Investing in real estate often means learning an entirely new vocabulary involving numbers and acronyms. For example, once you start researching a 1031 exchange, you may start hearing about DST investments.
A Delaware statutory trust (DST) is an opportunity for fractional ownership in a large real estate investment. If you’re selling property through a 1031 exchange, investing in a DST could be smart. Here’s what you need to know.
What Is a 1031 Exchange?
A 1031 exchange gets its name from the Internal Revenue Service. In a typical transaction, sellers are required to pay taxes on the gain. Per IRC Section 1031, investors can postpone paying taxes on the gain if they reinvest in a similar property in a like-kind exchange.
In a typical 1031 exchange, an investor identifies and sells a property and places the proceeds in an account with a qualified intermediary (QI). The QI holds the funds, ensuring that the investor doesn’t take possession and trigger a taxable event.
The investor then identifies a new investment property and purchases it via funds held by the QI. Taxes are deferred until that property is sold. If it’s never sold, those taxes never come due.
What Are DST Investments?
DST investments, named for the Delaware Code, involve several investors pooling their money to purchase a property managed by an outside entity, such as a board of trustees.
DST investments allow investors to earn money, but they’re not required to do any day-to-day property management. As a DST investor, you’re not required to find tenants, make building repairs, or otherwise get your hands dirty.
Since DST investments involve fractional ownership of a property that already exists and has been vetted, the sales process moves very quickly. Unlike other purchases that could include inspections, repairs, and other delays, a DST could close in a matter of days.
How Are DST Investments & 1031 Exchanges Connected?
Any property used as an investment or for business could be included in a 1031 exchange. Many people think they’re required to use assets like office parks or apartment buildings in these transactions, and they’re banned from using anything else. This simply isn’t true.
DST investments qualify as like-kind properties in a 1031 exchange. That means an investor could sell a high-maintenance or underperforming property and funnel the profits into a DST investment in an exchange.
Some people suggest that a DST is tailor-made for the 1031 exchange process, as the transactions are quick and easy. However, anyone can invest in these types of opportunities, including people who aren’t participating in an exchange.
What Are the Benefits of Using DST Investments This Way?
Someone using a 1031 exchange could purchase any type of investment property. Why should you pick a DST investment out of all of the other options available? Several good reasons exist, including the following:
Speed
Per IRS rules, a 1031 exchange has a tight time frame. Investors are required to close the purchase of a new property within 180 days of selling the other. In tight real estate markets, this time frame can be difficult to meet.
For example, you may be operating in an area filled with several other investors who want the same properties you do. If you spot an opportunity, you may get stuck in a bidding war followed by multiple required repairs on the building. That could take so long that the deadline is missed. Unexpected things come up in the purchase process, and some of these delays could thwart the successful completion of the deal.
DST investments are made for a quick purchase. If you aren’t sure you can meet the required time frames, this can be a good choice.
Ease
As we mentioned, DST investments don’t require day-to-day management. You can participate without worrying about the pesky details involved with keeping an asset in good shape and ready to make money. You can invest and relax as the profits come in.
Access
Even major investors have difficulty getting into big opportunities. A DST is different. With this type of opportunity, you could get into a building or an area that you might never afford without other investors. If you’ve always wanted to be part of a signature property, this could be a good chance.
Taxes
If the property you’re selling is worth more than the asset you’re buying, you have a taxable boot. A 1031 exchange allows for multiple purchases, so you can get the asset you want and buy a DST investment at the same time, without worrying about excess taxes.
What Can You Try Instead?
You’ve done your homework and realized that DST investments aren’t right for your 1031 exchange. Thankfully, you have plenty of other opportunities to explore.
For example, you could try a partial 1031 exchange. With this method, you could sell one property and take out excess cash to use in any way you want. Instead of investing the boot in a DST, you could just take the money away instead.
You could also simply sell property and pay the taxes. You’re not required to use an exchange, and in many ways, selling a property and buying another is quicker and comes with fewer rules and regulations.
How to Find DST Investments
Most DSTs are provided through intermediaries, such as financial advisors. Someone experienced in real estate investments could explain the DSTs open to you and help you purchase the one that’s right for you.
You can also explore DSTs online. Some platforms offer limited information on DSTs and how they work. However, you’ll need to do more homework before you buy. Never make a purchase online without doing a little more research.
Make a Smart Choice
Whether you want to complete a full 1031 exchange, a conversion into a DST, or a partial 1031 exchange, get the help you need from 1031 Pros. We specialize in these sorts of transactions. In fact, this is all we do.
We can structure a private account to hold your money, and we can provide all the paperwork you need to complete the purchase properly. Contact us to find out more about how we can help you.
References
Like-Kind Exchanges Under IRC Section 1031. (February 2008). Internal Revenue Service.
Title 12: Decedent’s Estates and Fiduciary Relations. The Delaware Code Online.
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