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The New Face of Tax-Deferred Real Estate Investing

Michael Bull of Bull Realty encourages DST sponsors to work on finding replacement properties as soon as the relinquished property goes under contract in order to have time to locate, inspect and negotiate. He cautions, "You don't want to be just starting your due diligence at the 45-day deadline."

The 1031 Exchange Market Is Heating Up

As the economy improves, more investors are leaving the sidelines. The real estate market is showing signs of life, with improved occupancy levels, rising rents and upward pressure on asset prices. Investors who could afford to hold and improve assets during the financial crisis find that now is an attractive time to sell their stabilized properties with strengthening prices and a widening pool of buyers.

However, today's investors face additional burdens on real estate transactions. Alan Gassman, a board-certified tax planning specialist explains:

"Clients who will have depreciation recapture on property that was leased or used in a business are now going to face ordinary income tax rates of up to 39%, plus the 3.8% Medicare tax. That is going to drive a good many of them into using 1031 deferred exchanges, especially as we are seeing real estate markets stabilize and fixed-rent opportunities being much more attractive than bonds and most private loans."

Gassman adds, "While many of these transactions will also involve capital gains, the 20% capital gains rate coupled with another 3.8% for the Medicare tax on high earners will be enough to refuel the 1031 industry for 2013 and beyond."

Now that the commercial real estate market is seeing a strong recovery, the 1031-DST business model is starting to surge. With more buyers, sellers are looking to reinvest in another 1031 replacement property to continue tax deferrals. This is a sign of the real estate market coming back to life.

The Inland Real Estate Group of Companies, through its subsidiary the Inland Private Capital Corp., perhaps one of the early pioneers of the DST structure, has raised more than $3.4 billion in 1031 dollars and invested in more than 500 individual deals.

In December of 2012 Inland raised more than $30 million in equity, coming close to a record $34 million in one month in 2006. Other DST sponsors looking to tap into the growing 1031 replacement market include Behringer Harvard and American Realty Capital. Both sponsors are also nontraded REIT sponsors, and they see the increased demand for 1031-driven products.

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