DST Educational Series

One of the key requirements in a 1031 exchange is replacing the debt from the relinquished property. Delaware Statutory Trusts (DSTs) can help satisfy this requirement, but the way leverage is used varies significantly between offerings and has important implications for investors.

The Debt Replacement Requirement

To achieve full tax deferral, an investor must generally replace both the equity and the debt from the property they sold. If the replacement property has less debt than the relinquished property, the difference may be treated as taxable boot.

How DSTs Handle Debt

Many DSTs acquire properties using non-recourse financing. This allows investors to receive credit for debt replacement without having to personally guarantee loans. The amount of debt in a DST is typically expressed as a loan-to-value (LTV) ratio.

DST portfolios can generally be structured in three ways:

• All-cash (debt-free) DSTs: These offerings acquire properties with no debt. They are often used when an investor wants to reduce leverage or has already replaced their debt through other means.
• Moderately leveraged DSTs: These typically carry LTVs in the 30–50% range. Moderate leverage can provide tax benefits through interest deductions and increased depreciation while keeping risk at a reasonable level.
• Higher-leveraged DSTs: Some offerings use higher levels of debt. While this can increase cash flow and tax shelter in the early years, it also increases risk, particularly related to interest rates and refinancing.