Evaluating the DST Sponsor

We have writ­ten many arti­cles on the types of Delaware Statu­to­ry Trust (DST), the due dili­gence process we engage as well as advis­ing on the best alter­na­tive for each indi­vid­ual accred­it­ed investor.  We track our com­pli­ance require­ments pri­or to investors engag­ing with a DST Spon­sor. There is one ques­tion that we have not addressed in a few years. That ques­tion is how we (and you as an investor) eval­u­ate the DST Spon­sor.

UPDATED: April 28, 2023
Orig­i­nal Release: August 2019
By Al DiNi­co­la, AIF®, CEPA ™
adinicola@namcoa.com
DST 1031 Spe­cial­ist
NAMCOA® — Naples Asset Man­age­ment Com­pa­ny®, LLC
Secu­ri­ties offered through MSC-BD, LLC

One of the first areas of con­sid­er­a­tion would be to iden­ti­fy the spon­sors who would be offer­ing the dif­fer­ent DSTs as either a direct cash invest­ment or replace­ment prop­er­ty for a 1031 tax deferred exchange. The land­scape of avail­able DST prop­er­ties has changed over the past 2–3 years. The num­ber of prop­er­ties that were avail­able pri­or to, dur­ing, and post COVID is an inter­est­ing analy­sis.  As we came out of COVID there was a pent-up demand for 1031 replace­ment prop­er­ties and a lim­it­ed sup­ply.  This placed addi­tion­al pres­sure on every­one involved in the DST “pipeline” or “sup­ply Chain”.  For­tu­nate­ly, we are in a posi­tion where the investor has more oppor­tu­ni­ty to inves­ti­gate the alter­na­tives that are avail­able.  These alter­na­tives are cre­at­ed by Spon­sors.

What is the role of the Spon­sor?

The Delaware Statu­to­ry Trust is formed under Delaware laws. This is set up for the pur­pose of con­duct­ing real estate busi­ness. This is con­sid­ered a spe­cial­ized type of invest­ment enti­ty.   The enti­ty or par­ty set­ting up the DST is referred to as the spon­sor.

The spon­sor cre­ates the trust, finds the prop­er­ty to be acquired, uti­liz­ing spe­cial­ized attor­neys to cre­ate the Pri­vate Place­ment Mem­o­ran­dum (PPM), and struc­tures the man­age­ment of the prop­er­ty once acquired.  The spon­sor also seeks to raise the nec­es­sary cap­i­tal.  The cap­i­tal is raised most­ly through finan­cial advi­sors and rep­re­sen­ta­tives. Many times, the cap­i­tal is raised through inde­pen­dent rep­re­sen­ta­tives and not a direct employ­ee or asso­ciate with the spon­sor. We will cov­er that aspect a lit­tle lat­er.

The role of the spon­sor is crit­i­cal as they hold a key com­po­nent in the suc­cess­ful launch, man­age­ment, and even­tu­al dis­po­si­tion of the prop­er­ty. Many times, you will hear the word asset class asso­ci­at­ed with the prop­er­ty. Asset class refers to the type of prop­er­ty.  This may be mul­ti­fam­i­ly, stu­dent hous­ing, senior hous­ing, build for rent, indus­tri­al, man­u­fac­tured hous­ing, self-stor­age, med­ical office, nec­es­sary retail, life sci­ence. These assets are insti­tu­tion­al grade prop­er­ties and typ­i­cal­ly out of the reach of many indi­vid­ual investors. The spon­sor will be in charge of the offer­ing and often be in con­trol of and pro­tect the DST so to speak. Their super­vi­sion is one of the key ele­ments of suc­cess.

Prepar­ing the offer­ing

There are many crit­i­cal steps spon­sors need to take in order to pre­pare and present the offer­ing to the indi­vid­ual investors.  The spon­sor will focus on the prop­er­ty that will be acquired and then pack­aged struc­tural­ly as well as func­tion­al­ly.  The DST needs to be pre­pared with doc­u­men­ta­tion to be sub­mit­ted to the SEC and FINRA.  Attor­neys need to pre­pare the Pri­vate Place­ment Mem­o­ran­dum (PPM) as well as a review of the offer­ing by a third-par­ty eval­u­a­tion firm.  Firms such as Fact Right, Mick Law, Bow­man and oth­ers review the offer­ings.  The review is a non-biased eval­u­a­tion of the offer­ing and com­par­i­son to oth­er cur­rent and past offer­ings. 

Inde­pen­dent advi­sors, reg­is­tered invest­ments advi­sors and broker/dealer rep­re­sen­ta­tives will review offer­ings that spon­sors bring to mar­ket.  Some advi­sors will meet and estab­lish a line of com­mu­ni­ca­tion with the spon­sor to have access to all the back­ground on the asset. Some firms require their rep­re­sen­ta­tives to com­plete due dili­gence and com­pli­ance reviews pri­or to inter­act­ing with indi­vid­ual investors.  We review new DST offer­ings every week and hun­dreds over the past few years.  Not every DST is suit­able for every investor. Suit­abil­i­ty and tim­ing are key in the selec­tion of the DST for the investor.

Does the Spon­sor Mat­ter?

Over the past 20 years, with DST being approved as a viable option for a 1031 exchange replace­ment prop­er­ty, there has been an increase in the num­ber of Spon­sors. Each spon­sor is inde­pen­dent and may have a dif­fer­ent approach to their offer­ings.  Some spon­sors will only focus on a spe­cif­ic asset class such as nec­es­sary retail or mul­ti­fam­i­ly offer­ings. The size and lev­el of sophis­ti­ca­tion will dif­fer. The track record of the spon­sor will also be dif­fer­ent.  Many of the new spon­sors have long his­to­ries in the finan­cial sec­tor such as Real Estate Invest­ment Trust (REIT) spon­sors. The tran­si­tion to DST offer­ings becomes anoth­er prod­uct offer­ing for REIT spon­sors. As a note, REITs do not qual­i­fy for 1031 tax deferred exchanges. How­ev­er, the track record of the spon­sor is impor­tant to con­sid­er.

Com­mu­ni­ca­tion is impor­tant between the spon­sor and the investor. It is dif­fi­cult for the investor to gauge the lev­el of expect­ed com­mu­ni­ca­tion and actu­al com­mu­ni­ca­tion they will have with the spon­sor.  This is where the inde­pen­dent advi­sor may be of val­ue.  Inde­pen­dent advi­sors who have pre­vi­ous investors and rela­tion­ships with spon­sors can shed light on the ongo­ing com­mu­ni­ca­tion that new investors will expe­ri­ence. Com­mu­ni­ca­tion of impor­tant end of year tax doc­u­ment becomes top of mind as a must have for the investor. These doc­u­ments need to be deliv­ered on time to avoid any tax fil­ing exten­sions for the investors.

How are spon­sors estab­lished or orga­nized?

It may be a lit­tle con­fus­ing at first try­ing to eval­u­ate who is offer­ing the DST. There are many pri­vate equi­ty firms rais­ing funds for a vari­ety of real estate offer­ings and oth­er alter­na­tive real estate invest­ments. How a DST spon­sor may be like and unlike a Pri­vate Equi­ty Firm may be unclear.

Enti­ties that invest mon­ey (equi­ty) in oth­er com­pa­nies and poten­tial­ly their own real estate are ref­er­enced as pri­vate equi­ty firms.  There may be an offer­ing of a DST by the pri­vate equi­ty firms. If that is the case the pri­vate equi­ty firm will be the invest­ment spon­sor.

On the flip side the DST spon­sor could be a pri­vate equi­ty firm but does not need to be. This has more to do with struc­ture than func­tion. The DST sponsor’s orga­ni­za­tion­al struc­ture is dif­fer­ent but still enables the DST spon­sor to cre­ate offer­ings.   Many of the indi­vid­u­als with­in the DST spon­sors firm have years of expe­ri­ence in real estate, finance, and oper­a­tions they bring to the firm.

DST Spon­sor Cre­den­tials

When eval­u­at­ing the DST invest­ment options the review of the spon­sor cre­den­tials or pedi­gree is one the most impor­tant fac­tors

1. Expe­ri­ence:  The spon­sors of DSTs who have a back­ground in com­mer­cial real estate have a propen­si­ty for a bet­ter out­come than new com­ers to the com­mer­cial real estate are­na. Large insti­tu­tion­al REITs may be enter­ing the DST mar­ket­place and they bring decades of expe­ri­ence.
2. Size:  The over­all size of the spon­sor of the DST is very inter­est­ing. Some of the old­er spon­sors are small­er firms who spe­cial­ize in a very tar­get­ed asset class. Oth­er spon­sors are very large orga­ni­za­tions han­dling mul­ti­ple class­es of offer­ings. Some investors may seek out larg­er firms sim­ply based on the size of the com­pa­ny.  There are very expe­ri­enced com­pa­nies who are laser focused on a small­er num­ber of offer­ings each year.  Larg­er spon­sors may have 30–40 offer­ings in a year while small­er spon­sors may have 5–10 offer­ings.  Advi­sors who per­form due dili­gence on the indi­vid­ual spon­sors have insight into the over­all com­pe­ten­cy of the spon­sor.  Find­ing the best DST that is suit­able for the indi­vid­ual investor is most impor­tant.
3. Asset Class:  The same asset class­es that exist in com­mer­cial real estate exist in DST offer­ings.  Some spon­sors of DST may be focused on a sin­gle asset class such as self-stor­age or mul­ti fam­i­ly.  Oth­er spon­sors may have a vari­ety of asset class­es in their offer­ing menu.
4. Cost:  There are costs asso­ci­at­ed with estab­lish­ing the DST and Spon­sors charge fees.  The amount of fees may vary by spon­sor but typ­i­cal­ly the range is min­i­mal from an over­all cost struc­ture.  The costs in DST are pack­aged with­in the offer­ings mean­ing indi­vid­ual investors do not come out of pock­et for addi­tion­al fees on top of their invest­ment. Costs and fees are ful­ly dis­closed in the PPM.  Part of investor due dili­gence should include com­par­i­son of costs and fees between spon­sors.   You may hear the ref­er­ence to the “load” on the offer­ing.  The load would be all of the cost of estab­lish­ing the offer­ings that is added to the acqui­si­tion of the prop­er­ty. This may be com­pared to buy­ing a reg­u­lar real estate prop­er­ty where the  clos­ing cost on the prop­er­ty, points on the loan, title insur­ance, as well as com­mis­sion paid (by the sell­er)  are includ­ed in the over­all cost of buy­ing real estate.

We inter­face with all of the major spon­sors and eval­u­ate the new­er spon­sors enter­ing the mar­ket place. Some of the more active spon­sors are Inland, Cap­i­tal Square, Pass­co, Exchange Right, Ver­si­ty, Madi­son Cap­i­tal, Cove Cap­i­tal, Carter, Nex­Point, Can­tor-Fitzger­ald and there are oth­ers we review and assist investors with their acqui­si­tions. 

DSTs are not for all investors. The acqui­si­tion of a DST is for accred­it­ed investors only. Con­tact your invest­ment advis­er for addi­tion­al details on how a DST may be a solu­tion to your 1031 Exchange and suit­ed for your invest­ment future. For more infor­ma­tion on how to prop­er­ly set up an IRC 1031Tax Deferred Exchange or if you are an accred­it­ed investor and would like addi­tion­al infor­ma­tion on a DST con­tact Al DiNi­co­la at 239–691-8098 or email adinicola@namcoa.com.

This is not an offer to pur­chase or solic­i­ta­tion to pur­chase any secu­ri­ty, as such be made only through an offer­ing mem­o­ran­dum or prospec­tus. Invest­ing in secu­ri­ties, real estate, or any invest­ment, whether pub­lic or pri­vate, involves risk, includ­ing but not lim­it­ed to the poten­tial of los­ing some or all of your invest­ment dol­lars when you invest in secu­ri­ties. You should review any planned finan­cial trans­ac­tions that may have tax or legal impli­ca­tions with your per­son­al tax or legal advi­sor. NAMCOA, LLC is a Reg­is­tered Invest­ment Advi­sor, reg­u­lat­ed by SEC (Secu­ri­ties and Exchange Com­mis­sion). Our cor­po­rate office is locat­ed at 999 Van­der­bilt Beach Road, Suite 200, Naples Flori­da 34108. Secu­ri­ties Offered through MSC-BD, LLC, Mem­ber of FINRA/SIPC. 8215 SW Tualatin- Sher­wood Rd, Suite 200, Tualatin, OR 97062.  MSC-BD, LLC and NAMCOA are inde­pen­dent­ly owned and are not affil­i­at­ed.

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