When it comes to real estate investments, it’s important for landowners and investors to understand and explore the various options available to them. One such option gaining popularity in recent years is the Delaware Statutory Trust.
What is a Delaware Statutory Trust?
A Delaware Statutory Trust, commonly referred to as a DST, is a unique legal entity under Delaware state law that qualifies under Section 1031 of the IRS tax code for use in a tax-deferred exchange. The IRS ruled in 2004 that a DST does indeed qualify as a viable replacement property in a 1031 tax-deferred exchange.
During his recent appearance on the National Land Podcast, Director of Education for Accruit David Gorenberg likened a Delaware Statutory Trust to a Real Estate Investment Trust. He stated, “A Delaware statutory trust is, it’s kind of like a REIT. Except that each specific trust was formed or is formed to acquire a specific parcel of real estate or portfolio of real estate. And at the end of the investment cycle, in three or five or seven years, whatever it might be, that property is sold, the trust winds down, and everything gets distributed out to the investors who either do a new 1031 Exchange or take their cash and go home.”
DSTs allow investors to purchase fractional ownership shares in a wide array of real estate properties and projects. They are a fantastic option for landowners to divest themselves of their land holdings without incurring a potentially significant capital gains tax on the sale of their property.
How is a DST Different from a 1031 Exchange?
As explained above, a Delaware Statutory Trust is an entity that qualifies as a viable replacement property for a landowner looking to perform a 1031 exchange. One of the main differences between a DST and a traditional real estate investment is that the DST will generate passive income for the landowner as a result of their fractional ownership shares in various real estate projects and properties.
A DST will also help a landowner diversify their investment portfolio more effectively than traditional, management-intensive, real estate since a single DST can reinvest the funds of the landowner’s single sale into multiple properties and projects.
Gorenberg illustrated the reason that a landowner may opt for a DST instead of traditional real estate, stating, “The Delaware Statutory Trust is often mentioned in the same paragraph as the 1031 exchange because it is a tool that you can use to reinvest. They’re really great if you no longer want to manage management-intensive real estate. So if I’m currently the owner of a multi-unit apartment building, and every day I’m getting a different phone call from a different tenant about something that’s broken, that becomes a nuisance, right? The toilets, the tenants, the trash, the taxes, all of it becomes a nuisance. Even if I have a superintendent or a property manager living there and handling the headaches, every time something has to get fixed, that’s coming out of my bottom line. So maybe I’m tired of all those phone calls, and decide to sell my apartment building. I can now buy into a Delaware Statutory Trust, where I will never again receive one of those phone calls.”
How is a DST Different from a REIT?
The other real estate investment vehicle that is often mentioned alongside the Delaware Statutory Trust is a REIT or a real estate investment trust. A REIT is similar to a DST in that they allow investors to purchase shares in commercial real estate portfolios and also generate passive income by dividing rent payments as dividends among shareholders. The primary difference between these two investment vehicles is liquidity.
Gorenberg explained this, stating, “The major difference between a REIT and a Delaware Statutory Trust is that a REIT exists sort of in perpetuity. If you sell a piece of real estate, you buy another piece of real estate and continue that cycle. If you own an interest(s) in a REIT, most of them are publicly traded and you can sell out any time just as if you own stock in Motorola or IBM.
In a Delaware Statutory Trust, if you talk to the sponsors, they will tell you that they’re a little bit less liquid because when you bought it, you bought in essentially for a five or seven-year tour. And if you want to get out early, you’re going to have to find a buyer because they don’t have one for you. Now, that all said, the advisors with whom I work pretty much universally told me that they can always find somebody who’s willing to buy what you ask, even if it’s not yet gone full-cycle.”
If you’re ready to learn more about how a 1031 or DST could benefit you, contact your local Land Professional today!