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Delaware Statutory Trusts

A Delaware Statutory Trust (DST) is a distinct legal entity created under Delaware law that permits fractional ownership of real estate assets that may be used in a 1031 Exchange. However, to use a DST in a 1031 Exchange syndication program, it must comply with the requirements of IRS Revenue Ruling 2004-86, so that a beneficial interest in the trust is treated as an undivided fractional interest in real estate for federal income tax purposes (as opposed to a security or other prohibited interest that would not be treated as real property under Section 1031). An Exchanger can defer taxes by investing in a DST rather than in a whole property. Interests in the DST are considered securities under federal securities law, however, they retain treatment as ownership in real estate.

For exchange purposes, DSTs are 100% passive, turn-key investments offered by nationally reputed real estate management companies, referred to as “sponsors.” Sponsors perform the initial due diligence, structure the property acquisition, maintain and lease the property, collect rent, service the mortgage, and eventually sell the property. 

If leverage is used to purchase the property, the trust serves as the borrower under a non-recourse loan, yet the owners enjoy the benefits of this debt with no effect on credit ratings. Net cash flow from operations, if any, is distributed on a pro-rata basis to the owners, as are depreciation pass-through and interest deductions.

A DST allows an Investor to purchase a fractional interest in potentially high-quality property or portfolio of properties such as:

Multi-Family

Multi-Family

Retail

Retail

Student Housing

Student Housing

Healthcare

Healthcare

Office Space

Office Space

Self Storage

Self Storage

Industrial

Industrial

Land

Land

General Guidelines

  • Access to more investors than allowed by other legal structures (Maximum 1,999 investors)
  • Lower minimum investment amount
  • Simple and efficient investment process
  • Lender only needs to make one loan because the DST is the sole borrower and owns 100% of the real estate (for non-tax purposes)
  • Loan carve-outs apply to sponsors, not investors
  • Lender does not underwrite each investor
  • Sponsor makes decisions on behalf of the investors
  • Investors cannot cause a default on the entire loan
  • Investors do not need separate special purpose entities (SPEs)

Why Consider a DST?

  • Allow the investor to own a fractional interest in large, institutional quality and professionally managed commercial property
  • Ability to diversify by property type and location
  • Turnkey solution: Sponsor is responsible for sourcing, due diligence, structuring and financing of debt, property and program management
  • Fast and efficient closing process to meet timing requirements
  • Certainty of closing on acquisition of replacement property
  • Elimination of property management responsibilities
  • Potential for monthly income
  • Long-term, non-recourse financing in place

Why invest cash into DSTs?

The potential benefits of a DST program are not restricted to 1031 Exchange funds. Investors may also choose to invest directly into a DST, which may provide the following potential benefits:

  • Tax-deferral strategy
  • Rental income paid monthly
  • Ownership in institutional-quality real estate
  • No management responsibilities/passive ownership
  • Build your own diversified real estate portfolio
  • Depreciation of real estate can help to offset taxable income

Limitations on a DST

The DST must adhere to the following prohibitions, which are commonly referred to as the Seven Deadly Sins (See IRS Revenue Ruling 2004-86):

  • Once the offering is closed, there can be no further capital contributions to the DST by either existing or new investors
  • The DST cannot renegotiate existing loans or borrow more funds (except in the case of a tenant's bankruptcy or insolvency)
  • The DST cannot reinvest proceeds from the sale of its real estate
  • The DST is limited to making minor, nonstructural capital improvements, in addition to those required by law
  • Any reserves or cash held between distribution dates can only be invested in short-term debt obligations
  • All cash, other than necessary reserves, must be paid out to investors
  • The DST cannot renegotiate existing leases or enter into new leases (except in the case of a tenant's bankruptcy or insolvency)

Examples are for hypothetical purposes only and actual properties and results will vary. DST properties are only available to accredited investors (typically have a $1 million net worth excluding primary residence or $200,000 income individually/$300,000 jointly of the last two years, and reasonably expects the same for the current year) and accredited entities only. There are risks associated with investing in real estate and Delaware Statutory Trust (DST) properties including, but not limited to, loss of entire investment principal, declining market values, tenant vacancies and illiquidity. Diversification does not guarantee profits or guarantee protection against losses. Potential cash flows/returns/appreciation are not guaranteed and could be lower than anticipated. The information herein has been prepared for educational purposes only and does not constitute an offer to purchase or sell securitized real estate investments. Because investors situations and objectives vary this information is not intended to indicate suitability for any particular investor. This material is not to be interpreted as tax or legal advice. Please speak with your own tax and legal advisors for advice/guidance regarding your particular situation.