Best Ever CRE Blog

Benefits and Drawbacks of Using the Deferred Sales Trust

Written by Brett Swarts | Sep 29, 2022 10:00:00 AM

If you own a highly appreciated stock, cryptocurrency, business, real estate, or another asset that you are looking to sell, the capital gains tax that could potentially be triggered may be your biggest hurdle. The Deferred Sale Trust (DST) is just one of a variety of tax deferral solutions available to you.

Below are some benefits and drawbacks to help you take the first step to clarify if the DST is a good fit for your next exit plan. 

 

 

Benefits of the Deferred Sales Trust

The Flexibility of Timing Investments

The DST flexibility of timing investments is a competitive advantage for your wealth plan since it allows you to take advantage of selling real estate, stocks, a primary home, cryptocurrency, businesses, artwork, or even a racehorse (yes, it has been done!) when the timing is right for you.

Your capital gains tax is then deferred along with the rest of your net proceeds from the sale of the DST. The DST holds the funds which are owned back to you, and they are invested into other asset classes when the timing is right. This allows you to unlock optimal timing with the goal of buying low versus other capital gains tax strategies such as the 1031 exchange.

The 1031 exchange used to be the go-to for all investment real estate owners and is one of the most well-known strategies to defer capital gains tax using Internal Revenue Code Section 1031, which unfortunately only applies to “investment real estate” now, and no longer to business sales. It never applied to primary homes, stock, or cryptocurrency, and the strict 45-day ID and 180-day timelines made “selling high and buying low” often unrealistic.

Also, a 1031 exchange locks you out of diversification since the asset class is fixed to “like-kind” being “investment real estate.” In comparison to the DST, you are able to sell while deferring capital gains and diversify into:

  • Stocks, bonds, and mutual funds
  • Hard money lending
  • Real estate investment (active or passive, however not a primary home) 
  • A business 
  • Cryptocurrency
  • Life insurance
  • REITs

 

Saving a Failed 1031 Exchange

Another benefit the DST offers is the ability to save a failed 1031 exchange. There are enough pressures and hoops investors have to jump through who are using a 1031 to defer capital gains. The DST can act as a parachute, especially when it comes to negotiations.

Pro tip: Make sure to work with a DST trustee and 1031 exchange accommodator who have experience with this. Not all 1031 Qualified Intermediaries are created equal. 

Drawbacks of the Deferred Sales Trust

Lack of Public Awareness

Is it too good to be true? The biggest drawback for you may be the fact that your CPA cannot find the publicly-provided IRS official guidelines on how to defer capital gains taxes using the (Section 453) installment sale method, which is the foundation of the Deferred Sales Trust. This may scare you off, and you may decide the risk of an audit or having to pay the tax plus interest back to the IRS is not worth it. However, you may instead consider the following track record to put your nerves at ease:

The Deferred Sales Trust is batting 1000 with: 

  • A perfect track record over 26 years
  • Thousands of closed Deferred Sales Trusts
  • Billions successfully under management 
  • Over a dozen successful “No Change & No Findings” IRS audits 
  • Three formal DST IRS reviews that were also closed with zero findings 
  • Never appearing on the IRS watch list or “dirty dozen” 

 

Limited Deal Size and Threshold Fees

While the Deferred Sales Trust provides many options and flexibility, it does have its limitations surrounding deal size thresholds and fees. The minimum-size deal for a DST is $1M net proceeds with a $1M gain. However, if you have two assets that add up to this amount, then you can combine the two to qualify. 

The following fees are associated with using the DST as a tax deferral strategy: 

  • Initial (one-time) legal setup fee of 1.5% for the first $1M & 1.25% on amounts greater than $1M.
    Pro Tip: Make sure you are working with a DST Law Firm that has defended DST clients on audits and has a successful track record whose fee includes lifetime DST audit defense. 
  • Annual recurring fees for DST trustee & financial advisor of around 1.5% to 2% on the DST account value.

Next Steps

Ready to see if this is a good fit for your situation? Schedule a no-cost consultation with an exclusive DST trustee to learn about all the benefits of the DST. Goals for the meeting:

  •   Hear your story!
  •   Understand your financial and investment goals.
  •   Evaluate if using the Deferred Sales Trust to sell your highly appreciated asset will make sense for you and serve as the best solution to your tax deferral goals.

 

About the Author:

Brett Swarts is considered one of the most well-rounded Capital Gains Tax Deferral Experts and informative speakers in the U.S. He is the Founder of Capital Gains Tax Solutions, is an exclusive Deferred Sales Trust trustee, host of the Capital Gains Tax Solutions & eXpert CRE Secrets podcast, and an eXp Commercial Multifamily Broker in Sacramento, CA.