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The Wall Street Journal
REAL ESTATE FINANCE
Joint
Property Ownership Picks Up
Tenant-in-Common
Deals Allow Buyers to Chip In On Commercial Properties
By
Jennifer S. Forsyth
Cathy Scullin was in a pickle.
Enticed
by high prices, the Beverly Hills, Calif., commercial
real-estate broker began selling off pieces of her small
southern California real-estate portfolio about two
years ago. Only then did she realize she couldn't use
the profit to buy another property.
"Everything I found needed an enormous amount of work
and, in my opinion, was way overpriced," says Ms. Scullin.
If she didn't reinvest in real estate quickly, she would
have to pay capital gains taxes on the proceeds.
Her solution: a Tenant-in-Common transaction, where
she joined a group of investors who each bought a fractional
share of investment property--in this case a small retail
center.
TICs--the real-estate version of chipping in for a pizza
and then grabbing your own slice-have been around for
years, but their popularity soared in 2002 when the
Internal Revenue Service said they would be allowed
for so-called 1031 Exchangers. That refers to the portion
of the U.S. tax code that allows investors to defer
capital-gains taxes if they reinvest the proceeds of
an investment-property sale in a "like kind" of property
within 180 days.
Though it is too early to know if most of these investments
will pay off, TICs are proving particularly attractive
to baby boomers who invested in real estate years ago
but, upon retirement age, are looking to shed the hassles
of management, such as spending on upkeep and negotiating
with tenants. Investors can get the benefits of property
ownership-rental income and profit on any future sale--but
leave the day-to-day details to professional managers.
"It's something they can understand, it's relatively
safe and it produces income that can grow over time,"
says Marc Paul, president of Los Angeles-based SCI Real
Estate Investments, one of the largest TIC companies
that match properties and investors. (Graph Insert)
In 2002, about $550 million flowed into TIC investments,
according to the research firm Real Capital Analytics,
Inc., based in New York. In 2005, TIC transactions surpassed
$6.4 billion.
As the number of investors and TIC companies increased,
so have the blockbuster deals. At least five recent
TIC acquisitions topped $100 million each, according
to Real Capital Analytics.
But here is the rub: As with all real-estate investments,
TIC property can fail to meet projected returns and
investors should perform due diligence as with any piece
of property. Real-estate experts also warn that TIC
investors, focusing too narrowly on the tax benefit,
may be bidding up prices on marginal deals. Another
possible pitfall: If an investor needs to get out before
a property is sold, it may not be easy to find a buyer
for the share.
Gary
Gorman, managing partner of The 1031 Exchange Experts
LLC, an investment advisory firm, says his company tracked
the case of an apartment complex bought by a TIC two
years ago. He says the complex, which he declines to
name, was on the market for $15 million, but was really
worth about $12 million. A TIC company promised to pay
the $15 million, then sold individual shares to investors
for a total of $18 million. "The building is still only
worth$12 million," Mr. Gorman says. "So that property
has got to appreciate 50% before those people are going
to break even."
Mr. Paul of SCI believes those are isolated incidents,
saying his company often finds itself outbid for properties
by pension funds or publicly traded real-estate investment
trusts. "We're just paying the market rates."
Gilbert Reese, a retire ophthalmologist from Menlo Park,
Calif., says his $750,000 investment in two TIC's in
2001 hasn't worked out. In one of those, he says high-profile
tenants emptied out of a Denver-area office building
as the tech market soured. A new tenant recently moved
in, but he says its rental rate is considerably below
the original leases, reducing the likelihood of cash
disbursement to the investors for some time. So far,
he hasn't found a buyer for his share. Tony Thompson,
chief executive of Triple Net Properties LLC, the Santa,
Calif.-based TIC investment company that managed the
transaction, says that, unfortunately, the building
was bought at market peak, but he believes the Denver
market is showing signs of recovery.
But Ms. Scullin, the Beverly Hills broker, is happy
with her TIC's $16.8 million investment in a retail
center in Rancho Cucamonga, Calif. "It's something I
could never dream of owning on my own," says Ms. Scullin,
who is now investing in her 12th TIC. Returns for her
properties have met projections, she adds, though none
of her TIC investments have been sold yet.
Experts say that many investors simply won't know if
their TICs will pay off until more properties are put
back on the market. Says Harold Hunt, a research economist
with the Real Estate Center at Texas A&M University,
"We're just not far enough down the line yet to say
whether this is a great idea or a bad idea."
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