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Tenant-in-Common (TIC) 1031 Fraud and Securities Sales Broker and Broker-Dealer Responsibilities

by W. Scott Greco

Sales brokers and firms may fail to conduct due diligence or properly assess suitability and may misrepresent Tenant-in-Common investments

The use of Tenant-in-Common (TIC) real estate investments in conjunction with IRS 1031 exchanges greatly increased after the 2002 issuance of IRS Rev. Proc. 2002-22 which clarified issues related to the uses of TICs in like-kind exchanges. 

TICs since that time have been typically sold as securities by securities salespersons registered with FINRA (formerly the NASD) which is a self-regulatory organization overseeing the securities industry.  These salespersons (registered representatives) are required to be registered with a Broker-Dealer (brokerage firm) also regulated by FINRA.

The failure of securities salespersons and their firms to perform due diligence on the TIC deals they recommend, and on the sponsors of the TIC deals, can result in disastrous outcomes for their customers who follow their advice if the sponsor of the deal ultimately fails or goes bankrupt. 

In addition, salespersons must engage in a suitability analysis prior to recommending TIC deals to their customers to ensure that these illiquid investments are suitable for the customer’s financial situation.

Federal and State Securities laws also prohibit the misrepresentation or omission of material facts in conjunction with the sale of a security.  Many state Acts provide for the recovery of losses, attorneys fees, and interest.

The duties of a securities Broker-Dealer and its salesperson to perform due diligence on a TIC investment prior to its recommendation and sale is well-established by both NASD/FINRA guidance and federal caselaw.  When performing this due diligence, the Broker-Dealer and representative may not rely upon documents from the issuer/sponsor, but instead must perform independent due diligence to follow up on red flags or irregularities.

NASD Notice to Members 03-71 was issued in November, 2003 and it set out members’ obligations when selling “non-conventional investments,” which included TIC private placements. The NASD stated that in the sale of such products, members were required to:

“(1) conduct appropriate due diligence with respect to these products; (2) perform a reasonable-basis suitability analysis; (3) perform customer-specific suitability analysis for recommended transactions; (4) ensure that promotional materials used by the member are fair, accurate, and balanced; (5) implement appropriate internal controls; and (6) provide appropriate training to registered representatives that sell these products.”

With regard to the required “due diligence,” Notice 03-71 further requires Broker-Dealers to “ensure that their written procedures for supervisory and compliance personnel require that (1) the appropriate due diligence/reasonable-basis suitability is completed before products are offered for sale.”  Furthermore, “members also must document the steps they have taken to ensure adherence to these procedures.” 

NASD Notice to Members 05-18 confirmed that TIC investment interests were “non-conventional investments” as described in Notice 03-71, and further stated that TIC investments generally “would constitute investment contracts and thus securities under the federal securities laws.”

Notice 05-18 detailed a Broker-Dealer and representative’s duties with regard to obtaining a clear understanding of the customer’s investment goals and financial status for the purposes of making a suitability determination.  The representative must also take into account the illiquid nature of the TIC interest, the risks from over-concentration, and the “investment potential of the underlying real estate asset(s).”

 Pursuant to federal caselaw on the issue of due diligence for securities sales, securities salespersons cannot “rely blindly on the issuer of the security for information concerning a company…”  Hanley v. S.E.C., 415 F.2d 589, 597 (2nd Cir. 1969).  The Hanley court further stated that “securities issued by smaller companies of recent origin obviously require more thorough investigation.” supra. 

Subsequent U.S. Circuit cases further explained this duty to investigate, and stated that “red flags and suggestions of irregularities demand inquiry as well as adequate follow-up and review.”  Graham v. S.E.C., 222 F.3d 994, 1006 (D.C. Cir. 2000) (citing Frederick H. Joseph, 51 S.E.C. 431, 438 (1993).   Securities professionals must “investigate the securities he or she offers to customers,” and must and further obtain a “reasonable basis” through investigation that “key representations in the statements provided to investors were truthful and complete.”  S.E.C. v. GLT Dain Rauscher, Incl. et al., 254 F.3d 852, 857 (9th Cir. 2001). 

See also Sorrell v. S.E.C., 679 F.2d 1323 (9th Cir. 1982) where the court stated at 1327:  “When a broker ignores the obvious need for further inquiry, even in reliance on assurances from other brokers or attorneys, he violates the act… Nor could Sorrell reasonably rely on advice from White, attorney for Cherokee Coal Company.  A broker may not rely on counsel’s advice when the attorney is an interested party.”

If you have suffered losses as a result of a TIC investment recommended by securities salesperson or Broker-Dealer, and you would like a free consultation with an attorney to discuss your claims, please contact Greco & Greco.

Below is a list of sponsor firms who are current and/or prior members of the Real Estate Investment Securities Association (REISA) (formerly known as TICA – Tenant in Common Association):

AEI Fund Management Inc
St Paul, MN

American Capital Group
Bellevue, WA

American Investment Exchange
Hermosa Beach, CA

Argus Realty Investors, LP
San Clemente, CA

Ashforth Paradigm Capital Advisors
Boston, MA

Atlas Venture Partners, Inc.
Irvine, CA

B&H Real Estate Holding, LLC
Encino, CA

Behringer Harvard
Dallas, TX

BGK-Integrated Group
Santa Fe, NM

Bluerock Real Estate LLC
New York, NY

Bonaventure Realty Group, LLC
Arlington, VA

Cabot Investment Properties
Boston, MA

Capital Real Estate LLC
Denver, CO

Cole Companies
Phoenix, AZ

Cottonwood Capital, LLC
Salt Lake City, UT

Covington Realty Partners
Chicago, IL

DBSI Group of Companies
Meridian, ID

DeSanto Realty Group
Media, PA

Direct Invest LLC
Linthicum, MD

Dividend Capital
Denver, CO

Eliason 1031 Properties Corporation
Saint Germain, WI

Equitable Companies, LLC
Los Angeles, CA

Evergreen Realty Group, LLC
Pasadena, CA

ExchangePoint Properties, LLC
Beverly Hills, CA

First Guardian Group, LLC
San Jose, CA

FOR 1031/ Spectrus Real Estate Group
Boise, ID

FORT Properties, Inc.
Los Angeles, CA

Franklin 1031 Investments L.L.C.
Oakbrook, IL

Gemini Real Estate Advisors, LLC
New York, NY

Grand Peaks 1031 Properties
Denver, CO

Granite Investment Group, Inc.
Irvine, CA

Griffin Capital Corp.
El Segundo, CA

Inland Real Estate Exchange Corporation
Oak Brook, IL

International Realty Advisor
San Antonio, TX

Investment Properties of America
Richmond, VA

KBS Capital Markets Group, LLC
Newport Beach, CA

Kodiak Capital Partners L.L.C.
Dallas, TX

Meridian Realty Advisors, LP
Dallas, TX

Moody National Companies
Houston, TX

National Exchange Advisors, LLC
Sherman Oaks, CA

Noble Royalties, Inc.
Addison, TX

ORIX Real Estate Capital, Inc.
Dallas, TX

Parthenon Realty 1031 Investors, LLC
Alpheretta, GA

PASSCO Companies, LLC
Irvine, CA

Pennbridge Capital
Lehi, UT

Principle Equity Management
Houston, TX

Rainier Capital Management, LP
Dallas, TX

Real Estate Partners, Inc.
Irvine, CA

Real Estate Value Advisors LLC
Richmond, VA

REEF Oil & Gas Partners
Richardson, TX

Resource Real Estate, Inc.
Philadelphia, PA

RK Properties
Long Beach, CA

Sagebrush Realty Holdings LLC
Denver, CO

SCI Real Estate Investments, LLC
Los Angeles, CA
www.sciproperties.com

Sequoia 1031 Companies LLC
Northglenn, CO

Southfork
El Dorado Hills, CA

SRS Investments, LLC
Sarasota, FL

Texas Energy Holdings Inc.
Dallas, TX
www.tx-energy.com

The Geneva Organization
Minneapolis, MN

The Woodlark Companies
White Plains, NY

TIC Capital LLC
Boise, ID

TIC Properties, LLC
Greenville, SC

TREC Investment Realty
Las Vegas, NV

Triple Net Properties, LLC
Santa Ana, CA

TSG Real Estate, LLC
Chicago, IL

U.S. Advisors, LLC
Ladera Ranch, CA

Wells Real Estate Funds
Norcross, GA

Western America Equities LLC
Bellevue, WA

1031 Xpress Inc
Bellevue, WA

American Realty Capital
New York, NY

Atel Securities
San Francisco, CA

ATEL Securities Corp
San Francisco, CA

Axxcess Capital LLC
Newport Beach, CA

Bluerock Capital Markets LLC
Newport Beach, CA

Brennan Investment Group LLC
Des Plaines, IL

Calliance Realty Fund LLC
San Francisco, CA

CM Group
Henderson, NV

Coachman Energy LLC
Denver, CO

Commonwealth Capital Corp
Clearwater, FL

Cottonwood Capital LLC
Salt Lake City, UT

Cypress Capital Corporation
San Francisco, CA

Dividend Capital
Denver, CO

Energy Hunter Securities
Houston, TX

Gemini Real Estate Advisors LLC
New York, NY

Grubb & Ellis Realty Investors LLC
Santa Ana, CA

GWG Holdings
Minneapolis, MN

Hamilton Point Investments LLC
Old Lyme, CT

Healthcare Trust of America
Scottsdale, AZ

Hertz Capital Markets Group
Santa Monica, CA

Hines Real Estate Investments Inc
Houston, TX

Inland Private Capital Corporation
Oak Brook, IL

Inland Real Estate Investment Corporation
Oak Brook, IL

JH Financial Group LLC
Newport Beach, CA

KBR Capital Partners
Irvine, CA

KBS Capital Markets Group
Newport Beach, CA

Lightstone Securities LLC
Mahwah, NJ

MacDonald Realty Group
Desoto, TX

Moody National Companies
Houston, TX

New Start Capital LLC
Dallas, TX

Noble Royalties Inc
Addison, TX

NorthStar Realty Finance Corporation
Greenwood Village, CO

Passco Companies LLC
Irvine, CA

Penneco Oil Company
Delmont, PA

Preferred Apartment Communities Inc
Atlanta, GA

Principle Equity Management
Houston, TX

Rainier Capital Management LP
Dallas, TX

Somerset Partners LLC
New York, NY

Somerset Partners LLC
New York, NY

Steadfast Capital Markets Group
Irvine, CA

Strategic Capital Holdings LLC
Ladera Ranch, CA

Thompson National Properties
Irvine, CA

Time Equities Inc
New York, NY

Vertical Capital Markets Group
Irvine, CA

Waveland Capital Partners LLC
Irvine, CA

Wells Real Estate Funds Inc
Norcross, GA

Wilkinson Capital, LLC
Yakima, WA

 

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