1031 Exchanges and DSTs
A 1031 Exchange allows a real estate investor to reinvest the proceeds on the sale of an investment property for a like-kind property to defer capital gains tax. It is a legal tax deferral strategy provided by the IRS and is not a loophole.
The IRS recognizes a Delaware Statutory Trust (DST) as like-kind property, which makes it an eligible replacement property, giving you access to institutional properties. A DST is a legal entity structured as a trust which allows investors to own fractional interests of real estate properties, much like owning shares of a company. In 2004, the IRS released Revenue Rule 2004-86 which qualified DSTs as like-kind property, making it eligible as a replacement property in a 1031 exchange.
Similar to Tenants-In-Common (TIC), DSTs allow investors to own fractional interests in the trust. A DST typically owns one or more real properties, and an investor’s fractional ownership will be relative to the amount of equity placed. Unlike TICs, investors do not hold titles to the underlying asset, making them truly passive investors of the real estate. This leaves all management responsibilities to the manager of the trust.
When a DST investment goes full cycle, investors have the option to continue to defer their capital gains tax by (1) completing a 721 Exchange, also known as an upREIT, by exchanging their DST interests into operating partnership units of the REIT, (2) completing another 1031 Exchange, or (3) cashing out (taxable event).
DST by the numbers
According to Mountain Dell Consulting, DST sponsors raised almost $5.66B of investor equity in 2024. This represents roughly a 12% increase of equity raised from the previous year of 2023. Over the last 8 years, DST equity has increased by over 191% during that time period. We are now seeing a steady incline of equity raised as investors continue to move from active to passive management.