Identifying Quality Delaware Statutory Trusts for Real Estate Investments

Investing in real estate has long been a favored way to build wealth and diversify one’s portfolio. Delaware Statutory Trusts (DSTs) have gained popularity among real estate investors for their unique structure and potential tax benefits. However, not all DSTs are created equal. To make a sound investment decision, it’s crucial to know what to look for in a quality Delaware Statutory Trust. 

What to look for in DST Sponsor

It is crucial to perform thorough due diligence or seek advice from a financial advisor before making any investment decisions. Sponsor reputation is critical.  Research the track record and reputation of the DST sponsor and management team. Look for sponsors with experience in managing DSTs, a successful history of property management, and a transparent investment approach.  Make sure the DST sponsor has a significant financial stake in the investment. A sponsor with a meaningful investment in the DST indicates alignment of interests and increased commitment to its success.  Finally, ensure the DST complies with all relevant legal and regulatory requirements. This includes verifying that the offering is registered with the appropriate authorities and that all necessary disclosures have been provided.

What to Look for in DST properties

When evaluating a DST, examine the quality of the underlying properties held by the DST. Consider factors such as location, property type, condition, and potential for long-term appreciation. Properties in desirable locations and with stable income streams are generally more attractive.  

Assess the creditworthiness and stability of the tenants occupying the properties. High-quality tenants with strong credit profiles are more likely to fulfill their lease obligations, leading to more stable cash flows.   Quality DSTS generally have leases with quality lessees that extend the entirety of the life of the DST, which minimizes default risk and ensures the properties will be well maintained.

Review the historical financial performance of the DST and its underlying properties. Look for consistent rental income, low vacancy rates, and a history of positive cash flow. Past performance doesn’t guarantee future results, but it can provide insights into the investment’s stability. 

Warnings signs 

Some DST sponsors will artificially inflate cash flows, such as using reserves to supplement cash flows.  Be on the lookout for aggressive assumptions of future NOI (net operating income) growth, tenant quality, historical inflation, lease terms, and overall projected performance. Poor property quality may require a property to need unexpected repairs or structural upgrades. Larger reserve accounts equate to a reduced cash flow but could also lead to a more secure investment. Remember, even funds in a reserve account ultimately belong to investors. 

In DSTs, higher cash flow might represent higher risk. Buying low quality assets in unattractive markets may result in a higher cash flow in the short term. However, the investor assumes a risk that may not be worth the reward if the underlying asset becomes a concern. It is important to remember that in real estate, the time-tested rule of thumb is location, location, location!  

Impact on your investment portfolio

Investing in a DST is typically a passive endeavor. The DST sponsor or manager handles the day-to-day management, maintenance, and operational aspects of the properties. This can be attractive for investors who want to participate in real estate without the responsibilities of active management. 

Evaluate the level of diversification within the DST portfolio. A well-diversified DST may include multiple properties across different asset classes and geographic regions, which can help spread risk. 

Understand the tax implications of investing in the DST. Delaware Statutory Trusts are often used for 1031 exchanges, which allow investors to defer capital gains taxes. However, DSTs have complex tax considerations, so consult a tax professional for personalized advice. 

Understand the DST’s exit strategy and the process for selling or liquidating the investment when the holding period ends. A clear exit plan can help you plan your investment horizon effectively. 

Conclusion

Investing in a Delaware Statutory Trust can be an attractive option for diversifying your real estate portfolio and potentially gaining tax benefits. However, not all DSTs are created equal, and thorough due diligence is essential to identify quality opportunities. By conducting a thorough analysis, you can make an informed decision and select a DST that aligns with your investment goals and risk tolerance. Always consult with financial and tax professionals before making any investment decisions to ensure they are in line with your unique financial situation and objectives.

Voss Real Estate Advisors

September 15, 2023

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