Issues Arising from Joint Ownership of Property and Partition Actions
If you are buying real estate with a friend or inherited a fractional interest in land from a parent or relative, then you need to be aware of the potential issues that can arise when more than one person owns the same piece of real estate. There are two common types of co-ownership: joint tenancy with rights of survivorship and tenancy in common.
Joint Tenancy. The most popular example of joint tenancy is spouses' ownership of the marital residence. If you purchased your home with a spouse, you may have noticed the words "right of survivorship" in the deed you received from the previous owner. That deed very likely created a joint tenancy with rights of survivorship between you and your wife, which means that if one spouse dies, the other spouse will automatically own the entire house (subject to any mortgage of course). The joint tenancy is a simple way to provide for an automatic transfer of ownership at death without the deceased's interest in the property becoming part of his estate.
Tenancy in Common. Problems arise more frequently in the case of a tenancy in common. A tenancy in common exists when more than one person has ownership in a piece of property, but the property is not held with “rights of survivorship." For a simple example, assume that Jane Doe dies owning a prime 100-acre Georgia mountain property, called Blackacre. Jane dies without a will and leaves behind only two sons, Jack and Peter Doe. Assuming Jane had no debt and that Blackacre was not subject to a mortgage, Jack and Peter will each have what lawyers call a "one-half undivided interest" in Blackacre; in other words, Jack and Peter are "50/50 co-tenants" in the property. (The same thing would be true if Jack and Peter had not inherited the property, but had instead purchased it together.) That means Jack and Peter both have all rights that go with property ownership (e.g., use of the property, exclusion of others, profit from the timber and resources on the property) with respect to the entire property. As far as basic use and enjoyment go, it's as if both of them own 100% of the property. As long as they are tenants in common, neither Jack nor Peter will be able to:
- keep each other off any part of the property, i.e., neither of them can claim to own any certain part of the property;
- build improvements (e.g., a cabin, a road) on the property without the other getting 1/2 the credit (one co-tenant cannot compel another to contribute towards improvements made without consent)
- lease any part of the property without having to account to the other for rent received; or
- sell the entire property without the other's consent.
Either Jack or Peter can sell his 1/2 interest in Blackacre without the other's consent. As a practical matter, this means that either of them could get stuck co-owning a property with a total stranger! (The flipside of this coin, though, is that anybody who wants to buy Jack or Peter's 1/2 interest will have to live with a stranger for a co-tenant. Who wants that?) The effect of all of this uncertainty is to make both Jack and Peter's individual 1/2 interests less valuable than 1/2 of what the entire property would be worth if it were sold to a single buyer.
How to Avoid Problems Associated with Co-Tenancy. The most common way to avoid the problems associated with co-tenancy is for the co-tenants to purchase or own the property in a corporate entity such as a Limited Liability Company (LLC) or Limited Partnership (LP). Instead of Jack and Peter each owning a one-half undivided interest in Blackacre, they may form "Blackacre Owners, LLC" and then the property would be owned 100% by the LLC. Jack and Peter would then own 50% of the stock of the LLC each. That places ownership and control of the property at the entity level. While this is easier to accomplish in non-inheritance situations where the parties are purchasing property voluntarily, there is nothing to stop co-tenants, especially those wishing to hold their property for the long term (e.g., timber approaching harvesting age) from deeding the property to a corporate entity after inheriting it.
When property is owned in a corporate entity, the entity's governing documents can anticipate and address the problems identified above. For example, if the property is owned by a LLC, the LLC's operating agreement will often provide for a right of first refusal so that, if Peter wanted to sell his stake, Jack would have a contractual right to consolidate his ownership of the tract by purchasing Peter's stake. Peter would be allowed to sell his stake to a third-party if and only if Jack doesn't buy it. The same document can control, among other things, who hunts where, whether the property will be managed for conservation or profit, how repairs and improvements will be funded, and a myriad of other issues. If one of the brothers is more adept at property management, then the operating agreement may make him the "manager" of the LLC such that he controls decisions regarding the property. But if Jack and Peter share decision-making responsibility, then the operating agreement can provide for submitting disputes to a neutral umpire for resolution. Especially in cases where there are many fractional owners of the property, entity ownership is almost always preferable to a large number of tenants in common.i A qualified attorney can help the fractional owners sort through the likely issues that could arise with the co-tenancy and make resolving them easy in the entity’s organizational documents.
Even if a corporate entity is not used, private agreements between the fractional owners (e.g., a right of first refusal agreement if anyone wishes to sell; leases as to certain parts of the property) can mitigate some of the issues above. But in most situations, entity ownership will be simpler to implement and will make for easier transferability of the ownership interests without having to re-negotiate and implement a new set of agreements.
While the use of corporate entity ownership and agreements is a good idea to prevent problems before they arise, there are many situations (e.g., a large pool of heirs with divergent interests) in which co-tenants find themselves in a deadlocked situation that is minimizing the economic and recreational value of the property for all. Luckily, in these situations, the law provides the co-tenants with a remedy.
What if you Cannot Solve Problems with a Co-Tenant by Agreement? No matter what the economic sense of keeping a property whole may be, it is only fair that the law does not force one co-tenant to be stuck in a co-ownership situation forever. Any co-tenant in a tenancy in common has an absolute right to a partition of the commonly owned property. A partition is a judicial procedure that accomplishes a division of the property.** Although it is almost always easier and cheaper to do things by agreement, partition is a sure-fire way to accomplish division of the property on definite and final terms. To start a partition, one co-tenant files a court proceeding that is essentially a lawsuit. How the partition will proceed will depend on whether the property is capable of being physically divided:
Physical Partition Possible. Returning to our Blackacre example, assume that Jack and Peter both loved the property and wanted to keep it, but simply could not agree on who would build his cabin where and who would hunt where and when. Either of them could file a petition for partition. The court will appoint a neutral to divide up the property equitably, and the recommendation from the neutral will be the division ordered unless any party objects. In the example of Blackacre, both Jack and Peter would end up with roughly 50 acres of the property. The new 50-acre parcels would be surveyed, and a new legal description would be generated for each. Jack and Peter would own the new parcels individually. If either of them wished to sell his parcel in the future, he could do so as soon as the partition was complete. Equitable considerations will come into play in making the division. For example, if there was a stream running down the center of the property, the stream may be used as the point of division so Jack and Peter both have equal stream frontage. Other issues, such as road access, will also be addressed as part of the proceeding.
Physical Partition Impossible. Instead of 100 acres of mountain land, assume Blackacre is instead a cabin on Lake Rabun. Dividing a cabin in two would be difficult indeed! (Consider also a condominium in an urban area; you cannot divide it in two.) Where physical partition isimpossible, the court will first order a private sale procedure whereby (1) the property is appraised by three appraisers, and (2) the average of the appraisals returned is the value of the property. The tenants then have a period of time when they can essentially choose whether they are buyers or sellers. If there are sellers and buyers, then the sellers' interests will be purchased by the buyers. If all co-tenants choose to be either buyers or sellers, then the court will order a public sale of the property. The court will appoint commissioners to conduct the public sale, which will take place on the courthouse steps on the first Tuesday of the month after four weeks of advertisements in the local newspaper (similar to a foreclosure sale).
Before voluntarily entering into any co-tenancy, consider the risks and opportunities for disagreement and know that you can ameliorate those risks by placing the ownership of the property in a corporate entity. If you inherit a fractional interest in property, consider how you might propose and use entity ownership to gauge alignment of interests and cut off problems before they arise. If you are stuck in a co-tenancy and are at odds with your fellow owners, know that judicial partition gives you a way to get out of the situation.