: Is the Tenants
in Common a good arrangement for me?
The answer is: “Maybe yes, maybe not.” Before making any drastic
re-arrangements in your portfolio you should ask yourself some very
personal questions as to how you look at properties and money, in
general, and your time and life, in particular.
1) Can you let “the pilot do the flying”? Or, you prefer to micromanage:
you must know every detail and spend long hours on and off the property
doing things yourself (or arranging for somebody else to do them)
because you are the one who knows best.
2) Do you mind paying
capital-gain taxes upon sale? Or, you are happy to allow hard earned
dollars find their way to the federal and state governments to the tune
of 30% of any profits plus accelerated depreciation re-capture.
3) Are you looking for
more bang from your buck? Or, you are satisfied with the current return
on your investment: divide the actual money left in your pocket at the
end of the year by how much equity you have in the property. In
determining your true yield on equity, do not forget to include as an
expense the value of all your services rendered. Your time is money.
4) Are you looking for
larger tax deductions? Or, you are happy with your current level of in
income taxes. Income taxes which will increase, as your depreciation is
used up or already gone.
5) Do you wish to lower
the risks of your investment? Or, you are comfortable with the business
risks, vacancies, maintenance, scheduled repairs, other expenses
(insurance, utilities, etc), physical obsolescence, demographic changes,
etc. affecting your real estate assets.
6) Do you want more free
time? Or, you are happy with the current time demands exerted upon you
by your properties.
7) Would you like your
tenants to pay for your expenses: real estate taxes, insurance,
utilities, repairs and maintenance, etc. Or, you are a hands-on person
cherishing the thought of first hand involvement at every point.
If your answers to these questions are mostly YES, you should look into
T.I.C.’s as a viable alternative to improve your cash flow and the
quality of your life. Conversely, if you answered NO to most of these
questions, you probably relish the day to day demands and challenges of
property management and enjoy the process over and above strictly
financial considerations. T.I.C.’s may not be your cup of tea.
An appropriately chosen T.I.C. will increase your cash flow, transfer
the burden of paying for expenses to the tenant, remove the chores of
management and leasing, allow you more free time and provide you with
more income tax deductions (and lower taxes). Combined with a 1031
Tax-Deferred exchange, a T.I.C. will also permit you to avoid paying
capital gain taxes upon the sale of your assets as well as transfer you
equity into another property (also tax-free) upon the sale of the T.I.C.
or the sale of your individual interest, irrespective of the other
owners desires and actions.
To summarize: a T.I.C. arrangement is a structure that allows a group of
investors to pool their resources, utilize the services of a
professional manager (while preserving the owners’ control on all major
decisions), acquire institutional-size investment-grade property,
perceive a net return (insurance, maintenance, real estate taxes paid
directly by the tenant), finance at lower rates due to the higher credit
worthiness of their accredited long-term tenant, and provide a larger
depreciation base (lower income taxes due to higher deductions). To
boot, investors may do all of that, without paying a penny in capital
gain taxes to federal or state governments upon sale of their current
asset and transfer of the equity into the new asset. They can exchange
tax-free, again and again: upon the sale of the T.I.C. property or
transfer their equity out of the LLC into another LLC or a stand alone
Carlos A. Solares
(MBA, CPA, Broker) has been involved in
tax-free exchanges since 1978 when he managed International House of
Pancakes, Inc. portfolio of over 200 properties. He organized his first
Tenants in Common transaction in 1991 and his legal counsel was Ronald
W. Lyster, Esq.