Delaware Statutory Trust Investing
HOW DST WORKS
DSTs are Strictly Passive Income Investments
Many investors are ready to turn over the management of their real estate investments to a Sponsor entirely. Some are not. When the IRS affirmed the DST structure, it stipulated that 1031 investors could not have managerial or operational control over the DST property. Thus, DST investors may not participate in any active management actions or even provide managerial suggestions for the property(ies) owned.
Lower Minimum Investment
Because a private placement DST offering may have up to 499 investors, minimum investment amounts are significantly lower than similar offerings. Most DST sponsors will set arbitrary minimum investment levels to limit the number of investors to a manageable number, but cash investments can be as low as $25,000. 1031 exchange minimums are often $100,000 although exceptions are often made.
No Up Front Closing Costs
Since DST investors do not need to create a single-member LLC, they typically have no associated upfront closing costs. This difference alone could save investors as much as $5,000 per investment out of pocket.
Less Expensive, Easier Financing
Another chief advantage of the DST structure is that a lender deals with the trust as the only borrower, which often translates into lower financing costs and less hassle for individual investors. This is in contrast to a TIC arrangement, where the lender may need to approve as many as 35 separate borrowers. Because the loan is obtained by the trust, there is no need for the investors to be individually underwritten, and their participation in the trust does not affect their credit rating. Investors are required to be accredited. For additional information on accreditation, please see disclaimer below.
No Need to Sign Loan Carve-Outs
Since the investor’s only right with respect to the DST is to receive distributions, and they have no voting authority regarding the operation of the property, investor fraud carve-outs are eliminated. The lender looks only to the sponsor/signatory trustee for these carve-outs from the non-recourse provisions of the loan.
Limited Personal Liability
DST investors enjoy limited liability to their personal assets due to the bankruptcy-remote provision of the DST. This means that even in the event that the trust fails and goes into bankruptcy, the most that investors would likely lose is their principal investment in the trust. Any potential creditors of the trust or the lender would be limited by provisions in the trust from reaching the other assets of the investors. Therefore, it is not necessary to operate through an LLC entity to hold a DST investment.
No Need to Maintain an LLC
DST investors do not have to pay annual state filing fees in order to maintain an LLC. These fees, in effect, may dilute the cash flows of other real estate investments.
No Trustee Term Time Limit
The signatory trustee of the DST will generally be the sponsor of the private placement offering or one of its affiliates. Unlike a TIC transaction, there is no one-year time limit on the trusteeship or the term of the property manager. This will give the lender comfort that the sponsor will have a continuing presence in operating the property.
No Inadvertent Termination
In addition to a signatory trustee, all DSTs are required by statute to designate a trustee who physically resides in the state of Delaware in order to prevent the DST from dissolving should something happen to the signatory trustee. This provides investors with an added layer of protection against inadvertent terminations of the trust.
DST Illiquidity and 721 UPREIT
Private Placements do not have a secondary market that would enable investors to sell their interests in a DST. Because of this, DST investors should assume that their equity will remain in the property throughout the entire duration specified in the PPM, unless the Sponsor specifically documents the likelihood for an earlier sale opportunity. Similar to traditional real estate investing (in which you would rarely consider flipping a property), DSTs are long-term investments. DST investment periods typically range between five and ten years. In some cases, Sponsors will detail their plan to pursue a tax deferred 721 UPREIT option, further providing investors with the potential to convert their interest into shares, or to complete another 1031 exchange at that time.
No Need for Unanimous Owner Approval
Perhaps the most significant advantage of a DST structure, as compared to prior co-ownership structures, is that the unanimous approval of the individual owners (investors) is not required in order to deal with unexpected, adverse developments. During the recent recession, which significantly affected the real estate market, some tenant in common (TIC) structures were hindered from taking actions necessary to mitigate loss, simply because one of the owners, a so-called “rogue investor,” did not approve of the action desired by the majority. To protect investors from such an outcome, the signatory trustee is empowered to take necessary actions on behalf of the DST to reduce losses, including restructure financing, renegotiation of leases, and the sale of a property, without the unanimous consent of investors. Nevertheless, there is always a risk of loss when investing in real estate, and the benefits of DST expediency must be weighed against investors’ preferences for operational control or decision-making authority of the underlying properties.
Sponsors May Not Raise Additional Capital for the DST
Similarly, IRS requirements stipulate that DST properties may not receive additional capital following their closing. Capital improvements, like HVAC units or roof replacements, can easily absorb all of the cash flow after debt service. Since a DST cannot raise additional capital, it is critical for the DST Sponsor establish appropriate upfront reserves and manage its properties properly in order to maximize asset-level cash flow.