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by Emily Landes

In this magazine, we often offer a dissection of different components of the real-estate market, from 2 units up to 200. One segment that hasn’t really been touched upon is the tenancy-in-common market, which had its beginnings in San Francisco’s central neighborhoods and has now branched out to the rest of the city, and the rest of the world. In October, SF Apartment Magazine Managing Editor Emily Landes sat down with lawyer Andy Sirkin of Sirkin Paul Associates, who pretty much wrote the book on TIC agreements; lawyer and broker Meg Ruxton, who helps put TIC groups together for City Living; and agent Jesse Fowler, who puts his decade and a half of real-estate experience to work at Brown and Co., one of the city’s top TIC sellers.

Q: How did you get involved in TICs?

Andy Sirkin: I’ve lived in San Francisco since 1983. Around 1985, I became interested in tenancies in common as a way to buy my own first home here. I put together a group to buy a six-unit building. People I knew saw what I was doing and were interested in doing it, so I started helping other people do it. Basically, by 1986 it was my full-time job. Over the last 22 years, we’ve probably done about 5,000 projects—that could be an agreement for a single unit, or a whole building full of units.

Increasingly, over the last five or six years, the practice has been less and less San Francisco-centric. Now, we’re only about 30% in San Francisco, whereas five years ago we were probably 90% in San Francisco. I’ve got projects all over South and Central America, and all over Europe. We have offices in Paris, Denver and here.

We do different kinds of TICs in different kinds of places. I would say the common element though is high real-estate prices and conditions that are conducive to people sharing property in some way. Here, in the Bay Area and in Southern California, people tend to share multiunit buildings. In other places, our practice is more centered on sharing vacation and second homes. But the basic issues are the same. There are places where real estate is not expensive and people don’t have to share things, and we don’t have work there. Although, more and more as the market tightens up, we’re doing more equity sharing, which is something we used to do a lot of in the 1980s. That’s a TIC between an investor and an occupant, where the investor provides all or most of the downpayment and the occupant lives in the house and they share the appreciation.

Meg Ruxton: I used to practice law and I took some time off to have kids. I bought an apartment building and started managing that as my side job. I then decided to get my broker’s license. I did some research into different areas of real estate, and I thought TICs would be a good area for me because I could use my legal background and background in apartment building management. I really enjoy helping people find their first-time homes, so we put together deals for people to buy buildings together. We also buy buildings, renovate the units and sell them off as TICs.

Jesse Fowler: I started at BJ Droubi Real Estate in 1994, and we started doing a lot of TIC agreements. In 2004, I joined Brown and Company. I had done a few TIC projects of my own, but joined Tim Brown since he was doing a lot of the larger TIC projects in the city.

Q: What’s considered a “larger project”?

JF: Seven units and above. I think that around 2001 we started seeing more of the 5-6 unit buildings, and now Tim and I have about 50 projects in the pipeline, with half of those being more than 6-unit buildings.

Q: What’s the biggest building you’ve seen as a TIC project?

AS: We did a 60-unit building down in Santa Cruz, and a number in the thirties. We did a thirtysomething in the city that never went on the market. But as far as projects in the city that are sold out, I think the biggest are in the twenties and thirties.

Q: Why wouldn’t a project go on the market?

AS: The seller gets all the approvals but for one reason or another decides that the timing isn’t right. Also, financing is increasingly an issue, and as the projects get bigger they need more financing. Generally, they are too big for one bank, so then the financing package needs to get put together and that’s a lot more complicated.

Q: Is financing the reason these deals most often fall apart?

AS: Today, yes. We had a period of about two or three years when, relatively speaking, TIC financing was easier to get. It was never as easy to get as other kinds of financing, but it was pretty easy, especially in San Francisco. Where we are now is that a lot of the fractional lenders have pulled back because the credit market in general is bad. So, while they all love the product—they’re making lots of money, the quality is very high and there’s never been any defaults—they’re pulling back on everything. In some cases, they can’t approve any more projects because they don’t know if they’ll have the money to fund them. In other cases, they still have the program going, but they’re much more selective about the borrowers. What that’s meant is higher down payments, higher credit scores required and higher debt-to-income ratios. If you go into the southern, western and eastern parts of the city, where credit quality is lower because people don’t have as much money, it’s very hard to get a project financed.

Q: Where are most of the TIC projects in the city located?

JF: I feel like TICs started in District 5 on the real-estate map, which is Noe Valley and Mission Dolores, and then worked their way to the north side of town where we started to see many more of them in the past two to three years than we had before. Then, in turn, it became more people using them for a pied-a-terre. Now, we’re seeing a lot of folks buying with all cash. Just in the last few weeks, five offers out of seven we’ve accepted on TIC units have been cash.

These are people’s second homes, generally, or folks with parents’ money trying to invest for their kids in the city.

There still are fractional lenders out there and some of them are even dropping their rates and committing more to their programs. So, as people fall off it seems like other people are coming in and picking up the slack.

Q: So, fractional loans are still a desirable product for lenders?

AS: I think so. I was with Bank of Marin recently—they were the first bank to offer them—and they are very anxious to continue with the program, but right now they’re just deciding what their allocation is for next year. At this point, they can’t make any new commitments, but they’re optimistic that they’ll continue. They took a portfolio of their first generation of TIC loans and tried to sell it in the secondary market, but the timing was bad. It was right when everything fell apart, so not surprisingly they couldn’t sell it. But they had a lot of inquiries and a lot of interest. Looking forward, there will be a point, hopefully, if the country ever recovers, where they’ll be able to take $50 million of these and sell them and come back with new money.

Fundamentally, these are great products for lenders because borrowers are very strong and risk is relatively low in most places. There haven’t been any foreclosures. There haven’t even been any missed payments.

MR: That’s pretty amazing when you think about it. No foreclosures? Compared to other parts of this industry?

AS: We could start to see some. We’re looking back over a period where everything’s just been going up and now that a lot of people’s fortunes are reversing, I wouldn’t be surprised if there were some defaults. But, relative to the market overall, I think the rate will be much, much lower compared to condos or house loans.

Incidentally, even on TIC group loans, there haven’t been any defaults. So, even when you broaden the discussion—because statistically fractional loans are only a tiny percentage of the market—the credit quality has been very high.

Q: Is that because there’s a higher threshold for entry on these loans?

AS: I think that’s part of it. I also think there’s quite a bit of buffer between a calamity to one of the owners, like a job loss or an illness, and an actual default to the bank. They’re paying ahead, they have reserve funds and there are other people in the group. So, there’s a lot of protection built in that’s not there in the normal situation. When something does go wrong, the odds of it actually turning into a late payment or a default are much more remote.

Q: How has the TIC market compared to the rest of the market in San Francisco?

JF: I’d say its fairly consistent with what the condo market has been doing. We have seen a decrease in the average price by about $20,000. The biggest hit has been the one bedrooms. Two and three bedrooms are easier to sell because you’ve got a larger group of buyers out there and, generally, they’re priced pretty competitively compared to condominiums. They’re priced about 15% lower, though I think the gap is closing with fractional financing. Sometimes people need to see value and quality of finish. That’s what people are looking for in all markets. Everyone’s looking for value now.

AS: I would add that homebuying is a very emotional decision for most people and what they respond to is the real estate. The fact that it’s a condo or a TIC makes a difference to people, but it makes less of a difference than you might think, especially in a place like San Francisco, where most people are familiar with and comfortable with TICs. If you have a really good property that people respond to, emotionally, they’ll find a way to make themselves comfortable with the legal structure. On the other hand, if your property or location is marginal, this just becomes another reason not to buy it. Essentially, people are compromising on the property already, and they’re looking for any reason to walk.

Q: What makes for a really great TIC project?

MR: You have to have a project where you can see people wanting to make it their homes. There are some apartment buildings that are not really suited for TICs because they don’t have that homey feeling. You really have to see the potential in the building and, of course, you have to look at the numbers, the tenant makeup and the location. Basically, you have to see people being willing to invest in this as their home and make it more of a long-term commitment.

Q: Are people still looking to eventually condo convert or are they content remaining in a TIC?

MR: I think people are still looking to convert but its becoming less of a necessity for people now that they have fractional loans; they don’t have to worry about being on a loan with other people.

AS: The other thing is that it’s become much more difficult to convert. To the extent that people were interested in this product primarily as a vehicle to condo convert, those people aren’t buying anything but two-unit buildings because the likelihood has been diminished so much that this is no longer a realistic strategy.

Q: When people sell their TICs, where do they go?

JF: It was primarily a first-time homebuyer vehicle, so we see a lot of people going out of TICs and into single-family homes—not so much condominiums because they’re already in something similar to a condominium. They’re leaving the city, or they’re even renting. Sometimes they’re just trying to capture the appreciation and move out.

One of the interesting situations that we’re running into recently is people with existing group loans who want to go into fractional for their incoming buyers and are sometimes having trouble getting their equity out because they’ve got these group loans at really low interest rates. You get three co-tenants and two of them don’t want to refinance and one of them does, to get out. That’s where I’ve been having the most difficulty and having to do the most hand holding recently. It can hurt on the group loans because on most group loans, they’re not assumable; so even if you were to assume the portion of debt that the existing co-tenant has, the lender either won’t sign off on the assumability or it’s not assummable at all.

AS: Notwithstanding the fact that for 20 years we’ve been hammering the buyers and the brokers on this issue, people in the end go for the rates and the terms and they ignore the legal advice. They end up with a product that doesn’t allow anyone to sell, at least not without technically violating their loan docs. Then they come back and say, “Oh, I never should have bought a TIC. This is terrible. How could you let me do this?” I always say, “I don’t think this has anything to do with it being a TIC. This has to do with you going against the advice that everyone gave you at the time that you needed to have an assumable loan.” But, of course, everybody thinks when they buy that they’re never going to sell. And when you point out to them that, of course, that’s not true, the come back is, “We’ll be able to work it out then.” They do work it out, but it’s a lot of pain.

Q: How do these negotiations between co-tenants usually work?

AS: In our agreements, we give the seller the ability to force a refinance. But that doesn’t answer the main question: What about the costs of this? The costs come in the form of the origination of the loan and the changes of the rates. Then the question comes down to, who pays these costs? For the last few years, we have put most of the burden on the seller, who can then pass some of it on to the buyer. But, we do put some of it on the rest of the group. Some people say, “Why should I have to pay more or have less desirable terms?” Well, the answer is: it could’ve been you and it will be you! If we put all of the burden on the seller, what that can mean is that you’ve got someone who needs or wants to get out, and that’s not a good thing for the group. In the end, people have to understand that there are consequences to playing hardball. Not only are they probably violating the terms of the agreement, but those consequences long term are going to come back and make their lives very unpleasant.

Q: Does it make things easier if the people in the agreement were all friends to begin with?

AS: Definitely not. It makes things harder.

MR: That rarely happens, anyway. We’ve found that if we work with the group from the beginning to kind of help them bond and get them set up the right way, they will be more successful. If it’s all laid out and people understand what they’re getting into in the beginning, and develop a relationship that’s respectful, I think you’ll find that they are successful.

AS: Twenty years ago, we used to spend hours upon hours with these groups. The whole market was different; you sort of had to assemble the group and then you had meetings and you read them every sentence of the agreement and explained it to them. With this bull market that we’ve had, the market moves too fast for that. Also, from a legal services standpoint, there’s competition between a lot of different lawyers for this business and that’s pushed pricing down. There’s no longer the space to spend 12 hours with a group because people are shopping price and they want an agreement for $1,000. In order to do that, you can’t spend this kind of time. We deal with the building and financing, but we don’t deal with the people very much anymore.

Q: Are there any particular benefits to being in a TIC, aside from the price?

JF: Sometimes you can get access to a nicer building. A lot of these buildings that have been converted are incredible buildings. I have a couple in the pipeline that were built in the early 1900s, and they’re great properties. Sometimes it’s the only way to get a unit of that size and quality at that price. There’s a lot of nice buildings in the city, and a lot of developers have taken advantage of that by selling their units as TICs and getting a better price because of it. People want the charm, and they want to be in these neighborhoods that are older. It’s like getting into a great rental unit, except you can purchase it and benefit on the appreciation.

MR: I think people are looking for high-end finishes; they don’t want a fixer-upper TIC. When we’re renovating buildings, we make sure we use high quality materials and keep the charm, but just make it really modern in the kitchen and bathrooms. You’ll see stainless steel appliances and granite countertops.
JF: We have sold some fixer TICs, but a lot of the problems that I run into have to do with the infrastructure of the building. If you don’t take care of these issues all at the same time, it can be hard for a group of 6 or 12 to come in and take on projects like upgrading the entire electrical system or putting on a new roof. So, generally, it’s better to sell folks a building where the infrastructure has at least been updated.

AS: During the 1990s, there were a lot of TIC groups coming in and building
garages. At the time, it seemed like 15% of all the agreements we did involved the construction of a garage. But that seems to have gone away now, and I don’t know if that means all of the garages have been built or people have just gotten smarter about it and realized that it’s actually quite difficult to build a garage.

Q: Any other trends?

JF: A lot of buyers want to have expansion potential so the two or three bedrooms are easier to sell. I think people now are looking for a little more of the long-term, as opposed to when the appreciation was just continuing to climb and people figured, “I’ll just get in anything and move in two years.” Now they realize that it could be a longer term investment, more of what we’ve always told people, which is a three-to-five-year timetable to expect any appreciation. In the last few years, people lost sight of that because things were always on the way up. So, the larger units are selling faster and at higher prices because people are realizing that they may need time to build their lives before moving on.

MR: I think more people are going to want to buy in the city, rather than moving out to the suburbs. As gas gets more expensive, and people are concerned about their impact on the environment, I think that instead of saying, “When I start a family, I’m going to move out to the suburbs,” people are going to say, “I’m going to stay in the city and make it work.” They may be more willing to look at TICs, which are more affordable than condos or single-families in the city. So, there may be more demand for them.

 

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The opinions expressed in this article are those of the author, and do not necessarily reflect the viewpoint of the SFAA or the SF Apartment Magazine. Emily Landes is the managing editor of SF Apartment Magazine. Copyright © 2008 by Black Point Press. All rights reserved.