No More Nervous TIC Investments

IRS Clarifies Status of Tenancy in Common Investments

Daniel E. McCabe, Esq., Investment Exchange Group, LLC

It's a common scenario: a real estate investor engaged in a 1031 tax deferred real estate exchange is looking for suitable replacement property. The clock is ticking on the 45-day identification and 180-day completion deadlines, and no appropriate investment has come up. Then the investor hears about something called a Tenancy in Common (TIC) property. In this investment vehicle, the investor can complete his 1031 Exchange by becoming a tenant in common owner in a commercial property. This property qualifies as a suitable real estate investment to complete his 1031 Exchange-or does it?

Until recently, some real estate investors were reluctant to invest their 1031 Exchange proceeds in TIC properties, as the status of these TIC arrangements with the IRS was unclear. Was the TIC arrangement really an investment in real estate (as required by Section 1031) or was it actually an investment in a security or partnership? The answer depends on the nature of the TIC investment, which the IRS has now clarified in Revenue Procedure (Rev Proc) 2002-22.

Rev Proc 2002-22, issued on March 19, 2002, specifies the conditions under which the IRS may consider the purchase of a TIC interest an investment in real estate. According to Rev Proc 2002-22, "The central characteristic of a tenancy in common.is that each owner is deemed to own individually a physically undivided part of the entire parcel of property. Each tenant in common is entitled to share with the other tenants.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."

Rev Proc 2002-22 establishes requirements that may qualify a particular arrangement as a tenancy in common in real estate, rather than a security or partnership investment. These requirements include the following:

• Each of the co-owners must hold title to the property as a tenant in common under local law.
• The number of co-owners must be limited to no more than 35 persons. A husband and wife are counted as one person in this instance.
• The co-ownership (tenants in common) may not file a partnership or corporate tax return, conduct business under a common name, or otherwise act as a partnership or other business entity.
• The co-owners may enter into a limited co-ownership agreement that runs with the land. For example, such an agreement might provide that a co-owner must offer the co-ownership interest for sale to the other co-owners before selling it to others.
• The co-owners must retain the right to approve the hiring of managers, sale of the property, or leases on the property.
• In general, each co-owner must have the rights to transfer, partition, and encumber the co-owner's undivided interest in their property without the agreement or approval of any other person.
• Each co-owner must share in all revenues and costs in proportion to the co-owner's undivided interest in the property.
• Co-owners may enter into management or brokerage arrangements.

Real estate investors wanting to complete a 1031 Exchange now have additional guidance from the IRS when considering investment in a TIC vehicle. Of course other investment criteria must be considered such as cost, return on investment and suitability of the TIC property for the investor. But real estate investors who do their homework need not be afraid of TIC properties-no more nervous TIC!

Dan McCabe, Esq. is President of Investment Exchange Group, LLC (IXG), which provides a full range of services for Section 1031 tax deferred exchanges, including consulting on complex exchange techniques.