At Archer, we pride ourselves in providing comprehensive educational materials and experiences to our investors. After our first phone call, and if you qualify as an accredited investor, you will be sent a welcome package with a copy of Cashing In Tax Free. You will be invited to attend our twice weekly webinars with syndicated real estate Sponsors to learn about their strategies, track records and current offerings. We may suggest that you join us for a day of meetings in Los Angeles with three leading Sponsors. This website, our newsletter and ongoing email provide even more education for you. We want to be certain that you have the opportunity to ask and have answered every question you have.
Delaware Statutory Trust Investments
What is a Delaware Statutory Trust (DST)?
Who should consider a DST Investment?
How does Archer Help?
What are the Potential Benefits and Risks of DST Investments?
What is a Delaware Statutory Trust (DST)?
DST Investments are a potential replacement property alternative for accredited investors seeking to defer their capital gains taxes through the use of a 1031 tax deferred exchange or through a straight cash investment. The DST property ownership structure allows the smaller investor to own shares of interest in large, institutional quality, professionally managed commercial property along with other investors, not as limited partners, but as individual owners within a Trust. Each owner will receive their percentage share of cash flow income, tax benefits, and appreciation, if any, of the entire property.
Each DST property asset is professionally managed by some of the most experienced investment real estate providers in the industry. It used to be that only large institutional investors such as life insurance companies, pension funds, real estate investment trusts (REITS), college endowments and foundations were able to invest in large, well located, higher credit quality tenant commercial property. Now as a viable 1031 exchange replacement option through a DST, individual investors have the ability to invest in a diversified selection of institutional quality investment property types that they otherwise could not purchase individually. Property types include multifamily apartment communities, office buildings, industrial properties, self storage, assisted living, student housing, multi-tenant retail and single tenant retail properties located throughout the nation.
DST investments currently offer the potential for net cash flow without management responsibilities. DSTs provide you the potential for annual appreciation and depreciation (tax shelter), and have minimum investments as low as $100,000, allowing some investors the benefit of diversification into several properties.
DST ownership can potentially provide investors with a steady stream of income, an added factor of diversification, and eliminate active property management duties. No more fixing toilets, trash, or dealing with difficult tenants.
Any Income comes to you in monthly direct deposits with quarterly and annual reports. From a tax perspective, the income and expense are treated just as any other rental property. In the past, most of our clients have experienced that approximately 50-70% or more of this monthly income has been protected from income tax through depreciation allowance, however, every investor’s tax situation differs, and you should consult your tax authority regarding depreciation tax protection.
Who should consider a DST Investment?
- Investors who are seeking to defer their capital gains tax but don’t want to be a landlord anymore
- Investors who are seeking potentially greater cash flow and possible appreciation return potential than they are currently receiving from their real estate investments. Note all investments, including real estate, carry the risk of loss in addition to possibility of gain.
- Investors who are retiring or seeking a life style change and would like to take a more passive role in their real estate
- Investors who wish to consolidate their holdings of multiple smaller properties into fewer large properties for ease of management
- Investors who are seeking to diversify their real estate portfolio into higher quality investment grade real estate, but lack the experience, resources or capital required to manage or acquire larger institutional quality real estate.
- Investors who are in their 45 day identification period and are seeking a viable replacement property option to satisfy their 1031 exchange or need a backup option in case their primary property falls through
- Investors who have excess proceeds in their 1031 exchange and rather than pay the capital gains tax, would like to replace it with more property to receive 100% tax deferral.
How does Archer Help?
We selectively do business only with the best and most long standing firms offering DSTs. Not all DST sponsoring firms meet our requirements. Our Broker Dealer, Due Diligence Officer, outside consulting firms and our Founder, Leslie Pappas, review each property available on your behalf in order to provide you with an educated opinion regarding the value and relative potential of a given property. Of the properties usually available in the marketplace for investment at any one time, we typically approve only half for our clients’ review, and Leslie might actually recommend only 3-5 of those based on her own criteria and comfort level.
Whenever possible for single property offerings, Leslie personally visits each property, conducts a property tour and interviews staff. Right now, we are focusing on working to provide as much diversification as possible to our clients. The feedback we have gotten from Sponsors in the business is that they know of no other firm that physically inspects as many offerings for your investment as Archer does.
The properties available for investment change over time, as we learn of new projects coming to market and others selling out. About 1- 2 weeks before you complete your sale, we will discuss the properties that are available and appropriate for you, given your investment goals. We typically have our clients’ sales proceeds reinvested and potentially earning cash flow again within two weeks of their relinquished property close, well ahead of the 45 day 1031 exchange deadline.
When you choose to invest, we will send you a complete investor package for each investment you choose to investigate. These materials are called “Private Placement Memoranda” (PPMs), and are extremely comprehensive and detailed. You will be invited to webinars and conference calls to learn more about current offerings and Sponsors. Many of our clients join us for a 3 part, one day meeting in Los Angeles, where they meet three Sponsors and learn more about DST investments.
You may wish to travel with us to look over the properties and have a tour hosted by the property manager. Once you are satisfied with one or more investments, we will assist you in completing the necessary reservation documents, and manage the process of closing for you. We will also assist you as needed throughout the life of your investments, and hopefully act as your investment advisor for many years to come.
What are the Potential Benefits of DST Investments?
DST property has become increasingly popular among accredited 1031 exchange investors for its many benefits.
Management Free Ownership: DST property eliminates the day-to-day hassles of property management, which allows free time to do the things that are more important to you. All the details of rent collection, leasing, maintenance, repairs and bookkeeping are handled by national class, professional property managers. The DST real estate providers(Sponsors),who possess the special expertise in managing commercial real estate,perform the functions of overall asset manager and investor relations management.
Matching or Exceeding Your Loan Needs: It is often difficult to find suitable replacement property that makes financial sense and meets the equity and debt requirements for your 1031 exchange. DST property can potentially be matched to meet your debt and equity requirements and your individual investment needs. DST investors potentially enjoy a monthly stream of income while not having to deal with day-to-day management duties any longer.
Minimum Investment Requirement: DSTs allow the individual investor to purchase a portion of larger, institutional quality commercial property with minimum investments usually as low as $100,000.
Higher Quality Property: Typical DST investment properties in the recent past have been valued between $25-125 million, which prices the average individual investor out of the market. The average investor can own a portion of institutional grade commercial property that is occupied by regional, national, and Fortune 500 credited companies. DST properties include apartment communities, grocery and retail anchored shopping centers, office and industrial complexes, and national and regional single tenant properties.
Diversification: DST investments allow individual investors to take all or a portion of their exchange proceeds and invest them into one or more fractional interests in different property types, geographic markets, and with different real estate investment managers. Diversification potentially offers the investor additional portfolio stability and helps spread financial risk.
Higher Income and Growth Potential: DST investors receive their percentage of the net cash flow,depreciation, and appreciation of the properties they purchase. Investors can anticipate potential monthly cash flow income that may be tax sheltered using depreciation. This cash flow is net of all property expenses, including loan, if any. DSTs potentially offer similar tax benefits as conventional investment real estate only without the management burden.In many cases,investors can earn a higher cash flow and appreciation from DST ownership in a higher valued,quality property than they would in owning conventional residential or small commercial investment real estate. Note all investments, including real estate, carry the risk of loss in addition to possibility of gain.
Pre-Arranged Non-Recourse Financing: Loans, if any, are already in place and have been secured through institutional lenders by the real estate providers (Sponsors) at competitive terms. Typical loan terms secured for DST properties are at a low fixed rate, with non-recourse financing that range in term from 7-10 years and are structured in accordance with the property business plan. For 1031 Exchange purposes, each DST investor assumes their percentage of the existing non-recourse loan, meaning the investors do not have any personal liability for the loan.
Readily Available Property: There are a variety of real estate providers that have a steady and readily available inventory of DST properties. This makes DSTs a 1031 option for investors who need to identify replacement property within the 45 day identification period, need a backup property in case their primary property falls through, or have equity left over in their exchange that needs to be placed. This solves the 1031 timing issue.
Defined Exit Strategy: Each DST property typically has a holding period averaging between 5 -7 Years. The actual holding period may be shorter or longer. Investors benefit from some of the most experienced real estate investment companies that are dedicated to deliver results to their investors and have the discipline to recommend selling when investment objectives have been met, thereby potentially increasing your overall return on investment.
Estate and Tax Planning Tool: DST investments can be a viable 1031 exchange option to potentially assist in building wealth as well as to use them as a vehicle for estate planning purposes. By utilizing DST investments as 1031 exchange replacement property, the taxpayer not only is able to defer the capital gains tax on the appreciation and depreciation recapture of their relinquished investment property, but upon their death and according to current tax law, their heirs receive a one-time step up in tax basis to the fair market value of their DST ownership. Therefore, the entire capital gain tax is wiped out. This can be an ideal solution for those who might otherwise opt to sell and pay capital gains tax in the 25-40% range.
Potential Risks in DSTs
No investment is 100 percent risk-free, and DSTs are no different. We’ve witnessed hundreds of clients experience relief, elation, excitement, and a dramatically improved lifestyle after they’ve exchanged their traditional investments for TICs or DSTs, but they do so with full awareness of the attendant risks. We would be doing you a disservice if we didn’t offer you a thoughtful and cogent analysis of the risk factors as well.
There are four main risks associated with DSTs: real estate risk, operator risk, interest rate risk, and liquidity risk. At the end of this section, you will find a list of additional risks involved in DST investing. The Private Placement Memorandum for each investment will detail all risks specific to that offering that should be considered before investing. The most you can lose in a DST is the equity you used to purchase the investment. The loan on your property is non- recourse to you.
Potential Real Estate Risk
While it is regulated and sold as a security, at its core, DSTs are real estate, and the risks of any real estate investment apply. Real estate risk in this context is exactly equivalent to the real estate you presently own, including your own home. The local market can drop, the economy can decline, or a tornado can cut a swath through the town. All of these events will affect the condition, income and expense, and eventual sales price of the property.
While no one has a crystal ball, there are ways to pro-actively mitigate these kinds of risks. Ensuring you have a well-diversified portfolio in markets that are growing is one way to potentially mitigate real estate risk. And don’t underestimate the importance of spending sufficient time at the outset to ensure the property is a good investment. Is it in the middle of tornado alley? Sitting on a fault line? Perched precariously on the coastline where hurricanes strike regularly? If the answer to any of these questions is “yes,” be certain that the property insurance protects against such catastrophes.
Potential Operator Risk
Poor management is another common risk in all real estate. When the property is not managed at an optimal level, return is always affected. Both a Property Manager and an Asset Manager manage DSTs, and each are assigned to different roles.
A quick review of how management duties are divided: the Property Manager’s job is to implement the business plan, increase income and lower expenses. As a result, net operating income is projected to increase over time. The Asset Manager watches the property as if he owned it himself, managing the Property Manager with the same goal of increasing net operating income as much as possible, which increases your potential cash flow and appreciation potential. The Asset Manager also watches the market for sales opportunities and decides when it’s time to sell, reports to investors periodically, and is responsible for keeping the investors abreast of what’s going on with the property and answering any questions.
Operator risk spikes if the Property Manager or Asset Manager isn’t doing a good job, or—worst-case scenario—if there is fraud involved. But again, you do have some control over this potential risk. While you can’t account for the idiosyncrasies of human behavior, you can make a point of only working with highly experienced Sponsors, ones with excellent track records and sterling reputations. Have candid conversations with the people who will be in charge of your investment, and determine for yourself whether they have the character and experience to make sound judgments in your best interest.
We work hard to be certain that you have direct access to the Sponsors before you make an investment. We invite you to learn more about this industry by attending a one day tour of three Sponsors in Southern California where we discuss many relevant topics and specific offerings available. In addition, we host weekly webinars and conference calls with all of the Sponsors we work with to share their experience, performance, strategies and current offering details.
Potential Interest Rate Risk
We do everything humanly possible to control real estate and operator risk through our due diligence. Interest rate risk is a little different. This type of risk varies, depending on the type of DST you select. It’s easiest to demonstrate in the retail space.
One of the attractive elements of triple net retail investments is having long-term leases in place with major tenants. Turnover is projected to be slight, and the corporation guarantees the lease payments. In such a long lease, the lease payments don’t increase very frequently, perhaps every five years, and they only increase a small amount. The terms of your lease dictate yield and cash flow.
If your retail property has a 10 year lease with a yield of 5 percent, and five years from now all other comparable properties on the marketplace have leases in place that allow for a yield of 7 percent or 8 percent, you’ve lost potential income, and more than likely, your property will have a lower value when you sell. The same long-term fixed lease that potentially gives you security and keeps the yield from shifting downward with the market also doesn’t allow the yield to shift upward. It’s entirely possible that you won’t keep up with inflation.
This risk is most often seen in retail and office properties, the ones that lend themselves to longer-term leases. One of the ways to control this risk is to invest in multifamily apartment DSTs or smaller retail units, because rents can be raised or lowered with the market. Of course, if the local marketplace doesn’t allow raising rents, you will remain at the same yield level and length of lease, but you have much more opportunity to make adjustments with shorter-term leases.
Potential Liquidity Risk
DSTs are illiquid investments. When you consider that you likely have held your current investment real estate for more than seven years, an anticipated hold period for DSTs of five to seven years on average doesn’t seem so long. The hold period could be shorter or longer, depending on market conditions. There is currently no secondary market for DST ownership shares. The industry has no “multiple listing service” as in traditional fee simple real estate ownership. It is possible to sell your shares back to the Sponsor or to another investor in your DST, however, it is likely the shares would sell at a discount, not a premium to the purchase price you originally paid. We advise our investors that this is a long-term investment, just like their relinquished property in their 1031 exchange.
Navigating real estate risk, operator risk, interest rate risk and liquidity risk can be tricky, but less so when you’re armed with the appropriate experience, education and training. It’s essential to have an experienced advisor guide you through the process. With a proper understanding of all the variables at play, these risks can be greatly reduced.
Additional Potential Risks…
Suitability – DST investments may not suitable for all investors.
Fees and Expenses – There are fees associated with acquiring DSTs. Making the property available to multiple owners incurs expenses—including but not limited to brokerage fees, financing fees, commissions, legal fees, due diligence fees and marketing fees, for example. Offerings may incorporate ongoing management or other fees and disposition fees. Investors should consider whether in some cases these fees might even outweigh the benefits of tax deferral. For each offering, investors should carefully review the section in the Private Placement Memorandum titled, “Estimated Use of Proceeds” for a detailed understanding of fees.
Conflicts – Registered Investment Advisors have a fiduciary duty to act in the best interests of their clients. However, brokers are not required to abide by such fiduciary standard and do not have to place a client’s interests above their own.
Past Performance – Past performance doesn’t ensure future performance. Property appreciation and projected income are not guaranteed. You may lose equity in this investment.
Tax Status – According to the IRS and Revenue Ruling 2004-86, 1031 exchanges completed through a DST are structured investments. This revenue procedure includes guidelines for taxpayers preparing ruling requests. They are only guidelines, however, and are not intended for audit purposes. Also, laws change, which means that different tax provisions may come into play, creating liabilities and penalties.
The Seven Deadly Sins – DST trustees are prohibited from committing any of the following actions:
- Accept contributions to the DST after the period for soliciting investments is over.
- Renegotiate the terms of existing loans or borrow new funds.
- Reinvest proceeds from real property sale or acquire new real property.
- Invest any cash to profit from market fluctuations.
- Make any unnecessary property modifications unless required by law.
- Renegotiate any master lease or enter into a new lease on the property.
- Fail to distribute cash profits regularly.
1031 Exchange in Brief
History of Syndicated Real Estate (Tenant-in-Common and DST Properties)
How 1031 Exchange Can Build Equity
Depreciation: Residential vs. All Other Property Types
Equity & Capital Gains Are Different
How To Calculate Annual Cash Flow
Definition of Accredited Investors
Long Term Capital Gains Tax Rates
Sponsor Costs in DSTs
IRS Revenue Procedure 2004-86: Defining DSTs for 1031 Exchange Eligibility as Like Kind Property
*This is neither an offer to sell nor a solicitation of an offer to buy any security which can only be made by prospectus. Investing in real estate and 1031 exchange replacement properties may not be suitable for all investors and may involve significant risks. These risks include, but are not limited to, lack of liquidity, loss of principal, limited transferability, conflicts of interest and real estate fluctuations based upon a number of factors, which may include changes in interest rates, laws, operating expenses, insurance costs and tenant turnover. Investors should also understand all fees associated with a particular investment and how those fees could affect the overall performance of the investment. Employees of Archer and LightPath Capital, Inc. do not provide tax or legal advice, as such advice can only be provided by a qualified tax or legal professional, who all investors should consult prior to making any investment decision. Archer is a branch office of LightPath Capital, Inc. Securities offered through LightPath Capital, Inc. Member FINRA/SIPC.
Risks of 1031 Exchange
Section 1031 of the Internal Revenue Code allows an investor to defer the payment of capital gains taxes that may arise from the sale of a business or investment property. By using the proceeds of the sale to purchase “like-kind” real estate, taxes may be deferred, as long as the investor satisfies certain conditions.
If the strict timeline and procedural rules are not followed, the 1031 exchange may be disqualified. Also, there is no guarantee that the IRS will approve each individual exchange, nor that tax law will not be altered in the future, nor that the IRS will not change their application of present law to future cases. Finally, the full scope of tax related risks can only be determined in counsel with the client’s personal tax advisor, taking into account all the facts and circumstances of that client’s tax situation and the specific laws of the state where they reside. The acquisition of interests in a DST may not qualify under Section 1031 of the Internal Revenue Code of 1986, as amended (the “Code”) for tax-deferred exchange treatment.