DST Diversification: Mitigating Risks and Enhancing Returns
Carl E. Sera, CMT
April 30, 2023
How to Use a DST 1031 Exchange to Diversify Your Real Estate Portfolio and Reduce Risk.
Learn 1031 exchange investment strategies & the benefits of diversification through multiple DST investment properties.
Many investors are bombarded with advice on what they should and should not do with their holdings. Everyone has heard the saying, "Don't put all your eggs in one basket," This is especially true for real estate investors. In less metaphorical terms, diversify your real estate investment portfolios.
DSTs (Delaware Statutory Trusts) were intended to assist investors in doing just that. Still, they can also give appropriate solutions to various other difficulties you may face in the real estate market, particularly within the boundaries of a 1031 exchange.
What is a 1031 Exchange?
In 1031 exchange transactions, investors can defer Capital Gains taxes by reinvesting the proceeds from the relinquished property into a like-kind replacement property. Using 1031 exchanges can help you diversify your portfolio by allowing you to put more of your sale proceeds into a replacement property.
How DST 1031 Exchange Can Help Investors Diversify Real Estate Portfolios
Since Delaware Statutory Trusts are pre-arranged replacement properties that can close in as little as three business days and offer a variety of asset classes), they may not only ease the constraints of the 45-day identification time frame and limited replacement property options but lower your overall risk through diversifying your investments into different types of properties and locations.
For example, an investor with $3 million of equity in their 1031 exchange could invest in six different DSTs for significant diversification that looks like this:
• $500,000 into a class A luxury apartment community in Alexandria, VA.
• $500,000 into an industrial building 100% occupied by Amazon in Colorado.
• $500,000 into a class-A apartment community in Jacksonville, FL.
• $500,000 into a self-storage facility in Naples, FL.
• $500,000 into a self-storage facility in Charleston, SC.
• $500,000 into a 55+ active living community in a nicer Chicago suburb.
And since DST investors own a 'fractional interest' in a property, they may be able to invest in considerably larger, institutional-quality properties than the average 1031 Exchange investors. Moreover, DST sponsors provide properties around the United States, allowing you the opportunity to invest in places that may have more robust economic fundamentals than others at this time.
721 DSTs - A Better 1031 Alternative
For many investors who are exploring 1031 exchange opportunities, Traditional DSTs are appropriate, provided that they are looking for 1031 exchange out of that DST later. We're finding that for investors who want to do something other than another 1031 exchange, the 721 Delaware Statutory Trust is a far better investment. This will allow investors to purchase a quality DST property for a period of, say, two years, then afterward, that property gets bought by a major REIT, deferring the investor's gains and taxes. Now the investors own operating partnership units of that REIT and can control their tax destiny.
While it may make sense for some to purchase the six-property DST solution mentioned above, we recommend buying 3-6 major REITs instead. Owning hundreds of properties is a far better way to achieve diversification, minimize losses, reduce risk, and potentially create far better returns now that you no longer have to keep "rolling DSTs" every few years. This is the way to go when investors are looking for the highest degree of predictability.
When seeking to strengthen your real estate investment portfolio by diversifying your holdings into different asset classes and locations, the DST 1031 exchange is one of the many ways to achieve your long-term goals while deferring capital gains tax liability.
Sera Capital helps clients by acting as a fee-only fiduciary focusing on tax-efficient exit planning. We offer DST 1031 exchange services through special situations where investors could put 1031 real estate into a securitized property while deferring taxes.