Baker Donelson’s CMBS Special Servicer team recently lead a training session for one of our clients on unique issues and strategies involved with defaulted loans involving tenant in common (TIC) borrowers. We have seen multiple bankruptcy filings by individual TIC owners over the past 12 months. The program identified numerous issues that are unique in a TIC bankruptcy and highlighted various strategies to address these bankruptcies.
The team first discussed what a TIC is and why it exists, with reference to the change in tax laws in 2002 resulting in the use of TIC investments as like kind exchange under section 1031 of Internal Revenue Code. The TIC owner has many unique legal rights such as unity of possession under distinct legal title. Since the TIC owner holds an undivided interest in the entire real property, a bankruptcy filing by one of the multiple TIC owners triggers the protections of the automatic stay as to the entire property enjoining the lender’s foreclosure efforts and proceedings. It is critical to understand the terms of the TIC Agreement, applicable State law and the Offering Memorandum.
TIC borrowers create complicating issues of notice and service at the outset of a file transfer. While the underlying loan documents may appoint a sponsor or representative for notice purposes, it is best practice to get all TICs to sign the prenegotiation agreement (PNA), with their notice address. If there is an appointed representative for the TICs, the PNA should authorize the Special Servicer to discuss the matter with them, and the representative should also sign the PNA.
Several unique bankruptcy issues are implicated upon one TIC filing bankruptcy to stay a foreclosure or other action. Some of the initial questions that must be answered include (i) can one TIC member file for bankruptcy and stay an action against property owned by all the TICS; (ii) can the TIC debtor reject TIC Agreement under Section 365 as an Executory Contract?; (iii) what is the property interest of the bankrupt TIC (Section 541); and (iv) can other TICs exercise right to buy out the bankrupt TIC based on language in TIC Agreement or is it an ipso facto clause? There is also the risk of serial bankruptcy filings by the various TICs. Since the members of each TIC owner or TIC limited liability company may reside in multiple jurisdictions, TIC owners, if they are well organized, well informed, and well-funded, may take advantage of the geographic diversity of the multiple owners by filing serial cases in inconvenient jurisdictions far removed from the real property securing the loan.
Fortunately, the Bankruptcy Code provides the Special Servicer with various tools to aggressively protect its position. This includes filing a motion to transfer venue of the bankruptcy case (if filed in jurisdiction other than where the underlying property collateral is located), filing a motion to dismiss the bankruptcy case as a bad faith filing for, among other reasons, a lack of valid reorganizational purpose, and a motion for relief from stay. Additional issues that have to be addressed are whether the TIC has any interest in the holder’s cash collateral. It seems unlikely that an individual TIC debtor could ever confirm a plan over a holder’s objection, but plan confirmation battles are certainly a possibility before the holder can secure its ultimate relief in a case. If the first TIC case is dismissed, the Special Servicer can seek in rem relief from the automatic stay in any subsequent TIC bankruptcy filing as an abusive, serial filing.
The Special Servicer should carefully review the carveout guarantees involved in the matter to determine whether the individual TIC bankruptcy filing triggers liability for all TICs. This will be governed by the specific terms of the guaranty at issue. We have seen guaranty language all over the place where only the individual TIC triggers liability to a broader trigger. The Bankruptcy Code does permit Section 363 sales of TIC property under Section 363(h). We have utilized this provision to orchestrate a sale of property through the bankruptcy case to pay off the holder’s loan.
When a file involving a TIC borrower lands on your desk, it is clear that various unique issues come into play. We will continue exploring these issues through client training sessions, as well as a CMBS Special Servicer webinar that we are putting together for November 2013. Let us know your experiences with TIC borrowers.