Many times, the best way to help investment property owners understand the benefits of using the Delaware Statutory Trust structure for their 1031 exchange, is to share stories about how we have helped other investors.
Recently, I was referred to a new corporate client who had expressed an interest in selling a business-owned property. The property was owned jointly by partners in a law firm located in the San Francisco Bay Area specializing in representing technology companies. The partners had owned their building for over ten years and had been considering a sale for some time to take advantage of a robust seller’s market.
Motivated to Sell
Declining office rents in Silicon Valley because of work from home mandates and the flight of several tech giants to other states, only accelerated their desire to sell. All partners agreed they could find more attractive office space and bargain rental rates, while freeing up locked-up appreciated equity in their own building and using the proceeds to generate additional sources of income.
There was a problem, however. While the partners had received a very compelling multi-million dollar offer for their office building, they were facing a huge capital gains and depreciation recapture tax hit and wanted to reduce their potential tax liabilities.
We introduced the concept of using a 1031 exchange (which they had heard of) and the Delaware Statutory Trust (DST) structure (which they had not) as an approach to selling their property and reinvesting in other managed properties, while deferring those taxes. They were intrigued.
A Crash Course in DSTs
We explained how a DST investment could also allow them to each own fractional interests in new “replacement” properties, enabling them to use the distributed income as they each
Another attractive benefit of the DST to the partners was the fact they could evaluate different property types in different areas of the country that could prove to be more resilient to the economic stresses northern California investment properties were experiencing.
We also emphasized that DST's, like all real estate, have risks including interest rate risk, tenant risks, market risk, lack of liquidity, lack of decision-making authority, and investors should always be sure to consider all the risks before investing.
To our delight, the partners eagerly explored the DST options we suggested they consider,
reading the Private Placement Memorandums (PPMs) and Subscription Agreements and risk disclosures with the ferocity you would only expect from attorneys!
Far from Home but No Worries
Ultimately, we collectively settled on a portfolio of DSTs from well-known DST sponsors that
included multi-family apartment properties in economically strong areas of the southern U.S. –Raleigh, NC., Atlanta, GA, and Plano, TX.
And since the DST structure provides in place management of the assets, the partners did not need to worry about maintaining the properties and dealing with renters, since a professional property management team was already in place and handling those responsibilities.
Estate Planning Bonus
As we helped the firm complete their transaction within the required timelines of the 1031
exchange, I highlighted the fact when their DSTs were sold (often in a 7-10-year time frame),
each partner could separately choose to utilize 1031 exchange process to invest in other
qualifying properties including DSTs in order to defer taxes – or liquidate their gains into cash subject to paying taxes.
For estate planning purposes, it was also attractive to them that current IRS code allows that upon the passing of the DST owner, heirs can inherit their own fractional shares on a stepped-up basis, meaning that no capital gains or depreciation recapture taxes are due.
Needless to say, these attorneys were very satisfied clients, and I suspect they may pass their new-found knowledge of 1031 exchanges an DSTs along to other professional colleagues!