DSTs - Short or Long Term Investments?

Are DSTs short or long term investments

Delaware Statutory Trusts (“DSTs”) have become known as real estate investments because of the Internal Revenue Service acknowledging the use of DSTs for 1031 like-kind exchanges. As a result, investors looking to use a DST for a 1031 like-kind exchange should understand how long they will have to hold onto the DST before being able to liquidate or cash out on their investment for other uses.

Here are some things to note about the holding time for investors when investing in DSTs:

DSTs are like real properties

DSTs were recognized by the Internal Revenue Service as eligible real property for investors looking or attempting to complete a 1031 like-kind exchange. As a result, investors should view DSTs like real properties. This means that a DST investment will be illiquid and investors will not be able to recapture their investment on demand like investments in the stock market. Instead, investors will need to wait until the end of the holding period before being able to get their investment back for use or to reinvest.
dst properties

The holding period of a DST will be determined by the DST’s governing instrument. Unless outlined and stated in the governing instrument, individual investors cannot force the DST to end in order to cash out and get their money back. This feature and structure of DSTs adds to the level of illiquidity that goes along with investing in DSTs. Investors looking into or desiring to invest in DSTs need to fully understand this before making a decision.

dst properties

Additionally, because DSTs are like real properties and are likely being financed like a real estate property, the holding period for DST is typically 10 years or longer. There are, however, some DSTs that may have shorter holding periods like 5 years, but you will have to double check the governing instrument to ensure this. The holding period for DSTs is on the longer end because of the length of the financing used to obtain the property or properties. The longer holding time could also be attributed to the fact that the tenants may have long-term leases under their lease with the DST.

Benefits of DSTs being long-term investments:

Although DSTs are highly illiquid investments due to holding periods of 10 or more years, there are some benefits and upside to this. One of the benefits is that if the DST does well, you as the investor will be able to reap passive income for the entire time. This could be really attractive for investors looking to or who have already retired because they will be able to supplement their retirement payments with the income from the DST without having to worry about reinvesting any time soon.
dst properties

Another possible benefit with the fact that DSTs are long-term investments is that the property or properties held by the DST could appreciate throughout the holding period. Like any other real estate investment, however, there is no guarantee that the property or properties will appreciate over time. This is, of course, going to depend on how the property is doing in the market. In any event, the longer holding period could allow the property or properties to appreciate more and will therefore benefit the investors. At the end or termination of the DST, as defined and determined by the DST’s governing instrument, if the property or properties are sold, each investor will receive a pro-rata share of the appreciation. Due to the length of the holding period, the property or properties could appreciate greatly.

dst properties

Lastly, the long holding period for DSTs could be a positive due to the possibility of passing on an interest in a DST to another. Like real estate investment, investors may be able to transfer their interest in a DST to another while alive or upon death. This could be attractive for those looking to have the flexibility and possibility of including DSTs in their estate planning. The person who has been assigned or who has inherited an interest in a DST will be able to deal and obtain the same benefits of the DST.

The termination or disposition of the DST at the end of the holding period:

Two common possibilities could occur at the end of the holding period under a given DST: a refinance or sale of the property or properties or a buyout by outside investors. Under the first possibility, a DST could refinance the property or properties. If this happens, any appreciation of the property or properties will be captured by the investors. If the property or properties have appreciated, then each investor would receive its pro-rata share.
dst properties

The same outcome would be possible if the DST out the property or properties on the market for sale. This possibility might, if the market conditions are right, be able to maximize the amount of equity realized by the investors if buyers end up bidding the price up. In any event, if the property or properties are sold at the end of the DST’s holding period, then each investor will receive their pro-rata share of the profits.

dst properties

The second possible outcome at the end of the DST’s holding period is for the DST’s sponsor to buy out the interests of the investors. The reason for the DST’s sponsor wanting to buy out all of the investors’ interests in the DST would depend on how well the DST has performed throughout the holding period. If, for example, the DST did not perform up to expectations, the sponsor may decide to buy out all of the interests in order to pursue investment strategies with the constraints of the governing instrument. These investment strategies will be pursued in order to make their own investors whole in the event that the DST performed poorly. On the other hand, if the DST performed well over the length of the holding period, the sponsor may want to keep and hold on to the property or properties for their own use and benefit. This would allow the sponsor to handle and manage the property or properties for their own benefit. In other words, the sponsor would be able to reap and capture all of the revenue generated from the property or properties. In any event, a buyout by a DST’s sponsor would cause the investors to collect their pro-rata share under the DST.

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