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A little clarity for your next decision.
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Investor WorkspaceA little clarity for your next decision.
By Jerry Baker
Hotel and hospitality DSTs offer a way to own a share of lodging real estate through a Delaware statutory trust. Their income depends on room demand, rates, operating costs, contracts, and debt, so a familiar hotel brand does not make the investment predictable. This guide shows how I would review those moving parts before considering a hotel DST for a 1031 exchange.
A hotel can be a great place to stay and a poor investment at the wrong price. Guests judge the room, service, pool, and location. Investors also need to judge the cost of filling those rooms and the share of cash left after everyone else is paid.
I would start by drawing the ownership and operating structure. Identify the trust, the tenant under any master lease, the hotel manager, the brand company, and the lender. Confirm which entity collects guest payments and which owes rent to the trust. Those may be different entities.
Host Hotels & Resorts' 2025 filing illustrates why these roles deserve separate review. It describes guest segments, management arrangements, and franchise or license contracts. It also explains room metrics and their limits. That public REIT's structure and results are not a template or return forecast for a DST. [1]
Your interest is in a specific offering with its own rights and risks. The brand name on the sign cannot tell you what your ownership includes or what a missed payment would mean.
Three terms appear throughout hotel proposals. Occupancy measures rooms sold against rooms available. Average daily rate, or ADR, measures room revenue per room sold. Revenue per available room, or RevPAR, spreads room revenue across all available rooms, including empty ones.
For a simple example, assume a hotel has 100 available rooms for 365 days. It has 36,500 room nights to sell. At 70% occupancy, it sells 25,550 nights. At a $160 average rate, room revenue is $4,088,000. RevPAR is $112: $160 multiplied by 70%.
These figures do not show investor cash. They do not subtract wages, utilities, booking costs, brand fees, repairs, debt payments, or reserves. They also leave out food, meetings, and other revenue. A higher RevPAR can coexist with a lower amount available to investors.
Host's filing makes the useful distinction between gains from room prices and gains from occupancy: filling another room also brings costs to serve that guest. [1] I would ask the sponsor to bridge room revenue to cash instead of ending the explanation at a hotel metric.
Room prices and occupancy can move in different directions. A hotel may lower rates to fill more rooms or accept fewer guests at higher rates. Which choice works better depends on booking costs, guest spending, and the cost of the stay.
In the same hypothetical 100-room hotel, change occupancy to 75% and the average rate to $145. The hotel sells 27,375 room nights, but room revenue is $3,969,375. That is $118,625 less than the first case, despite five percentage points more occupancy. RevPAR falls from $112 to $108.75.
The second case also has 1,825 more occupied room nights to service. It may bring more food or parking revenue, but the related costs need review too. I would not label one case better without seeing the rest of the budget.
Ask whether a forecast relies mostly on rate growth, occupancy gains, or both. If both rise quickly, ask why competitors will not respond. For an existing hotel, compare the forecast with actual monthly results and explain any leap from its operating history.
A hotel near an airport may serve a different mix of guests from a beach resort or a highway property. Corporate travel, conventions, leisure trips, crews, and longer stays can have different rates, seasons, and booking habits. Their labels are less important than the cash each group brings.
I would ask for revenue and room nights by source. Is a large employer responsible for weekday demand? Does one annual event fill the best weeks? Are group reservations firm, subject to cancellation, or still under discussion? A pipeline is not the same as completed stays.
Then test concentration. A hotel with hundreds of guests may still depend on one convention center, corporate campus, or travel route. Count the source of demand as well as the number of guests. A large room count does not itself spread economic risk.
For a new event or employer, separate what is already open from what is proposed. A planned project can be relevant, but its timing should not quietly become a certainty in the income model. I want a workable base case before giving credit to future attractions.
Two guests paying the same rate may produce different cash for the hotel. One books directly; another arrives through a channel with a commission. Packages, loyalty arrangements, negotiated rates, and cancellation rules can affect the net amount collected.
Consider a hypothetical $200 booking with a 15% channel charge. That leaves $170 before the cost of serving the guest and any other fees. A direct booking at $185 could leave more before those costs if it has no comparable channel charge. In practice, direct bookings also have marketing and system costs, so the full comparison matters.
I would ask for gross room revenue, discounts, refunds, channel costs, and net collections. Check whether the budget applies expenses to the correct revenue base. A fee tied to gross receipts will not fall simply because the owner has little cash after debt service.
Also review deposits and refunds. Cash received ahead of a stay may still carry an obligation to provide the room or return money. It should not automatically be treated as profit available for distribution. Your review should distinguish cash timing from income earned.
A recognized hotel brand may provide a reservation system and a familiar guest experience. It does not follow that the brand owns the real estate, operates the property, guarantees the lease, or stands behind the DST's debt.
Read the contracts to identify those roles. Who hires hotel staff? Who sets prices? Who approves the budget? Who pays when the brand requires upgrades? Who can end the relationship, and at what cost?
I would request a one-page contract schedule showing each agreement's parties, term, fees, renewal rights, and termination rights. Put the actual signed dates beside any planned hold or sale date. A long management term may outlast the investor's target hold.
A buyer may need to assume contracts or obtain approvals. That can affect exit choices even if the hotel performs well. Ask whether an underperforming manager can be replaced and what tests or cure rights apply. “We can change managers” is not a complete answer without the contract, costs, and trust powers needed to do it.
Here is a simplified illustration, not an actual offering. Assume total annual hotel revenue is $6 million. Operating costs, including all manager and brand fees assumed in this example, are $4 million. That leaves $2 million before debt service and the other items below.
Subtract $1 million in debt service, $300,000 for capital reserves, and $100,000 in other owner costs. Cash left for investors is $600,000. With $12 million of investor equity, the illustrated cash rate is 5%. A $240,000 interest representing 2% would receive $12,000.
Now reduce revenue by 8%, to $5.52 million, while costs fall only 3%, to $3.88 million. Cash before debt and the other items falls to $1.64 million. Keeping those items fixed leaves $240,000 for investors, or 2% of equity. The same investor's share becomes $4,800.
This example is not a prediction. It shows operating leverage: costs do not always fall as fast as revenue. A moderate change in bookings can cause a much larger change in the cash paid to owners.
Annual numbers can hide a cash shortage during the quiet season. A hotel may earn much of its cash in a few months while loan payments, insurance, and essential staff costs continue all year. I would request a monthly cash budget as well as the annual forecast.
Suppose the hotel needs $90,000 more cash than it generates in each of four quiet months. It needs $360,000 to bridge that period before considering surprise costs. A $400,000 working-capital balance would leave only $40,000 beyond that modeled need.
Ask which account supplies that money and whether it is separate from the repair reserve. The same dollar cannot fully support a winter shortfall and a roof replacement at once. Review restrictions on each account and who may approve withdrawals.
Then compare distribution timing with the cash budget. A level monthly investor payment might depend on reserves even when annual operations are profitable. That is not automatically wrong, but the source should be disclosed. A smooth payment schedule is not proof of smooth operating results.
Hotels need spending on rooms and shared spaces. An offering should distinguish routine repairs, replacements, major work, and any brand-required property improvement plan. Ask which items have been scoped, priced, approved, and funded.
For a hypothetical 120-room hotel, a $20,000 cost per room implies $2.4 million of room work. It does not automatically cover the lobby, kitchen, meeting rooms, design fees, permits, or lost revenue. A contractor's room price and the full project budget are different numbers.
If 30 rooms are unavailable for 60 days, that removes 1,800 room nights from sale. At a hypothetical 70% occupancy and $160 rate, those nights represent $201,600 of possible room revenue. That is not necessarily the net profit lost, since some costs may decline and demand may shift to other rooms. It is a useful place to start.
Ask how the plan handles delays, noise, guest refunds, and the timing of the busy season. A higher room rate after renovation should be supported by evidence, not treated as automatic compensation for every dollar spent.
A hotel is an operating business as well as real estate. That makes the separation between ownership and operations especially important for a DST exchange structure. Do not assume that any trust holding a hotel meets the tax rules.
IRS Revenue Ruling 2004-86 permits look-through treatment for a DST under specific facts, including restrictions on the trustee's powers. The ruling does not give every hotel trust open-ended authority to run services, raise fresh capital, change debt, or rebuild its business plan. [2]
I would ask tax counsel to explain what the investor owns, which entity operates the hotel, and how the governing agreements support the claimed tax treatment. Review those agreements against the planned work and the response to a weak operating year.
If the backup plan involves a change to another entity, understand its effect on your rights and future exchange choices. A fallback may help address a problem while changing tax treatment. It should be explained before the investment, not introduced only after a payment stops.
A loan can improve an equity return when things go well and magnify a loss when they do not. Ask about the rate, maturity, reserves, operating tests, and any conditions that restrict distributions. Review what happens when hotel results fall below the lender's thresholds.
The OCC's commercial real estate lending guidance discusses cash flow, collateral, borrower support, and stress analysis. It is a useful framework for asking lending questions, not a set of permissions that overrides a DST's documents. [3]
For a simple exit example, assume a hotel sells for $25 million, with $1.5 million in selling costs and $12 million in debt payoff. The remainder is $11.5 million before other claims. At a $22 million sale price with the same costs and payoff, that falls to $8.5 million.
Compare either result with the actual investor equity and all prior cash flows. Do not compare the sale price only with the original property price. Fees, financing, reserves, and the timing of payments affect the investor's result.
For an operating hotel, I would ask for monthly room results, financial statements, payroll trends, channel costs, capital spending, and the upcoming booking calendar. Reconcile the sources so room revenue in one report can be traced to the accounts in another.
Identify periods affected by closures, major work, unusual events, or a change in management. Those periods may deserve adjustment, but the adjustment needs a reason and evidence. Removing every weak month and keeping every strong month is not a balanced forecast.
Ask which competitive hotels are used for comparison and why. A nearby luxury resort may not be a useful benchmark for a limited-service property. Market share gains can look impressive when the comparison group changes, so keep that group visible.
I would also ask what the sponsor considered and rejected. Why this hotel, at this cost, with this operator and loan? The answer should connect the evidence to the investment terms. A broad claim that travel demand is strong does not do that work.
A hotel DST might provide exposure to a different demand source from your other real estate. It can also add a business with quickly changing revenue and ongoing service needs. Whether that is useful depends on your portfolio and your ability to absorb weaker cash flow.
Private placements can be illiquid, offer limited disclosure, and lose all invested capital. Investor eligibility does not mean suitability, and a securities filing does not mean regulators approved the economics. Review the offering memorandum and its risk factors. [4]
For the exchange, have your adviser reconcile proceeds, liabilities, replacement value, and costs. The Form 8824 rules do not treat every cash and debt offset as interchangeable. New debt does not simply cancel cash you take out. [5]
Delayed exchanges generally require written identification within 45 days and receipt within 180 days or the return due date, including extensions, if earlier. Other identification and receipt limits apply. [6] Confirm the actual interest, closing readiness, and timing. I would rather understand a modest plan than rush into an attractive rate whose cash source I cannot explain.
Insurance deserves a separate line in that review. Ask which losses are covered, what deductibles apply, and whether business interruption coverage matches the modeled risk. A policy can limit a covered loss without paying for every decline in bookings or every dollar of lost investor income.
A useful downside case changes a few visible assumptions and follows their effects through the cash accounts. Start with fewer paid room nights, a lower rate, or higher wages. Then show debt service, required reserves, and cash left for investors. Keep the calculation readable.
Next, ask how long that case can last before the property's choices narrow. Would the lender retain cash? Would the operator seek relief under its lease? Would a repair be delayed? Who has authority to respond, and where would the money come from?
Do not accept a promised recovery without a reason. A recovery might depend on demand returning, a rival closing, or a renovation succeeding. Each is a separate assumption. I want to know which parts are within the parties' control and which depend on outside events.
That discussion often reveals more than a target return. It shows whether the sponsor understands the hotel's weak points and whether the offering has enough time, cash, and legal flexibility to address them.
Some properly structured interests may qualify, but hotel ownership alone does not establish that result. Tax counsel should review the trust, operating arrangements, assets, and powers. Confirm the specific interest and your exchange requirements before committing funds.
No. The brand may license its name and systems without owning the property or guaranteeing rent. Read the actual agreements and any guarantee. Identify who is obligated to pay and whether that entity has the resources to do so.
No. RevPAR measures room revenue per available room. It does not deduct hotel costs, debt service, reserves, or investor-level expenses. Your cash rate uses the amount available to investors compared with their invested equity.
Yes. A lower average room rate can more than offset the extra rooms sold. More guests may also raise operating costs. Review occupancy, rate, booking expenses, and guest service costs together rather than treating one metric as the answer.
Future work can require substantial cash and take rooms out of service. Ask what the reserve covers, whether the estimates are current, and who can access it. A reserve percentage in a model does not prove that a specific project is fully funded.
Do not assume so. Payments depend on the offering and available cash. Even a level target can be cut or suspended. Ask whether the proposed payment uses operating cash, reserves, or another source and how a weak season would affect it.
You should plan for limited liquidity. A ready buyer may not exist, transfers may be restricted, and any sale may occur at a loss. A planned hold period does not require the sponsor to redeem your interest at that date.
Ask what happens to investor cash if room revenue falls while key costs stay fixed. Then follow the answer through the manager, lease, trust, loan, and reserve accounts. That test helps reveal whether the investment's income risk fits your needs.
Educational information, not an offer or a personal tax, legal, or investment recommendation. Examples are hypothetical and omit stated adjustments. Tax treatment depends on your facts and current law. Review your transaction with your CPA, attorney, and qualified intermediary. Real estate investments can lose value and may be illiquid.
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