You've reached a critical juncture in your decision to invest in commercial real estate. Whether it's diversification, long-term growth, or stable income you seek, you're likely considering two primary paths: direct ownership or a passive ownership investment in a Delaware Statutory Trust (DST). Both options offer unique opportunities and come with their own set of benefits and limitations. This blog post will guide you through an unbiased comparison, helping you make an informed choice that aligns with your financial goals and risk tolerance.
Direct Ownership
Direct commercial real estate (CRE) ownership is the process of acquiring and managing physical CRE properties, such as retail, office, and multifamily assets, with the goal of generating consistent income and the potential for capital appreciation.
Potential Benefits:
- Control and Decision-Making: When you own a commercial property directly, you have complete control over the management, operation, and decision-making. You get to choose the tenants, set the lease terms, and decide on property improvements.
- Tax Advantages: Direct ownership can offer potential tax benefits, including depreciation deductions, interest deductions, and potential capital gains tax advantages. You’ll obviously want to consult a tax professional to maximize these benefits.
- Appreciation Potential: Historically, direct ownership of quality properties in good locations has proven to offer strong potential for property appreciation, which can help you grow your wealth over time.
Limitations:
- Active Involvement: Owning a commercial property directly demands a substantial amount of your time and effort. You'll be responsible for property management, dealing with tenant issues, and handling any unexpected maintenance or repairs.
- Capital Requirement: Investing in commercial real estate directly requires a substantial initial capital investment, often making it this approach to commercial property ownership inaccessible to some investors. This may be especially true if your investment requires debt financing which can be very costly and difficult to obtain in our current high interest environment.
- Risk Concentration: Your entire investment may be tied up in a single property. If it underperforms or faces issues, it could have a substantial negative impact on your portfolio.
Delaware Statutory Trust (DST)
A DST is a separate legal entity created under the laws of Delaware in 2004 to hold title to one or more income-producing properties. A DST offering can be any type of investment property, including apartments, office buildings, retail, senior housing, etc.
Benefits:
- Passive Investment: DSTs are a hands-off investment. You can enjoy the benefits of owning a share of a commercial property without the daily responsibilities of property management.
- Diversification: Due to relatively low minimum investment requirements (ranging to $50,000.00) DSTs offer the opportunity to diversify your real estate portfolio. By investing in multiple properties within a DST, you spread risk across different markets and property types.
- Tax Efficiency: DSTs can provide tax advantages similar to direct ownership, including potential depreciation deductions and tax deferral when using a 1031 exchange.
Limitations:
- Lack of Control: When you invest in a DST, you relinquish control over property management and decision-making to a third-party trustee. While this can be advantageous for passive investors, it means you won't have a say in the day-to-day operations.
- Fees and Expenses: DSTs come with fees and expenses that can impact income distributions and returns. It's important to understand the fee structure and evaluate whether the potential returns justify the costs.
- Limited Exit Options: Exiting a DST investment can be challenging, and you may need to wait until the trust liquidates on its predetermined timeline to access your funds or sell your ownership.
Important Considerations
Whether you pursue a direct ownership opportunity or utilize a DST for your commercial property investment, there are several essential considerations you should factor into your decision.
- Management Responsibilities: Your willingness and ability to take on direct management plays a pivotal role in your choice. If you prefer a more hands-off approach, DST investments might be your best choice. If you're comfortable with more active involvement, direct ownership could be the way to go.
- Investment Horizon: Your investment time frame matters. DSTs typically offer a more extended investment horizon, while direct ownership allows for more flexibility in terms of buying and selling properties.
- Diversification: Consider how diversified you want your real estate portfolio to be. If diversification is a top priority, DST investments are designed to help you achieve that.
- Capital Requirements: Evaluate your financial situation and the amount of capital you're willing to commit. Direct ownership often requires a more substantial upfront investment, while DSTs can be more accessible with a lower initial capital requirement. Many DSTs are available with debt already in place thereby sparing investors from the challenges of obtaining loans.
- Professional Guidance: Seek advice from an investment professional who is experienced in both types of commercial real estate transactions. Your advisor can help you understand how market conditions, property types, and geographic locations can all influence how your investment might perform.
Making the Right Choice:
Ultimately, the choice between direct ownership and a DST investment depends on your specific financial goals, ability to assume management responsibilities, and risk tolerance. If you desire complete control and are willing to actively manage your investments, direct ownership may be the better option. On the other hand, if you seek a passive, diversified, and potentially lower capital commitment option, DST investments could align with your objectives.
Remember that both paths have their pros and cons, so a combination of both in your real estate portfolio may also be a viable strategy. Many investors choose to have a diversified portfolio that includes both direct ownership and DST investments to balance risk and returns.
To make the right choice, please contact us to thoroughly assess your individual financial situation, conduct due diligence on potential investments, and seek advice from professionals who specialize in commercial real estate and tax planning. By doing so, you'll be well on your way to a successful and rewarding commercial real estate investment journey.
To learn more about the DST options, please contact our team.