Why Retirees Should Consider Delaware Statutory Trusts

DSTs offer benefits ideal for those transitioning into retirement, but first you need to understand what makes DST investing unique.

Owners of property used for business or investment purposes can build wealth over time by executing IRC Section 1031 like-kind exchanges, which allow for the deferral of capital gains and certain other taxes on real property sales if the proceeds are used to acquire like-kind property. 1031 exchanges help property owners expand into new property types, upgrade to better properties, and put more of their hard-earned money to work for them.

But what happens when you want to retire? The stress and work of managing a property (or multiple properties) can prevent you from really enjoying your golden years. But if you sell your properties, you’ll be forced to pay the taxes you’ve worked to defer. The decision to retire looms large for many who’ve put much of their net worth into 1031 properties.

One solution is the Delaware Statutory Trust (DST), which allows for passive property ownership well-suited to the needs of retirees. Here’s how DSTs are helping those reaching retirement age to enjoy the time they have left while maximizing tax deferral benefits for themselves and their descendants.

How a DST works

A DST is a real estate investment vehicle in which a group of investors pools capital to invest in a portfolio of institutional-grade properties managed by a professional property manager. DSTs give ordinary investors access to high-quality real estate in sectors that may have previously been closed off to them, as well as offering diversification and passive income.

Best of all, a DST interest can qualify as a like-kind property under Section 1031. Many exchangers use DSTs as a backstop in case one of their identified properties falls through, because DSTs are reliable and can close in a few days, helping prevent exchange failure. While DSTs can be useful for all types of investors, they have specific advantages for those entering retirement.

Advantages of DSTs for retirees

Professional management

One aspect of DSTs that makes them particularly attractive to retirees is that the day-to-day oversight of the portfolio properties is handled by a professional property manager. Maintenance, collecting rent, finding tenants, negotiating lease terms, and other tasks that would otherwise fall on the property owner are taken care of.

For property owners who have spent decades performing these tasks themselves, a DST allows them to continue to hold property and defer taxes via Section 1031 without the labor and stress of active property ownership. They can enjoy their retirement years while continuing to build wealth and receive income through tax-advantaged property investments.

Steady passive income

The rent collected by the property manager provides income for the DST’s investors in the form of regular distributions. Since you don’t have to collect the rent yourself, this represents reliable passive income. For many retirees, transitioning from a growth-oriented investment portfolio to one focused on dividends is a natural step, and a DST can provide the necessary income without forcing the investor to give up equity or pay capital gains taxes.

The amount and frequency of distributions can vary with each DST. There is even such a thing as a zero-coupon DST, in which there are no distributions and rental income is instead used to pay down debt and increase equity. This can be a good thing for those who don’t need the steady income, but if you’re planning to rely on your investments to support your retirement, you need to select a DST that provides the level of income you require.

Diversification

Some DSTs own multiple properties, meaning you can instantly diversify with a single investment. But even if you focus only on single-property DSTs, you may still receive diversification benefits because of the low barrier to entry.

Many DSTs have low minimum investment amounts, meaning with a single property sale, you can exchange into multiple DSTs. This allows retirees to spread their ownership across different sectors and parts of the country, protecting their accumulated wealth from unexpected changes to any single market.

Estate planning benefits

When you retire, it’s natural to start thinking about what will happen to your assets when you pass. If much of your net worth is tied up in a single investment property, this can lead to conflicts among your heirs, especially if they disagree about what to do with the property after you’re gone.

But if you exchange into a series of DSTs, the interests can be easily divided among your heirs, who can individually decide how to proceed while still benefiting from Section 1031 tax deferral and the step up in basis. In this way, a DST can make it easier for you to care for your loved ones when you’re gone and help them avoid unnecessary conflict.

Risks of DST investing

Like all investments, DSTs are not without risk. There’s always the chance the underlying portfolio properties could lose value or struggle to earn a profit. But that’s true no matter who manages the property, so if you’re comparing a DST to an actively-managed property, there would be little difference in this regard.

For active property owners transitioning to DSTs in retirement, the biggest drawback may be the lack of control. You will be one of up to 499 investors in the trust, and won’t be able to make individual decisions regarding when to buy and sell or how to manage the properties. And though fees will vary, the professional management of a DST doesn’t come without cost.

DSTs that can be used in a 1031 exchange are especially inflexible, with specific rules limiting refinancing and other aspects of property ownership. And if you want to sell before the end of the DST’s holding period, you may find it difficult to locate a buyer. Though there are secondary markets for DSTs, they’re far more limited than the market you would find for an individual property. The inflexibility of the DST holding period is also important to remember when considering 1031 tax benefits, because if tax law changes, it may be difficult to exchange out of the DST before a deadline is imposed.

The biggest risk of all comes from the fact that compliance is out of your hands. If you want to continue to defer taxes, potentially for the rest of your life, you need to ensure the DST sponsor you’re working with is trustworthy and has the proper procedures in place.

Ensuring your 1031 exchange into a DST achieves full tax deferral

There are two areas where compliance matters when investing in a DST as part of a 1031 strategy: during your exchanges into and out of the trust, and during the life of the trust. When you perform a 1031 exchange, you need a Qualified Intermediary (QI) to hold funds during the exchange. Despite what an important role the QI plays, there is still little regulation in this industry.

That’s why you need an experienced QI like JTC that not only understands the nuances of exchanges into and out of DSTs, but that follows best practices to ensure your funds are secure and that the transaction adheres to all IRS regulations. And with our Exchange Manager portal, you can check the status of your exchange at any time.

While other QIs may stop there, JTC doesn’t. We also work with DST sponsors to provide fund administration that enhances their efficiency and provides helpful tools for investors, including an online portal that offers up-to-date information accessible 24/7 from anywhere in the world. By selecting a DST that uses JTC as QI and fund administrator, you’re choosing to put yourself in the best position to stay on top of your investments, and you can take comfort in the fact that experienced professionals are tending to every aspect of your chosen path in retirement.

Interested in learning more about DSTs? Check out this article about how a DST can be used to transition from a 1031 property to a REIT.