Real estate investment has long been a popular asset class for individuals looking to expand their net worth with appreciation and cash flow that accrue over time. For many of our clients, those real estate holdings end up serving as a “personal property pension plan” – a nice nest egg that can provide financial security during retirement. However, retirement often comes with a change in lifestyle and a change in risk tolerance that does not always mesh with the role of a landlord.
Retirees typically want to move away from day-to-day management responsibilities while still holding onto some of the key benefits of real estate – preservation of value, steady income, and portfolio diversification. Choosing to hire a manager or third-party management firm translates to added fees that can dilute cash flow. In addition, holding onto existing assets makes it difficult to rebalance and diversify an investment portfolio to provide the security and stability many want and need for their retirement years. In fact, a significant portion of an individual’s net worth may be concentrated in a particular property type or location or, in some cases, a single asset. Having all or most of your eggs in one basket is rarely a sound financial strategy. One alternative to consider is a tax-deferred 1031 Exchange into a Delaware Statutory Trust (DST).
What is a 1031 Exchange?
A 1031 Exchange, also known as a “like-kind” Exchange, gets its name from Section 1031 of the U.S. Internal Revenue Code. By performing a 1031 Exchange, you can sell investment real estate without paying capital gains tax if you reinvest the sales proceeds into like-kind investment property of equal or greater value and adhere to IRC 1031 rules and timing requirements. And, because the IRS defines “like-kind” as any real estate of the same nature or class (not of the same quality or property type), you can exchange any investment real estate asset (excluding a personal residence) for another investment real estate asset.
What is a DST Investment?
A Delaware Statutory Trust (DST) is a type of investment property that qualifies for a tax-deferred 1031 Exchange. Typically comprised of institutional-grade assets, DSTs are popular with investment property owners seeking management-free 1031 replacement property with the potential for steady monthly income. DSTs offer fractional real estate ownership in a single property or a diversified portfolio of assets and often have a low minimum investment amount of $100k. The relatively low buy-in allows property owners to exchange the proceeds from selling an existing property into multiple DSTs, thereby creating a diverse portfolio of different types of properties and geographies.
Structured as a security, DSTs are regulated by the Securities and Exchange Commission (SEC) and are available only to accredited investors. Accredited investors must meet a threshold of having a net worth above $1 million, excluding your primary residence. Alternatively, accreditation can be reached for those who have generated $200,000 of annual income individually or $300,000 jointly for the last three years.
Understanding the Pros & Cons
Delaware Statutory Trusts offer many benefits and provide flexible options to help meet your objectives. Below are a few advantages of a DST investment property. For more detailed information on 1031 DST replacement property, download our FREE Guide: Investing in 1031 Delaware Statutory Trusts.
- Substantial Tax Savings: As a qualified 1031 Exchange property type, DSTs allow for the deferral of federal capital gains tax, net investment income tax, and depreciation recapture tax.
- Maximize Potential for Cash Flow: DSTs are structured with an emphasis on cash flow and typically include high-quality institutional property.
- Eliminate Active Property Management: DST properties are managed by prominent real estate firms called DST Sponsors.
- Estate Planning Benefits: Eliminate inheritance and estate tax for beneficiaries by providing a full step-up in tax basis upon the death of an owner.
- Fractional Ownership Structure: Allows investors to own a “fractional interest” in a large property or a portfolio of multiple properties.
- Institutional-Grade Real Estate: DST investors have access to higher-grade institutional real estate, typically held by pensions, REITS, and large institutional investors.
- Reduce Risk Through Diversification: Investors can access different property types and markets.
- Low-Cost Non-Recourse Debt Matching: Because most investors have debt that must be matched in their 1031 Exchange, Delaware Statutory Trusts are often structured with debt in place.
- Increase Annual Depreciation to Offset Taxable Income: Another tax benefit of owning DST real estate is the potential to increase annual depreciation to offset taxable income for the investor.
- Low Investment Minimums: DSTs typically have a minimum investment of around $100K, allowing investors to acquire multiple DSTs.
- Quick Closing: DSTs can close in a matter of days, which makes them an excellent option for investors approaching their 45-Day identification deadline.
It is important to consider all risks when determining the suitability of any investment. DST investments offer attractive benefits but are not suitable for everyone. DSTs come with many of the same risks inherent to owning real estate, including lack of liquidity, interest rate risk, financing risk, costs and fees, market conditions, etc. Therefore, before deciding to invest in DST real estate, we recommend speaking to a 1031 Exchange Advisor at Real Estate Transition Solutions to discuss suitability and risk tolerance.
Is a DST Investment Right for You?
DSTs are a popular exit strategy that can address the changing nature of an owner’s objectives, whether an individual is moving into retirement, seeking to diversify an investment portfolio, or simply trying to lighten their workload. If you plan to sell property using a 1031 Exchange, a DST investment property is worth considering.
The easiest way to determine if a DST investment is right for your situation is to speak with a licensed 1031 Exchange advisor at Real Estate Transition Solutions. We offer complimentary consultations that can be done over the phone, via web conference, or in person at one of our offices. To schedule your consultation, 888-286-5395 or visit us at www.re-transition.com/aoa.
Austin Bowlin, CPA is the Chief Exchange Strategist & Partner at Real Estate Transition Solutions. As Chief Exchange Strategist, Austin leads the firm’s team of licensed 1031 Exchange advisors & analysts and provides consultation on tax liability, deferral strategies, legal entity structuring, co-ownership arrangements, 1031 replacement property options, and Delaware Statutory Trust investments.
Real Estate Transition Solutions (RETS) is a consulting firm specializing in tax-deferred 1031 Exchange strategies and Delaware Statutory Trust investment property. For over 26 years, we have helped investment property owners perform successful 1031 Exchanges by developing and implementing well-planned, tax-efficient transition plans carefully designed to meet their objectives. Our team of licensed 1031 Exchange Advisors will guide you through the entire process, including help selecting and acquiring passive management replacement properties best suited to meet your objectives. To learn more about Real Estate Transition Solutions, call 888-286-5395 or visit our website at www.re-transition.com/aoa.
IMPORTANT INFORMATION: The information herein has been prepared for educational purposes only and does not constitute an offer to purchase or sell securitized real estate investments. Such offers are only made through the sponsor’s Private Placement Memorandum (PPM), which is solely available to accredited investors and accredited entities. Case studies and examples are for illustrative purposes and not representative of future results. There are risks associated with investing in real estate properties, including, but not limited to, loss of entire investment principal, declining market values, tenant vacancies, and illiquidity. Because investor 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 situation. DST 1031 properties are only available to accredited investors (generally described as having a net worth of over $1 million exclusive of primary residence) and accredited entities only. If you are unsure if you are an accredited investor and/or an accredited entity, please verify with your CPA and Attorney. Securities are offered through Aurora Securities, Inc. (ASI), member FINRA/SIPC. Advisory services are offered through Secure Asset Management, LLC (SAM), a registered investment advisor. ASI and SAM are affiliated companies. Real Estate Transition Solutions (RETS) is independent of ASI and SAM.