The Benefits of a Delaware Statutory Trust for Real Estate Investments
As wealth managers, preserving and growing wealth requires carefully selecting the right strategies to meet each client’s unique goals. For many investors, one powerful tool is the 1031 exchange, which offers tax deferral opportunities when selling investment properties.
A 1031 exchange allows investors to defer capital gains taxes by reinvesting proceeds from a property sale into like-kind assets. Typically, investors will purchase another property outright, but sophisticated investors may benefit from a more flexible option: the Delaware Statutory Trust (DST).
A DST is a legal structure that allows multiple investors to hold fractional ownership interests in a portfolio of real estate, while still qualifying as a like-kind exchange under IRS guidelines. For those facing substantial capital gains, choosing a DST rather than directly purchasing a replacement property can provide several strategic benefits. Here are five key advantages of using a DST for your next 1031 exchange.
1. Diversification Across High-Quality Real Estate Assets
One of the most compelling advantages of investing in a DST is the opportunity to diversify your real estate portfolio. When you sell a property and reinvest the proceeds in another individual property, you are concentrating your risk on a single asset, location, and market. Should that market experience a downturn, or the property face unexpected issues (such as a failed HVAC system, a termite infestation, or a natural disaster not covered by insurance), your returns could suffer.
By contrast, a DST typically owns a portfolio of institutional-quality commercial properties, such as office buildings, retail centers, multifamily housing, or industrial assets, spread across various geographic regions. This diversification mitigates your exposure to localized market fluctuations and property-specific risks.
High-net-worth investors are accustomed to the value of spreading risk across multiple asset classes. Similarly, a DST allows you to apply this same principle to your real estate holdings, providing a more resilient and stable return profile.
Additionally, the assets in DST portfolios are often managed by highly experienced professional operators, giving you access to properties that may be otherwise unavailable to individual investors. For those looking to optimize risk-adjusted returns, diversification through a DST can be an ideal solution.
2. Passive Income Without Active Management Responsibilities
One of the common challenges of directly owning investment real estate is the ongoing management burden. From finding tenants and dealing with maintenance issues to managing cash flows and property improvements, real estate ownership can be labor-intensive and time-consuming. Most people prefer to focus on other priorities, such as growing a business, enjoying time with family, or exploring new ventures.
With a DST, you can enjoy the benefits of real estate ownership without the headaches of active property management. The trust structure places the responsibility of property management with professional operators, allowing you to receive passive income distributions from the property portfolio. This structure makes DSTs an excellent option for investors transitioning out of active real estate management or those seeking to simplify their investment portfolios.
For those nearing retirement or simply looking to reduce the demands on their time, DSTs provide a hassle-free way to continue participating in the real estate market while enjoying a steady stream of income.
3. Increased Flexibility in Meeting 1031 Exchange Deadlines
Another key advantage of using a DST for a 1031 exchange is its flexibility in navigating the strict IRS deadlines associated with the exchange process. If you’re a real estate investor, you’re likely aware that the IRS requires that you identify potential replacement properties within 45 days of selling your original property. Also, you must close on the replacement within 180 days. These tight timelines can create significant pressure, particularly if you are searching for a high-quality replacement property in a competitive market.
DST investments, however, are often pre-packaged and available for immediate acquisition. Because of this, you can identify DST investments early in the process and close the transaction without the challenges of negotiating a new purchase, securing financing, or dealing with closing delays. This ready-to-go structure makes DSTs an ideal backup plan for investors who are struggling to find a suitable replacement property within the IRS deadlines.
By incorporating DSTs into your 1031 exchange strategy, you ensure that your capital gains tax deferral is not jeopardized due to logistical hurdles. The ability to move quickly can be especially advantageous for high-net-worth investors with significant assets at stake.
4. More Liquidity Options
High-net-worth investors frequently express concern about liquidity when engaging in a 1031 exchange. Although DST investments themselves are not inherently liquid, they provide an easier path to accessing partial amounts, if needed. While traditional real estate investments can tie up significant capital, DSTs offer a degree of liquidity that is not as easily attainable through individual property ownership.
By moving from a single large investment into a DST of multiple investments, you have smaller amounts in each asset, allowing you to extract partial amounts at liquidity events or roll them back into another 1031 investment. Additionally, many DSTs will offer investments that are similar to REITs (Real Estate Investment Trusts), which allow for partial sales, meaning you could access some of the capital without having to sell everything. Though you would have to pay taxes on the sold portions, it allows you flexibility with liquidity not obtained through owning a single large real estate investment.
5. Estate Benefits
DST investments can be structured to be passed down to heirs more efficiently, allowing beneficiaries to receive the assets with a step-up in basis and effectively eliminating capital gains taxes. This feature is particularly attractive for those looking to pass on wealth in a tax-efficient manner.
Moreover, by allowing for fractional ownership, DSTs offer flexibility in estate planning. Heirs can sell their fractional interests more easily than an entire property, providing them with options for liquidating or managing the inherited assets according to their preferences.
For high-net-worth individuals, maintaining control over your wealth's transfer and ensuring a smooth transition to future generations is a key priority, and DSTs can be a powerful tool in achieving these goals.
If you're considering a 1031 exchange and want to explore whether a DST is right for you, we invite you to connect with our team. We’re here to help you navigate the complexities of all investment strategies, including real estate, and ensure that your wealth continues to grow and thrive for generations to come.