Article: Partition Actions and the Fractional Interest Property Owner
This article is intended to provide a basic explanation of “partition” actions. This article is not intended to give the reader legal advice on how co-owners should terminate their co-ownership / fractional ownership relationship of jointly owned real property. Many factors including but not limited to: (a) tax planning; (b) estate planning; (c) whether the property is owned individually, by a partnership, by a Limited Liability Company (LLC), or a corporate entity will have a significant impact on the manner in which co-owners terminate their real property co-ownership relationship. Consequently, this article is not intended to substitute for the advice of any attorney as to a specific problem or transaction. If the reader has a specific legal question or needs legal advice, the reader should contact an attorney.
It is not uncommon for close and extended family members, friends or business partners to jointly own commercial or residential real property. It is our experience for a significant number of these “fractionally owned” properties that the “co-owners” failed to create or enter into a written agreement (such as a partnership agreement, LLC operating agreement or a written business plan) setting forth the terms of the co-ownership relationship. Important concepts regularly not considered relate to the circumstances triggering termination or the procedural mechanism to accomplish a “buyout”.
It is our further experience that it is when one of the co-owners desires to end the co-ownership relationship that we are consulted on the topic of “partition actions”. In the event the property is owned in the name of a partnership or a LLC, certain default rules will define the relationship between the “partners” or the “LLC members”, including the bases and manner in which the co-ownership may be terminated. It is for this reason that we advise our clients to enter into written agreements setting forth their desired terms, BEFORE purchasing a fractional ownership interest.
Unfortunately, it is more likely than not that we are consulted to terminate a co-ownership relationship: (a) when a dispute has already arisen between feuding partners or, (b) when distrusting family members discover that they are not receiving accurate monthly rental income accounting from their managing co-owner relative. It is at this time – after the dispute has arisen, after the extended family has become polarized and sides have been taken – that we are sought for consultation and presented with the reoccurring disgruntled co-owner desiring to pursue a “partition action”.
In many instances, our clients are extended family members (siblings or distant cousins) who inherited a significant real estate investment from parents or grandparents. Co-owners who are social enough to get along with each other at a family wedding or funeral, but are unable to select a roofing contractor to fix a leaky roof; or, agree upon a Realtor to find a tenant to fill a commercial space vacancy.
While many of our fractional interest clients never intended to be “business partners” with their sibling, cousin, aunt or great uncle, the same types of disputes arise amongst our clients who intended to form the partnership, the LLC or even the corporation, but never creating the business agreement necessary to address the adverse business events that challenge any business venture. And yes, just like an LLC or partnership owning a shopping center, the co-ownership of a single unit rental, by an unmarried couple or best friends, is a business venture.
Depending on whether the co-owners hold title as: (1) joint tenants; (2) tenants-in- common; (3) partners; (4) a LLC; or, (5) even as a corporation will determine the procedure to terminate a co-ownership relationship. And while we are regularly consulted on the topic of partition actions, in many instances, we successfully accomplish the “buyout” or “sell-off’, a consolidation of interests, (for example, a buyout of the disgruntled cousin) enabling the client to avoid the costly route of litigation.
WHAT IS PARTITION AND WHAT IS A PARTITION ACTION?
Partition is the procedure for dividing and severing common interests in the same parcel of property. Partition is usually the result of cotenants being unable to agree on how to use, manage, or dispose of jointly owned property.
The term “partition” may refer to a voluntary agreement between cotenants of real property to separate their interests, or it may refer to a court action that seeks a judicial decree equitably dividing the property, or the proceeds from the sale of the property, amongst all cotenants. A partition changes the rights of each cotenant from those of a co-owner of the entire property to those of an individual separately owning some divided portion of the property.
WHEN IS A PARTITION ACTION AVAILABLE?
Subject to several equitable defenses, each cotenant has the absolute right to file a partition action. Indeed, without the right to file a partition action, cotenants would forever remain “stuck” as cotenants.
On the other hand, when property is held as community property, in a partnership, LLC, or even in a corporation, no similar absolute partition right exists. A partition action is not available to divide community property. A partition action may be available to divide partnership property, but only in certain instances; the rights and obligations of partners are generally governed by their partnership agreement and the Uniform Partnership Act rather than principles of co-tenancy. The same holds true for corporations and LLCs, certain default rules will be imposed if the co-owners did not previously enter into a written agreement before entering into their co-ownership relationship.
HOW DOES A PARTITION ACTION WORK?
There are three methods of partition: (1) a physical division of the property, (2) a sale of the property and a division of the proceeds, and (3) a partition by appraisal whereby one cotenant purchases his or her other cotenants’ interests in the property based on the value of a court-ordered and supervised appraisal.
A partition action must be filed in the county in which the property in question is located and must name all parties who have any recorded interest in the property, or that are known to claim an interest in the property. In certain situations, there is no practical way to divide the property; and, the only available remedy is to have the property sold.
At trial, the court determines the various interests of each party, and may require the assistance of a court-appointed referee that evaluates the property and all facts bearing on the case, and enters an appropriate order.
In a partition action, it is presumed that physically dividing the property is more equitable than ordering it sold. Therefore, a party seeking to have the property sold has the burden of establishing that it would be more equitable to sell the property than physically having it divided.
As is our recommendation for our existing clients and potential clients, legal consultation ought to be employed proactively, ideally before the transaction is entered into, in an effort to avoid future problems.
It is critical for individuals to understand their potential duties and obligations BEFORE deciding to jointly acquire real property. While the foregoing article was intended to highlight some of the characteristics of a “partition action”, it does not address other issues relating to but not limited to tax consequences, estate planning, and liability issues. Lastly, it is important for co-owners to understand that applicable “default rules” do exist, if there is no written agreement among all co-owners, all of which are dependent on the manner in which title to the real property is held.
Mr. Faoro is a partner at Last & Faoro specializing in Real Estate and Construction Law for over 25 years, assisting owners, developers, contractors and Realtors in real estate and construction matters. He can be reached at (650) 696-8350, or by email at [email protected]. This article is intended only to provide a general overview of “partition actions” and is not intended to contain legal advice, is not intended to discuss or address any specific situation or problem and should not be relied on in making any legal decisions. If you have a specific legal question or need legal advice, you should contact a qualified attorney.