Investors can select multiple DST properties as part of their 1031 exchange allowing diversification of asset classes, cities and level of needed non-recourse debt.
Lower Minimum Investments
DSTs have lower minimum investments often as low as $100,000 of equity. If you require a lower investment amount than the stated minimum, let your Corcapa 1031 Exchange representative know and we may be able to negotiate a reduction in certain circumstances.
No Individual Annual LLC Filings
Potentially lower fees in DST investments than TIC investments. The DST investment does not require a special purpose LLC entity that needed to be annually maintained and paid for.
Potentially Greater Cash Flow
The most common reason that investors select DSTs is for a potentially greater cash flow than they are currently receiving. Most DSTs have between a 4.00% – 5.50% projected cash flow based on the anticipated rental income less expenses. For example, if you invest $1,000,000 of equity into a DST with a 4.5% projected cash flow, this would provide a projected net annual income of $45,000. This could be a higher net cash flow than you are currently receiving on your rental property. As with all real estate, the income cannot be guaranteed because the rental income and expenses can increase or decrease unexpectedly.
Virtually all the loans within the DSTs that are approved by DAI Securities, LLC are non-recourse which means the investor does not personally guarantee them.
Easier access to financing for investors needing debt on their replacement property and potentially quicker closings.
Larger Property Access
Access to Institutional Grade properties which are typically larger commercial properties that previously required significant capital to purchase.
General real estate risks and market also apply to DSTs. There can be no assurance that a property will perform as projected and DSTs are subject to economic volatility, tenants not paying their rent timely, and other traditional risks of owning, selling, and operating real estate.
Investors Do Not Hold Title
DST investors do not hold title to the investor but rather own beneficial interests in the trust and the sponsor controls the selling and managing of the property. The DST owners have limited control over the investment and are reliant on the sponsor.
A DST interest is an illiquid investment and there is no current active secondary market for selling your interest.
Fees and Expenses of each offering should be carefully evaluated. Multiple owner offerings typically have additional expenses to owning real estate on your own and these fees should be weighed against specific capital gains tax liability. All investors are encouraged to have their tax and legal counsel advise them on taxes including any federal and state capital gains taxes, depreciation recapture and the recent 3.8% Medicare tax, which could be applicable.
DSTs are structured according the Revenue Ruling 2004-86. Corcapa and DAI Securities, LLC typically work with sponsors and properties that have “should” level tax opinions regarding 1031 exchange tax compliance but its possible the IRS would rule unfavorably on a DST offering and this could result in back and immediate tax liability.
Potential for Property Value Loss
All real estate investments have the potential to lose value during the life the investment.
Potential for Foreclosure
All financed real estate investments have the potential for foreclosure.
Reduction or Elimination of Monthly Cash Flow Distributions
Like any investment in real estate, if a property unexpectedly loses tenants or sustains substantial damage, there is a potential for suspension of cash flow distributions.
Seven Deadly Sins
The enabling IRS revenue ruling which forms the basis for a DST transaction in a Section 1031 exchange program has prohibitions on the powers of the trustee, which are built into the Trust Agreement and have become known as the “seven deadly sins”. They are:
- Once the offering is closed, there can be no future contributions to the DST by either current or new beneficiaries.
- The Trustee cannot renegotiate the terms of the existing loans nor can it borrow any new funds from any party unless a loan default exists as a result of a tenant bankruptcy or insolvency.
- The Trustee cannot reinvest the proceeds from the sale of its real estate.
- The Trustee is limited to making capital expenditures with respect to the property to those for (a) normal repair and maintenance, (b) minor non-structural capital improvements and (c) those required by law.
- Any reserves or cash held between distribution dates can only be invested in short term debt obligations.
- All cash, other than necessary reserves, must be distributed on a current basis, and
- The Trustee cannot enter into new leases or renegotiate the current leases, unless there is a tenant bankruptcy or insolvency.
Because of the DST restrictions the best types of real estate for a DST are Master Lease transactions where the Master Tenant takes on all the operating responsibilities or a Triple Net/Net Long Term Lease with a financially stable tenant. Additionally, it is prudent with DSTs to have sufficient upfront and ongoing reserves, as well as a plan for a sale prior to the maturity of a loan.
Additionally, there is a “Springing LLC” provision option which could convert the trust to a limited liability company to solve property issues. However, this could prevent future 1031 ability and adversely affect the value of their investment.
One additional approach to give the Lender comfort is to place an operative provision in the Trust Agreement that if the trustee determines that the DST is in danger of losing the Mortgaged Property due to tax related restrictions on the trustee’s ability to act, (the seven deadly sins), it can convert the DST into a limited liability company (the “Springing LLC”) with a Lender-approved operating agreement. Delaware law permits the conversion by what is basically a simple election and which does not constitute a transfer under Delaware law. The “Springing LLC” will contain the same SPE and bankruptcy remoteness provisions as the DST (for the Lender’s benefit), but it will not contain the prohibitions against the raising of additional funds, the raising of new financing or renegotiation or the terms of the existing financing or entering into new leases. In addition, it will provide that the trustee (or Sponsor) will become the manager of the LLC.
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1031 Advisor Guidance
Our qualified team will provide guidance and make recommendations based on your goals.