Exchanging Highly Appreciated Property into Delaware Statutory Trusts (DSTs): A Strategic Solution for Deferring Capital Gains Taxes

Many real estate investors find them­selves in a for­tu­nate but chal­leng­ing posi­tion. They own high­ly appre­ci­at­ed invest­ment prop­er­ty that has gen­er­at­ed sig­nif­i­cant equi­ty and wealth over time.

June 8, 2026

By Al DiNi­co­la, AIF®
Pri­vate Fund Advi­sor
DST 1031 Spe­cial­ist
Fidu­cia­ry Cap­i­tal Man­age­ment, LLC
Secu­ri­ties offered through MSC-BD, LLC, Mem­ber of FINRA/SIPC

Intro­duc­tion

Whether the prop­er­ty is an apart­ment build­ing, shop­ping cen­ter, office build­ing, indus­tri­al facil­i­ty, self-stor­age prop­er­ty, or long-held rental real estate, sell­ing it out­right can trig­ger sub­stan­tial tax lia­bil­i­ties. This may be one of the rea­sons investors hold on to the prop­er­ty long after poten­tial tax ben­e­fits expire.

Fed­er­al cap­i­tal gains tax­es, depre­ci­a­tion recap­ture, net invest­ment income tax­es, and state income tax­es can col­lec­tive­ly con­sume a sig­nif­i­cant por­tion of the sale pro­ceeds. For investors seek­ing to pre­serve wealth, defer tax­es, and remain invest­ed in real estate, a Delaware Statu­to­ry Trust (DST) can be an attrac­tive replace­ment prop­er­ty option with­in a Sec­tion 1031 tax-deferred exchange.

The Tax Chal­lenge of High­ly Appre­ci­at­ed Real Estate

When an investor sells a prop­er­ty that has appre­ci­at­ed sub­stan­tial­ly, sev­er­al lay­ers of tax­a­tion may apply:

• Fed­er­al long-term cap­i­tal gains tax­es
• Depre­ci­a­tion recap­ture tax­es
• Net Invest­ment Income Tax (NIIT)
• State cap­i­tal gains tax­es (where applic­a­ble)
• Poten­tial reduc­tion in after-tax rein­vest­ment cap­i­tal

For exam­ple, an investor sell­ing a prop­er­ty with a $1 mil­lion gain could poten­tial­ly owe hun­dreds of thou­sands of dol­lars in tax­es if the sale is not struc­tured through a 1031 exchange. Those tax­es rep­re­sent cap­i­tal that can no longer be invest­ed to gen­er­ate future income and appre­ci­a­tion.

A prop­er­ly exe­cut­ed 1031 exchange allows investors to defer these tax­es and rein­vest the full amount of equi­ty into replace­ment real estate.

Why Delaware Statu­to­ry Trusts Have Become Pop­u­lar Replace­ment Prop­er­ties

His­tor­i­cal­ly, investors com­plet­ing a 1031 exchange had to iden­ti­fy and acquire anoth­er prop­er­ty with­in strict IRS dead­lines. This often meant locat­ing, nego­ti­at­ing, financ­ing, and clos­ing on a replace­ment prop­er­ty with­in just 45 days of sell­ing the relin­quished prop­er­ty.

DSTs offer a dif­fer­ent approach.

A Delaware Statu­to­ry Trust allows mul­ti­ple investors to acquire ben­e­fi­cial inter­ests in insti­tu­tion­al-qual­i­ty real estate while main­tain­ing eli­gi­bil­i­ty for 1031 exchange treat­ment under IRS guide­lines.

Ben­e­fits of DSTs for Own­ers of High­ly Appre­ci­at­ed Prop­er­ty

1. Access to Insti­tu­tion­al-Qual­i­ty Real Estate

Many DST offer­ings own prop­er­ties that would oth­er­wise be inac­ces­si­ble to indi­vid­ual investors. We have reviewed a vari­ety of prop­er­ties or asset class­es in a vari­ety of geo­graph­ic loca­tion. Here is a sam­ple list:

• Class A mul­ti­fam­i­ly com­mu­ni­ties
• Med­ical office build­ings
• Senior hous­ing facil­i­ties
• Dis­tri­b­u­tion and logis­tics cen­ters
• Self-stor­age facil­i­ties
• Gro­cery-anchored retail cen­ters
• Stu­dent hous­ing prop­er­ties
• Indus­tri­al and man­u­fac­tur­ing facil­i­ties
• Life sci­ence facil­i­ties
• Land

These assets are often pro­fes­sion­al­ly man­aged by expe­ri­enced real estate oper­a­tors.

2. Sim­pli­fied 1031 Exchange Process

Find­ing suit­able replace­ment prop­er­ty with­in the 45-day iden­ti­fi­ca­tion peri­od can be stress­ful and chal­leng­ing.

DST spon­sors typ­i­cal­ly have prop­er­ties already acquired and avail­able for invest­ment. Investors can review offer­ings and iden­ti­fy replace­ment prop­er­ties more effi­cient­ly than sourc­ing an entire replace­ment prop­er­ty inde­pen­dent­ly.

3. Frac­tion­al Own­er­ship Flex­i­bil­i­ty

One of the most attrac­tive fea­tures of DSTs is the abil­i­ty to divide exchange pro­ceeds among mul­ti­ple invest­ments.

For exam­ple, an investor with $3 mil­lion in exchange pro­ceeds may allo­cate:

• $1 mil­lion to mul­ti­fam­i­ly hous­ing
• $750,000 to indus­tri­al real estate
• $750,000 to self-stor­age
• $500,000 to health­care real estate

This diver­si­fi­ca­tion may help reduce con­cen­tra­tion risk com­pared to own­ing a sin­gle replace­ment prop­er­ty.

4. Relief from Active Man­age­ment Respon­si­bil­i­ties

Many own­ers of appre­ci­at­ed prop­er­ties have spent decades han­dling:

• Ten­ant issues
• Prop­er­ty main­te­nance
• Leas­ing activ­i­ties
• Ven­dor man­age­ment
• Cap­i­tal improve­ments
• Prop­er­ty tax­es and insur­ance

DST invest­ments are typ­i­cal­ly man­aged by pro­fes­sion­al asset man­agers, allow­ing investors to main­tain real estate expo­sure with­out day-to-day oper­a­tional respon­si­bil­i­ties.

This can be par­tic­u­lar­ly attrac­tive for retirees seek­ing pas­sive income and estate-plan­ning advan­tages.

5. Poten­tial Income Gen­er­a­tion

Many DSTs are struc­tured to pro­vide reg­u­lar pro­ject­ed cash flow dis­tri­b­u­tions gen­er­at­ed by rental income from the under­ly­ing prop­er­ty.

While dis­tri­b­u­tions are not guar­an­teed and may fluc­tu­ate, investors often seek DSTs for their poten­tial to pro­vide pas­sive income while main­tain­ing tax defer­ral ben­e­fits.

Key Steps Before Exchang­ing into a DST

Step 1: Engage a Qual­i­fied Inter­me­di­ary Ear­ly

The IRS requires that §1031 exchange pro­ceeds be held by a Qual­i­fied Inter­me­di­ary (QI).

The QI facil­i­tates the exchange process and ensures com­pli­ance with IRS reg­u­la­tions. Investors should engage a QI before clos­ing the sale of the relin­quished prop­er­ty.

Once pro­ceeds are received direct­ly by the sell­er, the oppor­tu­ni­ty for tax defer­ral is gen­er­al­ly lost.

Step 2: Under­stand Your Exchange Require­ments

Before eval­u­at­ing DST offer­ings, investors should deter­mine:

• Total equi­ty avail­able for rein­vest­ment
• Debt replace­ment require­ments
• Desired cash flow objec­tives
• Risk tol­er­ance
• Invest­ment time hori­zon
• Estate plan­ning goals

Under­stand­ing these fac­tors helps nar­row the uni­verse of suit­able DST oppor­tu­ni­ties.

Step 3: Con­duct Thor­ough Due Dili­gence

Not all DSTs are cre­at­ed equal.

Investors should eval­u­ate:

• Spon­sor expe­ri­ence and track record
• Prop­er­ty qual­i­ty and loca­tion
• Ten­ant cred­it­wor­thi­ness
• Lease terms
• Debt struc­ture
• Occu­pan­cy his­to­ry
• Exit strat­e­gy
• Dis­tri­b­u­tion cov­er­age ratios
• Asset man­age­ment capa­bil­i­ties

Past per­for­mance does not guar­an­tee future results, but spon­sor expe­ri­ence can be an impor­tant con­sid­er­a­tion. We par­tic­i­pate in sev­er­al third par­ty due dili­gence meet­ings in per­son each year.

Step 4: Mod­el Tax Defer­ral Ben­e­fits

Investors should work with their tax advi­sors to com­pare:

• After-tax pro­ceeds from a tax­able sale
• Cap­i­tal avail­able through a 1031 exchange
• Pro­ject­ed cash flow
• Long-term wealth accu­mu­la­tion sce­nar­ios

In many cas­es, the abil­i­ty to keep cap­i­tal invest­ed rather than pay­ing tax­es imme­di­ate­ly can sig­nif­i­cant­ly enhance port­fo­lio growth poten­tial.

Step 5: Con­sid­er Diver­si­fi­ca­tion

Many investors choose to spread exchange pro­ceeds across mul­ti­ple DST offer­ings rather than con­cen­trat­ing all cap­i­tal in a sin­gle prop­er­ty.

Diver­si­fi­ca­tion can be achieved across:

• Prop­er­ty types
• Geo­graph­ic regions
• Ten­ant indus­tries
• Lease dura­tions
• Spon­sor groups

This approach may help reduce expo­sure to any sin­gle asset or mar­ket sec­tor.

Estate Plan­ning Ben­e­fits

For many investors, a DST is not only a tax-defer­ral strat­e­gy but also an estate-plan­ning tool.

If DST inter­ests are held until death, heirs may receive a step-up in basis under cur­rent tax law. This can poten­tial­ly elim­i­nate deferred cap­i­tal gains tax­es that accu­mu­lat­ed dur­ing the investor’s life­time.

Investors should con­sult qual­i­fied tax and estate-plan­ning pro­fes­sion­als regard­ing their spe­cif­ic cir­cum­stances and the poten­tial impact of future tax law changes.

Poten­tial Risks to Con­sid­er

While DSTs offer many advan­tages, investors should under­stand the asso­ci­at­ed risks:

• Illiq­uid­i­ty
• Real estate mar­ket risk
• Inter­est rate risk
• Ten­ant and occu­pan­cy risk
• Eco­nom­ic down­turns
• Financ­ing risk
• Spon­sor exe­cu­tion risk
• Lim­it­ed investor con­trol

DSTs are gen­er­al­ly intend­ed as long-term invest­ments and may not be suit­able for investors requir­ing imme­di­ate liq­uid­i­ty.

Is a DST Right for Your Sit­u­a­tion?

A DST may be par­tic­u­lar­ly appro­pri­ate for investors who:

• Own high­ly appre­ci­at­ed real estate
• Want to defer cap­i­tal gains tax­es
• Desire pas­sive real estate own­er­ship
• Seek diver­si­fi­ca­tion across mul­ti­ple assets
• Are tired of active prop­er­ty man­age­ment
• Need replace­ment prop­er­ty options for a 1031 exchange
• Want insti­tu­tion­al-qual­i­ty real estate expo­sure

Every investor’s objec­tives, tax sit­u­a­tion, and risk tol­er­ance are unique. Pro­fes­sion­al guid­ance from tax advi­sors, attor­neys, finan­cial pro­fes­sion­als, and Qual­i­fied Inter­me­di­aries can help deter­mine whether a DST strat­e­gy aligns with spe­cif­ic invest­ment goals.

Con­clu­sion

For own­ers of high­ly appre­ci­at­ed invest­ment prop­er­ties, Delaware Statu­to­ry Trusts can pro­vide an effec­tive solu­tion for pre­serv­ing cap­i­tal, defer­ring tax­es, and main­tain­ing expo­sure to pro­fes­sion­al­ly man­aged real estate.

By com­bin­ing the tax advan­tages of a Sec­tion 1031 exchange with the diver­si­fi­ca­tion, con­ve­nience, and pas­sive own­er­ship ben­e­fits of insti­tu­tion­al real estate, DSTs have become an increas­ing­ly pop­u­lar option among investors seek­ing to tran­si­tion from active prop­er­ty own­er­ship to a more stream­lined invest­ment approach.

When prop­er­ly eval­u­at­ed and incor­po­rat­ed into a com­pre­hen­sive invest­ment strat­e­gy, DSTs can help investors unlock the val­ue of appre­ci­at­ed real estate while poten­tial­ly cre­at­ing a more diver­si­fied and man­age­able port­fo­lio for the future.

DSTs are not for all investors.  The acqui­si­tion of a DST is for accred­it­ed investors only.  Con­tact your invest­ment advis­er for addi­tion­al details on how a DST may be a solu­tion to your §1031 Exchange and suit­ed for your invest­ment future. 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@Fiduciarycm.com.

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