Top 5 Reasons Retiring Landlords Should Consider DSTs
Carl E. Sera, CMT
April 8, 2021
Investing in real estate can be financially rewarding but comes with a lot of responsibilities especially when you are the owner of multiple rental properties. If you are like most individuals when nearing retirement, chances are you are looking for an easy way to relieve yourself of the stress of property management while still earning monthly rental income and maybe not.
One of the best strategies to avoid the payment of income taxes upon the sale of your properties while still receiving potential monthly rental income is to take advantage of the Delaware Statutory Trust (DST) strategy. A Delaware Statutory Trust is an ownership model through a separate legal entity that allows for a number of accredited investors to pool their resources together to purchase beneficial interest into either a single asset or across a portfolio of properties.
So, as a retiring landlord, Delaware Statutory Trust allows you to sell your property and reinvest the proceeds in a series of DSTs while deferring the payment of income taxes. Also, doing a 1031 exchange into a DST relieves you of the stress associated with owning a rental property. You don’t have to deal with tenants, maintenance, or even the management of the property.
Below are five (5) reasons why you should consider Delaware Statutory Trust as a retiring landlord.
Investing in a DST allows you to diversify your real estate investment portfolio easily. And since there is no set limit on the number of DSTs one can invest in, you can easily spread your investment into different property classes and geographical locations.
More importantly, most DST structures allow investors to invest a minimum amount which is usually as low as $25,000. This makes it easy for you to invest in multiple DSTs instead of putting all your investments in a single property. Please note, we do not recommend investors build a diversified portfolio of $25,000 DSTs because administrative fees can get out of hand. If you want diversification, in our opinion, your minimum investment should be $100,000.
- 1031 Exchange Tax Deference
This is one of the significant upsides to investing in a DST. The ability to defer and possibly avoid the payment of up to 40% of your sales proceeds in taxes is valuable. According to the IRS ruling of 2004, beneficiary ownership dividends in a DST may meet the requirements of like-kind property in a 1031 exchange.
What this means is that your ownership interest in a DST investment is eligible for 1031 exchange upon the sale of the DST. You can use your share of the sale proceeds to do a 1031 exchange into another DST or like-kind property thereby deferring the payment of taxes.
- Eliminates the Stress of Property Management
Investing in traditional real estate requires your constant input in the day-to-day running of the property. DSTs allow you to eliminate the regular landlord-related responsibilities—tenants, trash, toilet, and termites. A DST is a passive investment since the sponsor handles the identification of the properties, inspections, financing, acquisition, and management of the property. You are only required to purchase equity in the trust.
- Easily Acquire Investment-Grade Properties
For most real estate investors with limited financial power, it may be impossible to acquire investment-grade properties on their own. A DST may consist of multi-family apartments, industrial complexes, healthcare facilities, self-storage units and many more.
Investing in a DST allows you to gain partial ownership of investment-grade properties. So, instead of investing the sale proceeds of your old property into another small-scale property, you can buy equities in investment-grade DST properties.
- Great Backup for 1031 Exchanges
Completing a 1031 exchange involves identifying and closing on a replacement property within 180 days. This can be a challenge for most investors owing to the difficulty in finding the right like-kind properties, conducting due diligence, and securing financing within such a limited timeline.
You can easily include a DST property on the list of your potential replacement properties. Most importantly, if you are unable to close on the first two properties on your list, a pre-packaged DST property can act as your backup property since it can be closed easily.
Please note, we have done hundreds of 1031 DST transactions and not once has the DST actually served the 180-day purpose intended as a back-up. We no longer use DSTs as a back-up property in these cases because by the time the 1031 investor realizes the real property replacement is not going to close, the DST is either sold out or is of such poor quality that at day 45 we would have to know with certainty that it would still be available on day 180. So, don’t believe that a DST is a great back-up unless you know with certainty that you will have a yes or no answer on your replacement properties very soon after the 45-day identification period.
Just like any other real estate investment strategy, the DST consists of several advantages, disadvantages, and rules. Before doing a 1031 exchange into DST properties, you should speak to an experienced exchange company or CPA advisor for professional advice.