December 17, 2007
Cornerstone Exchange Services/OMNI Brokerage
1 City Boulevard West, Suite 870
Orange, CA 92835
December 9, 2007
Office of the Chief Council
Attn: Nancy M. Morris
Division of Market Regulation
Securities and Exchange Commission
100 F Street NE
Washington, DC 20549-6628
Re: SEC Request for Comments On Release # 34-59779 File #S7-26-07
To Whom It May Concern,
As general securities principals, registered representatives, commercial real estate brokers, and a certified public accountant, we have been active full-time in the Tenant-in-Common (hereafter TIC) industry for over four years. Accordingly, we have been eagerly anticipating the proposed exemption for qualified real estate professionals to participate in TIC transactions and appreciate the opportunity to comment on the release.
As a general comment, we feel the most critical issue is investor protection, especially due to the fact that the majority of TIC investors are seniors. By design, private placement offerings under the regulation D exemption are not closely regulated by the SEC and FINRA as are registered offerings. Consequently, FINRA has placed greater reliance on the broker-dealer community to conduct significant due diligence, require full disclosure from the issuer, and insure client suitability for private offerings to help safeguard the investor. This is especially true with respect to the TIC industry as seen in NASD Notice to Members 05-18.
Given the above responsibilities to protect the investor under the regulation D exemption, it is critical that independent broker dealers continue to control the TIC transaction. However, there are two major shortcomings under the current proposal that limit the broker-dealer. Firstly, because the real estate professional under the current proposal will execute an exclusive agreement with the investor before a broker-dealer is introduced, the real estate professional may control the transaction and steer the investor to an investment that yields the highest commission rather than the investment most suitable. Secondly, a real estate sponsor may form their own captive broker-dealer to steer investors to its limited property inventory. This would greatly damage the current practice in the industry of independent due diligence by the independent broker-dealer, who represents numerous sponsors, both with respect to sponsor level due diligence and property level due diligence. These two conceivable and detrimental consequences of the exemption as currently proposed, would be a major set back to the industry and client protection.
Our detailed comments relate to two specific requests for comment as set forth below.
Is the Applications definition of substantial experience in commercial real estate appropriate?
We have discussed this question with many colleagues and we have come to the conclusion that the only way to empirically evaluate a real estate professionals commercial real estate expertise is to require a professional designation such as the NAR designations of CCIM, SIOR, or ACL. Any other definition is too subjective to apply in a consistent, uniform, and fair manner. The current proposal presents serious difficulties in who would check the experience and how the information would be verified. NAR has already laid the groundwork for the qualification by requiring significant transactional experience and diverse coursework for its professional designations.
Many different asset classes are offered as syndicated TICs including office, retail, industrial, residential, hospitality, and senior housing. While a real estate professional may have substantial experience in one asset class he or she may have little to no experience in other asset classes. The NAR coursework for its CCIM designation, includes material on all asset classes which insures at least a minimum exposure to these asset classes.
Buyers agent agreement and introduction to selling broker-dealer
Timing and 1031 Exchange
The first difficulty presented by the buyers agreement preceding the introduction to the broker dealer is that the real estate professional would not have evaluated client accreditation and suitability until the broker dealer has been drought in at a later date. This may allow precious time to expire during the investors 45 day identification period required by IRC section 1031. It is easy to envision an investor being informed by the broker-dealer that a TIC investment is not suitable with only a short period before the 45 day identification period is to expire. This scenario would either place undue pressure on the broker-dealer to relax suitability standards or a failed exchange with significant tax liability to the detriment of the investor.
In addition, there are independence and general solicitation issues when the real estate agent enters into an agreement before the broker dealer is introduced. With regard to independence, Rule 3060 requires that registered representatives not accept or give gifts of over $100. If a TIC sponsor gave excessive gifts to real estate professionals or if the real estate salesperson gave large gifts to the client then independence would quickly erode.
General solicitation requirements are an alien concept to most real estate professionals. If real estate professional will have the possibility to be compensated for TIC offerings, they will naturally be compelled to advertise. The relatively complicated rules governing solicitation will be difficult to enforce and violations would jeopardize the regulation D exemption for the entire offering and accordingly place other investors at risk. Furthermore, enforcement of the general solicitation rules would be difficult and impractical with real estate professionals who are not under the oversight of FINRA.
Lastly, if the buyers agent agreement is entered into and compensation is set before a broker-dealer is introduced, there is a danger that the broker-dealer may have to reduce its compensation to a point that does not adequately compensate for expenses related to due diligence, oversight, suitability, liability insurance and other responsibilities. This could have the effect or reducing the quality and quantity of these critical duties. The SEC has mandated maximum fees in the past and mandating a maximum percentage that the real estate professional could receive may be an equitable way of ensuring that both critical functions are fairly compensated, particularly, if one party has the advantage of entering into a binding agreement that set compensation levels before the other party is introduced.
When an investor subscribes to a TIC offering he or she signs a statement attesting that their investment decision was made solely on the basis of information contained in the private placement memorandum (PPM). Since the investor is not relying on non disclosed information it is difficult to justify the value of a real estate professional unless they evaluate only the information contained within the PPM.
It should also be noted that the typical real estate transaction is transaction based and the real estate professional does not bare responsibility for the ongoing success of the investment. If the real estate professional is providing advice on the real estate aspects of the trade then the buyers agreement should also expose the real estate professional to potential liability if the property does not perform over the hold period.
Again, we appreciate the opportunity to comment on the proposed exemption and if changes are made to the current proposal we would value the opportunity to comment on those changes.
John Harvey CPA, MBT
Christina Nielson, MBA
General Securities Principal
Cornerstone Exchange Services/OMNI Brokerage