Securing replacement properties that make financial sense when executing conventional 1031 exchanges has required some investors to expand their horizons, whether by geography or asset selection.
Apartment owner and asset manager RailField Partners, for example, last summer entered the Midwest market for the first time when it purchased the Hangar at Emerson, a 218-unit multifamily asset in suburban Indianapolis.
The Bethesda, Maryland-based company, which was founded by former Fannie Mae executives in 2013, up to that point had largely focused on a dozen markets in the Mid-Atlantic, Southeast and Texas, reports Jon Siegel, chief investment officer for RailField.
“It has been harder to raise rents in the markets we tend to favor because they have been battered by new construction,” he points out. “The Midwest is a little more stable, but it was still hard finding willing sellers and prices that worked. We had to kiss a lot more frogs.”
Investors are also more frequently targeting non-apartment assets as replacement properties. Why? Many apartment owners refuse to budge much on pricing, if at all, say observers. Often those asking prices would result in cap rates of around 5 percent or less, which isn’t feasible for buyers given today’s interest rates of generally between 6 and 7 percent for a five-year, fixed-rate loan.
Consequently, buyers are gravitating toward other types of residential properties, including seniors and student housing communities, explains Edward Fernandez, president and CEO of Irvine, California-based 1031 Crowdfunding, a marketplace that offers access to DST offerings.
DSTs are a turnkey structure in which a sponsor raises equity to acquire and manage properties on behalf of investors, who typically buy shares in the DST through registered representatives. In return, DST shareholders receive monthly cash distributions and a potential return based on the asset’s appreciation at its resale.
1031 Crowdfunding’s platform includes DST properties owned by third-party sponsors, but 1031 Crowdfunding itself sponsors seniors housing DSTs. Soon it will be a DST sponsor in other property categories, notes Fernandez.
“Multifamily cap rates are still majorly compressed — cash flow is about 4 to 5 percent, which is what people can get in a savings account. It doesn’t excite them,” says Fernandez. “So, they’re moving into asset classes where cap rates or cash-on-cash returns are more attractive.”
In some cases, investors are opting for replacement properties with higher yields in the industrial, self-storage and hotel property categories, says Ray DeWitt, president and co-founder of 1031 DST Group, especially given the buildup of apartment supply in the Sun Belt markets.
Still, Michael O’Shea, vice president of Origin Exchange, an affiliate of Chicago-based multifamily syndicator Origin Investments, remains bullish on multifamily for the long term and anticipates healthy rent growth in 2025.
Origin Investments launched Origin Exchange in May 2024, and the platform gives 1031 investors access to Origin-sponsored DST offerings. In September, Origin acquired the Starling in suburban Dallas, a 300-unit complex as its first DST deal, and prior to closing, 65 percent of the DST was reserved by investors who bought units for a minimum of $250,000. The goal is to provide 1031 investors with an offering each quarter, says O’Shea.
“Multifamily has delivered positive growth in 90 out of the last 100 years — it’s an asset class that we want to be invested in,” he says. “But the rise in volatility in the capital markets despite the Fed’s cuts last fall is a little bit unsettling. We’re watching it closely.”
— By Joe Gose. This article originally appeared in the January/February issues of Multifamily & Affordable Housing Business.