DSTs – Are they safe investments?

Delaware Statutory Trusts (“DSTs”) are investment vehicles, and like any other investment vehicles, there will be some inherent risk. The amount or level of risk associated with DSTs, however, are typically lower than other known investment vehicles like the stock market which may be volatile at times. While DSTs may be generally less risky than other investments, each DST’s risk level will be associated with the types of property held and managed by the DST. Risk levels of DSTs may also depend on the locations of the properties. Here are some common items to consider about DSTs before investing in one:

Since DSTs are governed and constrained by its trust agreement, the rate of return may be a fixed percentage based on what the DST is expected to perform. This rate likely takes into account the types and locations of the properties held by the DST. Properties such as large commercial shopping centers may provide investors with a higher rate of return because there is more risk involved with such a property. Shopping centers for example are more susceptible to changes in the market. Downturns in the market may cause tenants in shopping centers to default on their lease rents and leave. On the other side, shopping centers will generally involve leases with higher rent and thus will be able to provide investors with greater returns. The rate of return for riskier properties may be closer to 9%.

On the other hand, DSTs may contain residential properties. DSTs containing solely or mostly residential properties might have a lower rate of return since there is less risk involved. There is less risk with residential properties because people will default on other liabilities before defaulting on their residence. Additionally, the rate of return on residential properties are lower because the rents collected from residential property will be lower than rents collected from commercial properties. The rate of return for less riskier properties may be around 5%.

The properties held by DSTs are still subject to fluctuations in the real estate market. This means that DST properties may appreciate if the market does well or it may depreciate if the market does not do well. While the appreciation or depreciation of DST properties may not have an immediate effect on investors, it will become important when the life of the DST is ending. Assuming that the properties appreciate over the life of the DST, then individual investors will be entitled to their pro rata share of the appreciation. On the flip side, if the properties depreciate, then investors will have to take their pro rata losses from the DST.

DSTs are generally used by investors in order to take advantage of completing 1013 like-kind exchanges. As such, investors should be aware that investing in a DST is similar to directly investing in a property. In other words, investment in a DST cannot be quickly or easily converted back to cash to be used in some other way. Instead, the holding period for a DST is generally around 5 to 10 years. As always, the exact time frame and holding period will be determined by the trust document.

Due to the illiquidity of a DST, investors need to understand and be aware of the amount of time that would need to pass before they may be able to reuse or access their investment. As a result, if investors are looking for an investment vehicle that would allow them to pull out their money on demand, then a DST might not be the best option.

A DST sponsor will be responsible for purchasing the real properties to be held eventually by the DST. After the purchased real property or properties is placed in to the DST, the sponsor will then be responsible for managing the day-to-day operations.

As such, because a sponsor influences a lot of the aspects of a DST from the very beginning, investors need to be sure that the sponsor for a DST that they may be interested in is a reputable one hopefully with a track record of other successful DSTs. Additionally, because the sponsor will be responsible for the day-to-day management of the DST, whether or not the sponsor is effective or not will be reflected in the actual returns and profits that investors will receive each month.

Moreover, investors need to know whether the DST’s sponsor is a credible and effective one in order to ensure that they are able to get the greatest return and profits from the DST. If the DST is not effective in the management of the property or properties, then it might be possible that there may be additional expenses incurred by the sponsor. As a result, the profit and return to each investor is reduced by the additional expenses.

Investors who personally invest in and manage real estate understand that they may face liability with respect to their tenants as well as their creditors. Liabilities may arise with their tenants if they mismanage the property or violate a state’s landlord-tenant code. Liabilities may arise with an investors creditors if they fall behind on their payment of mortgage used to secure the property.

In any event, investing in a DST removes the possibility of liability arising from the management or financing of the property. Instead, the financing and management of the property is handled by the DST’s sponsor. As a result, investors do not have to worry about personal or individual liability from tenants and creditors.