Seven Deadly Sins — Consequences of Violating DST Rules — Part 2

Vio­lat­ing the reg­u­la­tions gov­ern­ing Delaware Statu­to­ry Trusts (DSTs) can result in sig­nif­i­cant con­se­quences for trustees, spon­sors, ben­e­fi­cia­ries, and the trust struc­ture.

May 27, 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

The fol­low­ing is tak­en from a book writ­ten by the edi­tors of DSTNews.org coau­thored a new book called DST WEALTH BUILDING. The Book is now avail­able at Ama­zon. The book is 470 pages and is a detailed guide on DSTs, §1031, §1033 and Oppor­tu­ni­ty Zones.  It was writ­ten for CPAs, Real Estate Pro­fes­sion­als and Accred­it­ed Investors. This was includ­ed in Chap­ter 12.

Under­stand­ing the poten­tial reper­cus­sions of non-com­pli­ance is cru­cial for all par­ties involved in DST invest­ments to mit­i­gate risks and safe­guard investor inter­ests.

• Loss of Tax-Advan­taged Sta­tus: One severe con­se­quence of vio­lat­ing DST rules is the loss of the trust’s tax-advan­taged sta­tus. DSTs are struc­tured to pro­vide tax-deferred treat­ment for investors, allow­ing them to defer cap­i­tal gains tax­es on prop­er­ty sales. How­ev­er, engag­ing in pro­hib­it­ed activ­i­ties or fail­ing to com­ply with reg­u­la­to­ry require­ments can lead to the dis­qual­i­fi­ca­tion of this tax ben­e­fit. Loss of tax-advan­taged sta­tus expos­es investors to imme­di­ate tax lia­bil­i­ties on cap­i­tal gains, poten­tial­ly dimin­ish­ing invest­ment returns and the over­all attrac­tive­ness of the invest­ment. It also under­mines the trust’s cred­i­bil­i­ty and may dis­cour­age future investors from par­tic­i­pat­ing in DST offer­ings.
• Legal and Reg­u­la­to­ry Sanc­tions: Vio­lat­ing DST rules can sub­ject trustees, spon­sors, and affil­i­at­ed par­ties to legal and reg­u­la­to­ry sanc­tions. Depend­ing on the nature and sever­i­ty of the vio­la­tions, indi­vid­u­als may face civ­il law­suits, reg­u­la­to­ry enforce­ment actions, fines, penal­ties, and even crim­i­nal charges. Legal pro­ceed­ings can be cost­ly, time-con­sum­ing, and dam­ag­ing to rep­u­ta­tions, both per­son­al­ly and pro­fes­sion­al­ly. Trustees and spon­sors have a fidu­cia­ry duty to act in the best inter­ests of the trust and its ben­e­fi­cia­ries, and fail­ure to ful­fill these oblig­a­tions can result in legal lia­bil­i­ty and finan­cial con­se­quences.
• Investor Loss­es and Lit­i­ga­tion: Non-com­pli­ance with DST rules can lead to investor loss­es and sub­se­quent lit­i­ga­tion. Ben­e­fi­cia­ries who suf­fer finan­cial harm as a result of trustee mis­con­duct or spon­sor neg­li­gence may pur­sue legal action to recov­er dam­ages and hold respon­si­ble par­ties account­able. Law­suits can dis­rupt trust oper­a­tions, strain rela­tion­ships between trustees and ben­e­fi­cia­ries, and tar­nish the trust’s rep­u­ta­tion in the mar­ket­place. Trustees and spon­sors must pri­or­i­tize trans­paren­cy, account­abil­i­ty, and investor pro­tec­tion to min­i­mize the risk of lit­i­ga­tion and main­tain investor con­fi­dence.
• Dam­age to Trust Rep­u­ta­tion: Vio­lat­ing DST rules can dam­age the trust’s rep­u­ta­tion and cred­i­bil­i­ty, poten­tial­ly reduc­ing investor con­fi­dence and par­tic­i­pa­tion in future offer­ings. Trusts per­ceived as poor­ly man­aged, non-com­pli­ant, or prone to mis­con­duct may strug­gle to attract new investors and retain exist­ing ones. Rep­u­ta­tion dam­age can have long-last­ing effects on the trust’s abil­i­ty to raise cap­i­tal, exe­cute invest­ment strate­gies, and achieve its finan­cial objec­tives. Trustees and spon­sors must uphold high eth­i­cal stan­dards, main­tain trans­paren­cy in their oper­a­tions, and adhere to reg­u­la­to­ry guide­lines to pro­tect the trust’s rep­u­ta­tion and pre­serve investor trust.
• Trustee Removal and Replace­ment: In cas­es of seri­ous mis­con­duct or breach of fidu­cia­ry duty, trustees may face removal and replace­ment by ben­e­fi­cia­ries or reg­u­la­to­ry author­i­ties. Trustee removal can dis­rupt trust oper­a­tions, delay invest­ment deci­sions, and erode investor con­fi­dence in the trust’s lead­er­ship.

Replac­ing trustees can also incur addi­tion­al costs and admin­is­tra­tive bur­dens for the trust, includ­ing legal fees, tran­si­tion expens­es, and poten­tial delays in exe­cut­ing invest­ment strate­gies. Trustees must pri­or­i­tize their fidu­cia­ry duties, act in the best inter­ests of ben­e­fi­cia­ries, and com­ply with reg­u­la­to­ry require­ments to avoid removal and replace­ment.

The con­se­quences of vio­lat­ing DST rules can have far-reach­ing impli­ca­tions for trustees, spon­sors, ben­e­fi­cia­ries, and the over­all integri­ty of the trust struc­ture. By under­stand­ing these poten­tial reper­cus­sions and adher­ing to reg­u­la­to­ry guide­lines, trustees and spon­sors can mit­i­gate risks, pro­tect investor inter­ests, and pre­serve the long-term via­bil­i­ty of DST invest­ments.

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.

Thank you.