As a wealth manager, you have a high degree of responsibility in helping your clients manage their financial affairs. Your services typically go beyond investment advice and include estate and trust planning, philanthropy, tax management, and ancillary financial and legal matters. Often, your role includes coordinating the services of other client team members, including accountants.
Wealth managers are typically called upon to facilitate the accomplishment of various goals, including recommending suitable investment options according to your client's available assets, financial plans, risk appetite, and other considerations. The role requires you to have wide-ranging knowledge of investments, including tax implications.
How might DSTs fit into your client’s portfolios?
DSTs, aka Delaware Statutory Trusts, are legal entities created by Delaware state law. Investors each own a beneficial interest in a DST—which does not have to own property in Delaware, despite the name. However, each DST will have at least one trustee with a Delaware presence. DSTs enable investor groups to pool funds to invest in commercial properties, with each investor having direct property ownership for their interest. DSTs may invest in any commercial asset, including multifamily residential, retail, hospitality, office, industrial, and manufacturing property.
How does a DST work?
The market for DSTs has been steadily increasing, and in 2021 reached 7.4 billion, according to Mountain Dell Consulting. Two of the attractions of DSTs include their eligibility for 1031 exchange transactions and their status as pass-through entities for passive investments. A sponsor manages the creation and administration of the DST. That person or entity acts as the trustee, solicits investors, identifies and acquires property, arranges for financing, and oversees property management. Because the DST sponsor holds such a crucial position in the operation and potential success of the trust, it’s a good idea to carefully evaluate the sponsor’s qualifications and experience as part of the overall DST selection process.
What is the advantage of DSTs for my clients?
As a wealth manager, you can help your client obtain ownership interests in high-end commercial assets through investment in DSTs. Let’s take a look at a potential scenario:
Suppose your client owns an office building but would prefer to diversify their holdings, perhaps looking at both geographic footprint and sector variety. If you recommend that they sell the office building, they can enter DST ownership using a 1031 exchange. This tool will allow the investor to defer the payment of capital gains tax on the appreciation they have earned on their office property, thus leveraging it by reinvesting into the DST.
What should I be aware of when recommending a DST for my clients?
High net worth investors may be attracted by the quality of the assets that DSTs offer and the simplicity of investing in a pre-packaged offering. The client may also appreciate the ability to enter and exit through a 1031 exchange, thus deferring payment of capital gains taxes. However, DSTs do have some provisions that you should ensure your clients are aware of:
- Once a DST is closed to new investors, participants can't make additional capital contributions, potentially affecting income distributions.
- When a property in the DST is sold, the proceeds are distributed to the investors, not reinvested.
- The trustee can’t renegotiate leases or loans or add debt.
- All cash must be regularly distributed to the beneficiaries.
- Participants have no input on management decisions.
- Investors must be accredited.
- DST investments are considered illiquid and best suited for long-term investment.
If you recommend a DST for your wealth management clients, remember that each trust can be structured differently, affecting investor distributions. Ensure that you review the Private Placement Memorandum to confirm that the offering meets your client’s investment goals.
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.
All investments have an inherent level of risk. The value of your investment will fluctuate with the value of the underlying investments. You could receive back less than you initially invested and there is no guarantee that you will receive any income.
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.
