Deferred Sales Trust vs Delaware Statutory Trust: The Two DSTs

A Delaware statutory trust is a Delaware entity that owns real estate, and the IRS lets you exchange into it

Subchapter I of title 12, chapter 38 of the Delaware Code defines a statutory trust in section 3801 as an unincorporated association formed under a governing instrument. Section 3810 requires a certificate of trust to be filed with the Delaware Secretary of State, section 3806 puts management under the trustees, section 3803 gives beneficial owners the same limitation of liability as stockholders of a corporation, and section 3805 makes each beneficial interest personal property.

Rev. Rul. 2004-86 considered a trust holding one leased property and held two things: the trust is an investment trust classified as a trust under Reg. section 301.7701-4(c), and a taxpayer may exchange real property for an interest in it without recognizing gain or loss under section 1031. The holding depends on the trustee having no power to sell and buy new property, renegotiate the lease, refinance, invest cash for market gains or make more than minor repairs; with those powers the trust becomes a partnership and the interest stops qualifying, as DST like-kind qualification walks through.

In practice a sponsor forms the trust, buys one or more properties, and sells beneficial interests to exchangers who identify them within 45 days and close within 180 days under section 1031(a)(3). You own a passive fractional interest with no management role. The interest cannot be sold on demand, the property and any loan on it can lose value, and your principal is not guaranteed.

A deferred sales trust is a brand name for an installment sale to a third-party trust

The Code does not define a deferred sales trust. What the label describes is a sale of your property to a trust run by an independent trustee in exchange for an installment note, after which the trust sells the property to your buyer for cash and invests the proceeds. You report the gain under section 453 as the note is paid: section 453(b)(1) treats any sale with at least one payment after the year of sale as an installment sale, and section 453(c) recognizes gain on each payment in proportion to gross profit over contract price.

Nothing is exchanged and no real estate is acquired, so section 1031, its deadlines and the qualified intermediary have no part in it. The structure rests on the trustee being a real purchaser and a person unrelated to you under section 453(f)(1), which borrows the lists in sections 267(b) and 318(a). Whether an arrangement clears those tests, and the pledging and listed-transaction questions around it, is covered on 1031 versus a deferred sales trust.

The plain version of the same idea is seller financing, compared on 1031 versus an installment sale. A deferred sales trust inserts a trust between you and your buyer so the note comes from the trust instead.

A seller with a sale in motion is almost always asking about the Delaware entity

If a qualified intermediary is already holding your proceeds, the only DST that can appear on your 45-day identification list is a Delaware statutory trust, because the list must name real property, and Rev. Rul. 2004-86 treats a qualifying beneficial interest as a fractional interest in the trust's real estate. A note from a trust is not real property and cannot be identified.

The deferred sales trust tends to come up in three other moments: before closing, as a pitch to a seller who wants cash rather than more real estate; after a failed identification, as a rescue; or alongside an exchange, for boot the seller does not want to reinvest. Each is a decision about whether to leave the exchange rules altogether, not a choice between two kinds of replacement property.

The test is to ask what you would own on the day after closing. A beneficial interest in a trust that holds an apartment building, a warehouse or a net-leased store means a Delaware statutory trust. A promissory note and a portfolio managed by a trustee means a deferred sales trust.

How to tell which one a document means before you sign it

A Delaware statutory trust comes with a private placement memorandum, a trust agreement citing the Delaware Statutory Trust Act, a certificate of trust filed in Delaware, a master lease or property management agreement, and language about undivided fractional interests and Rev. Rul. 2004-86. It is sold as a security through a broker-dealer and appears on your identification notice; what you actually own in a DST lists the documents.

A deferred sales trust comes with a purchase agreement between you and the trust, an installment note with a payment schedule, a trustee engagement and an investment policy. It cites section 453 rather than section 1031 and never passes through a qualified intermediary.

• Look for 'beneficial interest' and 'Rev. Rul. 2004-86': Delaware statutory trust.
• Look for 'installment note', 'section 453' and 'trustee invests the proceeds': deferred sales trust.
• Ask who holds the cash at closing: a qualified intermediary points to an exchange, a trustee points to an installment sale.
• Ask what statute, ruling or case supports the exact structure, and write the answer down.

Where this site goes next on each structure

For the Delaware statutory trust, the traditional DST page describes the structure we place exchangers into, and traditional versus cash out DST separates the income-first and liquidity-first versions. Both carry the illiquidity and loss-of-principal risks noted above, and neither promises a return.

For the deferred sales trust, the comparison guide sets out the published authority behind each route, Treasury's proposed listing of monetized installment sales, the penalties for a listed transaction and the questions to put to any promoter. Nothing on this site offers that structure.