In a Real Estate Investment Trusts (REITs) and Delaware Statutory Trusts (DSTs), the term principal is a key financial concept that refers to the original amount of money invested by an individual or entity. It is crucial to understand this term as it forms the foundation upon which any potential returns or losses are calculated. Here’s how principal is applied in both REITs and DSTs.
- REITs (Real Estate Investment Trusts): In a REIT, the principal represents the initial capital an investor contributes when purchasing shares in the trust. This amount is typically pooled together with the capital from other investors, allowing the REIT to purchase, manage, and operate income-producing real estate properties. The value of this principal can fluctuate over time, depending on various factors such as the performance of the underlying real estate assets, changes in market conditions, and the management of the REIT. Investors in REITs may receive dividends, which are often derived from the income generated by the real estate holdings. However, the return of the principal, along with any potential appreciation or depreciation in its value, is realized when the investor sells their shares or when the REIT liquidates its assets.
- DSTs (Delaware Statutory Trusts): In a DST, the principal refers to the initial investment made by an investor to acquire a fractional interest in a specific real estate property or portfolio of properties held within the trust. Unlike REITs, where investors own shares, investors in a DST own a direct fractional interest in the real estate itself. The principal invested in a DST is typically used to purchase and maintain the property, and investors receive a proportionate share of the income generated by the property, such as rental income. The return on the principal, along with any potential appreciation, depends on the performance of the property and the terms of the DST. DSTs are often used in 1031 exchanges, where investors seek to defer capital gains taxes by reinvesting the proceeds from the sale of one property into another. The principal in such cases is crucial because it determines the basis for calculating deferred gains and future returns.
In both REITs and DSTs, the principal is the foundational amount upon which all financial outcomes, including income, appreciation, and potential losses, are based. The security or return of the principal can vary depending on the type of investment, the performance of the underlying assets, and broader market conditions. Understanding the role of the principal is essential for investors to assess the risk and potential returns associated with their real estate investments.