Seeking insight on Delaware Statutory Trusts, RE exit strategies, passive investment

[Annette Homewood]

Dear Bigger Pockets investors,

I'm no longer wanting to be a landlord & am looking at exit strategies. My profit margins are struggling & the potential liability worries me. My rentals are out-of-state, have management, & are not in the best areas. An advisor told me about Delaware Statutory Trusts. I'm not an accredited investor but he said there are open DST's in which one doesn't have to be a millionaire, & so far he's the only advisor I've come across that has open DST's. Everyone else I've looked up deals with wealthy people only. I believe the minimum investment is still at $100k. Last I spoke with him, he had open DST's offering between 3.75-5.15% in distributions. I'm sure he'll get ongoing commissions - which are "baked in" already. As I mentioned, I don't know of any open DST advisors who will only take a flat fee at my level. But I would be happy if I were getting at least 4%, probably staying in the safer multi-family realm (as opposed to malls, hotels, offices, etc.) I would appreciate any insight anyone has to offer, as I'm trying to figure out my next move. My goal is to have passive income.

What I know about DST's:

They’re illiquid for maybe 5-10 years.

I will defer/1031 my taxes upon sale of my properties.

I will receive equity when the DST sells the properties, which I can then reinvest & continue deferring taxes, should I choose.

I will be able to factor depreciation recapture in my annual taxes.

DST is likely to be higher-class properties.

I will remove my liability & control from being a landlord.

What I don't know:

Will there be surprise fees?

Will there be extra fees cut into my equity upon sale?

Is there anything else I'm not thinking of that I should look out for?

I know everything carries some risk, but is this an overall, generally speaking, good investment? Or is there another avenue I may not know about?

I would appreciate any insights. Thank you in advance. This is kind of an important decision for me.

Annette

[Sean Ross]

@Annette Homewood,

I sympathize completely with your predicament. It really sounds like you've got stressful assets and aren't clear about which step to take next without making a mistake. 

You've also clearly done some homework already on DSTs, which is more than a lot of investors do (unfortunately). 

Let me take a whack at some of your "don't know" issues:

Will there by surprise fees? Possibly. Not all DST sponsors or brokers are comfortable breaking down their fees in clear, simple, direct language. DST fees include (1) typical escrow/title/appraisal/legal fees (as with any real estate transaction), (2) capitalized reserve fees that are typically paid upfront since DSTs can't use capital calls or borrow new money, so there are fees that help pay for the DSTs to raise all of the money it needs at the beginning, (3) selling commissions especially if you're using a DST broker, and (4) offering expenses for purposes of running the DST marketing and legal costs. Ask any DST provider/broker to list out these fees and how they impact your return.

Extra fees to cut into your equity? Over the life of a DST, sponsors will take asset management fees and they'll also often take out disposition fees upon sale that might not be subordinate to your investment...which will have the practical impact of cutting into your return on equity.  However, unlike a normal property that you manage, all of the costs and fees are "baked in"...you'll never come out of pocket to pay anything with a DST after you've invested.  

What else you should look out for? Yes, but I think the most important is to broaden your potential search a little. DSTs are useful in some circumstances and are extremely well advertised, but they aren't the only passive investment game in town for you if you're looking to 1031 exchange out of your headache properties. There are other NNN options, although there aren't any options that are going to come with mutual fund-level low fees. This is real estate after all.

Some alternatives to DSTs:

- Any property you buy could hypothetically become a triple net lease property. 

- A NNN tenants-in-common (TIC) property, which is in many was the structural predecessor to DSTs. There are meaningful differences, but they're still passive and often a good route if you're boxed out of accredited investor-only assets.

 - Oil/gas or other mineral rights, which will provide a passive income stream and are 1031 eligible

- There are other syndications out there that aren't structured as a DST, but a lot of them are going to have accredited investor requirements.

Let me know if you have other questions here. I think right now you're on the right path in terms of trying to evaluate the landscape for potential exits.  Be alert -- and I'm sure you already are -- that everyone tied to a company (myself included) is going to be incentivized to give you advice that leads to their service or product.  Ask around. 

[Annette Homewood]

Hi, @Sean Ross. Thank you so much for your reply. I appreciate your insight.

I randomly called a 1031 exchange off Google & the man I spoke with also mentioned NNN/TIC's. I guess I could do some more research on these. But what it sounded like to me on first impression is that I would still, ultimately, be the landlord. And even though the leasing business would have liability insurance, I get the impression that that would be one barrier, but something catastrophic could still go wrong & I could be held liable. Furthermore, isn't there still the possibility of broken leases or other possible landlord headaches? Bc I would still be the owner, right? I guess I don't understand the difference between being a landlord & having a manager run a rental, and this.

Annette

[Sean Ross]

Quote from @Annette Homewood:

Hi, @Sean Ross. Thank you so much for your reply. I appreciate your insight.

I randomly called a 1031 exchange off Google & the man I spoke with also mentioned NNN/TIC's. I guess I could do some more research on these. But what it sounded like to me on first impression is that I would still, ultimately, be the landlord. And even though the leasing business would have liability insurance, I get the impression that that would be one barrier, but something catastrophic could still go wrong & I could be held liable. Furthermore, isn't there still the possibility of broken leases or other possible landlord headaches? Bc I would still be the owner, right? I guess I don't understand the difference between being a landlord & having a manager run a rental, and this.

Annette

 @Annette Homewood, if you're looking at an NNN/TIC, you're going to be an owner of some % of the fee interest in the property, which means that you're also a borrower and that you have a vote on all major investment decisions for the property. Almost all large industrial or commercial TIC structures involve a management company run by or hired by the sponsor, so you're not making day-to-day decisions.

The DST is different in that it's a separate fee owner of 100% of the property and is the sole borrower. You're making no decisions at all. Some investors like this, others don't.

If you are really concerned about liability and management exposure, DSTs exist in a bit of a separate world technically (though not always practically). 

What variables do you feel like are most important to you?  Cash flow? Limiting liability? Diversification? Limiting fees? Investment minimums?

[Dave Foster]

@Annette Homewood, I'd steer clear of any registered TIC product right now given your desire to easing your burden. TICs registered under Rev Proc 2002-22 have some caveats including unanimity of consent which can really bite you hard. You're in a much smaller pool of investors. So your control is higher. But that's the problem. When a TIC goes off the rails it tends to really go off the rails. And if there is debt, you're generally on the loan as a tenant in common.

With the DST, if there is debt it is non-recourse to you. You are not personally liable. The Trust provides all management. And it may not take on more debt just because one or two investors try to push the issue. So these also tend to be very conservative in nature.

Both have their place. But for you wanting rest and a break from the landlord life of drama, a DST allowing you to come in as a "sophisticated investor" might be the best answer.

[Annette Homewood]

@Dave Foster

@Dave Foster

Annette