Using a Delaware Statutory Trust (DST) to Perform a 1031 Exchange

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Many investment property owners who wish to sell their assets often gripe about either 1- paying capital gains tax, 2- the lack of inventory to do a 1031 exchange.

Some savvy investment property owners take advantage of the 1031 exchange into a Delaware Statutory Trust (DST).  What is a DST?  A DST represents a legal entity used in real estate investing that allows for a number investors to pool money together and hold fractional interests in the holdings and assets of the trust.

A DST functions similar to a limited partnership, where a number of partners (or owners) pool investment money together for investment purposes in which a master partner will manage the assets that are owned by the trust. 

The DST has become a popular structure for pooled real estate investment after a 2004 IRS ruling that allowed ownership interests in the DST to qualify as a like-kind property for a 1031 exchange.

In general terms a sponsor will create the DST and name a trustee who will have sole authority to manage the business and assets of the trust. The trustee maintains fiduciary responsibility to the beneficial owners (i.e. fractional owners).

The trust will collect the investment money, arrange any financing necessary on behalf of the trust, and make and manage or hire property managers. The trust itself holds direct ownership of the assets with the individual owners owning an interest (or share) in the trust.

Like an LLC, income and distributions (and taxes) pass through to the individual owners. The typical trust life can vary but many fall in the five to ten year lifespan in which property is acquired, income collected and distributed to owners and when, upon disposition of assets, remaining capital returns to the investors.

An investor who owned an investment property may roll the proceeds from the sale of that property, into a new investment class such as industrial, hospitality, mixed-use, multi-family housing or office space through the purchase of a fractional investment.

Not only does the DST open up new sectors that may not have been available, but the structure allows investors to realize passive income, while not needing to worry about the day to day issues of real estate management. 

Although an individual investor can hire a property manager, as a DST investor, the management of the trust asset will likely be of an institutional caliber. This example also applies to the work and analysis done by professionals associated with the trust regarding investment and financing decisions.

While DST offers many advantages, some drawbacks exist.

Investors wishing to have any say in the investment management or investment decisions should look for another vehicle, as the DST ownership structure offers no control. The trustee or investment manager will be making all investment as well as any property management decisions.

DST investors should be prepared to invest for the life of the trust, which can be five to ten years. Anyone looking for a more liquid investment or flexibility to sell should be aware that premature sale of a share will likely get unfavorable pricing.

For more DST information - DST broker referrals feel free to contact me.