Did you hear the latest real estate ownership joke? How many tenants in common does it take to change a light bulb? If you said all of them, you are correct.

If you own real estate as a tenant in common with other persons, you may not be laughing. The fact of the matter is, owning real estate as a tenant in common ("TIC") may be one of the least attractive forms of ownership. Accordingly, VSI believes that estate tax reporting opportunities exist for TIC interests due to the fact that substantial valuation discounts may be available for these interests.

Tenants in common are persons who hold undivided interests in the same property. Upon the death of one of the co-tenants, his/her interest passes to the designated beneficiaries of the deceased. Accordingly, a tenant in common interest can be gifted, assigned or willed as desired.

The exact definition of a tenancy in common and how the different rights between tenants are distinguished varies from jurisdiction to jurisdiction. Specific questions such as how one tenant is entitled to reimbursement of costs incurred in fixing some part of the property simply have not been addressed by the courts. The reason for this confusion lies in part due to the fact that each tenant, regardless of his or her percentage interest, is entitled to occupy the whole of the property along with the other tenants.

The tax courts have held the position that TIC interests should be afforded valuation discounts. In Lefrak v. Commissioner of Internal Revenue (T.C. Memo 1993-526) the United States Tax Court held that a TIC interest warranted both a lack of marketability discount and a minority interest discount. The LeFrak case can be used as a frame of reference, however, VSI strongly suggests that the specific facts of each valuation should be analyzed to determine the type and amount of TIC valuation discounts.

The typical risks associated with the TIC form of ownership giving rise to valuation discounts include:

Lack of Control - The light bulb example above is somewhat of an overstatement. It is safe to say, however, that generally speaking all major decisions affecting the property require unanimous consent. The punch line to the opening joke is intended to illustrate the difficulty associated with this aspect of a tenancy in common interest.

The reality of the TIC form of ownership, as previously stated, is that in fact any one tenant, even a small minority owner, has the right to use and occupy the property. This aspect may be considered even more troublesome than requiring unanimity. This struggle over control of the property can create a stalemate in the decision process if different owners with divergent financial goals and financial needs exist. There is generally little guidance in case law for situations where two tenants attempt to do inconsistent and in fact conflicting things.

Partitioning Risks - In the case of a stalemate in the decision process among the owners (a frequent occurrence with TIC interests), an owner could initiate an action to partition and sell the property. Partitioning, however, can be a long and costly process. It can drag on for years through the legal system and legal and court costs could be substantial.

Lack of Marketability and Liquidity - Fractional TIC interests are difficult to sell because (i) they can be complex investments that are difficult to price, (ii) there is a limited pool of investors who purchase such interests, (iii) there is no organized exchange that prices or sells such interests, (iv) information is limited, and (vi) frequently a substantial amount of time and due diligence is required to properly evaluate the property's resulting value of the interest. As a result of the above factors, TIC interests are illiquid investments and a discount is required to compensate a potential investor for this illiquidity.

Family Ownership Risks - Family ownership is typical in situations where property is owned through TIC interests. Family relationships can create a new level of complexity.

Uncertainty of Co-Owners - An owner of a TIC interest can sell his/her interest at anytime, to whom ever (s)he desires. The owner of a TIC interest has no control over who his or her co-owners may be. One could wake up one morning and find out that overnight (s)he became co-owners with their worst enemy, and due to the lack of control, would have to reach agreement with the new "enemy" co-owner in order to make any major decision.

Assumption of Liability - A TIC interest, while having no control over the underlying property, may be held jointly and severally liable on debts incurred. At a minimum, equity returns come only after the repayment of debt.

No Written Document - In other forms of ownership, there are normally written documents such as partnership or joint venture agreements, by-laws, articles of incorporation, shareholder agreements, or operating agreements which define certain aspects of the ownership structure. In the TIC form of ownership there usually are no such documents providing guidelines.

All of the above risks can have an adverse affect on the value of a TIC interest. An estate which holds fractional TIC interests in real estate may be a prime candidate for valuation discounts which can serve to save significant estate taxes.