Regulatory Compliance for DSTs: Examining the Legal and Regulatory Requirements that DSTs must adhere to.

Investors will use many struc­tures when invest­ing in Real Estate. Delaware Statu­to­ry Trusts (DSTs) have become an extreme­ly pop­u­lar legal struc­ture in real estate invest­ment.

March 25, 2024

By Al DiNi­co­la, AIF®, CEPA™
DST 1031 Spe­cial­ist
NAMCOA® — Naples Asset Man­age­ment Com­pa­ny®, LLC
Secu­ri­ties offered through MSC-BD, LLC Mem­ber of FINRA/SIPC

Investors may or will uti­lize 1031 exchanges com­bined with DSTs. Under­stand­ing and fol­low­ing the legal reg­u­la­tions and require­ments are crit­i­cal for all investors con­tem­plat­ing a DST invest­ment. The reg­u­la­tion com­pli­ance is detailed in many offi­cial pub­li­ca­tions. Since IRS Rev­enue rul­ing 2004–86, DSTs were per­mit­ted as an accept­able 1031 alter­na­tive. Legal pro­fes­sion­als will fol­low any evolv­ing reg­u­la­tions for chang­ing ele­ments.  Investors acknowl­edge there is a learn­ing curve (like any new invest­ment strate­gies) that needs to be embraced.

Secu­ri­ties Laws Com­pli­ance:
On of the first require­ments is the com­pli­ance with the secu­ri­ty laws on a fed­er­al and state lev­el. DST ben­e­fi­cial inter­ests are often con­sid­ered secu­ri­ties.  Oth­ers may ref­er­ence a DST as a real estate invest­ment with a secu­ri­ty wrap­per around the real estate.

Many DST are Reg­u­la­tions D offer­ings (either 506 (b) or 506 ©. DSTs are lim­it­ed  to only accred­it­ed investors.

1031 Exchange Com­pli­ance:
Investors uti­lize §1031 exchanges for defer­ring cap­i­tal gains tax­es on real estate trans­ac­tions. DSTs are approved for and are com­pli­ant with the Inter­nal Rev­enue Code (IRC) Sec­tion 1031. All reg­u­la­tions and require­ments for the uti­liza­tion of a tra­di­tion­al real estate invest­ment must also be fol­lowed when uti­liz­ing a DST.

In order to be in a posi­tion to uti­lize the tax ben­e­fits of the 1031 all the require­ments of the like-kind exchange must be fol­lowed.

Offer­ing Doc­u­ments and Dis­clo­sures:
Poten­tial investors (in a DST) will receive a Pri­vate Place­ment Mem­o­ran­dum (PPM) that will con­tain all the offer­ing doc­u­ments and dis­clo­sures. The spon­sor of the DST is required to pro­vide all the mate­ri­als to poten­tial investors.  The PPM is a long doc­u­ment (typ­i­cal­ly sev­er­al hun­dred pages) and will include risk fac­tors, legal struc­ture, detailed infor­ma­tion about the prop­er­ty and the legal struc­ture of the DST.

Secu­ri­ty laws require full dis­clo­sure of poten­tial risks and con­flicts of inter­est.

Reg­is­tra­tion and Fil­ing Require­ments:
Depend­ing on the size and scope of the offer­ing, DSTs may need to reg­is­ter with state secu­ri­ties reg­u­la­tors. Under­stand­ing state-spe­cif­ic require­ments is cru­cial.

Com­pli­ance with the report­ing oblig­a­tions imposed by the SEC and state secu­ri­ties agen­cies is essen­tial.

Investor Accred­i­ta­tion:
Only accred­it­ed investors are per­mit­ted to pur­chase an inter­est in a DST.  Accred­it­ed investor val­i­da­tion or ver­i­fi­ca­tion is either by annu­al income or net worth.  A sin­gle per­son needs to have earned $200,000 in the past two years and cou­ples need to have earned $300,000.  The net worth require­ments is $1 Mil­lion exclud­ing pri­ma­ry res­i­dence. There are ver­i­fi­ca­tion acknowl­edge­ments typ­i­cal­ly signed off by the indi­vid­ual investors, CPA, finan­cial advi­sors or oth­ers that are includ­ed in the sub­scrip­tion agree­ments.

Prop­er­ty Man­age­ment Com­pli­ance:
The under­ly­ing asset is a DSTs is typ­i­cal­ly real estate. Many munic­i­pal­i­ties have zon­ing reg­u­la­tions and oth­er require­ments that need to be fol­lowed.  Prop­er­ty man­age­ment needs to be hired who have expe­ri­ence and run the prop­er­ty on behalf of the DST. Respon­si­ble prop­er­ty man­age­ment is crit­i­cal for long term suc­cess of the prop­er­ty.

Ongo­ing Com­pli­ance Mon­i­tor­ing:
There is a need for ongo­ing mon­i­tor­ing for com­pli­ance to ensure the DST’s suc­cess.  There may be changes in the tax reg­u­la­tions, legal issues or changes in the secu­ri­ties laws that could effect the sta­tus of the DST.

Legal Coun­sel and Due Dili­gence:
Spon­sors need to have a con­stant work­ing rela­tion­ship with legal coun­sel. In addi­tion­al spon­sors need to have a due dili­gence team pri­or to secur­ing the prop­er­ty when struc­tur­ing the DST.  Addi­tion­al­ly, third par­ty due dili­gence review is rec­om­mend­ed.

State-Spe­cif­ic Con­sid­er­a­tions:
The state of Delaware pro­vides the under­ly­ing struc­ture estab­lish­ing a DST. How­ev­er, indi­vid­ual states may have cer­tain dis­clo­sures required.  Spon­sors will iden­ti­fy state require­ments and pro­vide dis­clo­sures in the PPM. This is espe­cial­ly impor­tant depend­ing on the phys­i­cal loca­tion of where the DST is locat­ed.  

Sum­ma­ry
Investors should con­sult finan­cial pro­fes­sion­als who deal with DSTs on a reg­u­lar basis. The secu­ri­ties laws may be over­whelm­ing at times as well as the tax reg­u­la­tions.  Real estate bro­kers typ­i­cal­ly are not able to offer DSTs unless they have the required secu­ri­ties licens­es and reg­is­tra­tions.  We always urge investors to reach out and seek pro­fes­sion­al assis­tance.

DST’s (Delaware Statu­to­ry Trusts) are for accred­it­ed investors only.  Con­tact your invest­ment advis­er for addi­tion­al details on how a DST may be a solu­tion to your 1031 Exchange and com­pli­ment your finan­cial objec­tives. 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, in any form, 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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