As I mentioned last week, to own real estate you must hold title, and the way you hold title affects how the ownership of a property can be transferred and how the property can be financed, improved or used as collateral—it can also have significant tax consequences. This week I’ll talk about partnerships and limited partnerships, and tenants in common.
Remember, I am not an attorney or an accountant. Those are the professionals to get advice from about how to hold title. This column will simply provide fodder for a discussion.
While formal agreements help keep legal matters well defined, less formal ways to hold title exist, one of which is a simple partnership.
This way to hold title often occurs when two friends are attracted to an investment opportunity they cannot afford on their own. They join forces to gather a larger down payment and/or qualify for better financing. The upside is more cash to work with, allowing a bigger loan or one with more favorable terms, as well as some help managing the property. The downside is, well, you have a partner. This person may have been your BFF before you owned a property together, but when it comes time to contribute $25,000 for a new roof, your partner may have other priorities, like sending junior to college. And be aware, each of you is personally responsible for the other’s actions with regard to the property. If your partner hires a roofer, you are on the hook to pay.
Another way to invest in a property you cannot afford on your own is a limited partnership. Limited partnerships have two types of partners: general partners who take on significant liability and limited partners whose liability is limited to the amount they invest in the partnership. As a limited partner, you are shielded from non-loan-related claims (unless you allow a claimant to pierce the veil because you didn’t follow the rules). In a limited partnership, the value of the property should support the loan, so being a limited partner poses a relatively low risk.
Limited partnerships frequently include many partners (up to 35), and the partners may not know each other. There must be at least one general partner, but the rest can be passive investors who may never have seen or set foot on their investment. They review financial statements and expect tax benefits and checks to cash at year-end.
The upside of limited partnerships is that you can be part of a group of people you don’t even know to raise large sums of money and reap the rewards of investment. The downside is that the extra bureaucracy required to manage so many people comes with a price tag.
Another type of ownership is called tenancy in common. Tenants in common are often friends or associates who jointly own a property such as a duplex. You can be a tenant in common without a partnership agreement, but I don’t recommend it.
The acronym for tenants in common (TIC) is used to describe joint ownership with many investors requiring a professional manager to oversee purchases and sales; TICs are basically shares in real estate, and can be traded or sold. In the early 2000’s, TICs in large properties like multimillion-dollar shopping malls became popular because people could exchange small investment properties for a portion of these big properties without having to pay capital gains tax. Thanks to corporate personhood, corporations can also invest in TICs. With the downturn in the market in 2007-08, these fell out of favor, but I expect them to resurface in the future.
If you have questions about real estate or property management, please contact me at rselzer@selzerrealty.com or visit www.realtyworldselzer.com. If you have questions about how you should hold title, call your attorney and/or accountant.
Have suggestions about what I should write? Let me know. If I use your suggestion in a column, I’ll send you’re a $5.00 gift card to Schat’s Bakery. If you’d like to read previous articles, visit my blog at www.richardselzer.com. Dick Selzer is a real estate broker who has been in the business for more than 35 years.