Types of TIC Loans – Pros and Cons

August 12, 2020
Group loans are regular multi-unit-building or commercial loans where the parties agree to each pay their share.  The parties apply for the loan together.  Most groups have a joint bank account where everyone deposits their money and the money is sent every month to the lender.  Back before 2007 or so, this was the norm for TICs and it was the main reason TICs were generally worth 25% less than condos.  People had to consider the risk of applying for and maintaining a loan larger than they could generally support on their own with a group of other people – some of whom were likely strangers when the initial TIC was set up.  Some ways in which group loans are a disadvantage to a TIC are:
1.  Group loans are perceived as risky by potential buyers and it drastically affects the value if you want to sell.  Most TICs I have seen sold where there is a group loan are sold for cash at a steep discount because no new parties want to participate in the loan OR the neighbors refuse to refinance to gain more financing for the buyer.  Reducing the buyer pool reduces the value.
2.  Group loans actually are  potentially risky, even if you know your neighbors and trust them.  (I have personally had a group loan where my neighbor did not pay and I had to make all the payments during a giant recession where I was the sole provider for my family.  In fact, I was the only person in the BUILDING with a job for a while.  So I am sure this is true.)
3.  If one of you dies, or needs to sell, it can be hard to transfer the property if there is remaining debt.  The group either has to pay off the debt, refinance to a new group loan, refinance to fractional loans, or transfer the property with the lender’s permission – called an assumption, OR more likely since mortgages are generally not assumable any more – without the lender’s permission.  This last option can put the group in a position where the lender can “call the note,” meaning force a repayment.  Doesn’t happen much but I would not want to be in this position.
4.  If you want to buy more property outside of the TIC, many lenders will count the whole loan against you.  So if there is a loan for $1,000,000 on the building and you only owe $250,000 of it, and you want to buy a 2nd home in Sonoma County, you might not qualify because the lender for your new house will view you as though you owe the entire $1,000,000.
5.  Potential advantage:  While most group loans are fixed for an initial period of 5 or 7 years, sometimes in a building 4 units or under, you can get a 30 year fixed loan.  This is perceived as a potential advantage it only is if you actually keep the loan for 30 years.  In practical terms, most TICs will experience a sale within 7 years anyway, forcing some kind of change to the loan.  The interest rate is rarely lower than on a fractional loan, but it could be in some circumstances, especially for a 2 unit.

Fractional loans are loans where the lender has recourse only to the unit that it is secured by.  Group loans are loans that are secured by the whole building where 

The main advantages of fractional loans are:
1.  You don’t have the complexity of paying a shared mortgage monthly.  You each have your own bill.
2.  Having a fractional loan has lower risk to each of you in that if one of you dies, or experiences a financial issue, the lender only has recourse to that actual unit.  It can be transferred to an heir or even foreclosed without affecting the other owners.
3.  In increases your property value!
-The market regards units with a shared value as very odd – even scary.  So if one of you needed to sell, the value would be about 70% of the value with a fractional loan.
-Even the process of refinancing to fractional if someone is selling is regarded as difficult and strange by buyers.  Having the loans in place before anything happens enables one of you to move on easily if that should ever happen.
4.  If you want to buy other real estate, it is clear what debt is yours and what debt is not yours.  You will not have the issue of a new lender assuming you are responsible for debt that actually belongs in practical terms to others.
5.  One perceived disadvantage is that fractional loans are only available for 3, 5 or 7 year fixed periods.  They are 30 year loans, but the interest rate may adjust after the fixed period.  Most groups will experience some kind of disruption in the loan anyway before 7 years, so it will be easier for the rest of the group if they have fractional loans.