<h1 aria-level="2" paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{30}" paraid="751799447" role="heading">The Intro of Tenants-In-Common in a 1031 Exchange </h1>
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{36}" paraid="1123793460">The early 2000s witnessed the advent of the Tenant in Common (TIC) investment in real estate, particularly geared for Replacement Property in a 1031 Exchange. The use of a TIC ownership itself was nothing new, rather the use of it in this context exploded onto the scene. Anyone who wanted some real estate in their investment portfolio could enter into such an investment but, for all intents and purposes, TIC investments were utilized by 1031 Exchange investors. </p>
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{42}" paraid="2117309541">Basically, a TIC investment was simply a deeded percentage of ownership in a piece of investment property. Think of it as a slice of pie. If one investor put in a certain amount of equity, that person would be allocated an applicable percentage ownership in the property. If another investor put in twice the investment, that investor would get double the percentage ownership. The co-owners were independent of each other and didn’t necessarily know who the others were. </p>
<h2 aria-level="3" paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{48}" paraid="764918084" role="heading">Benefits of TIC Investments </h2>
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{54}" paraid="922197816">TIC investments were attractive because they allowed investors to invest in a property that they alone could not afford; while investors had no management responsibility, they could direct a manager to take the agreed upon actions; investors generally had a known income stream to count on; property structured as TICs were eligible for 1031 exchange Replacement Property; and the 45-day property identification requirement for an exchange became easier to comply with. </p>
<h2 aria-level="3" paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{66}" paraid="284516990" role="heading">Challenges of TIC Investments </h2>
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{72}" paraid="1416032959">In 2002, the IRS published rules as to what constituted a valid TIC investment to pass <a href="https://www.irs.gov/pub/irs-drop/rp-02-22.pdf">IRS muster</a>. Rev. Proc. 2002-22 provides the specific requirements (or prohibitions) but include such things as: </p>
<ul role="list">
<li aria-setsize="-1" data-aria-level="1" data-aria-posinset="1" data-font="Symbol" data-leveltext="" data-list-defn-props="{"335552541":1,"335559685":720,"335559991":360,"469769226":"Symbol","469769242":[8226],"469777803":"left","469777804":"","469777815":"hybridMultilevel"}" data-listid="1" role="listitem">
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{87}" paraid="1145409352">Number of co-owners limited to 35 </p>
</li>
</ul>
<ul role="list">
<li aria-setsize="-1" data-aria-level="1" data-aria-posinset="2" data-font="Symbol" data-leveltext="" data-list-defn-props="{"335552541":1,"335559685":720,"335559991":360,"469769226":"Symbol","469769242":[8226],"469777803":"left","469777804":"","469777815":"hybridMultilevel"}" data-listid="1" role="listitem">
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{93}" paraid="1522159608">No de facto actions that would be typical of a partnership (e.g., filing a tax return; maintaining combined books; using a single entity name; co-ownership agreements; side letters and agreements </p>
</li>
</ul>
<ul role="list">
<li aria-setsize="-1" data-aria-level="1" data-aria-posinset="3" data-font="Symbol" data-leveltext="" data-list-defn-props="{"335552541":1,"335559685":720,"335559991":360,"469769226":"Symbol","469769242":[8226],"469777803":"left","469777804":"","469777815":"hybridMultilevel"}" data-listid="1" role="listitem">
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{103}" paraid="1963731259">Unanimous approval by all investors to make decisions </p>
</li>
</ul>
<ul role="list">
<li aria-setsize="-1" data-aria-level="1" data-aria-posinset="4" data-font="Symbol" data-leveltext="" data-list-defn-props="{"335552541":1,"335559685":720,"335559991":360,"469769226":"Symbol","469769242":[8226],"469777803":"left","469777804":"","469777815":"hybridMultilevel"}" data-listid="1" role="listitem">
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{109}" paraid="489587462">Right of first refusal for sale and options to buy only at fair market value </p>
</li>
</ul>
<ul role="list">
<li aria-setsize="-1" data-aria-level="1" data-aria-posinset="5" data-font="Symbol" data-leveltext="" data-list-defn-props="{"335552541":1,"335559685":720,"335559991":360,"469769226":"Symbol","469769242":[8226],"469777803":"left","469777804":"","469777815":"hybridMultilevel"}" data-listid="1" role="listitem">
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{115}" paraid="1331816798">Other than the rental of the property, no ability to run a business activity on the real estate </p>
</li>
</ul>
<ul role="list">
<li aria-setsize="-1" data-aria-level="1" data-aria-posinset="6" data-font="Symbol" data-leveltext="" data-list-defn-props="{"335552541":1,"335559685":720,"335559991":360,"469769226":"Symbol","469769242":[8226],"469777803":"left","469777804":"","469777815":"hybridMultilevel"}" data-listid="1" role="listitem">
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{121}" paraid="1074477030">No loans to the property from related parties to the investors </p>
</li>
</ul>
<ul role="list">
<li aria-setsize="-1" data-aria-level="1" data-aria-posinset="1" data-font="Symbol" data-leveltext="" data-list-defn-props="{"335552541":1,"335559685":720,"335559991":360,"469769226":"Symbol","469769242":[8226],"469777803":"left","469777804":"","469777815":"hybridMultilevel"}" data-listid="4" role="listitem">
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{127}" paraid="1472766024">Significant minimum investment amounts were common, such as $500,000. </p>
</li>
</ul>
<h2 aria-level="3" paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{133}" paraid="320942308" role="heading">The Tenants-In-Common Investment Dilemma of the 2000s </h2>
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{139}" paraid="1020093571">The IRS rules regarding TIC investments coupled with the rush to market of this newly available investment vehicle, culminated into a less-than-ideal scenario for many TIC investors. Strong demand for the product caused different deals and the agreements that supported them to have different levels of true adherence to the IRS Revenue Procedure. Added to that, due to bringing property to the market quickly, not all properties had strong fundamentals. By far the largest issue TIC investors faced was the requirement for all investors to be unanimous in a decision, whether that be a decision to renovate the property, sell it, etc. It was often difficult to get 100% of the investors, to agree on a decision. This fact resulted in many investors being stuck in a property with no way out. The “Great Recession” of 2008 brought these issues to the forefront for TIC investments. Some TIC investments began to fail, and investors, and lenders, got left with properties with little or no value. Between the stringent requirements for a valid TIC and the number of failed investments, right or wrong, TICs developed a negative connotation. </p>
<h1 aria-level="2" paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{146}" paraid="1689427554" role="heading">Delaware Statutory Trusts (DSTs) Enter the 1031 Scene </h1>
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{152}" paraid="1702901229">Shortly after TIC investments burst onto the 1031 Exchange Replacement Property scene Delaware Statutory Trusts (DSTs) became available to 1031 exchange investors, due to a favorable IRS ruling in 2004. In a DST, a Trustee was able to hold title to the property and manage it, and individuals could invest in the property by becoming beneficiaries of the Trust. Despite the unusual structure, the investor was still deemed to have acquired a real property interest, critical to qualify for a 1031 Exchange. </p>
<h2 aria-level="3" paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{158}" paraid="283608575" role="heading">Overview of Delaware Statutory Trusts (DSTs) </h2>
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{164}" paraid="167071078">A DST is particularly attractive to an investor who does not want any management responsibility and desires access to a single property or portfolio of high value, high quality real estate asset(s) that may not otherwise be directly available to them due to size, high underlying borrowings or other factors. </p>
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{174}" paraid="1393611032">DST investments generally pay investors quarterly, the amount is based upon the excess rent over the property expenses, including any mortgage payments. The rate of return varies from deal to deal based on the specifics of the property and financing. Typically, the DST sponsor knows the net rent that can be expected and can give the investor the anticipated return for the term of the investment. The holding period of the asset is usually 5-7 years and with most DST deals, and the investor shares in the same investment percentage of appreciation in value upon sale of the property. DSTs are not all the same; some DSTs are structured to pay out net income only and do not share appreciation upon sale of the asset. </p>
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{184}" paraid="1894438206">Similar to TIC investments, 1031 investors faced with the need to identify potential Replacement Property within 45 days of sale of Relinquished Property found the DST to greatly simplify meeting this identification requirement. </p>
<h1 aria-level="2" paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{190}" paraid="2046551397" role="heading">Differences between TIC Investments and DSTs </h1>
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{196}" paraid="407680605">While both are passive real estate investments tailored for investors looking for Replacement Property in their 1031 Exchanges, TIC investments and DSTs have numerous differences including: </p>
<ul role="list">
<li aria-setsize="-1" data-aria-level="1" data-aria-posinset="1" data-font="Symbol" data-leveltext="" data-list-defn-props="{"335552541":1,"335559685":720,"335559991":360,"469769226":"Symbol","469769242":[8226],"469777803":"left","469777804":"","469777815":"hybridMultilevel"}" data-listid="3" role="listitem">
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{202}" paraid="10246475">The minimum investment for DSTs was generally much less than the typical TIC and the sponsor had some further discretion in that regard. Although the DSTs also suffered from the effects of the recession, they continue to be the preferred co-ownership investment offered to investors participating in a 1031 exchange. </p>
</li>
</ul>
<ul role="list">
<li aria-setsize="-1" data-aria-level="1" data-aria-posinset="2" data-font="Symbol" data-leveltext="" data-list-defn-props="{"335552541":1,"335559685":720,"335559991":360,"469769226":"Symbol","469769242":[8226],"469777803":"left","469777804":"","469777815":"hybridMultilevel"}" data-listid="3" role="listitem">
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{208}" paraid="671863785">DSTs require no management responsibilities of the investors, unlike TIC investments </p>
</li>
</ul>
<ul role="list">
<li aria-setsize="-1" data-aria-level="1" data-aria-posinset="3" data-font="Symbol" data-leveltext="" data-list-defn-props="{"335552541":1,"335559685":720,"335559991":360,"469769226":"Symbol","469769242":[8226],"469777803":"left","469777804":"","469777815":"hybridMultilevel"}" data-listid="3" role="listitem">
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{214}" paraid="834147579">Investors in a DST are not “on title” allowing for a clear title without the need to set-up a single member LLC for the investment </p>
</li>
</ul>
<ul role="list">
<li aria-setsize="-1" data-aria-level="1" data-aria-posinset="4" data-font="Symbol" data-leveltext="" data-list-defn-props="{"335552541":1,"335559685":720,"335559991":360,"469769226":"Symbol","469769242":[8226],"469777803":"left","469777804":"","469777815":"hybridMultilevel"}" data-listid="3" role="listitem">
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{220}" paraid="1771107686">DSTs are not subject to the limit of 35 investors </p>
</li>
</ul>
<ul role="list">
<li aria-setsize="-1" data-aria-level="1" data-aria-posinset="5" data-font="Symbol" data-leveltext="" data-list-defn-props="{"335552541":1,"335559685":720,"335559991":360,"469769226":"Symbol","469769242":[8226],"469777803":"left","469777804":"","469777815":"hybridMultilevel"}" data-listid="3" role="listitem">
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{226}" paraid="860444864">The investors do not have to be on the loan for the underlying property </p>
</li>
</ul>
<ul role="list">
<li aria-setsize="-1" data-aria-level="1" data-aria-posinset="6" data-font="Symbol" data-leveltext="" data-list-defn-props="{"335552541":1,"335559685":720,"335559991":360,"469769226":"Symbol","469769242":[8226],"469777803":"left","469777804":"","469777815":"hybridMultilevel"}" data-listid="3" role="listitem">
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{232}" paraid="603587683">Investors who have sold property with debt on it can offset that with debt picked up via the DST purchase, but the debt is non-recourse to the investor </p>
</li>
</ul>
<ul role="list">
<li aria-setsize="-1" data-aria-level="1" data-aria-posinset="7" data-font="Symbol" data-leveltext="" data-list-defn-props="{"335552541":1,"335559685":720,"335559991":360,"469769226":"Symbol","469769242":[8226],"469777803":"left","469777804":"","469777815":"hybridMultilevel"}" data-listid="3" role="listitem">
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{238}" paraid="1413274666">While there are never guaranties, the quarterly income is usually predicable </p>
</li>
</ul>
<p paraeid="{cd75f74a-4064-4bd7-b8eb-2ac7e288248a}{252}" paraid="300731243">The manner in which DSTs are marketed to the public have a lot of characteristics of sales of securities. Early on the SEC decided to regulate them as actual sales of securities. So, although a DST interest retains the nature of real estate ownership, with some exceptions, they are regulated. They are typically brought to market for syndication by large well-known sponsors, although they have to be acquired through an individual Broker, Registered Investment Advisor or a licensed Financial Advisor. These persons, in turn, are licensed through a broker/dealer and it must have an agreement in place with the individual property sponsor. Not all brokers or advisors have agreements with all sponsors. Typically, the broker/dealer will vet to some degree the particular property offering of the sponsors and that level of due diligence is a benefit to the investor who is unlikely to have the wherewithal to review the investment as closely. All fees are paid by the sponsor and not the investor, although the fees are “baked into” the investor’s purchase price. </p>
<p paraeid="{7edea644-f922-4e51-b2fa-30f5789c2f75}{13}" paraid="1868465498">There are still some TIC structured deals in the marketplace. Some properties are better suited for them than others. Ideally, they have well drafted TIC agreements. But, by and large, DST offerings proliferate in today’s passive real investment market. Despite the somewhat sordid history of the TIC investment, there is no reason to think a DST investment may follow the same fate. However, it still constitutes a real estate acquisition and due diligence needs to be done to the best ability of the investor and their trusted advisors, if applicable. Like any other investment, DST investments do still carry some risk. </p>
<h1>Qualified Intermediary Involvement in a DST</h1>
<p paraeid="{7edea644-f922-4e51-b2fa-30f5789c2f75}{41}" paraid="2128544329">In August of 1989, over a decade before the dramatic growth of TIC investments, a group of 1031 Exchange companies formed the Federation of Exchange Accommodators (FEA) as a national trade association for the industry. The FEA was formed to bring clarification and standards to a previously unregulated industry. Members of the FEA include exchange companies, known as Qualified Intermediaries (QIs), since the 1991 regulations and affiliates of the 1031 exchange which include Accounting Firms, Attorneys, Financial Institutions, Real Estate Professionals and other Replacement Property Providers, as well as many other service providers. </p>
<p paraeid="{7edea644-f922-4e51-b2fa-30f5789c2f75}{49}" paraid="1081784004">As people and businesses, such as TIC sponsors, tried to find investors for TIC investments, many became affiliate members of the FEA because TIC Investments were an attractive option for Exchangers looking for Replacement Property. It was the clients of the exchange companies who had the need for Replacement Property and the TIC sponsors sought to get referrals for this business. The TIC sponsor field grew so quickly, it eclipsed the exchange industry itself and soon split off and formed the Tenant in Common Association (TICA). TICA has since disbanded. </p>
<p paraeid="{7edea644-f922-4e51-b2fa-30f5789c2f75}{61}" paraid="18436158">While TIC investments and DSTs rely upon the 1031 Exchange industry, it is important to note that Qualified Intermediaries are not directly involved in the selection of Replacement Property within a 1031 Exchange. In regard to Replacement Property, the QI’s duty is to ensure the Exchanger is aware of their 45-day deadline to identify Replacement Property and to ensure the Exchanger identifies Replacement Property in accordance with the rules and regulations for identification set forth in the Regulations. </p>
<p paraeid="{7edea644-f922-4e51-b2fa-30f5789c2f75}{71}" paraid="2025150487">In conclusion, both TIC investments and Delaware Statutory Trust (DST) investments serve as viable passive real estate investment options for Replacement Property within a 1031 Exchange, though they are distinct in their structures and regulatory environments. TIC investments, which were once a popular choice, require co-ownership agreements and often involve more complex management arrangements, and their troubled past has made them less a popular option for many of today’s investors. On the other hand, DST investments are mostly regulated as securities by the SEC, offering a more streamlined approach through syndications managed by reputable sponsors, brokers, and advisors. The passive nature of DST investments, combined with their inherent regulatory oversight, provides a level of due diligence beneficial to investors, who may lack the resources to conduct thorough reviews themselves. Despite the differences, both investment types require careful consideration and due diligence to mitigate risks and ensure they align with the investor's financial goals and capabilities. </p>
<p paraeid="{7edea644-f922-4e51-b2fa-30f5789c2f75}{71}" paraid="2025150487"> </p>
<p paraeid="{7edea644-f922-4e51-b2fa-30f5789c2f75}{71}" paraid="2025150487"><em>The material in this blog is presented for informational purposes only. The information presented is not investment, legal, tax or compliance advice. Accruit performs the duties of a Qualified Intermediary, and as such does not offer or sell investments or provide investment, legal, or tax advice. </em></p>
