A Delaware Statutory Trust (DST) can be a turnkey option for 1031 exchange investors who want to defer capital gains taxes while stepping away from active, day-to-day property management. Before committing your funds, you should weigh whether a DST aligns with your financial goals, liquidity needs, and risk tolerance. This structure gives you fractional ownership in stabilized commercial real estate properties, but it also requires you to relinquish operational control and commit to a fixed holding period.
Key Takeaways
- Delaware Statutory Trusts (DSTs) are a passive investment vehicle for 1031 exchange investors, offering fractional ownership in diversified, professionally managed real estate portfolios.
- Key DST benefits include lower investment minimums for greater diversification, quick closings to meet 1031 deadlines, and professional management designed for consistent monthly income.
- Potential drawbacks include a lack of operational control, layered costs, and limited liquidity, as DST interests cannot be readily sold. Potential drawbacks include a lack of operational control, layered costs, and limited liquidity given that DST interests have no secondary market, sponsors are not required to repurchase shares, and the timeline to return capital depends on portfolio performance and project profitability.
- 1031 exchanges into DSTs must comply with IRS regulations to ensure proper tax deferral. Working with a qualified intermediary and experienced advisors can help streamline the 1031 exchange and DST selection process.
Does a DST make sense for your exchange? The answer depends entirely on your portfolio objectives. Below, we break down the advantages, the limitations, and the questions you should ask before you invest.
The Pros: 10 Reasons to Consider a DST 1031 Exchange
A Delaware Statutory Trust is a legal entity that allows multiple investors to hold a fractional, beneficial interest in real estate. For the purposes of a tax-deferred 1031 exchange, the purchase of a beneficial interest in a DST is treated as a direct interest in real estate, satisfying that requirement of IRS Revenue Ruling 2004-86. With that foundation in place, here are the structural and financial reasons investors choose this approach.
1. 100% Passive Ownership
A DST lets you transition from an active landlord to a passive owner. You are no longer responsible for tenant disputes, maintenance requests, or late-night repair calls, as the properties within the trust are managed by professional sponsors. They handle all day-to-day operations and strategic asset management, drawing on resources and expertise that most individual investors cannot replicate on their own. This structure allows you to retain real estate exposure without the operational workload.
2. Access to Institutional-Quality Properties
A DST allows you to co-invest in larger, institutional-quality properties through fractional ownership. By pooling capital with other investors, you can invest in assets such as medical offices, industrial properties, or multifamily apartment communities that might be too costly to purchase in full as an individual investor.
3. Lower Investment Minimums
Because your interest is fractional, the minimum required to participate is substantially lower than buying a whole property outright. Most Delaware Statutory Trusts have an established investment minimum ranging from $25,000 to $100,000, depending on the offering.
4. Portfolio Diversification
Lower minimums make it possible to split your exchange proceeds across multiple DSTs. This allows you to diversify by asset class, geographic location, and sponsor rather than concentrating your reinvestment in a single replacement property. Diversification can help reduce the impact of any one property underperforming.
5. Quick Closing for the 45-Day Deadline
A 1031 exchange requires you to meet two crucial deadlines: you must identify a replacement property within 45 days of selling your relinquished property, and you must close within 180 days.
DST properties can serve as excellent backup options to relieve the pressure of the 45-day identification deadline. Because the properties are generally already purchased, platforms like 1031 Crowdfunding can help you close on a DST in 3-5 business days, ensuring your exchange timeline is met without unnecessary stress.
6. More Predictable Distributions
While distributions are never guaranteed, DSTs are typically structured to provide more consistent cash flow than direct property ownership, where income can fluctuate with occupancy and vacancies. Per IRS rules, DSTs are required to distribute all earnings and proceeds above a reasonable cash reserve. These reserves are held to cover property repairs or unexpected expenses; any excess must be passed through to investors rather than retained by the trust. Investors should note that management fees and operating expenses are deducted before distributions are made.
7. Built-In Non-Recourse Financing
If your exchange requires you to replace debt from your relinquished property, many DSTs come pre-packaged with non-recourse financing. The debt is assigned to you based on how much you invest, and you do not have to undergo personal underwriting or qualify for the loan yourself. For example, if you gain $50,000 of an ownership interest in a DST with a 50% loan-to-value ratio, you contribute $25,000 in equity and are allocated $25,000 of the trust’s debt — without personally taking out a mortgage.
8. Exact Investment Amounts to Eliminate Boot
In a 1031 exchange, “boot” refers to any leftover cash or unequal value from a sale that becomes subject to taxes. DSTs allow you to choose your exact investment amount, helping you reinvest your full proceeds and avoid unintended tax liabilities. A custom blend of several DSTs can also help you meet your debt replacement requirement.
9. Flexible Exit Options for Continued Tax Deferral
One of the key advantages of a DST is the ability to continue deferring capital gains taxes when the investment cycle concludes. When the DST’s property is sold by its sponsor—typically within 5 to 10 years—your proceeds are transferred to a Qualified Intermediary. This preserves your ability to defer taxes through several potential paths:
- Complete another 1031 exchange into a new DST.
- Exchange back into traditional real estate that you own and manage directly.
- Execute a 721 exchange (also known as an UPREIT), where you contribute your DST interest to a Real Estate Investment Trust’s (REIT) operating partnership in exchange for partnership units. Some DSTs offer a 721 exchange option. This strategy may offer greater diversification and liquidity compared to direct property ownership, though it typically ends your ability to perform future 1031 exchanges with those assets.
Each path has different implications, so the optimal choice will depend on your financial goals at the time of the sale.
10. Estate Planning and the Step-Up in Basis
A DST interest can transfer to your heirs as part of your estate. Like directly owned real estate, heirs may receive a step-up in basis that can reduce or eliminate deferred capital gains taxes accumulated during your ownership. However, DSTs offer a practical advantage in estate planning — because ownership is held as a fractional interest, it can be divided among multiple heirs without requiring the sale of an underlying property, something that is rarely straightforward with direct real estate ownership.
The Cons: Potential Disadvantages of DST Investments
A balanced view is essential. A Delaware Statutory Trust carries limitations, and you should understand them fully before investing. Beyond the normal risks of investing in real estate, DSTs have some additional risks investors should be mindful of.
1. Loss of Operational Control
When you invest in a DST, the IRS prohibits investors from having any direct operational control over the property. This means you have no decision-making power regarding its management, financing, or sale. Instead, you must rely on the sponsor’s expertise to operate the asset and the DST (or Trust). These restrictions are in place to prevent conflicting interests among the multiple investors.
2. High Illiquidity and Extended Holding Periods
DSTs are generally considered non-liquid investments. While it is possible to exit, there is no public exchange where you can readily sell your interest. You should be prepared to leave your capital in the trust for the full lifecycle of the investment, which is typically 5 to 10 years, but could be longer depending on market forces and the specific assets in the portfolio.
3. The IRS “Seven Deadly Sins” Restrictions
To maintain its tax-deferred status, a DST must follow strict operational rules established by the IRS (ruling 2004-86). These restrictions are often referred to as the “Seven Deadly Sins” because violating them can disqualify the trust from 1031 exchange eligibility.
These seven prohibitions are:
- Once the offering is closed, the trustee cannot accept any new capital contributions to the trust.
- The trustee cannot borrow any new funds or renegotiate the terms of the existing debt.
- The trustee cannot reinvest the proceeds from the sale of one investment property into another.
- The trustee is limited to making only minor, non-structural repairs to the property, not substantial improvements.
- Any cash held by the trust between distribution dates can only be invested in short-term government obligations.
- All cash, other than necessary reserves, must be distributed to the co-owners on a regular basis.
- The trustee cannot enter into new leases or renegotiate existing leases.
These rules are in place to ensure the DST remains a passive investment vehicle, but they also limit the trust’s flexibility in responding to changing market conditions.
4. Accredited Investor Requirement
Not everyone can invest in a DST. Participation in a DST is limited to accredited investors, as defined by the SEC. To qualify, you must meet specific income or net worth thresholds that demonstrate you have the financial sophistication and capacity to bear the investment’s risks.
5. Layered Fees and Costs
Like any professionally managed investment, a DST has associated fees that you should understand before committing capital. These costs generally fall into three categories:
- Upfront Costs: These are built into the offering and cover acquisition, due diligence, and the sponsor’s organizational work.
- Ongoing Asset Management Fees: These are paid to the sponsor during the holding period.
- Disposition Fees: This fee is charged when the underlying property is sold.
These fees compensate the sponsor for providing a turnkey investment solution, including professional management and completed due diligence. However, fee structures can vary significantly between offerings. Because these costs directly impact your net return, you should carefully review the fee schedule for each DST and compare them before investing.
How to Invest in DSTs
Our online marketplace provides a platform for accredited investors to access 70+ DST offerings at any given time. You can filter and review these investment opportunities to find ones that align with your specific financial goals.
To invest through our investor platform:
- Register for a free account. Begin by creating an investor account to access the marketplace.
- Verify your accredited investor status. Our team will contact you via phone or email to confirm you meet the SEC’s income or net worth requirements for DST participation.
- Browse and select DSTs. Once verified, you can explore all current offerings, review due diligence materials, and select investments to build a diversified portfolio.
The platform is designed to make this process efficient and secure, providing you with the information needed to make informed decisions.
FAQs
Who Can Invest in DSTs?
To invest in a Delaware Statutory Trust (DST), you must be an accredited investor, as defined by the SEC. An individual can qualify in one of several ways:
- Income: An annual income of at least $200,000 (or $300,000 for joint filers) for the past two years, with the expectation of the same in the current year.
- Net Worth: A net worth exceeding $1 million, excluding the value of your primary residence.
- Professional Credentials: Holding a Series 7, 65, or 82 license in good standing.
Trusts with over $5 million in assets may also qualify. Our team will help verify your accredited status before you invest.
Should I 1031 into a DST?
A DST may suit you if you are an accredited investor seeking passive income, looking to step away from active management, and needing a faster solution for your 45-day deadline. By contrast, if you require liquidity or want direct control over your real estate, a DST may not align with your goals. Consult with an investment professional and a licensed tax professional regarding your personal situation before deciding.
What happens when a DST property is sold?
When the sponsor sells the property, you receive your pro-rata share of the proceeds. At that point, you can choose to cash out and pay the deferred taxes, or you can perform another 1031 exchange into a new property or DST to continue deferring capital gains taxes.
Can I use a DST as a backup property for my 1031 exchange?
Yes. Investors often identify a primary replacement property but list a DST as a backup on their 45-day identification form. If the primary transaction falls through, the DST provides a reliable option (assuming there is still equity available) to complete the exchange and preserve tax deferral. When identifying properties, remember to follow the three-property rule, as well as the 200% and 95% rules.
Do I need a Qualified Intermediary for a DST 1031 exchange?
Yes. Standard 1031 rules apply, which means you must use a Qualified Intermediary (QI) to hold your sale proceeds. You can never receive the funds yourself, or the exchange is disqualified.
Take the Next Step With 1031 Crowdfunding
A DST 1031 exchange offers a way to defer capital gains taxes, diversify your portfolio, and move away from active property management, balanced against considerations of control, liquidity, and fees. If you are approaching your 45-day identification period or planning ahead, you need an efficient way to review your options.
1031 Crowdfunding’s user-friendly platform allows you to identify and close on a Delaware Statutory Trust in as few as 3-5 days, with expert guidance at every stage. Register for an investor account to view current DST offerings and explore how a 1031 exchange can fit your portfolio goals.
This material is provided for informational purposes only and does not constitute an offer to sell or a solicitation of an offer to buy any security. Any such offer may be made only by means of the applicable Private Placement Memorandum (“PPM”) or prospectus, which contains important information regarding the investment objectives, risks, fees, expenses, and other material terms of the offering. As with all investing, investing in private placements is speculative in nature and involves a degree of risk, including loss of your principal. Past performance is not necessarily indicative of future results, forward-looking statements and projections are not guaranteed to achieve the results described, and your actual returns may vary significantly. Investments in private placements are illiquid in nature, and there may be no secondary market or ability to sell the investment should the need for liquidity arise. This material should not be construed as tax advice, and you should consult with your tax advisor, as individual tax situations will vary. Securities offered through Capulent, LLC Member FINRA, SIPC.
