Avoid tenants in common properties with master lease arrangements

Some TIC property sponsors offer large investment properties with master lease arrangements.  This means that the TIC sponsor or an affiliate of the sponsor is also the master lease holder, with the actual tenants holding sub-leases.

This is done for two reasons.  First, the investors in such properties are usually given a guarantee of income from the sponsor.  And second, the master-tenant can earn a small income from the differential between the master lease and the sub-leases.

But recently, this arrangement has proven to be more trouble than it is worth for both sponsors and investors.

That is because while the sponsor takes on the additional risk of being the master tenant on the entire property, and rightfully should earn a fee for that risk, it turns out that if there are an extraordinary number of vacancies, the sponsor is still obligated to pay the guaranteed net cash-on-cash return to the investors.

If extraordinary vacancies should occur in more than a few properties within the sponsor’s portfolio, then bankruptcy of the sponsor may be the result.

If that occurs, the sponsor or its affiliate will not honor the obligation to pay the guaranteed net cash-on-cash return to the investors.  And in some cases, the properties themselves and all the income can be tied up in bankruptcy proceedings.

It is best to choose TIC properties that have conventional lease arrangements such as triple net leases on retail and gross leases on multifamily.  That way, you can easily review the due diligence and pro forma calculations to make sure the assumptions are conservative and make