Delaware Statutory Trusts (DSTs) have seen increased demand as of late, thanks to benefits like tax-deferral, passive income, and enhanced diversification. Beyond these advantages, investors find DSTs attractive because of their robust security measures. One element of this security is insurance, which provides an additional cushion if any financial issues arise.
What does DST insurance cover? What are the different types? Realized 1031 answers these questions in our in-depth article below. Keep reading to learn more!
Why Is DST Insurance Necessary?
A DST owns underlying properties that generate income. Given the high value of these properties and the substantial income they generate, insurance coverage becomes necessary to safeguard the investments from financial issues.
There are various types of coverage a DST can include, but these are the three main types of insurance:
- Property Insurance: Protects the physical building from damage or loss.
- Liability Insurance: Covers injury or property damage claims made against the owner.
- Business Interruption Insurance: Covers loss of income when operations are disrupted.
Because DSTs are passive investments, investors cannot have a direct say on which types of coverage the DST can implement. Instead, it’s the master tenant or the tenant themselves (as with a triple net lease) who decides which policies are necessary for the property.
Property Insurance
Property insurance is coverage that’s meant to protect the asset itself. If property damage occurs due to natural disasters, accidents, or vandalism, then the sponsor or master tenant can file a claim to cover the damages, ensuring that more income gets distributed instead of being used for repairs.
In a triple net lease, the tenant takes care of property insurance. For gross leases, it’s the sponsor or master tenant who handles this coverage.
Liability Insurance
Business liability insurance exists to provide a financial cushion in case the tenant or any affiliated party within the DST is sued for bodily harm or personal injury. The DST, as the legal owner of the underlying properties, is primarily liable for property-related incidents. With liability insurance, the DST can ensure that legal fees and settlements are covered. Having the risk covered at the entity level shields individual investors from liability.
Business Interruption Insurance
Also called rental income insurance, business interruption coverage provides a financial cushion if an event stops the property from generating income. These can include natural disasters, fire damage, or even vandalism. Business interruption coverage is triggered when physical property damage from a covered event forces operations to suspend, and coverage is limited to casualties covered by the first-party property insurance.
Who Is Covered by DST Insurance?
None of the insurance policies we outlined above cover investors directly because these plans cover the underlying properties and the trust itself. The protection they provide is meant to ensure that the operations continue and the investment remains stable, even when unexpected payments arise.
As an investor, you must understand that insurance held by the trust cannot cover the risk inherent in the investment itself. This includes declining market values, loss of investment principal, and illiquidity. Think of the insurance only as an indirect protection for your investment.
Wrapping Up: Insurance Coverage in DSTs
Insurance in DSTs provides additional protection for various events and possibilities that could affect cash flow, such as property damage, personal injury claims, and tenant default. However, coverage only applies to the underlying assets or the DST as a whole. These policies do not directly protect investors, but understanding the indirect benefits is crucial because it helps you evaluate the stability of the investment and the sponsor’s ability to mitigate risk.
Sources:
https://www.investopedia.com/terms/b/business-interruption-insurance.asp
https://www.investopedia.com/terms/l/liability_insurance.asp
