Disadvantages of Delaware Statutory Trust (DST) 1031 Exchange Replacement Properties

Posted by David Wieland on Jul 4, 2022

Delaware Statutory Trust 1031 Exchange DST Property Investment Disadvantages Cover Photo

Delaware Statutory Trusts (DSTs) offer the opportunity for passive investments in commercial real estate assets that typically are out of financial reach for most solo investors.

These professionally managed assets span a wide range of property types and classes, from industrial warehouses to large self-storage facilities, medical office buildings to multi-family apartment complexes. DSTs can be attractive to investors seeking to complete 1031 exchanges because they are pre-packaged offerings: timing is simplified so critical exchange deadlines can be met, and investments can be tailored to satisfy like-kind replacement property values.

DSTs aren’t without their drawbacks, though. In this article we’ll examine some of the disadvantages of Delaware Statutory Trusts to help investors determine whether this investment vehicle matches up with their investment strategies.

5 Main Disadvantages of DSTs

Delaware Statutory Trusts provide replacement alternatives for 1031 exchange investors. They offer potential recurring monthly income and portfolio diversification without ongoing landlord duties or other pitfalls that are tied to direct property ownership. 

When considering DST investments, there are several potential disadvantages 1031 exchange investors should consider. These include:

  • Illiquidity. DSTs have lengthy holding periods usually ranging between five and 10 years, making them highly illiquid investments. Your capital likely will be tied up throughout the lifecycle of the DST offering, which makes them suitable only for exchange investors who can afford to have their money tied up for years. Investors seeking shorter-term investments are probably better off finding like-kind replacement assets to complete their 1031 exchanges rather than purchasing beneficial interests of DSTs.
  • Lack of early exit opportunities. It can be extremely difficult to divest shares of a DST prior to the full life of the offering -- there’s no public market for divestiture as there is with stocks or other securities. DSTs also often place restrictions on the resale of beneficial interests, so you may have to secure approval from the DST Sponsor. Lastly, since DST interests are viewed as private securities, divestiture has to comply with securities laws.
  • DSTs cannot raise new capital. Once the DST offering is closed, it cannot accept new investors or new capital. This could prove problematic if DST properties experience reduced occupancy and lower rental income, or an asset needs major repairs such as a new parking lot or roof. These capital expenditures could erode cash flow and reduce any potential DST distributions.
  • Lack of control. Investors seeking hands-on investments where they can leverage their experience in an effort to boost asset values or increase lease rates will chafe under the DST ownership structure. DSTs are professionally managed assets, and DST sponsors make all day-to-day and key operational decisions -- individual investors have no say in these matters. Consider how those facts reconcile with your investment philosophies.
  • Fees. DST investment fees can be substantial because they typically are assessed upfront, throughout the holding period, and once again at disposition. Fees can include selling commissions, broker-dealer allowance, offering and organizing expenses, asset acquisition, and disposition costs, among others.

The Bottom Line

Delaware Statutory Trusts can provide investors with many potential benefits, such as recurring monthly income, asset appreciation, 1031 exchange eligibility, and more. However, they also have many potential drawbacks, including illiquidity, fees, lack of control and few opportunities for early exit.

Investors should carefully weigh the pros and cons of DSTs to determine how this investment vehicle aligns with their investment strategies.

 

This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor. Realized does not provide tax or legal advice. This material is not a substitute for seeking the advice of a qualified professional for your individual situation. 

There is no guarantee that companies that can issue dividends will declare, continue to pay, or increase dividends.

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