Formation and Structure of Delaware Statutory Trusts: Understanding how DSTs are established and their organizational structure.

The state of Delaware is the gov­ern­men­tal juris­dic­tion for the for­ma­tion of the Delaware Statu­to­ry Trust or DST. Many will agree that state of Delaware is a friend­ly state to set up a busi­ness enti­ty.

Feb­ru­ary 23, 2024
By Al DiNi­co­la, AIF®, CEPA™
DST 1031 Spe­cial­ist
NAMCOA® — Naples Asset Man­age­ment Com­pa­ny®, LLC
Secu­ri­ties offered through MSC-BD, LLC Mem­ber of FINRA/SIPC

The DST is a legal enti­ty that is often used in struc­tur­ing a real estate invest­ment.  Since 2004 DSTs have been approved for use by the IRS under rev­enue rul­ing to uti­lized as a replace­ment prop­er­ty for 1031 exchanges. AS with oth­er 1031 exchanges uti­liz­ing a DST enables the investors to defer cap­i­tal gains tax­es when sell­ing and rein­vest­ing in like-kind prop­er­ties. Here is a brief sum­ma­ry of the doc­u­men­ta­tion and struc­ture of the DST.

For­ma­tion of Delaware Statu­to­ry Trusts & For­ma­tion Doc­u­ments.
There is a need for a Gov­er­nance Agree­ment

There may be sim­i­lar­i­ties between a trust agree­ment or oper­at­ing agree­ment and the gov­ern­ing DST agree­ment.  LLC may use an oper­at­ing agree­ment. The DST agree­ment pro­vides the frame­work for the reg­u­la­tions and rules of the oper­a­tion of the DST.

Need for a Trust Cer­ti­fi­ca­tion
A Trust cer­ti­fi­ca­tion (cer­ti­fi­ca­tion of Trust) is required to be filed with the state of Delaware. Sim­i­lar to oth­er state fil­ing require­ments the cer­ti­fi­ca­tion would be filed with the Divi­sion of Cor­po­ra­tion in Delaware.  Gen­er­al infor­ma­tion regard­ing the pur­pose, respon­si­ble par­ties, names address and con­tact infor­ma­tion for the trustees.

Selec­tion of Trustee
There needs to be at least one trustee for the DST. This would be the per­son respon­si­ble for the over­all man­age­ment of the trust. There may not be one spe­cif­ic per­son and the trustee many be anoth­er legal enti­ty, cor­po­ra­tion, or indi­vid­ual. One item to note is the Trustee is rec­og­nized as a fidu­cia­ry action on behalf of the investors called ben­e­fi­cial own­ers.

Acqui­si­tion of the Prop­er­ty
Real estate invest­ing is the rea­son DSTs would be used. The trustees act­ing on behalf of the trust would be respon­si­ble for the acqui­si­tion of the real estate. There are many func­tions need­ed to research and locate the prop­er­ty to be acquired. Not all prop­er­ties are suit­able for the trust to acquire. Indi­vid­ual investors (typ­i­cal­ly through advi­sors) can invest or pur­chase ben­e­fi­cial inter­est in the trust.   You may think of this as co-own­er­ship of the trust/real estate with oth­er investors.

Delaware Statu­to­ry Trusts Orga­ni­za­tion­al Struc­ture
The Investors are Ben­e­fi­cial Own­ers: Ben­e­fi­cial own­ers in a DST are the indi­vid­ual investors.  The IRS rec­og­nized the ben­e­fi­cial inter­est as accept­able in the §1031 exchange.  The amount of inter­est would depend on the amount invest­ed, that would be a per­cent­age of own­er­ship in the under­ly­ing real estate.

Respon­si­bil­i­ties of the Trustee: The ben­e­fi­cial own­ers need some­one to over­see the man­age­ment and admin­is­ter the assets.  This is the respon­si­bil­i­ty of the Trustees.  Ben­e­fi­cial own­ers (who enjoy being pas­sive own­ers) rely on the trustee to make the man­age­ment deci­sion, over­see­ing dis­tri­b­u­tion, han­dle prop­er­ty man­age­ment and all the oth­er respon­si­bil­i­ties of man­ag­ing the real estate. This includes the deci­sion at the most oppor­tune time to offer the prop­er­ty for sale.   Pas­sive own­er­ship enables investors to enjoy the ben­e­fits of real estate with­out being active.

Ben­e­fits of §1031 Exchange
Investors have long rec­og­nized the ben­e­fits of a 1031 exchange. The DST enables the investor to defer cap­i­tal gains. DST exchange must fol­low all the rules and tim­ing required to have a valid exchange. There is a recur­ring ref­er­ence to Like kind prop­er­ty. Tech­ni­cal­ly like kind may be a broad clas­si­fi­ca­tion. For exam­ple, you may exchange farm­land for an apart­ment build­ing.

Lim­it­ed Lia­bil­i­ty
Investors in real estate (and oth­er invest­ments) often wor­ry about lia­bil­i­ty.  This may be one of the risk fac­tors investors accept when invest­ing in real estate. The DST struc­ture affords the ben­e­fi­cial own­ers with lim­it­ed lia­bil­i­ty. Typ­i­cal­ly, the only lia­bil­i­ty is direct­ly con­nect­ed to the amount of their invest­ment. There is no per­son­al labil­i­ty relat­ed to the DST.  This includes any debt (by design) placed on the prop­er­ty.  Any debt is con­sid­ered non-recourse debt.  Many investors exe­cut­ing a 1031 exchange need to replace debt as part of their require­ments for the valid exchange.

Sum­ma­ry
The more an investor knows about any invest­ment the bet­ter. The struc­ture of the DST being uti­lized for over 20 years may still be a new option. If the investor under­stands the struc­ture and func­tion of the DST, they may be able to eval­u­ate its use in real estate. As always con­sult with a CPA on your spe­cif­ic tax needs for a DST.  Also con­sult­ing a finan­cial advi­sor who deals with DST on a dai­ly basis is also advis­able. There are com­pli­ance reg­u­la­tions and due dili­gence process­es to review.

DSTs (Delaware Statu­to­ry Trusts) are for accred­it­ed investors only.  Con­tact your invest­ment advis­er for addi­tion­al details on how a DST may be a solu­tion to your 1031 Exchange and com­pli­ment your finan­cial objec­tives. For more infor­ma­tion on how to prop­er­ly set up an IRC 1031Tax Deferred Exchange or if you are an accred­it­ed investor and would like addi­tion­al infor­ma­tion on a DST con­tact Al DiNi­co­la at 239–691-8098 or email adinicola@namcoa.com.

This is not an offer to pur­chase or solic­i­ta­tion to pur­chase any secu­ri­ty, as such be made only through an offer­ing mem­o­ran­dum or prospec­tus.  Invest­ing in secu­ri­ties, real estate, or any invest­ment, in any form, involves risk, includ­ing but not lim­it­ed to the poten­tial of los­ing some or all of your invest­ment dol­lars when you invest in secu­ri­ties. You should review any planned finan­cial trans­ac­tions that may have tax or legal impli­ca­tions with your per­son­al tax or legal advi­sor.   NAMCOA, LLC is a Reg­is­tered Invest­ment Advi­sor, reg­u­lat­ed by SEC (Secu­ri­ties and Exchange Com­mis­sion). Our cor­po­rate office is locat­ed at 999 Van­der­bilt Beach Road, Suite 200, Naples Flori­da 34108. Secu­ri­ties Offered through MSC-BD, LLC, Mem­ber of FINRA/SIPC. 8215 SW Tualatin ‑Sher­wood Rd, Suite 200 Tualatin, OR 97062. MSC-BD, LLC and NAMCOA are inde­pen­dent­ly owned and are not affil­i­at­ed.