Taxation on Real Estate Conference - Virtual-4 - Hannon - Tax Deferral Using Delaware Statutory Trusts

4 - Hannon - Tax Deferral Using Delaware Statutory Trusts

Pdf Summary

This conference presentation explains how Delaware Statutory Trusts (DSTs) are used in real estate tax planning, especially for 1031 exchanges. The key legal foundation is Revenue Ruling 2004-86, which allows beneficial interests in a properly structured DST to qualify as replacement property. A DST must remain passive and avoid active business operations to be treated as an “investment trust” rather than a business entity.<br /><br />The presentation highlights the main restrictions on DSTs, often called the “Seven Deadly Sins,” including limits on new capital, lease changes, debt modifications, reinvestment of sale proceeds, and active management. Because of these constraints, DST deals often use master leases, upfront reserves, shorter debt terms, and a “springing LLC” provision that can convert the trust into an LLC if necessary to save the property.<br /><br />It also covers financing issues, including bridge loans, bridge equity, and lender protections. Special attention is given to how master leases must be structured so they are not recharacterized as partnerships, financing arrangements, or management agreements.<br /><br />The presentation describes a DST/721 structure used by real estate funds and REITs to attract 1031 investors. Investors first acquire DST interests, then later contribute those interests to a fund or UPREIT under Section 721, often after a holding period. Tax risks include disguised sale rules, pre-contribution gain, liability shifts under Section 752, and phantom income.<br /><br />Finally, the talk explains how DSTs can help in “drop and swap” situations involving multi-member LLCs, where a DST conversion can preserve tax efficiency and avoid complications with title transfers, lender consent, and rent redirection.

Keywords

Delaware Statutory Trusts

DST

1031 exchange

Revenue Ruling 2004-86

investment trust

Seven Deadly Sins

master lease

springing LLC

DST 721 structure

drop and swap