A Delaware Statutory Trust (DST) is a 1031 exchange-eligible investment structure that gives investors partial ownership of commercial real estate properties that are managed by a professional real estate Sponsor. The DST market has been growing steadily over the years, from $3.4 billion in 2019 to $7.4 billion in 2021, according to Mountain Dell Consulting. As the market for these kinds of investments grows, product diversification is likely to follow suit.
In this article, we’ll examine why the DST market is beginning to offer different types of investments and provide an overview of how a Growth DST works.
Traditional DSTs can offer many potential benefits to investors, including passive real estate ownership, geographic diversification in an investment portfolio, and the potential for cash flow in the form of monthly income for investors. Investors who are moving into retirement or are interested in passive property ownership may be interested in DSTs as they can replace the income investors may have previously received before they decided to retire.
There are several different types of DST investments available, including some that might focus more on wealth accumulation instead of cash flow. Knowing there are different objectives based on each investor’s individual needs, here are some factors to consider when evaluating potential DST investments:
- Although “Growth DSTs” may have an absence of meaningful immediate income, these should not be confused with “Zero Cash Flow” DSTs, which also lack income, but are primarily utilized to provide high leverage to investors who need it.
- Some DSTs have been positioned as “value-add” investments. These imply growth but also strive to be income-generating vehicles.
- Not all investors will be seeking to generate income during their investment period. Some investors may be more interested in properties with higher appreciation potential, which is where a Growth DST could make sense in a portfolio.
What Is a Growth DST?
A Growth DST is uncommon compared to traditional DST structures. They most likely feature multi-family or self-storage properties, but can have student housing or senior housing in theory. While they do not provide as much immediate income as other types of DSTs, they seek to provide appreciation and can be considered a growth investment for cash DST investors as they offer 1031 Exchange options upon exiting the investment.
Growth DSTs won’t offer as much monthly cash flow as a traditional DST structure (at least in the initial investment holding period), but they offer a higher potential to appreciate in value. Traditional DSTs tend to be more heavily weighted on generating current income on a regular basis and less focused on appreciation. However, with rising interest rates and other economic factors, current distribution rates for DSTs are declining. This could mean it’s time for investors to diversify their portfolios with an investment that might forgo modest near-term appreciation for something with the potential to grow into higher cash flows or greater appreciation in the future.
A lack of cash flow does not necessarily equal a higher level of risk for investors. Growth DSTs may include properties that feature below-market rental rates so if the rental rates slow, the impact is far less as there is natural growth opportunity in allowing the properties to reach market levels. By catching the market rental rates in these opportunities, the DST can be considered successful. In these scenarios, investment success is not predicated on achieving top of market rental rates or continuing to achieve rental growth above historical averages.
Why Should Investors Consider Growth DSTs?
As the DST market continues to expand, there will be an increased need for product innovation, including the different types of DSTs. How can investors manage investment property wealth when there might be holes in portfolio construction? When evaluating investments, investors can review whether they have income-generating options, growth options, and high-yield options to potentially build a portfolio structure that can help meet their investment objectives.
At Realized, we want investors to manage their investment property wealth with the same sophistication as other asset classes, and that applies to other types of DSTs as well. In our next blog in this series, we’ll evaluate defensive structures and ground leases.
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. All real estate investments have the potential to lose value during the life of the investment. All financed real estate investments have the potential for foreclosure.The income stream and depreciation schedule for any investment property may affect the property owner’s income bracket and/or tax status. An unfavorable tax ruling may cancel deferral of capital gains and result in immediate tax liabilities.Costs associated with a 1031 transaction may impact investor’s returns and may outweigh the tax benefits. An unfavorable tax ruling may cancel deferral of capital gains and result in immediate tax liabilities. No public market currently exists and one may never exist. DST programs are speculative and suitable only for Accredited Investors who do not anticipate a need for liquidity or can afford to lose their entire investment. There is no guarantee that the investment objectives of any particular program will be achieved. The actual amount and timing of distributions paid by programs is not guaranteed and may vary. There is no guarantee that investors will receive distributions or a return of their capital. These programs can give no assurance that it will be able to pay or maintain distributions, or that distributions will increase over time. Diversification does not guarantee a profit or protect against a loss in a declining market. It is a method used to help manage investment risk.