Many investors have recognized the value of tenancy-in-common (TIC) properties, offering benefits like tax-deferral through 1031 Exchanges. However, acquiring these assets can be trickier than you initially thought. In particular, securing financing to purchase the property can be complex due to the fractional ownership nature of TICs.
In this article, Realized 1031 answers whether home loans or investment property financing services are applicable for TIC structures. Keep reading to gain new insights.
Basics of a TIC Structure
A TIC structure is a property with multiple owners holding title. As an owner, you have distinct, undivided interests that come with a few rights.
- You can sell or transfer interests independently.
- You can pass the interest to your heirs.
- You can participate proportionally in income, expenses, and depreciation.
Many 1031 Exchange investors find TIC structures appealing because the interests are eligible as like-kind property. Plus, TICs help maintain direct property ownership compared to other passive investments like Delaware Statutory Trusts. Of course, 1031 Exchange eligibility means the involved properties must be held for investment or business use. As such, tenants in common real estate investing usually involves commercial assets instead of residential ones.
TIC Structure Home Loan: Is It Allowed?
Yes, acquiring a TIC property via a home loan is allowed, but there are technical differences that add complexity to the loan. In the TIC vs sole ownership mortgage discussion, you cannot use a standard mortgage like a Fannie Mae or Freddie Mac loan. Instead, you’ll need to purchase a specialized fractional loan.
A fractional loan is the closest thing to a home loan for TIC structures. However, it has special features like having your own interest rate and a distinct monthly bill. Plus, if one of the investors defaults, the lender cannot take the entirety of the structure, just the other investor’s share.
TIC Structures and Investment Property Loans
Investment property loans, typically used in acquiring commercial assets, are more TIC-friendly. These debt services work well with TIC because loans can be underwritten based on property performance. There are also clearer agreements outlining management, voting rights, and exit rules within the TIC structure. Finally, investors in commercial property are often more experienced or have gained status as sophisticated investors, giving lenders confidence.
Common TIC investment properties include the following:
- Multifamily apartment buildings
- Office and industrial properties
- Retail centers
- Medical or mixed-use properties
In many cases, all TIC owners sign the loan collectively. This functions as a “blanket” loan, and there are specific lender provisions that make this service distinct from more standard commercial real estate loans.
- Every co-owner is underwritten individually, with the lender checking each one’s tax returns, credit checks, personal guarantees, etc.
- Every owner remains 100% liable for the entire loan. In other words, all the tenants are co-borrowers.
- Unanimous consent is required for refinancing or sale.
Is 1031 Exchange Eligibility Affected by the TIC Financing Options?
The IRS has strict rules regarding the type of properties you can acquire to qualify for tax-deferral benefits. TIC interests are allowed, but the property must be held for business or investment use.
What if you acquired the asset through a specialized TIC loan that’s typically reserved for those acquiring primary residences (the home loan variation we mentioned above)? Thankfully, the IRS doesn’t need to scrutinize where you got the funds to acquire the TIC interests. What matters more is the nature of the property and your intent to invest. As such, either home loans or real estate financing are acceptable means to purchase TIC properties.
Lending Considerations and Challenges You Might Encounter
There are a few things you’ll want to take into account for tenants-in-common investment property loans.
- Joint Liability: If one tenant or investor defaults, it will be up to the rest to shoulder the remaining debt.
- Refinancing Complexity: Changes in ownership can complicate future refinancing, as these new owners may not unanimously agree with the rest of the tenants.
- Exit Limitations: Lenders may limit TIC interest sales, especially if the sale means a change of control or the entry of a new co-owner that doesn’t meet the credit and experience underwriting standards the lender requires.
- Limited Willing Lenders: Given the complexity of TIC loans, not all lenders or banks may offer this service. This reality may limit your options.
Wrapping Up: Loan Structures for TIC Investing
You can use variations of home loans and real estate financing to acquire TIC interest and enjoy the benefits. Both types are allowed, and neither will affect your eligibility for 1031 Exchanges. However, make sure to consider what these loans entail and the challenges they may bring in the future. That way, you can leverage financing that helps you meet your long-term investment goals.
Sources:
https://www.irs.gov/pub/irs-drop/rp-02-22.pdf
https://www.investopedia.com/terms/t/tenancy_in_common.asp
