In Conversation With John Harvey Co-Author of Modern Real Estate Investing: The Delaware Statutory Trust
Norm Goldman

Reviewer & Author Interviewer, Norm Goldman. Norm is the Publisher & Editor of

He has been reviewing books for the past twenty years after retiring from the legal profession.

To read more about Norm Follow Here

By Norm Goldman
Published on June 15, 2018 welcomes as our guest John Harvey, owner of Cornerstone Real Estate Investment Services, a branch office of Sandlapper Securities LLC (Member FINRA, SIPC) who has authored together with his colleagues Trawnegan Gall and David Kangas, all of whom are licensed securities representatives of Sandlapper Securities LLC, Modern Real Estate Investing: The Delaware Statutory Trust. welcomesas our guest John Harvey, owner of Cornerstone Real Estate Investment Services, a branch office of Sandlapper Securities LLC (Member FINRA, SIPC) who has authored together with his colleagues Trawnegan Gall and David Kangas, all of whom are licensed securities representatives of Sandlapper Securities LLC, Modern Real Estate Investing: The Delaware Statutory Trust.

Norm: Good day John and thanks for participating in our interview.

Why and how did you become interested in The Delaware Statutory Trust?

John: In 2004, a client of my CPA firm named Carl, had an offer that he could not refuse for the sale of his apartment building in Anaheim, CA. Carl was a first-generation German immigrant and a hard worker. I still remember Carl’s hands which were like leather and the dirt under his finger nails form doing all the maintenance on his building himself. Carl’s explained that he was getting too old and too tired to care for the property and needed more passive income. We did the calculations and he would have a huge tax bill if he did not exchange into another like-kind property.

The IRS just issued IRC Revenue Ruling 2004-86 that allowed property held in a properly structured Delaware Statutory Trust to qualify as like-kind for Section 1031 exchange gain non-recognition.  I had an extensive tax background as a CPA with a master’s in taxation and an international accounting firm pedigree. I already had all the necessary licenses on the securities side including the FINRA series 7 and I was a licensed real estate broker. It was a perfect fit for Carl and the more I learned about the DST and the industry the more I know this is what I was meant to do.

Norm: Why is the DST a great tax shelter and is it valid to state that although DST investments may have positive attributes, they are not a good fit for all investors?

John:  A DST is a great tax shelter for three reasons:

  • Firstly, a DST qualifies under IRC code section 1031 which provides for the non-recognition of capital gain tax and depreciation recapture on the sale of the relinquished property and the ultimately the sale of the DST property. For a 1031 exchange to be valid the exchange must be carried out through a Qualified Intermediary and replacement properties must be identified within 45 days and the closed upon within 180 days of the sale of the relinquished property. There are other strict requirements, so a professional tax advisor is strongly recommended.

  • Secondly, similar to other investment real estate, the rental income from the DST may be sheltered by the amount of depreciation that is deductible each year. It may also be that the income from the DST would qualify for the 20% deduction for Qualified Business Income under the 2017 Tax Cuts and Jobs Act with a limit of 2.5% of the qualified unadjusted property value at the time of acquisition.

  • Thirdly, if the investor continues to exchange these properties over their life-time and the DST ultimately passes to the investor’s heirs then for estate purposes there may be a discount in the valuation due to illiquidity and the heirs would receive a stepped-up tax basis in the DST and pay no to little capital gain tax when they ultimately sell the investment.  This is known as “swap tell you drop”.

All these tax breaks are also applicable at the state level.

DSTs may not be a good fit for someone who wants to actively manage their properties or for someone who wants control over the investment. It is also important to note that DSTs are only available to accredited investors.  This is because a DST is offered as a private placement security offering under the 1933 Securities Act. An accredited investor is anyone with a net worth of $1 million or income of $200,000 for the past 2 years ($300,000 in married filing jointly) may invest in a DST.  Under Dodd Frank, one may not count the equity in a primary residence when calculating the net worth requirement. However, any other real estate investments together with all other investment values are included so most real estate investors conducting a 1031 exchange should meet the accreditation requirement.

Norm: What are the principal differences concerning the following:  DSTs, TICs (Tenancy in Common) and REITS? Is one better than the other?

John: Great question, we have an entire chapter in the book on the subject but essentially the DST is the improved TIC “version 2.0.” We believe the past decade of significant economic cycles forced the fractional ownership structure to evolve from TICs to DSTs to provide the investor with a tried and tested investment vehicle that is best equipped to allow the private investor access to institutional real estate as never before, while employing the tremendous power of tax deferral under IRC §1031 exchange.

Both the DST and the TIC are forms of fractional ownership, however, the TIC has several shortcomings such as larger minimum investment amounts as only 35 investors were permitted, the TIC also required unanimous approval by all owners in order to improve, refinance or sell the property, and TIC owners had to be qualified by the lender as they were on title and subject to non-recourse loan carveouts.

The DST is an improved structure as it allows for unlimited number of investors and minimums as low as $25k for direct investment. The DST structure allows for the statutory trustee to make any necessary decisions to safeguard the property. Also, as DST investors have a membership interests in the trust and are not on title they have a totally non-recourse loan with no requirement to sign carveouts and no requirement to be approved by the lender. Lastly, unlike a TIC, the DST is itself a bankruptcy remote entity and there is no need to create and maintain a separate LLC to hold the investment.

We have a whole chapter on REITs in the book, but the basic differences is that they do NOT qualify for IRC section 1031 exchange tax deferral and if they are publicly traded they are relatively correlated with the stock market.  An advantage of REITs is that they typically have great diversification of assets within an asset class and investment minimums as low as $2,500 with much lower accreditation requirements, such as $70,000 in income or $250,000 in net worth.  We invite the unaccredited reader to learn more about private REITs in our book.

Norm: I have read some criticisms concerning some DSTs. Some have sold assets two years into a ten-year hold for minimal appreciation and did not have the proper LTV deal to 1031 exchange into. Other investors have had multiple bad experiences from stopped cash flow, short sales, and foreclosures. Would you care to comment?

John: An investment in a DST property has all the same risks as investing in single ownership leveraged real estate plus any risks associated with the specific offering. As with a single ownership investment property timing has a lot to do with the yield. There is a larger DST sponsor who believes we are coming into the final years of a growth cycle and are selling DST properties to reposition the investor into new 10-year debt so that they may ultimately sell into the next growth cycle.  Accordingly, there may be some DSTs out there that were sold earlier than the anticipated hold period. However, most DSTs that sell within the first few years of the anticipated hold period are doing so because the buyer is offering significant appreciation to the DST investors. In general, hold periods tend to be shorter in a growth cycle and longer if the market has a downturn after the acquisition.

Regarding the second part to your questions concerning bad experiences with DSTs, the IRS Revenue Procedure 2004-86 that was the catalyst for the industry was issued in 2004 and DSTs began to be offered in the years preceding the financial crisis and Great Recession that devastated the world economy from 2007 through 2010. I believe that DST investments were not the only ones to be negatively impacted by the Great Recession (tongue-in-cheek).

 Pre-recession, most DST sponsors were assuming rent growth of 3% annually which was very conservative at the time. Of course, the reality during the recession was negative rent growth which did cause most DSTs to have to reduce or suspend cash flow distributions. Some properties eventually succumbed to short-sale and even foreclosure, but I believe the DST and TIC properties came out better than most single ownership commercial properties as multiple investors had more recourses to support the property and professional sponsors were able to turn challenged properties around. 

Then drilling down further, DST property performance through the Great Recession was often a factor of asset class (just as with single ownership properties). Nearly all long-term NNN lease DST properties with investment grade tenants did not even feel the recession. Cash flow continued per the lease agreement like clockwork and any unrealized decreases in property values were recovered as the economy improved.

Conversely, DST hospitality assets with a daily lease term and next to zero business travel were the hardest hit with foreclosure. Multitenant retail and multitenant office were more in the center of the spectrum with many facing extreme financial challenges to cash flow and whether or not they ultimately succumbed to foreclosure was largely due to the level and timing of their debt.  This brings us to another factor which was the level of debt that the DST properties incurred in the more liquid pre-recession environment that had many DSTs at 70% to 80% leveraged. The dips in values below debt levels made it impossible to sell or refinance and weather the recession if the properties were unfortunate enough to face debt maturity during that multi-year period.

Regarding the comment that an investor was not able to find accommodating leverage for a DST replacement property in a like-kind exchange, this is now nearly never the case as in addition to the more moderately leveraged DSTs at between 45% to 55% LTV, we have all cash DSTs and special highly leveraged DSTs available for exchange. 

Accordingly, we are able to diversify the investor into DSTs with a range of LTVs and effectively blend the leverage to accommodate any level of replacement debt required for the investors like-kind exchange. The highly leveraged DSTs are typically leveraged at up to 84% LTV and composed of a portfolio of investment grade retail stores such as Walgreens or CVS Pharmacies with long-term leases.  These deals have zero cash flow as the cash is swept each month to service the debt but the debt hyper-amortizes at a typical yield rate of 12% to 14% and effectively helps to de-lever an investor’s portfolio over time.

Norm:   Is there a secondary or public market where an investor can sell their ownership interests in a DST?

John: No, there is no developed secondary market for DSTs and the vast majority of investors hold their interest until the property is sold at the end of a 5 to 7-year average hold period.  However, a transfer of the interest to a third party is relatively straight forward as the new buyer does not have to be approved by the lender. If an investor wants to sell his or her interest early, then an offer will first be made to the co-investors in the DST who may have a right of first refusal.  If there are no takers, then the interest will be offered to other investors with the Sponsor and ultimately through a brokerage dealing in DSTs such as ours. There is a firm that is developing a website for secondary market sellers to list their DST interests. If the DST is cash flowing above what the current market is cash flowing, then there is an argument for a premium on the sale.

Norm:  I understand that one of the ingredients of the DST is the Master Lease agreement? Could you explain what this is all about?

John: The Master Tenant and the master lease is an ingenious and elegant element of the overall DST structure as it cleverly allows the Trustee (and Trust Manager) to be limited in its powers to constitute a direct interest in the real estate while effectively allowing the sponsor to manage the property without creating a business entity under Section 1031.

In a DST, the Master Tenant is a special purpose entity (SPE) created by the sponsor, is controlled by the sponsor, and is considered an affiliate of the sponsor.  Under the master lease, the trust leases the properties to the Master Tenant for an original term of ten years. The Master Tenant will in turn enter into leases of the property with residential or commercial subtenants, handle maintenance and repairs, contract with the management agent and, generally, be empowered to do everything that an owner of the mortgaged property would otherwise do.

The main objective of the Master Tenant will be to generate cash flow for the payment of the rent to the trust by maintaining the current subtenant occupancy level, and by maintaining and increasing rental rates upon termination of any sublease. Rent from the Master Lease will be distributed to the Beneficial Owners net of any reserves and payment of debt service and property expenses incurred by the Trust.

Norm: What if there are unforeseen problems with a DST property and is in danger of losing the property due to its structural limitations? How can this be resolved?

John: In most cases the trustee (sponsor) will reserve and make adequate provisions to hold the property in the DST for the full length of the hold period.  The trust may also act to modify a lease in the event of a tenant insolvency, including the Master Tenant due to non-payment of a demand note, without having to spring into an LLC. Nevertheless, to build in an ultimate fail-safe and provide lenders with additional comfort against the DST’s inability to act in the event that the loan is endangered, the sponsor should place an operative provision in the trust agreement.  This provision provides that, if the trustee determines that the DST is in danger of losing the mortgaged property due to an actual or imminent default on the loan, and tax-related restrictions are preventing the trustee’s ability to act (the seven deadly sins), the DST can convert into a limited liability company (the springing LLC) with a lender pre-approved operating agreement.

Delaware law permits the conversion by what is basically a simple election, which does not constitute a transfer under Delaware law. The "springing LLC" will contain the same SPE and bankruptcy remoteness provisions as the DST (for the lender’s benefit), but it will permit the raising of additional funds, the raising of new financing or renegotiation of the terms of the existing financing and entering into new leases. In addition, it will provide that the trustee (or sponsor) will become the manager of the LLC with full operating control. During the period that the springing LLC is in place, the Master Tenant would continue to be required to pay to the trust rent on a monthly basis per the master lease agreement.  

Once the property has again been stabilized and there is no longer a risk of loan default, the LLC may spring back into a DST structure once again.  While the leading attorneys in the industry have assured us that springing back into a DST was theoretically possible, at this time, there has been one successful precedence where a leading DST sponsor successfully sprang into an LLC to manage an ACE Hardware property and service the debt.  The LLC ultimately sprang back into a DST and the investor members were able to enjoy IRC Section 1031 exchange out of the DST and into another like-kind property. However, we do not yet have Treasury guidance on the matter which presents a possible tax risk for the DST.

There are also other less elegant alternatives to springing back into a DST. Assuming that the measures taken after springing into the LLC are successful, the property could simply continue as an LLC and refinance as the property appreciates over time, to return the investors' capital or a significant amount of capital.  Distribution of refinance proceeds would be tax free, and the small amount of equity remaining in the LLC would have relatively low tax if the property is ultimately sold, or the investors' heirs could enjoy a step-up-in basis and never have to pay tax on the built-up gain. If the sponsor is the issuer of a REIT offering or arranges with a REIT, there is also the possibility for the investors to conduct an IRC Section 721 exchange, commonly called an "up-REIT".  

Norm: What do you believe is the future of DST investing?

John: In our opinion, the DST is a tried-and-true structure for real estate investment. Beginning in 2002, thousands of private real estate investors have seen the vision of fractional ownership real estate and have invested in aggregate over $35 billion dollars in hundreds of DST and TIC investments. Their popularity rocketed higher and higher each year until the pre-recession peak in 2006 of $3.65 billion.  Sales then plummeted during the Great Recession, as real estate values were decimated, and 1031 exchange volume plunged throughout the nation. What might have been, if not for these external forces? However, as the national economy recovers, so has the demand for DSTs and their benefits. Accordingly, we have seen a recovery in DST equity sales to over $1.9 billion in 2017 and believe over the coming years DST equity sales should continue to increase well above their pre-recession highs.

Norm: You and your partners have set up a business based largely on the DST and 1031 Exchange. Tell us about your firm, Cornerstone Real Estate Investment Services.

John: Cornerstone Real Estate Investment Services has over a decade of experience in the field and is one of a few national firms specializing in securitized 1031 replacement properties. Cornerstone has assisting investors in the purchase of over half a billion dollars in tenants-in-common and Delaware Statutory Trust real estate. Working according to professional standards of due diligence, full disclosure, and integrity, Cornerstone emphasizes diversification, prudence and attention to detail as tested vehicles of financial investment. We sell DSTs properties located throughout the United States and have investor clients from all 50 states with representatives in California, the Mountain States, and the East Coast.

Norm: What were your goals and intentions in co-authoring Modern Real Estate Investing: The Delaware Statutory Trust and how well do you feel you achieved them?

John:   Many of our clients over the years have asked, “so why have I not heard of the DST for real estate investment before?”  The plain truth is that the industry is unable to do extensive advertising due to securities restrictions on general solicitation.  It has been quietly referred by the very few CPAs, attorneys, and financial professionals in the know. General solicitation rules require the advisor to have a substantial business relationship with the client investor before a DST recommendation is proposed. The purpose for these rules is to be sure that the investor is not only accredited, but also that the investment is suitable for the client given his unique financial position, experience, and objectives. However, general education and information that is not related to a current DST offering is permitted, and the introduction of the DST industry to the nation is our goal with this book.   

As the goal of the book is to introduce the DST concept for real estate investing to the nation, the publication was by necessity representative of the industry and a collaborative effort between the authors and multiple individuals and organizations within the DST industry. We had a lot of participation from the sponsors, attorneys, and qualified intermediaries in the industry.

Norm: Who do you believe will benefit most from reading your book?

John: Americans with rental property, farm property, or any property used in a trade or business or for investment purposes. In addition, anyone (such as a busy working professional such as doctors, lawyers, etc…) with a desire to invest in passive commercial real estate and build a well-diversified investment grade real estate portfolio.

Norm: What are some of the references that you used while researching this book?

John:  Most of the book issued from our extensive internal experience with DSTs over nearly two decades. However, some of the most interesting research was on the history of the business trust in statutory and common law which dates back to the sixteenth century and the King’s Chancery in feudal England which was ultimately codified into Delaware law. To this end A Short History of the Court of Chancery by William T. Quillen and Manrahan was most interesting and helpful. We have endnotes for the book with 39 references.

Norm: What was the most difficult part of writing this book?

John: The most difficult issue was definitely tax reform.  Again, we had so mush experience with DSTs and wanted to introduce DSTs to the nation for so long that most of the book developed rather effortlessly. However, we had to pause the book writing for several months as tax reform developed in the final quarter of 2017.  We also heavily participated in lobbying Congress to preserve section 1031 for like-kind real property exchanges. The final result was above and beyond our best expectations. We have an entire chapter in the book on the 2017 Tax Cuts and Jobs Act that I think will be very interesting to the readers.  Especially, with our discussion on the new 20% Deduction for Qualified Business Income.

Norm: Where can our readers find out more about you and Modern Real Estate Investing: The Delaware Statutory Trust?

John: For further information and for any questions we can be reached at or by phone at (800) 781-1031 or visit the firm’s WEBSITE

Listeners may order our book, Modern Real Estate Investing: The Delaware Statutory Trust, on Amazon, Barnes and Noble, iTunes, Google Play, and any bookstore internationally through the Ingram catalog.

Norm: Do you have plans to write any other books?

John: Not at this time but as the DST industry and tax law continue to evolve we can envision coming out with future editions of “Modern Real Estate Investing”.

Norm: As this interview comes to an end, what question do you wish that someone would ask about your book, but nobody has?

John: What is new and exciting in real estate investing is not the LLC, Limited Partnership, S Corp, or even the TIC—it’s the DST concept! The DST or Delaware Statutory Trust is a trust formed under Delaware statutory law that essentially provides for a fractionalized real estate investment, and presents the opportunity, through a securities private placement offering, for an individual to join with other accredited investors to own investment-grade real estate that none of them could own individually. With DST minimum investments as low as $25,000 ($100,000 for exchanges), the private investor may own larger commercial institutional-grade real estate with values up to $100 million.  DST properties typically have more financially secure, creditworthy tenants, and include some of the best companies in America.

Succinctly put, the DST advantage is the opportunity to build a world-class personal portfolio of institutional-grade real estate diversified over geographic location, sponsor, and asset classes such as multifamily, retail, office, industrial properties, senior housing, and others. A portfolio that will not only provide potentially tax-sheltered monthly cash flow but also continue to grow and build wealth by preserving potential gains over the years using Section 1031 tax deferred exchanges.  All this in a regulated environment of due diligence and full disclosure as mandated under the investor protection provisions of the securities industry.

Norm: Thanks once again and good luck with all of your future endeavors.

Follow Here To Read Norm's Review of Modern Real Estate Investing: The Delaware Statutory Trust