Secretary of State William Galvin claims Cabot Investment Properties LLC and its principals, Carlton P. Cabot and Timothy J. Kroll, stole more than $5 million from Massachusetts residents. Cabot was offering tenant-in-common interests to investors. But I remember from law school that a tenant-in-common interest is real estate. So why are the defendants charged with securities fraud?
Tenant-in-common arrangements are common for real estate. (More often you see joint tenancy, where the other party gets the whole when the other dies.) The tenant-in-common arrangement is more often used in commercial properties as part of a 1031 exchange. It’s a way to park cash from the sale of another asset to defer the payment of taxes.
A TIC Interest is a co-ownership structure that allows multiple investors to share undivided fractional ownership in a property such as an office building or shopping center. The owners share equally in the management and other property decisions. If it was organized as a partnership or fund, the investment would not be considered real estate and therefore not subject to the tax deferral of 1031.
The challenge is getting collective decision-making and management from a group of unrelated investors to manage the commercial property. That means the group will have to layer some management rights onto the tenant-in-common relationship. That means the investor may be relying the efforts of others for success of the project. This is not a novel issue. Tenant-in-common sponsors have been wrestling with their treatment as securities. The twist is that the investment can be considered real estate for tax purposes and a security for regulatory purposes. The structuring of a TIC is more focused on meeting the IRS rules for treatment as real estate than the SEC’s view of what is a security.
It looks Cabot treated the TIC interests as securities because the Administrative Complaint mentions the offering documents which include a private placement memorandum. You’re not likely to have the document for a real estate investment. In searching through EDGAR its easy to find many of the Form D filings for Cabot’s TIC offerings.
I don’t have access to the documents, but one item in the list of an investor’s real estate documents is a master lease and a property management agreement. Those will likely leave management of the property firmly in the hands of the sponsor.
From there, the charges run through pilfering money and commingling money among the investments. In reading the complaint it’s hard to tell what was poor management or poor disclosure or poor communications with investors or fraud. The investments failed and investors lost money. According to the complaint and other lawsuits, a substantial sum was diverted outside the investment TIC structure to Cabot.
This seems to be a clear case of real estate being turned into a security.
Sources:
- Complaint against Cabot (.pdf)
- State accuses ‘Cabot’ impostor of swindling $5M from Massachusetts residents by Matthew L. Brown in the Boston Business Journal
- Breaking News – Carlton Cabot Charged With Fraud
- Clotfelter v. Cabot Investment Properties
- Windsor Property Caught in Legal Tangle
- A “TIC”ing Time Bomb: Rule 506 Meets Section 1031 by Elizabeth Whitman
- Securities and Exchange Commission Confirms That TIC Sales Under The Traditional Master Lease And Property Management Models Are Subject To Securities Laws By Eugene Polyak
- No-Action Letter, dated January 14, 2009, addressed to each of OMNI Brokerage, Inc., Argus Realty
investors, L.P., PASSCO Companies, LLC. - ‘Ponzi scheme’ costs East Town investors more than $200K