Why Delaware Statutory Trusts are a Smart Choice for Estate Planning
Carl E. Sera, CMT
May 20, 2023
Estate Planning for Clients Across the Nation
Using a DST 1031 for Estate Planning
As you create an estate plan, you'll likely run into some bumps in the road. Taxes are one of the biggest challenges in capital management during the estate planning process. Fortunately, Sera Capital is here to guide you through the choppy waters. We often recommend a technique known as a 1031 exchange to put off paying real estate taxes and pass the maximum amount of assets on to your heirs without massive taxation. Our services are available to clients nationwide, so if you'd like to learn more about using a DST 1031 exchange, feel free to contact our registered investment advisors.
What Is a Delaware Statutory Trust?
A Delaware Statutory Trust is a legal entity that allows investors to own undivided fractional ownership interests in multiple properties and meets the requirements for a 1031 exchange. In turn, a 1031 exchange is a tax break involving swapping one real estate investment property for another. This capital management technique allows investors to defer capital gains taxes and pass on their property without crippling taxes. Theoretically, an investor could roll over gains from one piece of real estate to another indefinitely and avoid paying taxes until the property is sold for cash. 1031 exchanges are pivotal in estate planning and could leave your beneficiaries in a much better financial situation once your assets have been disbursed.
Guidelines for Using a 1031 Exchange
Section 1031 of the IRS tax code doesn't allow for DST 1031 exchange in every instance. Investors must meet various requirements to ensure their property avoids capital gains taxes. Firstly, the exchange must involve "like-kind" properties. The IRS broadly defines what can constitute like-kind, but generally, any property held for business or investment purposes can be labeled as such. Other guidelines for using a 1031 exchange for real estate include the following:
• Funds from the sale of the property must be held in escrow by a third party before being used to buy a new property
• The investor cannot temporarily receive proceeds from a sale
• Limited use for vacation properties
• May apply to a former primary residence, but only under specific conditions
• No limit on how often an investor can do 1031 exchanges
• Depreciable property has particular guidelines
Ways You Can Benefit from a DST Exchange
In addition to reducing taxes, for the time being, there are numerous ways you can benefit from incorporating a 1031 exchange into your estate planning. These benefits mean more potential income and less hassle for your family after you're no longer around. Be sure to consider these advantages of a 1031 exchange as you work with our capital management professionals:
Depending on the type of real estate you own, you can use it to create an income source. Exchanging one property for another opens many doors to increasing that income and acquiring higher-value properties over time.
Reduce Risk on Real Estate Investments
Real estate investing has a high barrier to entry. After all, property costs are skyrocketing in many parts of the country. As a result, many investors focus on the same city or invest only in one property type. Choosing a 1031 exchange and a DST means a greater ability to diversify investments, reducing risk if one type of property loses value. Diversification is important because:
• It may earn higher returns
• It could create better investment opportunities in the future
• It's more fun to have a range of properties in your portfolio than just a few
• It preserves capital in the long run (especially important for estate planning!)
Minimize Time Spent on Property Management
Maybe property management is a topic of interest for you, but most would rather focus their retirement on something more exciting. When you opt for a 1031 exchange, it's much easier to transition from an actively-managed property and landlord responsibilities into something that creates a more passive income.
Get a Better Location
Perhaps your investment property isn't in the best area, affecting its overall value and income potential. You may be able to use a DST 1031 exchange to upgrade to a better location with lower taxes and higher population growth.
Choose a More Beneficial Property Type
Not all real estate is created equal. In some cases, exchanging one property for another may make financial sense. Perhaps your region is experiencing a downturn in restaurant-going. In that case, you may want to swap a restaurant investment property for something with more robust market growth. Many of our clients across the United States choose to diversify their real estate portfolios with these property types:
• Residential (apartment buildings, condos)
• Commercial (retail establishments, restaurants)
• Industrial (warehouses, plants)
• Raw land (undeveloped property, farms)
• Special use (libraries, parks, public buildings)
Create Generational Wealth
Creating generational wealth through capital appreciation is the ultimate goal for many people in the estate planning process. Choosing a 1031 exchange with a DST is a great way to preserve your assets and ensure they're available to your designated heirs. If you go for a DST instead of a traditional 1031 exchange, you can benefit more since each heir can decide whether to maintain their share of the 1031 exchange cycle or cash out. This system could reduce or eliminate disputes between heirs along with a step-up in cost basis.
Understanding the 1031 Exchange Timeline
Whether you choose a DST or traditional 1031 exchange, you'll need to consider the timeline of this estate planning tool. Most exchanges are delayed, which makes sense, considering it's difficult to find the exact property you want with a property owner who wants your current real estate. Delayed exchanges typically come in two varieties, 45-day, and 180-day. Here are the basics to know about each timing rule:
Under this rule, you have 45 days following the sale of your property to designate a replacement property in writing. You'll need to specify which property you'd like to buy, and any cash you receive from the sale of your property must go to an intermediary. If you receive any payment, you no longer meet the guidelines of a 1031 exchange. Per the IRS, you can designate up to three properties as long as you close on one of them.
The second rule states that you must close on a new property within 180 of selling your property. Just to let you know, the 45 days discussed above run concurrently with the 180 days. Our registered investment advisors can help guide you through this often-confusing process.
Don't Forget to Think About Potential Risk
Few things in life come without risk, especially those pertaining to investments and money. Wealth management is a complicated process and often requires lots of guidance to make beneficial decisions. When you choose the team at Sera Capital, we'll walk you through the benefits and ensure you understand the potential risks. There are two primary risks we explain to our clients:
• Liquidity: Real estate is not a liquid asset, which means some investors may not feel secure about keeping their money tied up there. We always recommend that our clients have enough liquid assets to cover emergency costs, such as medical bills and home repairs.
• Complexity: Navigating a complex process can be risky. If the investor doesn't complete the 1031 exchange correctly, they might be on the hook for more fees and taxes. Thankfully, our advisors are here to mitigate this type of risk.
Get in Touch With Sera Capital
You don't have to deal with estate planning and capital management alone! The team at Sera Capital is here to help you better understand the complexities of the DST structure and 1031 exchanges. Preparing for retirement can be challenging, but we try to create a seamless experience for our clients nationwide. Please reach out to us today to get started.