Office Properties for 1031 Exchange & DST Investors

Office used to be the default institutional real estate, the asset class pension funds anchored portfolios on. That changed after 2020. Hybrid and remote work cut into how much space companies need, vacancy climbed in many markets, and a wave of loans came due into higher interest rates that made refinancing painful. The result is a sector trading at a discount with wildly varied outcomes underneath the headline. For an investor selling a property and weighing office as a 1031 exchange replacement, or a slice of an office Delaware Statutory Trust, the honest starting point is that this is the hardest sector to underwrite today, and not every investor belongs in it. This guide walks through where office stands, what still pencils, and who, if anyone, it suits now.

What office real estate is, and what broke

Office real estate is space leased to companies for white-collar work: law firms, banks, medical practices, government agencies, technology tenants. The leases tend to run longer than apartments and shorter than a net-lease pharmacy, commonly three to ten years, often with tenant-improvement allowances the landlord funds up front and earns back over the term. For decades the sector behaved predictably. A good building in a good submarket leased up, rents grew, and the asset traded on a tight cap rate.

Then the demand side shifted under it. When a large share of employees stopped commuting five days a week, companies began renewing into smaller footprints, and the space they shed landed back on the market as vacancy or sublease. National vacancy rates that once sat in the low teens pushed higher, and in some downtowns climbed past 20 percent. A building half-empty earns less rent and costs more to carry, since the owner still pays taxes, insurance, and operating costs on the empty floors.

We are blunt with clients about this. Office is not a sector you can buy on the old assumptions and ignore. The lease, the tenant, the submarket, and the building's specific quality decide the outcome now far more than they did when a rising tide carried everything.

The divide: trophy versus commodity

The single most useful thing to understand about office today is that there is no single office market. There are at least two, moving in opposite directions, and lumping them together is how investors get hurt.

On one side sits trophy and Class A space: newer, well-located, heavily amenitized buildings that companies still want because they help bring people back to the desk. Tenants have moved toward this space in what brokers call a flight to quality, and the best buildings in the best submarkets have held occupancy and rent better than the averages suggest. On the other side is commodity office: older, plain, less central buildings with dated systems and few amenities. That space is where most of the vacancy has pooled, and some of it will not lease again as office at any rent. A share of it is candidate for conversion to apartments or for demolition.

The averages you read in a headline blend these two into a number that describes neither. A 19 percent vacancy figure can hide a trophy tower at 95 percent occupancy down the street from a 1980s building at 40 percent. When we look at an office DST, the first question is always which side of that line the buildings fall on.

The defensive corners: medical and government

Not all office carries the same work-from-home exposure, and two subsets have held up notably better than the rest. Both show up in DST offerings for that reason.

Medical office is the first. A dermatology practice, an outpatient surgery center, an imaging clinic, a dialysis provider, these tenants cannot treat patients from a spare bedroom. The space is purpose-built and expensive to fit out, which raises the cost of leaving and keeps tenants in place through renewals. Demand is tied to an aging population rather than to office-attendance fashion, and occupancy across medical office nationally has stayed far steadier than conventional office. Healthcare operators such as DaVita, Fresenius, and large hospital-affiliated practices are recognizable names in the space.

Government-leased office is the second. A building leased to a federal agency such as the GSA, a state department, or a county office carries a tenant that does not skip rent and rarely vanishes overnight. The leases can be long, the credit is about as good as credit gets, and the use is essential. The catch is that government leases come with their own clauses, including some that let the agency terminate early, so the lease language matters as much as the tenant's name. Neither subset is immune to the sector's gravity, but both sit closer to the resilient end of it.

What still draws investors: long credit leases

Set against the headwinds, there is a real case for the right office asset, and it rests on the lease. A building leased to a strong tenant on a long term behaves like a contractual income stream, and when the market is pricing the whole sector for trouble, you can sometimes buy that income at a yield you could not get when office was in favor.

The appeal is specific, not general. A single tenant with an investment-grade balance sheet, twelve years left on the lease, and a fitted-out space it has spent millions to occupy is not walking away casually. The rent is contractual, the escalations are written in, and the discount the broader sector trades at can hand a patient buyer a higher current yield than a comparable asset in a sector everyone loves. We have seen well-leased medical and credit-tenant office price at yields that screen attractively precisely because the word office scares buyers off.

The discipline is refusing to let the yield talk you past the diligence. A high going-in number on a short-dated lease in a soft submarket is not a bargain; it is a warning. The income is only as durable as the years left on the lease and the tenant standing behind it.

Yields, returns, and what the low going-in number signals

Office pricing right now tells a story worth reading carefully. Across the office offerings we track, the current market benchmark going-in yield sits around 2.79 percent, with the high end near 3.00 percent. That is a low number, lower than most other sectors, and the reason is not that office is in high demand.

A low going-in yield in a troubled sector usually means buyers are pricing in expected rent growth, repositioning, or recovery rather than current income, or that the few deals trading are the best-leased trophy assets that command a premium. It can also mean the income today is thin relative to price because vacancy is dragging on net operating income. We read a 2.79 percent going-in yield as a signal to ask hard questions, not as a reason to reach. The realized figures below come from full-cycle office programs and tell a different, longer story.

Benchmark yields from Baker 1031 sector data; realized figures from 18 full-cycle office programs in sponsor track records across the marketplace we monitor, not Baker 1031's own returns. Past performance does not guarantee future results. Illustrative, not a projection.

The realized record, an average 10.8 percent annual return and a 1.91x equity multiple across 18 full-cycle office deals, looks strong, but read it for what it is. Those returns came from deals that bought, leased, and sold across earlier cycles, much of it driven by appreciation and active management rather than contractual rent. They are not a forecast for an asset bought today, and they reflect sponsor track records across the marketplace we monitor, not Baker 1031's own returns. The gap between a 2.79 percent going-in yield and a 10.8 percent realized return is the whole story: office returns, when they come, lean on execution and timing, not on a clean rent check.

Tenant rollover and lease-term diligence

In a healthy sector you can be a little forgiving on lease term. In office today you cannot. The single most important page in an office offering is the rent roll, and the most important column is when each lease expires.

We map the rollover schedule first. A building where 60 percent of the rent comes due for renewal in years three and four is a different risk from one laddered evenly over a decade, even at the same headline occupancy. Each expiration is a chance for a tenant to shrink, leave, or demand concessions, and in a soft market the landlord usually loses that negotiation. Re-leasing office is expensive: tenant-improvement allowances, free-rent periods, and broker commissions can eat a year or more of rent before a new tenant pays full freight. Those leasing costs, the capital it takes to keep or replace tenants, are the quiet killer of office returns and rarely show up in a glossy summary.

Office diligence centers on the rent roll and the cost of keeping it leased, not on the building's curb appeal.

Inside a DST the structure adds a wrinkle. Under the rules that let a DST qualify for 1031 treatment, the sponsor generally cannot sign new leases or renegotiate existing ones except in narrow circumstances. That works against you in office, where active re-leasing is often what saves a deal. It is one more reason sponsors who place office in a DST favor long, credit-backed leases that should not need touching during the hold.

What changes when office sits inside a DST

Most accredited investors who want office exposure for an exchange do not buy a single building. They buy a fractional beneficial interest in a Delaware Statutory Trust that holds one or more office assets. The trust owns the title, a professional sponsor manages it, and each investor's interest is sized to the exact dollar amount the exchange has to absorb. You cannot buy 47 percent of a medical-office building, but you can buy 47 percent worth of a DST that owns several.

Pooling spreads tenant and building risk, which matters more in office than almost anywhere else. A trust holding six medical-office buildings across four markets does not live or die with one practice not renewing. But the same constraints that protect the 1031 treatment also tie the sponsor's hands. Once the offering closes, the trust generally cannot raise fresh capital, cannot refinance, and cannot actively re-lease except in narrow cases. In a sector where the answer to trouble is usually aggressive leasing, that lack of flexibility is a genuine drawback, and it is why office DSTs are built around the most stable leases a sponsor can find rather than around value-add plays.

Where office can go wrong

Office carries every standard private-real-estate risk plus a set the sector has made its own. Structural demand risk comes first: if hybrid work keeps trimming how much space companies need, even a well-leased building faces a tougher re-leasing market when its tenants roll. That is not a cyclical dip you simply wait out; it may be a permanent reset in how much office the country uses.

Refinancing stress sits close behind. Many office loans were written when rates were low, and refinancing them at today's rates, against buildings worth less than they were, has pushed some owners into trouble. Inside a DST the trust generally cannot refinance, so debt usually has to be retired at sale, which concentrates risk on the exit. Add the usual private-placement realities, illiquidity, the deliberate lack of investor control, and the fact that these are sold only to accredited investors, and office asks more of a buyer's stomach than most sectors. The vacancy-to-carrying-cost spiral is the one that ends deals: an empty floor still owes taxes and operating costs, and enough empty floors can outrun the rent that is left.

How these investments end

Office DSTs end the way other DSTs do, but the exit carries more weight here because so little of the return is contractual. The standard path is a sale near the end of the hold: the sponsor markets the property, sells it, and returns capital and any gain to investors, who can pay the tax or roll into a fresh 1031 exchange. The risk is that office is a thinner buyer's market than it was, and a sponsor who needs to sell into a weak market may take a price that disappoints.

Some programs offer a 721 UPREIT path, in which a real estate investment trust acquires the property and investors receive operating-partnership units instead of cash, converting a single-asset position into a stake in a larger REIT with its own tax and liquidity trade-offs. Because a DST generally cannot refinance, the deal's debt usually has to be retired at the sale or rollover rather than rolled in place. In office, where re-leasing risk builds as leases approach expiration, the timing of that exit relative to the rent roll is something we read closely before going in, not after.

Who it suits today, and who should pass

We will say plainly what we tell clients: office is not for most exchangers right now, and there is no shame in skipping a sector. The honest fit is narrow. An investor who understands the headwinds, wants the higher current yield the discount can offer, and is buying a specific well-leased asset, ideally medical, government, or a long credit-tenant lease, can make a considered case for a measured allocation. Someone who wants to bet on an eventual office recovery, with eyes open and money they can leave illiquid for years, is the other candidate.

It is a poor fit for an investor who needs reliable, low-drama income, who cannot tolerate the chance of a soft exit, or who is reaching for yield without reading the rollover schedule. For most retirees and most exchangers simply needing a dependable landing spot before a 45-day deadline, a net-lease, multifamily, or other steadier sector will serve better. Office can belong in a portfolio. It rarely belongs as the safe, set-and-forget anchor an exchanger often wants, and pretending otherwise does no one any favors.

Working with Baker 1031

Most investors who do want office exposure reach it through a Delaware Statutory Trust rather than buying a building outright, because it lowers the entry point, spreads tenant risk across more than one asset, and fits an exact exchange amount. We provide sponsor-agnostic diligence on office DST programs, with extra weight on the rollover schedule, tenant credit, and which side of the trophy-versus-commodity line the buildings fall on. We are paid to be skeptical on your behalf, and on office we use that skepticism hard.

We do not currently have a live office offering on our shelf, and we would rather tell you that than push a deal we are not comfortable with. The 45-day identification window moves fast, so the time to understand whether office belongs in your exchange at all, and to compare it against steadier sectors, is before you sell. When a well-leased office program we believe in does come available, we will walk you through the leases and tenants behind it.

View Available Office DSTs →

Frequently Asked Questions

Glossary

Class A Office

The highest-quality office space: newer, well-located, amenity-rich buildings that have held occupancy and rent better than the sector average.

Commodity Office

Older, plainer, less central office buildings with dated systems and few amenities, where most of the sector's vacancy and value loss have concentrated.

Flight to Quality

The tenant shift toward the best buildings, leaving lower-tier space behind. In office it has widened the gap between trophy and commodity assets.

Medical Office Building (MOB)

Purpose-built space for outpatient healthcare, such as clinics and surgery centers, with stickier tenants and demand tied to an aging population.

Government-Leased Office

Office leased to a federal, state, or local agency. Credit is strong and the use is essential, though leases often include early-termination clauses.

Rollover Schedule

The calendar of when each tenant's lease expires. Clustered expirations concentrate re-leasing risk and are the first thing to read on an office rent roll.

Tenant Improvement (TI) Allowance

Capital a landlord funds to fit out space for a tenant. In office it is a major cost of winning or keeping tenants and a quiet drag on returns.

Cap Rate

A property's annual net operating income divided by its price; the multiple at which commercial assets are bought, sold, and compared.

Revenue Procedure 2004-86

The IRS guidance that lets a beneficial interest in a Delaware Statutory Trust qualify as like-kind property for a 1031 exchange, while restricting what the trust may do, including re-leasing and refinancing.

Sources & References

Disclosures