TIC Corner
by D. Andrew Sirkin
Q. I’ve noticed more and more TICs are being formed for large buildings. Isn’t it more risky to buy into a large building?
A. The assumption that large TIC groups are more risky and problematic than small ones represents an oversimplification of a number of complex issues. From the standpoint of group relations and property management, large groups actually have significant advantages. Two-unit TICs groups usually have the most difficulty making decisions, and they have the highest incidence of disputes that lead to mediation and arbitration (the same is true of two-unit condominium buildings). As the buildings become larger, the likelihood of disputes diminishes. The maintenance burdens, and the risks associated with unexpected repair costs, also diminish as buildings get larger because the costs, while slightly higher, are spread out over more owners, and economies of scale lower the cost per owner.
On the other hand, both financing and the condominium-conversion process are more problematic in larger buildings. Financing is more difficult because larger TICs need TIC-friendly loans that allow resale without refinancing. Fortunately, more and more lenders are offering these loans; and individual TIC-loans may be available in the near future. Condominium conversion is more difficult because buildings with more than two residential units must win a lottery; and buildings with more than six residential units cannot convert. But it is important to keep the condominium-conversion issue in perspective. There is virtually no difference between a three-unit building and a six-unit building in terms of the odds for winning the conversion lottery. Moreover, the odds of winning are very low and getting much lower every year, so even though a three- to six-unit building might eventually win if it is able to maintain its owner-occupancy for 10 to 20 years, it is not statistically much more likely to convert than a twelve-unit building that cannot enter the lottery at all.
Q. I’ve heard there have been some changes in condominium-conversion rules. What are the current rules and what further changes are proposed?
A. Condominium conversion is permitted only for buildings with six or fewer residential units. Buildings with two residential units qualify automatically when both of the residential units are owner-occupied for one year. Under a recent change in conversion rules, the two-unit automatic qualification does not apply to buildings where an elderly or disabled tenant was evicted after November 16, 2004.
Buildings with more than two residential units and two-unit buildings that do not satisfy the automatic qualification requirements must win the annual condo-conversion lottery. To enter the lottery, two- to four-unit buildings must have one owner-occupant who has lived in the building for three years; and five- to six-unit buildings must have three owner-occupants in separate units who have lived in the building for three years. The lottery is weighted to favor buildings that have previously entered and lost. But under the recent change to conversion rules, a building where an elderly or disabled tenant was evicted after November 16, 2004 will have a significantly lower likelihood of winning, regardless of the number of years they enter.
The condo-conversion lottery has become increasingly difficult to win. In 2005, first-time lottery entrants had less than a 3% likelihood of winning; and even buildings that had entered five or more times had less than a 40% likelihood of winning. In response to outcries from frustrated TIC owners, Supervisors Dufty and Alioto-Pier recently introduced legislation that would allow certain TIC buildings to bypass the lottery. To qualify, a building would need to meet four conditions: (1) it would need to have qualified to enter the 2005 condo lottery; (2) it would need to have been owned as a tenancy-in-common since January 20, 2002, which presumably means that that there would have to have been at least two owners at that time who held title as tenants-in-common; (3) it would need to have been 100% owner-occupied on January 25, 2005 (although not necessarily before or after that date); and (4) it would need to apply for conversion within 2005. This proposal is currently under consideration by a Board of Supervisors’ committee.
Two other conversion–related proposals are also worth watching. Supervisor Elsbernd previously introduced legislation that would create a parallel system for conversion of buildings where a required percentage of existing tenants agree to purchase and the nonpurchasing tenants are given lifetime leases. This conversion system would allow buildings with more than six residential units to convert. Separately, the California Association of Realtors is pushing legislation in the California Assembly that would provide a statewide system of condominium conversion that would be permitted in all counties, including San Francisco.
Q. How are TICs structured?
A. With most TICs, a relative-value percentage is assigned to the areas (like dwelling, parking, storage and deck) that each owner will occupy. Factors that affect relative-value percentage include size, level within the building, light, views and general condition. The percentages are typically determined through an appraisal process conducted by the prospective co-owners, a real-estate agent or a licensed appraiser.
After purchase, each owner occupies and maintains his/her assigned areas. The costs of maintaining shared areas and insuring the building are divided according to relative-value percentage. Property tax is divided according to purchase price. Each owner can sell his/her interest at anytime. If the building is converted to condominiums, each owner receives his/her assigned areas as a condo.
Frequently, a prospective TIC owner will not have a down payment proportional to the price he or she is paying. This problem can be overcome by making each owner’s percentage share of the loan different from his/her percentage share of ownership. Provided that the total of a particular owner’s down payment and loan share equal his/her share of the building cost, this type of arrangement can be equitable; however, when there is a particularly large disparity in debt and/or down payment, special precautions should be taken.
The opinions expressed in this article are those of the author and do not necessarily reflect the viewpoint of SFAA or the San Francisco Apartment Magazine. The information contained in this article is general in nature. Consult the advice of an attorney for any specific problem. More detailed information on this topic is available online at www.andysirkin.com. D. Andrew Sirkin’s law practice is devoted exclusively to tenancy-in-common, equity sharing, investment partnerships and other co-ownership matters. Copyright © 2005 by the San Francisco Apartment Magazine. All rights reserved.