Real Estate Law Blog

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• All TICs must agree to the lease.  Any material modification will also require unanimity unless there is a written agreement to the contrary.  (IRS Rev. Proc. 2002-22 permits a manager or agent to implement lease modifications by majority vote.  Rev. Proc. 6.05.)  Consider appointing a manager or an agent who may sign modifications by majority vote.
• You will not lose tax treatment as a TIC if all TICs hire a manager for a one year term.  (Rev. Proc. 6.05)
• You will not lose TIC tax treatment if, after the lease is approved, a specific power of attorney is granted by a TIC to sign the lease (Rev. Proc. 6.05).  A global POA is not permitted, however.
• Any TIC may start a partition action at any time.  Consider an agreement requiring a buy/sell mechanism prior to a partition.  The Rev. Proc. permits a fair market value option in favor of the TICs who do not wish to partition but does not permit a prohibition on partition unless required by a third party mortgagee.
• TICs may transfer their TIC interest to third parties.  Consider an agreement requiring a right of first offer or refusal.  The Rev. Proc. permits a right of first refusal or similar buy/sell right to prevent such sales.
• Consider an agreement to create a buy/sell right in the event of a bankruptcy of a TIC.
• Capital raises must be accomplished by percentage interest.  Preferred returns are not permitted under the Rev. Proc.  Consider obtaining any required cash up front.  Profits must be split strictly by TIC percentages.
• The manager may maintain a common bank account but net revenues must be disbursed every 3 months according to the Rev. Proc.  The manager may obtain insurance (Rev. Proc. 6.12).  The manager may not take a share of profits.
• A pass through lease, i.e., a lease which permits the tenant to sublease and keep profits, would not fit within the safe harbor of the Rev. Proc.  See Rev. Proc. 6.13 (Rents paid by a lessee must reflect fair market value.).

As an alternative, consider a transfer of the TICs to an LLC.

Pros:   

• Easier voting provisions (majority or super majority).
• Easier enforcement of the lease.
• Eliminates partition risk.
• Provides greater continuity.
• No transfer taxes in New York if same beneficial interests are maintained.

Cons:

• Deed recording charges.
• Minority rights inevitably diluted.
• Need unanimous consent to the transfer.
• The individual TICs could no longer benefit from separate IRS Section 1031 exchanges if the property is sold.  Unless the ownership is split up later, only the LLC could exchange the property.

This is a summary only and is not legal advice.  The specific facts and circumstances must be reviewed carefully.  The Rev. Proc. and other applicable laws must be reviewed prior to taking any action.