As I mention above, it is critical to recognize that the lives of each of the co-owners will change in ways they do not expect, and there must be a way for fractional owners to leave the group. Allowing co-owners to sell individual shares is one way to make leaving possible, but selling shared property interests may be difficult or impossible due to market conditions, bad group dynamics, the condition of the shared property, or other unpredictable factors. So even if individual fractional interest sales are permitted, it makes sense to create a realistic, guaranteed exit strategy. Typically, this means picking a time in the future when it will become possible for any of the co-owners to insist that the others either buy them out based on fair market value, or sell the entire shared property.WHAT KINDS OF RISKS DOES VACATION FRACTIONAL CO-OWNERSHIP CREATE?
Fractional ownership involves the risks of sharing use of property with others and relying on them to fulfill their obligations to you. Sharing use means that you will not be able to do what you want when you want, and that others may do things that displease you. Sharing obligations means that necessary maintenance and management might not be completed, or worse, that as the result of a co-owner failing to make a payment, a mortgage lender could foreclose on the entire building causing all of the other co-owners to lose use of the shared home and possibly all of the money they have invested. There is no way to eliminate these risks, but there are ways to lower them. Perhaps the single most important thing you can do to lower the risk of shared ownership is to have a thorough, written, signed fractional ownership agreement that deals with all of the issues, including events you don't expect to happen, the possibility that people you don't know will be in the group as the result of a death or re-sale, and the reality that people change and you might not get along with the other co-owners as well as you do now.Besides having a shared ownership agreement, these steps will help diminish the risk of fractional ownership:
- Carefully investigate the background and financial qualification of potential co-owners.
- Use a monthly assessment system for collecting payments from the group, and pay all bills from a group account.
- Assign each of the essential management tasks to a specific person either within or outside the group.
- Have each co-owner contribute to a default reserve fund that will be used to pay mortgage interest (if there is a group mortgage), property tax or insurance if a co-owner fails to contribute his/her share, and make sure you don't accidentally spend the money on maintenance or repairs.
- Give the group the power to quickly force out a co-owner who is not fulfilling his/her obligations, and use that power before the group is in serious financial trouble.
Where the fractional vacation property is located abroad, prospective co-owners are less likely to be familiar with either the real estate market or the local real estate transaction system. This lack of familiarity creates risk of overpayment for the property or its improvement and furnishing, or of wasting money and time in connection with the transaction formalities. In addition, the laws of many foreign countries do not offer the same level of consumer protection as U.S. laws. Ongoing management, enforcement of the co-ownership agreement, and resale transactions can also be problematic. All of these difficulties can be compounded by a language barrier. To manage these risks, it is essential to involve both a U.S. attorney, and an attorney licensed in the country where the property is located, in the formulation of the fractional ownership agreement and fractional ownership structure.
Owning the fractional property through an entity created in a jurisdiction with a well-developed and familiar legal system, and an effective alternative dispute resolution infrastructure (so that you do not need to rely on a slow and expensive court process) can help solve many of the difficulties associated with shared vacation property located abroad. This arrangement allows sales and rental transactions to occur in a familiar language and under familiar rules, avoiding the formalities and costs involved in transferring real estate in the country where the property is located as well as the expense and inconvenience of foreign lawyers, real estate agents and notaries. In addition, use of the foreign entity fractional ownership structure enables the relationship of the co-owners to be governed by well-developed and familiar laws, and any disputes the co-owners to be resolved more quickly, reliably, and cost-effectively. In some cases, certain types of transfer and inheritance taxes can also be avoided.
ABOUT SIRKIN PAUL ASSOCIATES
Sirkin Paul Associates' has focused on real estate co-ownership since 1985, and has been involved in the creation of more than 5,000 co-ownership arrangements throughout the United States and the world. This breadth of experience allows us to draw on a huge library of fractional project documentation as well as extensive knowledge of marketing and registration requirements for virtually any location where a project might be located or potentially marketed. We pride ourselves on our ability to write legal documents in plain English, develop simple and elegant usage and organizational structures, and offer efficient, reliable and cost-effective services for fractional projects ranging in size from a single house or condominium up to hundreds of factional interests. Our firm currently has five attorneys spread among our offices in San Francisco California, Evergreen Colorado, and Paris France.ABOUT THE AUTHOR