Investors exploring tax-deferral strategies for appreciated real estate have several options to consider. Two common approaches are the deferred sales trust and the Delaware Statutory Trust. These are both called DSTs, which may lead to confusion. However, these two tax strategies are distinct and offer different tax deferral methods.
In this Delaware Statutory Trust vs. deferred sales trust guide, Realized 1031 breaks down the differences between the two approaches. Learn about the advantages and risks of each approach, which can help investors evaluate which strategies may be worth consideration.
A Delaware Statutory Trust is a legal entity that allows multiple investors to hold fractional beneficial interests in a trust that owns income-producing real estate, such as multifamily or commercial properties. Investors pool money into the Delaware Statutory Trust, amassing enough funds for the trust to purchase assets that may otherwise be inaccessible at the individual level.
The Delaware Statutory Trust is not only popular because of its accessibility with fractional ownership to properties, but this strategy may also be eligible for 1031 exchanges, providing tax-deferral benefits. As long as the DST follows the structure and rules set by Revenue Ruling 2004-86, investors can maintain their tax-deferred status and preserve their capital.
In terms of the structure, investors have indirect ownership of the underlying property, only owning interests in the trust itself. The sponsor or trustee manages the day-to-day operations, and investors have no active management duties. As a result, DSTs are commonly used by individuals seeking passive ownership and predictable income streams, subject to market and property performance.
Compared to Delaware Statutory Trusts, deferred sales trusts involve more flexibility in the type of asset you can sell and the subsequent investment of the proceeds. This type of strategy lets you defer recognition of gain on an asset sale by selling through a trust. This entity, in turn, pays you in increments. While you will still owe taxes, the liability is just spread out, and it may thus be more financially manageable.
In terms of structure, the deferred sales trusts involve the buyer, the trust, and the seller. The seller creates the trust (or through a DST trustee company), then transfers the asset to the trust, which then sells it to the buyer. The trust holds the proceeds, and since the seller hasn’t obtained constructive receipt, capital gains taxes remain deferred. Only when you start receiving funds from the trust do you become liable for tax payments.
This structure means that you won’t need to begin with a 1031 exchange to enjoy tax-deferral benefits. As a result, deferred sales trusts allow you to sell any type of asset, not just real estate — a key requirement in like-kind exchanges. You can sell stocks, businesses, and bonds through this strategy.
It's important to note that Deferred Sales Trusts are not defined or explicitly recognized by the IRS, and their tax treatment may depend heavily on facts, structure, and documentation. As such, investors should proceed with caution and consult qualified legal and tax advisors before pursuing this strategy.
In addition to potential tax-deferral treatment under IRS Revenue Ruling 2004-86, DSTs may offer the following characteristics:
Delaware Statutory Trusts (DSTs) offer certain tax and investment benefits, but they also involve risks, including:
Illiquidity: DST interests cannot be sold or redeemed before the trust’s termination.
Lack of Control: Investors have no decision-making authority over the property or trust operations.
Market and Tenant Risk: Returns depend on property performance, lease income, and market conditions.
Leverage Risk: DSTs may use debt, which increases exposure to interest rates and financing risk.
Tax Risk: 1031 exchange treatment is based on IRS rules that may change; tax deferral is not guaranteed.
There are also advantages that deferred sales trust may offer:
While Deferred Sales Trusts (DSTs) may offer tax deferral and investment flexibility, they carry important risks:
There are multiple factors to keep in mind when choosing between the deferred sales trust and the Delaware Statutory Trust. In particular, you’ll want to factor in the involvement of 1031 exchanges. If you’re fine with the requirements in order to enjoy tax deferral, the Delaware Statutory Trusts are great. However, those who would like more flexibility or have assets that aren’t real property will find deferred sales trusts more suitable.
Another consideration is the level of control and customization you desire. While Delaware Statutory Trusts are more passive and structured, deferred sales trusts allow for personalized payment plans and investment strategies tailored to your financial goals.
While sharing the same DST acronym, deferred sales trusts and Delaware Statutory trusts are different investment strategies. One allows you to defer taxes through 1031 exchanges, while the other lets you delay payments. Whichever you choose, make sure to determine whether the structure, benefits, and risks offered by either one align with your needs, risk tolerance, and investment goals.
The tax and estate planning information offered by the advisor is general in nature. It is provided for informational purposes only and should not be construed as legal or tax advice. Always consult an attorney or tax professional regarding your specific legal or tax situation.
Article written by: Story Amplify. Story Amplify is a marketing agency that offers services such as copywriting across industries, including financial services, real estate investment services, and miscellaneous small businesses.
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