While there are many potential advantages of investing in a Delaware Statutory Trust (DST), no investment is completely risk-free. Whether you’re considering a DST for portfolio diversification or you’re looking for a passive replacement property for your 1031 exchange, it’s important to fully understand what you’re getting into.
Here’s a look at some of the potential challenges you’ll need to consider before purchasing a DST.
Generally, DSTs are considered illiquid investments that are meant to be held for five to ten years. If you have an emergency and need to access quick cash, your DST will not be a good place to get it. There’s often no public market available for DSTs and they are not freely transferrable. For this reason, DSTs are best suited to investors with a sufficient liquidity who are looking for a long-term passive investment.
Freedom from the day-to-day aspects of property management is appealing to many DST investors. However, it does come with some tradeoffs. When the IRS ruled that DSTs may serve as replacement properties for a 1031 exchange, it also specified that the structure must prevent investors from participating in the operations of the trust.
This means that you will not have voting rights and you’ll turn all active property management over to the trustees. If you’re not comfortable giving up this control, a DST may not be the right investment for you.
The IRS also prohibits DST trustees from accepting new contributions after the offering closes, limiting the trust’s ability to raise new capital. This can be a problem if unexpected costs arise. For example, if one or more of the properties needs a new HVAC system, a roof repair, or has another similar issue, the capital expenditure could significantly reduce investor profits. Circumstances that lead to increased vacancies or rent reductions can also erode your cash flow potential.
Depending on the types of properties they hold, some DSTs may have additional asset class risk. For example, a DST that invests in offices may suffer from higher-than-usual vacancies during an economic downturn, while DSTs that hold hotel properties may suffer from both seasonal and locational risk. You can often help limit this risk by purchasing a DST that invests in properties that have a favorable track record, such as multifamily residential properties, for example.1
As with many other types of investments, DSTs are subject to macroeconomic risks including the health of the U.S. economy and rising interest rates. If the economy begins a downslide, your DST may have higher than usual vacancy rates and the DST manager may have trouble finding property buyers. Since interest rate increases raise the cost of debt, this can also put downward pressure on returns.
A DST may have higher costs than other types of investments. Some of the expenses you may be exposed to include upfront lender and legal expenses, operating expenses, and costs associated with property disposition. In addition, you may have to pay broker-dealer allowances, selling commissions, acquisition expenses, and more. Prior to making an investment, it’s always smart to review all costs associated with a particular DST and ensure they are within industry standards.
While DSTs can be an exciting investment option, not everyone will qualify to purchase them. The Securities and Exchange Commission (SEC) limits their sale to “accredited investors.” This is defined as an individual (or couple) who either:
These requirements limit accessibility to this investment vehicle.
Despite the potential challenges, there are many potential benefits of using a DST for your 1031 exchange. If you would like to learn more about the process, start by downloading our complementary eBook today!
1Past performance is not indicative of future results.
This is for informational purposes only, does not constitute individual investment advice, and should not be relied upon as tax or legal advice. Please consult the appropriate professional regarding your individual circumstance. Because investor situations and objectives vary this information is not intended to indicate suitability or a recommendation for any individual investor.
There are material risks associated with investing in DST properties and real estate securities including liquidity, tenant vacancies, general market conditions and competition, lack of operating history, interest rate risks, the risk of new supply coming to market and softening rental rates, general risks of owning/operating commercial and multifamily properties, short term leases associated with multi-family properties, financing risks, potential adverse tax consequences, general economic risks, development risks, long hold periods, and potential loss of the entire investment principal. Past performance is not a guarantee of future results. Potential cash flow, returns and appreciation are not guaranteed. IRC Section 1031 is a complex tax concept; consult your legal or tax professional regarding the specifics of your particular situation. This is not a solicitation or an offer to sell any securities. DST 1031 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 three years) 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.
Diversification does not guarantee a profit or protect against a loss in a declining market. It is a method used to help manage investment risk.
Investment advisory services offered through Bangerter Financial Services, Inc. A state Registered Investment Advisor. Registered Representative and securities offered through Concorde Investment Services, Inc. (CIS), member FINRA/SIPC. Bangerter Financial Services, Inc. is independent of CIS.