What makes real estate such an exhilarating and distinctive investment opportunity is the uniqueness and individuality of each property. Every concrete slab, window, roof, brick, carpet strip, and tile possesses its own unique characteristics that appeal to discerning buyers who recognize the potential within a building. Whether viewed as a long-term “buy and hold” asset, a means to enhance value and drive appreciation, or simply as a potential source of steady cash flow, each investor harbors their own perspective on what renders a property primed for investment.
Above all, what truly excites us is guiding our clients towards a great replacement property in a 1031 exchange. We love collaborating with property owners who sense they’ve maximized their current investment and aspire to explore new opportunities while assuming a more passive role. We’re even more stoked when we successfully identify the exact type of property they’re seeking. The type that they’re drawn to and believe in.
In this case study, we’ll dive into how we facilitated our client’s $3.5M 1031 exchange by curating a DST portfolio comprised of four properties within their preferred asset class. These properties were strategically situated in high-growth markets, offering substantial upside potential, and fell within the targeted income range our client desired.
Where it Started
Our first discussion was centered around the Delaware Statutory Trust (DST) market and what properties were available at the time. They had done their research on DSTs beforehand, and it was clear during our first conversation that they were a very sophisticated investor.
We talked about the different property types including multifamily, industrial, self storage, senior care/assisted living, retail and others but the one thing that our client expressed was that they were most interested in the “multi-tenant industrial” property type. While the industrial sector of the DST space offers numerous opportunities, our jobs are to help our clients find exactly what they want and provide them with all of the available data and advise them so they can make the best informed investment decision for themselves and their families.
Choices, Choices
During our process, we meticulously evaluated more than 80 different DST options to pinpoint the one we deemed aligned best with our investor’s criteria. As we presented this deal to them, we also proposed exploring alternative property types to illustrate how a diversified portfolio could mitigate investment risk by dispersing equity across multiple deals in various markets. Among the options discussed were four compelling multifamily properties, assisted living/memory care facilities, single tenant net leases, and several others.
The “One”
The deal that immediately captured our client’s attention was the one we thought fit their investment goals best – a package comprising four “light-industrial” properties, each featuring small loading bays, strategically situated across Florida. Among these, two properties are nestled in Tampa, renowned as the economic powerhouse propelling Central Florida’s development, while the remaining two are located in Orlando, a city experiencing rapid growth and expansion. This multi-tenant industrial property perfectly aligned with their search criteria.
Due Diligence
With a total of 95 tenants occupying 97% of the properties, we observed a well-diversified tenant base—a key factor contributing to the deal’s appeal. What further bolstered its attractiveness was the upcoming expiration of leases across the properties, spanning from the next few months to years. This presents the DST sponsor with a prime opportunity to raise rents upon lease renewal, consequently increasing the rent per square foot. Remarkably, lease renewals in the past six months have demonstrated significant upticks, ranging from 10% to an impressive 30% above previous rates. As any seasoned real estate investor understands, higher Net Operating Income (NOI) serves as a catalyst for driving property value. Thus, not only is the sponsor’s strategy geared toward rent escalation to drive NOI, but it’s also designed to foster appreciation.
Replacing Debt
Another important piece that we needed to address was the need to help our client replace their $1.1M loan. One advantageous feature of DSTs is their ability to carry non-recourse attributable debt, allowing investors to assume the loan-to-value ratio specific to whichever DST they’re considering. With a loan-to-value ratio of approximately 41% in this light industrial DST, our client found a seamless solution to fulfill their 1031 exchange debt replacement requirement without the hassle of personally seeking, applying for, and managing a loan. Everything, including the loan, is conveniently encapsulated within the DST structure, significantly streamlining this aspect of the process for them. This was reinforced when we determined that the calculated total purchase price of the DST exceeded the debt they needed to replace, ensuring sufficient coverage when using this portfolio.
Discussing Diversification
We found that this was a great choice for a part of the exchange but we also wanted to make sure we didn’t leave any stone unturned. That gave us the opportunity to dive deeper into the other deals that we thought would be good fits as secondary and tertiary options in case they wanted to split the equity evenly between 4 or 5 DSTs.
Tax Planning
We engaged a tax professional to help us understand the different implications of which DSTs would be most income tax efficient. Running through dozens of iterations, we discovered that although there were more anticipated deductions in a certain asset class, the client felt like the overall net benefit needed to be considered. Especially when they saw the breakdown of the numbers between years 5 and 10. Working with the tax advisor, we constructed 3 portfolios and discussed them together in detail.
The Final Decision
There are some strong multifamily offerings in the market and we explored each one very methodically and carefully as we wanted to ensure no questions went unanswered and our client felt confident as they were making their decision. Deals in high growth markets like Phoenix, AZ and emerging markets like Franklin, WI were some of those opportunities that we and the client collectively felt good about. But at the end of the day, we did an extensive amount of due diligence and decided that the small bay, multi-tenant industrial DST was the direction that best fit their investment goals and that a majority of the equity would be best suited there.
Conclusion
Collaborating closely with the qualified intermediary and a seasoned tax advisor, our client’s 1031 exchange was successfully completed well within the window of their 45 day ID period, so not only have they leveled up into a portfolio of institutional real estate that fit their investment criteria, they’ve also alleviated concerns about sourcing another property, securing a new loan, and navigating the closing process within the 180 day window. With their 1031 exchange now concluded, they can focus on what matters most – ski trips with family to Park City and spending quality time with their kids and grandkids.