ADVISING THE TIMESHARE BUYER
Carl H. Lisman, Esq.
Lisman, Webster, Kirkpatrick & Leckerling, P.C.
Burlington, Vermont
Sales volume in United States timeshare properties was $7.87 billion in 2004. Almost four million American families own a timeshare in approximately 1,600 U.S. resorts. This form of vacation ownership exists in at least 95 countries.[1]
Although most commonly associated with resort properties, timesharing of real estate need not be so limited.
Timesharing – as a distinct genre – is relatively new, tracing its origins in this country to the mid-1970’s, especially after the economic downturn in the early years of that decade. By offering the opportunity to acquire vacation housing for periods of actual use, thereby eliminating for purchasers expenses of ownership for unused portions of the year, developers were able to sell unsold inventory to eager buyers.
Most of the excesses for which the industry has received adverse publicity are ancient history. Indeed, nearly 85 percent of owners are satisfied with their purchases.
A. Understanding the Vocabulary
Though some in the industry would claim otherwise, there are no generally accepted definitions of the different timeshare products due, in large part, to the endless list of ways to fractionalize real estate and the industry’s desire to avoid references to “timesharing.”[2]
Accordingly, words and phrases such as “interval ownership,” “fractional shares,” “quartershares,” “resort memberships,” “resort clubs” and “vacation clubs” - though in common usage - do not have commonly understood meanings.[3]
Much of the lack of clarify arises from the legal differences among different forms of timesharing. What distinguishes timesharing is the combination of the (a) the temporal separation of the right to occupy and (b) repetitive right, either according to a schedule or some other device, to occupy.[4]
In 1979, the National Conference of Commissioners on Uniform State Laws tried, in its Model Real Estate Timeshare Act (“MRETSA”),[5] to standardize definitions by describing real estate timeshares as “timeshare estates” and personal property timeshares as “timeshare licenses.” No one - except the Commissioners - liked these terms, which may explain why MRETSA has not accomplished many enactments.[6]
At about the same time, the National Timeshare Council created its own competing Model Timesharing Act. It suffered the same fate as MRETSA.
Both laws were written at a time when the timeshare industry was generally offering ownership of time according to a regularly repeating schedule. The industry has moved forward.
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B. Timeshare Interests: What’s the Legal Underpinning?
Timeshare interests cannot exist as separate legal interests. Regardless of the type of timesharing, there is real estate at the base. That real estate may be a free-standing building containing a vacation home on an owned or leased lot or a unit in a common interest community or a hotel. Who owns the home or unit and in what legally recognized interest are important considerations.
It really wasn’t until manufacturers started producing “digital watches” that most of us learned that what we had were no longer known as “watches” but as “analog watches.” Society recognized that the new product required the old product to be renamed.
That recognition should have occurred in the timeshare industry to distinguish real estate interests from personal property interests. It really has never happened, except for the regulators who use this distinction to determine the degree of regulation.
Real Estate Interests. In the absence of a statute specifically authorizing a timesharing interest, the validity of the interest will be determined by reference to common law. Because early buyers needed the assurance (and wanted the tax benefits) of real estate ownership, timesharing in the United States began with a simple formula: Sell a tenancy in common fee simple interest - forever - in a fully furnished unit (cabin, apartment, suite or whatever) in every week of the year, reserving time only to provide maintenance and refurbishing. The documentation, usually in the form of a simple CC&R, addressed the obvious pressing issues: A prohibition on partition, assessment procedures (with liens to enforce non-payment) and rules relating to exclusivity during an owner’s week.
Variations on this theme appeared: Instead of an unlimited freehold estate, perhaps an estate for years, followed by a reversion to the declarant or a remainder in all of the owners (usually based on comparative value or the number of days owned).
Another alternative is the “undivided deeded interest:” A tenancy in common with other owners in the timeshare property, coupled with exclusive use rights for specified periods of time.
Personal Property Interests. Unlike recognized interests in real property, non-fee interests are generally “rights to occupy” during separated time periods, not coupled with a freehold estate or an estate for years. For example, a license or right to occupy the second week of each year (or each December), or a membership in an entity (frequently identified as a club) to which specified occupancy and other rights are incidents of membership.
Adding Complexity. Without regard to title issues, consumers demanded flexibility in their purchases, so developers introduced the concepts, variously named, of “floating interests” and “floating units” designed to, for example:
Create a fee ownership of the second week in each year in 10 separate units, subject to an arrangement that allows occupancy based on a reservation or points system.
Create a fee ownership tenancy in common in a specific unit, but have the right to occupy during any week in June (or the third quarter) based on a reservation or points system.
Create a fee simple ownership tenancy in common in 20 (as fungible as real estate can be) units with no specific times of occupancy but have the right to occupy based on a reservation or points system.
Similar examples can be found in non-real estate timeshares by substituting membership (or ownership) in an entity that owns the real estate.
Another level of complexity is introduced when the ownership allows the owner to occupy not just the purchased interest but interests in other States or countries.
C. How to Deal with Unwanted Inventory
Savvy developers have long understood that they are not in the real estate “business;” they are sellers of inventory. That raises its own set of problems.
If a developer is offering fee simple ownerships or club memberships to specific weeks during the year, there will be times that no one wants to own – “mud season” in Vermont, hot (and muggy) summer months in warm climates, or rainy season in Hawaii – because not all time spans are equally desirable.
On the other hand, demand frequently cannot be met for the period from Christmas to New Year’s Day, President’s Week, school breaks and other times.
Developers address this reality by trying to equalize supply to meet the demand:
By requiring the buyer of President’s Week to buy a specified week during the rainy season, thereby offloading undesirable times to the buyer who will buy both because of the desirable time.
By making available the less desirable times to the owners of the desirable times, either in a mandatory arrangement or by steeply discounting occupancy costs.
By following the lead of the airline industry and sell more desirable times than are available, but require owners to reserve or fall into a priority system as a condition to occupancy.
By shifting the owners through (all or parts of) the calendar year so that, for example, Owner A has the right to occupy during the first week (or quarter) this year, the second week (or quarter) next year, and so on.
D. Factors to Consider When Advising Potential Timeshare Purchasers
Here are 11 items to consider; the list is not exhaustive:
1. Disclosure Documents. If not required by law, many developers provide no meaningful disclosure to purchasers. That omission forces the lawyer to discover information from other sources.
If the timeshare is located in a common interest community, then condominium, planned community and common interest ownership laws[7] may require disclosure of meaningful information. Every state has a condominium law, but not all require disclosure.
Depending on how the timeshare is marketed, other laws, primarily disclosure in nature, may apply. Almost all states regulate the marketing to their residents of timeshares located in other jurisdictions, requiring registration and review of offerings. A disclosure document, however denominated, is usually required to be given to prospective purchasers. Furthermore, statutory recision rights are guaranteed by most states.[8]
Most states that regulate the offering of timeshares do so regardless of the legal form of the timeshare, but require that the offeror make clear whether the interest is or is not real estate and the implications thereof.
Some States (like New York[9]) reach mandatory disclosure under local securities laws.
Under some circumstances, a timeshare project may be subject to registration with and review by the Division of Interstate Land Sales Registration of the Department of Housing and Urban Development under the Interstate Land Sales Full Disclosure Act, 15 USC §§ 1701-1720, including the disclosure requirements.
2. The Legal Underpinning. In the absence of statutory authority for the timeshare, there may be significant title issues, especially, but not only, for real estate interests.1[0]
In a real estate timeshare, the law of the jurisdiction will determine whether agreements against partition are enforceable; what relative rights of tenants in common may be, even in the presence of a written agreement; and how a “hold-over” occupant will be treated.
In a personal property timeshare, the title issues focus on the owner of the real estate. Can title be held in an unincorporated association?1[1] Can personal claims against a trustee result in a levy on the real estate? What assurances do buyers have that the owning entity will maintain its organizational existence?
Lawyers, especially real estate lawyers, take great comfort in the availability of title insurance. A developer who offers title insurance with insignificant exceptions offers real value.
3. Property Taxation. If real estate, the timeshare interest will be subject to real estate taxation. In some states, each owner will receive a tax bill and be responsible for payment; in others,1[2] the association of owners or the manager will receive the bill and it will be responsible for payment of funds collected from the various owners. In the former instance, what rights does the tax collector have against the timeshare property if one owner does not pay? In the latter, must other owners make up the shortfall for the non-paying owner?1[3]
If the timeshare is personal property, will the owners receive the benefits of Section 216 of the Internal Revenue Code that applies to cooperative housing, or will the taxpayer be unable to pass through the deduction?
4. Income Taxation. The tax consequences of timeshare ownership will depend on the individual circumstances of each owner. Certain tax benefits may or may not be available to an owner depending on those circumstances.
The traditional deductions for a timeshare owner include: (a) interest on acquisition (mortgage) indebtedness, (b) state and local property taxes, (c) operating and maintenance expenses, and (d) depreciation of the owner’s pro rata interest in the timeshare property, including furnishings. These deductions may be limited, or denied in full, according to the use of the timeshare property and an owner’s particular circumstances.
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Personal Use and Rental of a Dwelling Unit – Generally. Section 280A of the Internal Revenue Code applies to dwelling units which are used by the taxpayer as a “residence.” A dwelling unit is a “residence” if the taxpayer personally uses a dwelling unit for the greater of: (a) 14 days, or (b) 10% of the number of days the unit is rented at fair market value. Under Section 280A, if the unit is considered a “residence,” then deductions related to the residence are subject to various limitations. If the unit is rented, separate rules under Section 280A govern the deduction for expenses allocated to the rental activity. Deductions allocated to personal use may be allowed or limited by other sections of the Internal Revenue Code.
– Personal Use. Personal use of a dwelling unit by a taxpayer includes use by the taxpayer and the taxpayer’s family, and by any other person having an interest in the unit.
More than 20 years ago, the Treasury proposed to adopt a regulation which would allow the IRS to aggregate personal use by all timeshare owners in a timeshare property for the purpose of applying the 14 day/10 percent rule. There is no reported instance in the last twenty years where this proposed regulation was invoked by the IRS to aggregate personal use or to limit or deny tax deductions; even if there has occurred such an attempt, the regulation would not be controlling because it has never been adopted. Given the age and dormant status of this proposed regulation, it is unlikely to affect any tax benefits associated with timeshare ownership.
– Rental Activities. If Section 280A applies, and the timeshare interest is rented, an owner is required to allocate expenses between the rental activity and personal use. According to the proposed Treasury regulations, the allocation is based on the owner’s expenses for the timeshare, the number of days the timeshare is rented at a fair market rent, and the number of days the timeshare is used for any purpose. For example, if the timeshare is rented for 10 days, and used 30 days for any purpose, 33 percent of the owner’s expenses will be governed by Section 280A. These expenses are subject to the income limitations discussed immediately below.