Table
      of Contents








**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


**WASHINGTON,
      D.C. 20549**


**_________________________________________**





**FORM
      10-Q**


(Mark
      one)





þ
            QUARTERLY
                REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                ACT OF
                1934




**For
      the Quarterly Period Ended September 30, 2006**





**OR**





o
            TRANSITION
                REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                ACT OF
                1934




**For
      the Transition Period From ___ to ___**


**____________________**





Commission
      File Number 333-128885










**DESERT
      CAPITAL REIT, INC.**


(Exact
      Name of Registrant as specified in its charter)




Maryland
            20-0495883(State
                or other jurisdiction of incorporation or organization)
            (I.R.S.
                Employer
              Identification
                No.)




**1291
      Galleria Drive, Suite 200, Henderson, NV 89014**


(Address
      of principal executive office)


(Zip
      Code)





Registrant's
      telephone number, including area code: **(800)
      419-2855**





Indicate
      by check mark whether the registrant (1) has filed all reports
      required to be filed by Section 13 or 15(d) of the Securities Exchange Act
      of
      1934 during the past 12 months (or for such shorter period that the registrant
      was required to file such reports), and (2) has been subject to such filing
      requirements for the past 90 days.


Yes þ No o





Indicate
      by check mark whether the registrant is a large accelerated filer, an
      accelerated filer, or a non-accelerated filer. See definition of "accelerated
      filer and large accelerated filer" in Rule 12b-2 of Exchange Act.  (Check
      one)


Large
      Accelerated Filer o Accelerated
      Filer o Non-Accelerated Filer þ





Indicate
      by check mark whether the registrant is a shell company (as defined in Rule
      12b-2 of the Exchange Act.)


Yes o No þ





The
      number of shares of the registrant's common stock, par value $0.01 per share,
      outstanding as of November 13, 2006 was 14,725,369.







Table
          of Contents





**DESERT
      CAPITAL REIT, INC.**


**FORM
      10-Q**


**For
      the Quarter Ended September 30, 2006**




**INDEX**







******Page**Part
                I. Financial Information
            
            1Item
                1. Consolidated Financial Statements
            
            1a)Consolidated
                Balance Sheets as of September 30, 2006 (unaudited) and December
                31,
                2005
            
            1b)Consolidated
                Statements of Operations for the three and nine months ended September
                30,
                2006 and 2005 (unaudited)
            
            2c)Consolidated
                Statements of Cash Flows for the nine months ended September 30,
                2006 and
                2005 (unaudited)
            
            3d)Consolidated
                Statements of Changes in Stockholders' Equity for the nine months
                ended
                September 30, 2006 (unaudited)
            
            4e)Notes
                to Consolidated Financial Statements (unaudited)
            
            5Item
                2. Management's Discussion and Analysis of Financial Condition and
                Results
                of Operations
            
            14Item
                3. Quantitative and Qualitative Disclosures About Market
                Risk
            
            18Item
                4. Controls and Procedures
            
            18Part
                II. Other Information
            
            19Item
                1A. Risk Factors
            
            19Item
                2. Unregistered Sales of Equity Securities and Use of
                Proceeds
            
            19Item
                4. Submission of Matters to a Vote of Security
                Holders
            
            21Item
                5. Other Information
            
            22Item
                6. Exhibits
            
            22Signatures
            
            23Certification
                of CEO Pursuant to Section
                302Certification
                of CFO Pursuant to Section
                302Certification
                of CEO and CFO Pursuant to Section
                906









Table
          of Contents
  Part
        I. Financial Information
  Item 1.Consolidated
        Financial
        Statements (Unaudited)




**DESERT
                  CAPITAL REIT, INC.****Consolidated
                  Balance Sheets**September
                  30,
              
              
              
              
              
              December
                  31,2006
              
              
              
              
              
              2005(Unaudited)ASSETSMortgage
                  investments - net
              
              
              
              
              $
              138,367,880
              
              
              
              
              $
              67,649,251Loans
                  held-for-sale
              
              
              
              
              
              4,262,574
              
              
              
              
              
              1,461,147Goodwill
              
              
              
              
              
              13,388,555
              
              
              
              
              
              13,388,555Building
                  and equipment - net
              
              
              
              
              
              8,171,541
              
              
              
              
              
              8,029,250Land
              
              
              
              
              
              1,820,000
              
              
              
              
              
              1,820,000Cash
                  and cash equivalents
              
              
              
              
              
              3,323,218
              
              
              
              
              
              4,459,289Interest
                  receivable
              
              
              
              
              
              1,510,094
              
              
              
              
              
              572,944Deferred
                  financing costs
              
              
              
              
              
              1,017,865
              
              
              
              
              
              -Investment
                  in equity affiliates
              
              
              
              
              
              928,000
              
              
              
              
              
              -Other
              
              
              
              
              
              151,575
              
              
              
              
              
              145,356Total
                  assets
              
              
              
              
              $
              172,941,302
              
              
              
              
              $
              97,525,792LIABILITIES
                  AND STOCKHOLDERS' EQUITYNotes
                  payable
              
              
              
              
              $
              9,160,996
              
              
              
              
              $
              12,112,386Junior
                  subordinated notes
              
              
              
              
              
              30,928,000
              
              
              
              
              
              -Dividends
                  payable
              
              
              
              
              
              1,435,060
              
              
              
              
              
              880,633Accounts
                  payable and accrued expenses
              
              
              
              
              
              1,538,628
              
              
              
              
              
              1,708,444Total
                  liabilities
              
              
              
              
              
              43,062,684
              
              
              
              
              
              14,701,463Preferred
                  stock, $0.01 par value: 15,000,000 shares authorized, none
                  outstanding
              
              
              
              
              
              -
              
              
              
              
              
              -Common
                  stock, $0.01 par value: 100,000,000 shares authorized; 14,422,552
                  and
                  9,388,994 shares issued andoutstanding
                  on September 30, 2006 and December 31, 2005, respectively
              
              
              
              
              
              144,226
              
              
              
              
              
              93,890Additional
                  paid-in capital
              
              
              
              
              
              131,584,600
              
              
              
              
              
              83,005,684Retained
                  earnings
              
              
              
              
              
              (1,850,208
              )
              
              
              
              
              (275,245
              )Total
                  stockholders' equity
              
              
              
              
              
              129,878,618
              
              
              
              
              
              82,824,329Total
                  liabilities and stockholders' equity
              
              
              
              
              $
              172,941,302
              
              
              
              
              $
              97,525,792See
                  accompanying notes to financial statements.






1
 Table
          of Contents









**DESERT
                CAPITAL REIT, INC.****Consolidated
                Statements of Operations**Three
                Months
            
            Nine
                MonthsEnded
                September 30,
            
            Ended
                September 30,2006
            
            
            2005
            
            
            2006
            
            
            2005INTEREST
                INCOME:Mortgage
                investments
            
            $
            5,139,279
            
            $
            1,202,034
            
            $
            12,012,474
            
            $
            2,657,952Other
                interest
            
            
            235,576
            
            
            59,520
            
            
            552,515
            
            
            100,745Total
                interest income
            
            
            5,374,855
            
            
            1,261,554
            
            
            12,564,989
            
            
            2,758,697INTEREST
                EXPENSE:Interest
                expense
            
            
            963,772
            
            
            289,428
            
            
            1,650,748
            
            
            651,009Total
                interest expense
            
            
            963,772
            
            
            289,428
            
            
            1,650,748
            
            
            651,009Net
                interest income
            
            
            4,411,083
            
            
            972,126
            
            
            10,914,241
            
            
            2,107,688Provision
                for loan losses
            
            
            75,452
            
            
            13,739
            
            
            201,201
            
            
            41,345Net
                interest income after provision for loan loss
            
            
            4,335,631
            
            
            958,387
            
            
            10,713,040
            
            
            2,066,343NON-INTEREST
                INCOME:Loan
                brokerage fees
            
            
            1,615,538
            
            
            2,350,262
            
            
            6,062,631
            
            
            4,904,581Service
                and other loan fees
            
            
            339,565
            
            
            385,439
            
            
            1,352,636
            
            
            1,197,617Income
                from investment in subsidiary
            
            
            -
            
            
            -
            
            
            -
            
            
            748,519Other
            
            
            175,734
            
            
            66,978
            
            
            458,662
            
            
            134,396Total
                non-interest income
            
            
            2,130,837
            
            
            2,802,679
            
            
            7,873,929
            
            
            6,985,113NON-INTEREST
                EXPENSE:Compensation
            
            
            557,464
            
            
            475,000
            
            
            1,578,260
            
            
            1,068,732Management
                fees
            
            
            1,199,717
            
            
            816,764
            
            
            3,509,225
            
            
            1,782,764Professional
                fees
            
            
            373,135
            
            
            378,501
            
            
            1,248,099
            
            
            1,007,425Insurance
            
            
            104,849
            
            
            99,780
            
            
            318,907
            
            
            292,426Depreciation
            
            
            108,159
            
            
            95,043
            
            
            323,125
            
            
            110,892Other
            
            
            392,822
            
            
            234,947
            
            
            1,338,751
            
            
            519,925Total
                non-interest expense
            
            
            2,736,146
            
            
            2,100,035
            
            
            8,316,367
            
            
            4,782,164Net
                income before taxes
            
            
            3,730,322
            
            
            1,661,031
            
            
            10,270,602
            
            
            4,269,292Income
                tax expense
            
            
            95,310
            
            
            89,662
            
            
            155,524
            
            
            451,677Income
                before minority interest
            
            
            3,635,012
            
            
            1,571,369
            
            
            10,115,078
            
            
            3,817,615Income
                allocated to minority interest
            
            
            -
            
            
            259,744
            
            
            -
            
            
            884,206Net
                income
            
            $
            3,635,012
            
            $
            1,311,625
            
            $
            10,115,078
            
            $
            2,933,409Earnings
                per share - basic
            
            
            0.26
            
            
            0.25
            
            
            0.78
            
            
            0.78Earnings
                per share - diluted
            
            
            0.26
            
            
            0.25
            
            
            0.78
            
            
            0.78Weighted
                average outstanding shares - basic
            
            
            14,160,322
            
            
            5,244,261
            
            
            12,975,033
            
            
            3,742,407Weighted
                average outstanding shares - diluted
            
            
            14,191,771
            
            
            5,271,441
            
            
            13,004,410
            
            
            3,764,800See
                accompanying notes to financial statements.


2
 Table
            of Contents


**DESERT
                  CAPITAL REIT, INC.****Consolidated
                  Statements of Cash Flows**Nine
                  MonthsEnded
                  September 30,2006
              
              
              2005OPERATING
                  ACTIVITIESNet
                  income
              
              $
              10,115,078
              
              $
              2,933,409Adjustments
                  to reconcile net income to net cash:Depreciation
              
              
              323,125
              
              
              110,892Minority
                  interest
              
              
              -
              
              
              884,206Income
                  from investment in subsidiary
              
              
              -
              
              
              (748,519
              )Stock
                  based compensation
              
              
              108,333
              
              
              61,111Provision
                  for loan loss
              
              
              201,201
              
              
              41,345Net
                  change in:Interest
                  receivable
              
              
              (937,150
              )
              
              (283,157
              )Other
                  assets
              
              
              (6,219
              )
              
              32,923Deferred
                  origination fees
              
              
              817,841
              
              
              -Accounts
                  payable
              
              
              (137,885
              )
              
              264,314Net
                  cash provided by operating activities
              
              
              10,484,324
              
              
              3,296,524INVESTING
                  ACTIVITIESInvestment
                  in subsidiary
              
              
              -
              
              
              (4,843,199
              )Investment
                  in equity affiliate
              
              
              (928,000
              )
              
              -Net
                  increase in mortgage investments
              
              
              (71,737,670
              )
              
              (28,648,352
              )Purchase
                  of loans held-for-sale
              
              
              (2,801,427
              )
              
              -Purchase
                  of land
              
              
              -
              
              
              (1,820,000
              )Acquisition
                  of building and equipment
              
              
              (465,416
              )
              
              (8,148,325
              )Net
                  cash used by investing activities
              
              
              (75,932,513
              )
              
              (43,459,876
              )FINANCING
                  ACTIVITIESNet
                  payments on lines of credit
              
              
              (2,879,700
              )
              
              5,778,730Repayments
                  of mortgage loan
              
              
              (71,690
              )
              
              -Proceeds
                  from junior subordinated notes
              
              
              30,928,000
              
              
              -Issuance
                  of common stock
              
              
              51,890,394
              
              
              44,875,218Deferred
                  financing costs
              
              
              (1,017,865
              )
              
              -Dividends
                  on common stock
              
              
              (7,756,427
              )
              
              (1,680,555
              )Dividends
                  to minority interest
              
              
              -
              
              
              (287,315
              )Offering
                  costs paid
              
              
              (4,745,288
              )
              
              (5,253,158
              )Shares
                  redeemed and retired
              
              
              (2,035,307
              )
              
              -Net
                  cash provided by financing activities
              
              
              64,312,118
              
              
              43,432,920Net
                  (decrease) increase in cash and cash equivalents
              
              
              (1,136,071
              )
              
              3,269,568Cash
                  and cash equivalents at beginning of period
              
              
              4,459,289
              
              
              2,375,309Cash
                  and cash equivalents at end of period
              
              $
              3,323,218
              
              $
              5,644,877Cash
                  paid for interest
              
              $
              1,068,169
              
              $
              790,734Cash
                  paid for taxes
              
              
              870,000
              
              
              29,085Capitalized
                  interest
              
              
              -
              
              
              -Supplemental
                  schedule of non-cash investing and financingCommon
                  stock issued in exchange for interest in subsidiary
              
              
              -
              
              
              1,125,000Common
                  stock issued as repayment of indebtedness
              
              
              -
              
              
              1,322,139Common
                  stock issued for dividend reinvestment program
              
              
              3,379,187
              
              
              995,225Common
                  stock dividends declared but not paid
              
              
              1,435,060
              
              
              624,057Offering
                  costs incurred but not paid
              
              $
              59,000
              
              $
              27,708See
                  accompanying notes to financial statements.




3
 Table
          of Contents









**DESERT
                CAPITAL REIT, INC.****Consolidated
                Statements of Changes in Stockholders' Equity****Common
                Stock Shares**
            
            
            **Common
                Stock Par Value**
            
            
            **Additional**
              **Paid
                - in Capital**
            
            
            **Retained
                Earnings**
            
            
            **Total****Balance
                at December 31, 2005**
            
            
            **9,388,994**
            
            **$**
            **93,890**
            
            **$**
            **83,005,684**
            
            **$**
            **(275,245**
            **)**
            **$**
            **82,824,329**Issuance
                of Common stock
            
            
            5,217,086
            
            
            52,171
            
            
            55,217,210
            
            
            -
            
            
            55,269,381Stock
                   based compensation
            
            
            20,000
            
            
            200
            
            
            108,334
            
            
            -
            
            
            108,534Stock
                redeemed and retired
            
            
            (203,528
            )
            
            (2,035
            )
            
            (2,033,272
            )
            
            
            
            
            (2,035,307
            )Dividends
                on Common stock
            
            
            -
            
            
            -
            
            
            -
            
            
            (11,690,041
            )
            
            (11,690,041
            )Offering
                costs
            
            
            -
            
            
            -
            
            
            (4,713,356
            )
            
            -
            
            
            (4,713,356
            )Net
                income
            
            
            -
            
            
            -
            
            
            -
            
            
            10,115,078
            
            
            10,115,078**Balance
                at September 30, 2006**
            
            
            **14,422,552**
            
            $
            **144,226**
            
            $
            **131,584,600**
            
            $
            **(1,850,208**
            **)**
            $
            **129,878,618**See
                accompanying notes to financial statements.






4
 Table
          of Contents


**Desert
        Capital REIT, INC.**
 **Notes
        to Consolidated Financial Statements**
 **September
        30, 2006**
 **(Unaudited)**


**Note
      1 - Organization**





References
      herein to “we,” “us” or “our” refer to Desert Capital REIT, Inc. and its
      subsidiaries unless the context specifically requires otherwise.




We
      are a
      Maryland corporation formed in December 2003 as a real estate investment trust
      ("REIT") that specializes in the origination and financing of short-term
      mortgage loans. We generally invest in 12- to 18- month, first and second lien
      mortgage loans, consisting of acquisition and development loans and construction
      loans to developers and builders of residential and commercial property. The
      loans are primarily sub-prime and have a fixed rate of interest. We derive
      our
      revenues primarily from interest payments received from mortgage investments
      funded with our equity capital and borrowed funds. Our principal business
      objective is to generate net income for distribution to our stockholders from
      the spread between interest income on our mortgage assets and the costs of
      financing the acquisition of these assets. This spread, net of operating
      expenses, provides both operating capital and distributable income. Our business
      depends on our access to external sources of financing at a cost we can absorb
      while still generating an attractive risk-adjusted return on the loans we
      acquire using the proceeds of our financings. Our business also depends on
      our
      ability to locate suitable investments to keep our capital fully deployed at
      favorable rates. We are externally managed and advised by Burton Management
      Company (“Burton”).





Substantially
      all of the loan origination and loan servicing is conducted through our wholly
      owned subsidiary, Consolidated Mortgage LLC. In addition to originating and
      servicing loans for us, Consolidated Mortgage also originates, brokers, and
      services mortgage loans to private investors. Consolidated Mortgage generates
      brokerage and other fees from the loans funded by its private investor-clients
      which provides additional cash flow to us. Due to the high amount of fees
      generated by Consolidated Mortgage it has been structured as a taxable REIT
      subsidiary (“TRS”) resulting in its income being subject to federal income taxes
      at C corporation rates.





We
      qualified as a REIT under the Internal Revenue Code commencing with our taxable
      year ended December 31, 2004 and expect to qualify for the current fiscal year.
      To maintain our tax status as a REIT, we plan to continue to distribute at
      least
      90% of our taxable income to stockholders.





**Basis
      of Presentation**


The
      accompanying unaudited consolidated interim financial statements have been
      prepared in accordance with accounting principles generally accepted in the
      United States for interim financial information and with the instructions to
      Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include
      all
      of the information and footnotes required by accounting principles generally
      accepted in the United States for complete financial statements. The
      accompanying unaudited consolidated interim financial statements should be
      read
      in conjunction with the financial statements and the related management's
      discussion and analysis of financial condition and results of operations filed
      on Form 10-K/A for the fiscal year ended December 31, 2005. In our opinion,
      all
      adjustments (consisting only of normal recurring accruals) considered necessary
      for a fair presentation have been included. The results of operations for the
      three and nine months ended September 30, 2006 are not necessarily indicative
      of
      results that may be expected for the entire year ending December 31,
      2006.




**Note
      2** - **Restatement
      of 2005 Financial Statements**





We
      have
      restated our financial statements to properly reflect the accounting of our
      acquisition of Consolidated Mortgage. The originally filed financial statements
      fully consolidated the financial statements of Consolidated Mortgage as of
      January 1, 2005. The acquisition was made in installments and we purchased
      a
      controlling interest in Consolidated Mortgage on April 1, 2005. The financial
      statements are being restated to account for Consolidated Mortgage using the
      equity method prior to acquiring a controlling interest. Net income was not
      affected by the restatements.





The
      following tables set forth the impact of these restatements on certain amounts
      previously reported in the company’s consolidated financial statements for the
      nine months ended September 30, 2005:








5
 Table
          of Contents







Consolidated
                Statements of OperationsNine
                months ended September 30, 2005As
                Originally Reported
            
            
            As
                Restated
              HereinInterest
                income
            
            
            2,879,739
            
            
            2,758,697Loan
                brokerage fees
            
            
            7,769,711
            
            
            4,904,581Service
                and other loan fees
            
            
            1,750,241
            
            
            1,197,617Income
                from investment in subsidiary
            
            
            0
            
            
            748,519Other
            
            
            133,609
            
            
            134,396**Total
                revenue**
            
            
            **12,533,300**
            
            
            **9,743,810**Interest
                expense
            
            
            790,735
            
            
            651,009Compensation
            
            
            1,412,455
            
            
            1,068,732Management
                fees
            
            
            2,562,539
            
            
            1,782,764Professional
                fees
            
            
            1,363,305
            
            
            1,007,425Insurance
            
            
            328,911
            
            
            292,426Provision
                for loan loss
            
            
            41,345
            
            
            41,345Depreciation
            
            
            95,043
            
            
            110,892Income
                taxes
            
            
            451,678
            
            
            451,677Other
            
            
            858,779
            
            
            519,925**Total
                expense**
            
            
            **7,904,790**
            
            
            **5,926,195**Net
                income before minority interest
            
            
            4,628,510
            
            
            3,817,615Income
                allocated to minority interest
            
            
            1,695,101
            
            
            884,206**Net
                income before minority interest**
            
            
            **2,933,409**
            
            
            **2,933,409****Earnings
                per share**
            
            
            **1.09**
            
            
            **1.09**





Consolidated
                Statements of Cash FlowsNine months
                ended September 30, 2005As
                Originally Reported
            
            
            As
                Restated
              HereinNet
                cash provided by operating activities
            
            
            4,682,533
            
            
            3,296,524Net
                cash used by investing activities
            
            
            (42,201,960
            )
            
            (43,459,876
            )Net
                cash provided by financing activities
            
            
            40,788,995
            
            
            43,432,920**Net
                increase in cash**
            
            
            **3,269,568**
            
            
            **3,269,568**





**Note
      3 - Summary of Significant Accounting Policies**





**Principles
      of Consolidation**


The
      accompanying unaudited consolidated interim financial statements include, on
      a
      consolidated basis, our accounts, the accounts of our wholly-owned subsidiaries
      and our interests in variable interest entities in which we are the primary
      beneficiary. All significant intercompany balances and transactions have been
      eliminated in consolidation. Our interest in Desert Capital TRS Statutory Trust
      I (see Note 12) is accounted for using the equity method and the assets and
      liabilities are not consolidated into our financial statements due to our
      determination that Desert Capital TRS Statutory Trust I is a variable interest
      entity in which we are not the primary beneficiary under Financial Accounting
      Standards Board Interpretation No. 46R (“FIN46”).





**Use
      of Estimates**


The
      preparation of financial statements in conformity with accounting principles
      generally accepted in the United States requires management to make estimates
      and assumptions that affect the reported amounts of assets and liabilities
      and
      disclosure of contingent assets and liabilities at the date of the consolidated
      financial statements and the reported amounts of revenues and expenses during
      the reporting period. Actual results may ultimately differ from those
      estimates.





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**Cash
      and Cash Equivalents**


We
      consider all highly liquid investments with original maturities of three months
      or less to be cash equivalents.





Restricted
      cash of $0.47 million is on deposit with our bank and will be used for tenant
      improvements on the remaining vacant space in our office building in Henderson,
      NV.




**Revenue
      Recognition**


Interest
      income on our mortgage investments is recognized over the life of the investment
      and recorded on the accrual basis. Loan origination fees and certain direct
      origination costs associated with mortgage investments funded by us, are
      deferred and recognized as an adjustment to yield over the lives of the related
      loans using the straight-line method. Income recognition is generally suspended
      for loans at the earlier of the date at which payments become 90 days past
      due
      or when, in the opinion of management, a full recovery of income and principal
      becomes doubtful. Income recognition is resumed when the loan becomes
      contractually current and performance is demonstrated to be
      resumed.





Loan
      brokerage fees are nonrefundable fees we receive for brokering loans to third
      party investors. Loan brokerage fees are recognized once the loans associated
      with the fees are funded and closed.





We
      also
      charge fees to service loans brokered to third party investors as well as other
      miscellaneous fees during the loan term. These service and other loan fees
      are
      recognized throughout the life of the loan as they are earned.




**Offering
      Costs**


Costs
      attributable to securities offerings are charged against the proceeds of the
      offerings as a reduction to equity capital. These costs include legal and
      accounting fees to prepare the securities filing as well as the fees incurred
      in
      selling the securities, such as broker commissions.




**Building
      and Equipment**


Building,
      equipment, furniture and fixtures are stated at cost, net of any accumulated
      depreciation. Depreciation is recorded using the straight-line method over
      the
      estimated useful lives of the individual assets.




**Mortgage
      Investments and Loans Held-for-Sale**


Mortgage
      investments are intended to be held to maturity and, accordingly are carried
      at
      cost, net of any unamortized deferred fees and costs, and any allowance for
      loan
      losses. Loans held-for-sale are carried at the lower of cost or market
      value.





**Allowance
      for Loan Losses**


Management
      monitors the delinquencies and defaults on the underlying mortgages and, if
      an
      impairment of the related mortgage loan is deemed to be other than temporary,
      the carrying value of the related mortgage loan will be reduced to fair value
      through a charge to the allowance for loan losses.





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An
      allowance for loan loss is reflected in our financial statements based upon
      an
      evaluation of known and inherent risks in our mortgage loans. The allowance
      is
      based on our assessment of numerous factors affecting our portfolio of mortgage
      assets including, but not limited to, current and projected economic conditions,
      delinquency status, credit losses to date on underlying mortgages and any
      remaining credit protection. Loan loss estimates are reviewed periodically
      and
      adjustments are reported in earnings when they become known. Actual losses,
      if
      any, could ultimately differ from these estimates.





**Income
      Taxes**


We
      elected to be taxed as a REIT, under Sections 856 through 860 of the Internal
      Revenue Code, beginning with our taxable year ended December 31, 2004. To
      qualify as a REIT, we must meet certain organizational and operational
      requirements, including a requirement to distribute at least 90% of our ordinary
      taxable income to stockholders. As a REIT, we generally are not subject to
      federal income tax on taxable income that we distribute to our stockholders.
      If
      we failed to qualify as a REIT in any taxable year, we would then be subject
      to
      federal income taxes on our taxable income at regular corporate rates and we
      would not be permitted to qualify for treatment as a REIT for federal income
      tax
      purposes for four years following the year during which qualification was lost
      unless the Internal Revenue Service granted us relief under certain statutory
      provisions. Such an event could materially adversely affect our net income
      and
      net cash available for distributions to stockholders. However, we intend to
      operate in the foreseeable future in such a manner so that we will qualify
      as a
      REIT for federal income tax purposes.




Our
      taxable REIT subsidiaries are subject to federal, state, and local taxes.




**Stock
      Compensation**


We
      account for stock-based compensation issued to employees and non-employees
      using
      the fair value recognition provisions of SFAS Statement No. 123 (R) “Share-based
      payment”. The total value of the restricted stock is determined on the grant
      date, and this amount is expensed over the vesting period using the
      straight-line method.





**Recent
      Accounting Developments**





In
      September 2006, the FASB issued Statement of Financial Accounting Standards
      No. 157, “Fair Value Measurements” (“SFAS 157”). SFAS 157 defines fair
      value, establishes a framework for measuring fair value and expands disclosures
      about fair value measurements.  SFAS 157 applies under other accounting
      pronouncements that require or permit fair value measurements.  Accordingly,
      SFAS 157 does not require any new fair value measurements. SFAS 157 is effective
      for fiscal years beginning after November 15, 2007, and interim periods within
      those fiscal years. We do not believe that this Statement will have a material
      effect on our financial condition or results of operations.




On
      March
      17, 2006, the Financial Accounting Standards Board (the "FASB") issued SFAS
      No.
      156, Accounting for Servicing of Financial Assets ("SFAS 156"), which amends
      SFAS No. 140, Accounting for Transfers and Servicing of Financial Assets and
      Extinguishments of Liabilities ("SFAS 140"). SFAS 156 (1) requires an entity
      to
      recognize a servicing asset or liability each time it undertakes an obligation
      to service a financial asset by entering into a servicing contract in specified
      situations, (2) requires all separately recognized servicing assets and
      liabilities to be initially measured at fair value, (3) for subsequent
      measurement of each class of separately recognized servicing assets and
      liabilities, an entity can elect either the amortization or fair value
      measurement method, (4) permits a one-time reclassification of
      available-for-sale ("AFS") securities to trading securities by an entity with
      recognized servicing rights, without calling into question the treatment of
      other AFS securities, provided the AFS securities are identified in some manner
      as offsetting the entity's exposure to changes in fair value of servicing assets
      or liabilities that a servicer elects to subsequently measure at fair value,
      and
      (5) requires separate presentation of servicing assets and liabilities measured
      at fair value in the statement of financial position and also requires
      additional disclosures. The initial measurement requirements of this Statement
      should be applied prospectively to all transactions entered into after the
      fiscal year beginning after September 15, 2006. The election related to the
      subsequent measurement of servicing assets and liabilities is also effective
      the
      first fiscal year beginning after September 15, 2006. We do not believe that
      this Statement will have a material effect on our financial condition or results
      of operations.




On
      February 16, 2006, the FASB issued SFAS No. 155, Accounting for Certain Hybrid
      Financial Instruments ("SFAS 155"), which amends SFAS No. 133, Accounting for
      Derivative Instruments and Hedging Activities ("SFAS 133") and SFAS 140. SFAS
      155 (1) permits fair value remeasurement for any hybrid financial instrument
      that contains an embedded derivative that otherwise would require bifurcation,
      (2) clarifies which interest-only and principal-only strips are not subject
      to
      the requirements of SFAS 133, (3) establishes a requirement to evaluate
      interests in securitized financial assets to identify interests that are
      freestanding derivatives or that are hybrid financial instruments that contain
      an embedded derivative requiring bifurcation, (4) clarifies that concentrations
      of credit risk in the form of subordination are not embedded derivatives, and
      (5) amends SFAS 140 to eliminate the prohibition on a qualifying special-purpose
      entity from holding a derivative financial instrument that pertains to a
      beneficial interest other than another derivative financial instrument. This
      Statement is effective for all financial instruments acquired or issued after
      the beginning of an entity's fiscal year that begins after September 15, 2006.
      At adoption, the fair value election may also be applied to hybrid financial
      instruments that have been bifurcated under SFAS 133 prior to adoption of this
      Statement. Any changes resulting from the adoption of this Statement should
      be
      recognized as a cumulative effect adjustment to beginning retained earnings.
      We
      do not believe that this Statement will have a material effect on our financial
      condition or results of operations.




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In
      June
      2006, the FASB issued FIN 48, “Accounting for Uncertainty in Income Taxes - an
      Interpretation of FASB Statement No. 109,” which clarifies the accounting for
      uncertainty in tax positions. FIN 48 requires we recognize in our financial
      statements the impact of a tax position, if the position is more likely than
      not
      of being sustained on audit, based on the technical merits of the position.
       FIN 48 is effective for fiscal years beginning after December 15,
      2006.  We are in the process of assessing the impact of FIN 48 and have not
      determined what impact, if any, our adoption of FIN 48 will have on our
      financial position, results of operations or cash flows.




**Note
      4 - Mortgage Investments**


Mortgage
      investments represent first and second lien positions on acquisition and
      development and construction loans.





September
                30,
            
            
            December
                31,2006
            
            
            2005Acquisition
                and development loans
            
            $
            116,256,450
            
            $
            44,522,500Construction
                loans
            
            
            23,208,200
            
            
            23,204,480Unamortized
                deferred fees and costs
            
            
            (817,841)
            
            
            -Allowance
                for loan losses
            
            
            (278,929)
            
            
            (77,729)Mortgage
                investments - net
            
            $
            138,367,880
            
            $
            67,649,251





As
      of
      September 30, 2006 and December 31, 2005, approximately 15% and 19%,
      respectively, of the principal balance of the outstanding mortgage notes were
      secured by second liens. As of September 30, 2006, the portfolio had a weighted
      average interest rate of 13.5%.





As
      of
      September 30, 2006, our mortgage investment portfolio was concentrated in the
      Southwestern United States. Eighty-five percent of the principal balance of
      our
      portfolio was invested throughout Nevada, California, Arizona, and Utah. Our
      borrowers’ ability to repay our notes is dependent upon the real estate and
      general economic conditions in this area.




**Note
      5 - Stock Based Compensation**


The
      Board
      of Directors has adopted the 2004 Stock Incentive Plan of Desert Capital REIT,
      Inc. (the “Plan”). Our directors, officers or any affiliate of the Company, and
      individual consultants or advisors are eligible for stock based compensation
      under the Plan. We have authorized 1.0 million shares of common stock under
      the
      Plan. As of September 30, 2006 we have granted awards for 0.06 million
      restricted shares under the Plan. The fair value of the shares on the grant
      dates were $10 and $15 per share, and the shares vest in three equal annual
      installments, commencing on the first anniversary of issuance. Restricted stock
      expense for the three and nine months ended September 30, 2006 was $0.04 million
      and $0.11 million, respectively.




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**Note
      6 - Building and Equipment**


We
      own an
      office building in Henderson, NV, which serves as our corporate headquarters.
      Any space that is not utilized by us is leased to other companies. The total
      square footage of the building is approximately 40,000 square feet, and as
      of
      September 30, 2006, the building was approximately 89%
      leased.




Building
      and equipment as of September 30, 2006 and December 31, 2005 are as
      follows:




September
                30,
            
            
            December
                31,2006
            
            
            2005Building
            $
            7,294,147
            
            $
            7,294,147Equipment
            
            126,314
            
            
            126,314Furniture
                and fixtures
            
            445,639
            
            
            411,346Software
            
            906,720
            
            
            475,5988,772,820
            
            
            8,307,405Less
                accumulated depreciation
            
            (601,279)
            
            
            (278,155)$
            8,171,541
            
            $
            8,029,250





**Note
      7 - Leases**


We
      currently lease approximately 12,020 square feet of office space (see Note
      6) to
      related parties and approximately 15,000 square feet to unrelated third parties
      under noncancelable leases with an average term of five years.





**Note
      8 - Income taxes**


We
      elected to be taxed as a REIT, under Sections 856 through 860 of the Internal
      Revenue Code, beginning with our taxable year ended December 31, 2004. To
      qualify as a REIT, we must meet certain organizational and operational
      requirements, including a requirement to distribute at least 90% of our ordinary
      taxable income to stockholders. As a REIT, we generally are not subject to
      federal income tax on taxable income that we distribute to our
      stockholders.





Our
      taxable REIT subsidiaries are subject to federal, state, and local taxes. For
      the nine months ended September 30, 2006, we recorded $0.16 million of income
      tax expense for income attributable to our wholly-owned taxable REIT subsidiary.
      We have assumed an effective tax rate for the nine months ended September 30,
      2006 of 34% taking into consideration the anticipated applicable U.S. federal
      statutory tax rate at December 31, 2006 of 34%. We have recorded a deferred
      tax
      liability due to differences between financial and taxable income attributable
      to timing differences in the recognition of depreciation and
      amortization.





**Note
      9 - Earnings per Share**


Earnings
      per share is computed in accordance with SFAS No. 128, Earnings per Share.
      Basic
      earnings per share is calculated by dividing net income by the weighted average
      number of shares of common stock outstanding during each period. Diluted
      earnings per share is calculated by dividing net income by the weighted average
      number of shares outstanding plus the additional dilutive effect of unvested
      restricted stock during each period.





The
      following is a reconciliation of the denominator of the basic and diluted
      earnings per share computations for the three months ended September 30, 2006
      and 2005.





For
                the Three Months Ended
            For
                the Three Months EndedSeptember
                30, 2006
            September
                30, 2005Basic
            
            
            Diluted
            
            
            Basic
            
            
            DilutedNet
                income
            
            $
            3,635,012
            
            $
            3,635,012
            
            $
            1,311,625
            
            $
            1,311,625Weighted
                average number of common shares outstanding
            
            
            14,160,322
            
            
            14,160,322
            
            
            5,244,261
            
            
            5,244,261Dilutive
                effect of unvested restricted shares
            
            
            -
            
            
            31,449
            
            
            -
            
            
            27,180Total
                weighted average common shares outstanding
            
            
            14,160,322
            
            
            14,191,771
            
            
            5,244,261
            
            
            5,271,441Earings
                per common share
            
            
            0.26
            
            
            0.26
            
            
            0.25
            
            
            0.25




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The
      following is a reconciliation of the denominator of the basic and diluted
      earnings per share computations for the nine months ended September 30, 2006
      and
      2005.





For
                the Nine Months Ended
            For
                the Nine Months EndedSeptember
                30, 2006
            September
                30, 2005Basic
            
            
            Diluted
            
            
            Basic
            
            
            DilutedNet
                income
            
            $
            10,115,078
            
            $
            10,115,078
            
            $
            2,933,409
            
            $
            2,933,409Weighted
                average number of common shares outstanding
            
            
            12,975,033
            
            
            12,975,033
            
            
            3,742,407
            
            
            3,742,407Dilutive
                effect of unvested restricted shares
            
            
            
            
            
            29,377
            
            
            -
            
            
            22,393Total
                weighted average common shares outstanding
            
            
            12,975,033
            
            
            13,004,410
            
            
            3,742,407
            
            
            3,764,800Earings
                per common share
            
            
            0.78
            
            
            0.78
            
            
            0.78
            
            
            0.78





**Note
      10 - Dividends**


The
      Board
      of Directors declares dividends payable monthly to stockholders of record at
      the
      close of business on the last day of each month, prorated to the date admitted
      as a stockholder. The following table lists the declaration dates and per share
      amounts for the first nine months of 2006 and 2005:




2006
            
            
            2005January
                31
            
            $
            0.10
            
            $
            0.075February
                28
            
            
            0.10
            
            
            0.075March
                31
            
            
            0.10
            
            
            0.075April
                30
            
            
            0.10
            
            
            0.10May
                31
            
            
            0.10
            
            
            0.10June
                30
            
            
            0.10
            
            
            0.10July
                31
            
            
            0.10
            
            
            0.10August
                31
            
            
            0.10
            
            
            0.10September
                30
            
            
            0.10
            
            
            0.10Total
            
            $
            0.90
            
            $
            0.825




**Note
      11 - Retirement Plan**


We
      offer
      a SIMPLE IRA plan to its employees. We match employee contributions dollar
      for
      dollar up to 3% of the employees’ compensation for the year. The amount matched
      by the us is expensed in the same period that the corresponding employee
      contributions are made.




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**Note
      12 - Debt**





**Credit
      Facility**


We
      have a
      $7.5 million secured revolving credit facility with a term of one year that
      expires in August 2007.  The facility is drawn upon for short term funding
      requirements. Amounts drawn under this facility bear interest at a rate equal
      to
      prime plus 75 basis points and must be repaid within 90 days.  Amounts
      drawn under this facility generally are secured by the corresponding loan that
      is being funded. The interest rate on this facility at September 30, 2006 was
      9.00%. At September 30, 2006 we had $2.6 million outstanding and $4.9 million
      available under this facility.




**Mortgage
      Loan Payable**


We
      have
      one mortgage loan with an outstanding principal balance of $6.56 million and
      a
      variable rate of interest equal to prime that is being fully amortized and
      matures in 2026. The prime interest rate on September 30, 2006 was 8.25%. The
      mortgage was used to finance the acquisition and construction of our office
      building in Henderson, NV.




**Junior
      Subordinated Notes**


In
      June,
      2006 we completed the issuance of $30 million in unsecured trust preferred
      securities through a newly formed Delaware statutory trust, Desert Capital
      TRS Statutory Trust I, which is our wholly owned subsidiary.  The
      securities bear interest at a floating rate based on the three-month LIBOR
      plus
      400 basis points, which was 9.48% on September 30, 2006.




The
      trust
      preferred securities require quarterly interest distributions. The trust
      preferred securities mature in July 2036 and are redeemable, at our option,
      in
      whole or in part, with no prepayment premium any time after July 30,
      2011.




Desert
      Capital TRS Statutory Trust I issued $0.93 million aggregate liquidation amount
      of common securities, representing 100% of the voting common stock of Desert
      Capital TRS Statutory Trust I to us. Desert Capital TRS Statutory Trust I used
      the proceeds from the sale of the trust preferred securities and the common
      securities to purchase our junior subordinated notes.  The terms of the
      junior subordinated notes match the terms of the trust preferred
      securities.  The notes are subordinate and junior in right of payment to
      all present and future senior indebtedness and certain other of our financial
      obligations.




Our
      interest in Desert Capital TRS Statutory Trust I is accounted for using the
      equity method and the assets and liabilities of Desert Capital TRS Statutory
      Trust I are not consolidated into our financial statements.  Interest on
      the junior subordinated notes is included in interest expense on our
      consolidated income statements while the junior subordinated notes are presented
      as a separate item in our consolidated balance sheet.





**Note
      13 - Fair Value of Financial Instruments**


Considerable
      judgment is necessary to interpret market data and develop estimated fair value.
      Accordingly, fair values are not necessarily indicative of the amounts we could
      realize on disposition of the financial instruments. The use of different market
      assumptions and/or estimation methodologies may have a material effect on
      estimated fair value amounts.





Cash
      equivalents, accrued interest, and accounts payable balances reasonably
      approximate their fair values due to the short maturities of these items. The
      carrying value of our credit facility, mortgage loan payable, and junior
      subordinated notes approximate fair value because they bear interest at floating
      rates, which reasonably approximate market rates. Mortgage investments and
      loans
      held-for-sale are carried at amounts which we have determined reasonably
      approximate their fair value based upon their relatively short term maturities
      and the amount at which similarly issued instruments have been
      valued.





**Note
      14 - Commitments and Related Parties**


We
      have
      contracted with Burton to serve as advisor for the Company. Burton oversees
      the
      day-to-day operations including asset, liability and capital management. In
      lieu
      of paying salaries to its officers, we compensate Burton pursuant to an advisory
      agreement that entitles Burton to a base management fee, incentive compensation
      and reimbursement of expenses. The officers and owners of Burton are also the
      executive officers of us. The annual base management compensation is 1% of
      the
      first $200 million of average invested assets plus 0.8% of the average invested
      assets in excess of $200 million, to be paid quarterly. The base management
      fee
      for the three and nine months ended September 30, 2006 were $0.34 million,
      and
      $0.82 million, respectively, and $0.12 million remained payable on September
      30,
      2006. The incentive compensation is a tiered percentage of the amount of our
      net
      income (taxable income) excluding capital losses, before deducting incentive
      compensation less a threshold return, which is the net income that would produce
      an annualized return on our average invested assets equal to the 10-year
      U.S. Treasury rate plus 1.0%. The tiered percentage is the weighted average
      of 20% of the first $200 million of average invested assets and 10% of the
      excess over $200 million, of average invested assets. Incentive compensation
      for
      the three and nine months ended September 30, 2006 was $0.33 million and $0.97
      million, respectively, and $0.12 million remained payable on September 30,
      2006.




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Consolidated
      Mortgage has a management agreement in place with ARJ Management (“ARJ”), a
      company of which Todd Parriott is president, director and controlling
      shareholder, pursuant to which ARJ is paid a management fee equal to 33% of
      Consolidated Mortgage's pre-tax net income. The fee is calculated and paid
      monthly. The management fee for three and nine months ended September 30, 2006
      was $0.46 million and $1.99 million, respectively, and $0.07 million remained
      payable on September 30, 2006.




The
      dealer-manager of our offering of common stock, CMC Financial Services, Inc.
      (“CMCFS”) directs and oversees the sale of our equity securities. CMCFS receives
      a marketing support fee and sales commissions based on the number of shares
      of
      common stock sold. CMCFS contracts with third party broker-dealers to have
      a
      larger sales distribution of equity securities, and compensates them out of
      the
      sales commissions and marketing support fees received from us. The
      dealer-manager is an affiliate of both Burton and us, because the owners of
      CMCFS are also our executive officers. CMCFS earned gross sales commissions
      and
      marketing support fees for the three and nine months ended September 30, 2006
      of
      $0.44 million, and $4.65 million, respectively, and $0.05 million remained
      payable on September 30, 2006. CMCFS paid approximately 47% of these fees to
      third party broker-dealers for the nine months ended September 30,
      2006.





CMCFS
      also has an agreement in place with Consolidated Mortgage to provide investors
      for loans brokered and serviced by Consolidated Mortgage for a fee equal to
      25
      basis points of every dollar raised. The fee is calculated and paid monthly.
      The
      fee pursuant to this agreement for the three and nine months ended September
      30,
      2006 was $0.16 million and $0.67 million, respectively, and $0.02 remained
      payable on September 30, 2006.




On
      September 30, 2006, we had outstanding loans of approximately $11.2 million
      to
      CM Land, LLC, a related party. Our executive officers also own and manage CM
      Land, LLC. The loans have an average interest rate of 13.5% and mature between
      October, 2006 and January, 2007. CM Land, LLC, used these funds, in addition
      to
      funds provided by unaffiliated third party lenders, to acquire approximately
      $80
      million of unimproved real estate from an unaffiliated third party. The
      Company’s loan is evidenced by a mortgage note and is secured by a deed of trust
      on the land acquired with our funds. We paid no fees to CM Land in connection
      with the transaction. The Board of Directors has appointed an independent
      committee to review and approve amounts that we loan to CM Land, LLC. We have
      earned interest of $0.41 million and $1.27 million for the three and nine months
      ended September 30, 2006, respectively for these loans.




We
      also
      lease office space to Burton, CMCFS, and Residential Capital Mortgage under
      noncancelable operating leases which expire in July 2010. The total rents
      received from related parties for the three and nine months ended September
      30,
      2006 was $0.08 million and $0.24 million respectively.




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**Item
      2.Management's Discussion and Analysis of Financial
      Condition and Results of Operations**




*The
      following discussion of our financial condition and results of operations should
      be read in conjunction with the financial statements and notes to those
      statements included elsewhere in this document. This discussion may contain
      certain forward-looking statements. Forwarding-looking statements are those
      that
      are not historical in nature. They can often be identified by their inclusion
      of
      words such as “will,” “anticipate,” “estimate,” “should,” “expect,” “believe,”
“intend” and similar expressions. Any projection of revenues, earnings or
      losses, capital expenditures, distributions, capital structure or other
      financial terms is a forward-looking statement. Our forward-looking statements
      are based upon our management’s beliefs, assumptions and expectations of our
      future operations and economic performance, taking into account the information
      currently available to us. Forward-looking statements involve risks and
      uncertainties, some of which are not currently known to us, that might cause
      our
      actual results, performance or financial condition to be materially different
      from the expectations of future results, performance or financial condition
      we
      express or imply in any forward-looking statements. Some of the important
      factors that could cause our actual results, performance or financial condition
      to differ materially from expectations are:*





·  *Changes
      in interest rates;*





·  *Decreases
      in the value of the property underlying our mortgage loans;*





·  *Burton’s
      motivation to recommend riskier investments in an effort to maximize its
      incentive compensation under the advisory agreement; and*





·  *Although
      we believe our method of operations is in conformity with the requirements
      for
      qualification as a REIT, we cannot assure you that we will continue to qualify
      as a REIT. Our failure to qualify or remain qualified as a REIT could have
      material adverse effect on our performance and your
      investment.*




We
      undertake no obligation to publicly update or revise any forward-looking
      statements, whether as a result of new information, future events or otherwise.
      In light of these risks, uncertainties and assumptions, the events described
      by
      our forward-looking statements might not occur. We qualify any and all of our
      forward-looking statements by these cautionary factors. In addition, you should
      carefully review the risk factors described in other documents we file from
      time
      to time with the Securities and Exchange Commission.




**General**


We
      are a
      Maryland corporation formed in December 2003 as a REIT that specializes in
      the
      origination and financing of short-term mortgage loans. We generally invest
      in
      12- to 18- month, first and second lien mortgage loans, consisting of
      acquisition and development loans and construction loans to developers and
      builders of residential and commercial property. The loans are primarily
      sub-prime and have a fixed rate of interest. We derive our revenues primarily
      from interest payments received from mortgage investments funded with our equity
      capital and borrowed funds. Our principal business objective is to generate
      net
      income for distribution to our stockholders from the spread between interest
      income on our mortgage assets and the costs of financing the acquisition of
      these assets. This spread, net of operating expenses, provides both operating
      capital and distributable income. Our business depends on our access to external
      sources of financing at a cost we can absorb while still generating an
      attractive risk-adjusted return on the loans we acquire using the proceeds
      of
      our financings. Our business also depends on our ability to locate suitable
      investments to keep our capital fully deployed at favorable rates. We are
      externally managed and advised by Burton.





Substantially
      all of the loan origination and loan servicing is conducted through our wholly
      owned subsidiary, Consolidated Mortgage LLC. In addition to originating and
      servicing loans for us, Consolidated Mortgage also originates, brokers, and
      services mortgage loans to private investors. Consolidated Mortgage generates
      significant brokerage and other fees from the loans funded by its private
      investor-clients which provides additional cash flow to us. Due to the high
      amount of fees generated by Consolidated Mortgage it has been structured as
      a
      TRS resulting in its income being subject to federal income taxes at C
      corporation rates.





We
      qualified as a REIT under the Internal Revenue Code commencing with our taxable
      year ending December 31, 2004 and expect to qualify for the current fiscal
      year.
      To maintain our tax status as a REIT we plan to continue to distribute at least
      90% of our taxable income to stockholders.




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**Critical
      Accounting Policies and Management Estimates**


Our
      discussion and analysis of financial condition and results of operations is
      based on our financial statements, which have been prepared in accordance with
      accounting principles generally accepted in the United States, known as GAAP.
      These accounting principles require us to make some complex and subjective
      decisions and assessments.  Our most critical accounting policies involve
      decisions and assessments, which could significantly affect our reported assets,
      liabilities and contingencies, as well as our reported revenues and
      expenses.  We believe that all of the decisions and assessments upon which
      our financial statements are based were reasonable at the time made based upon
      information available to us at that time.  We evaluate these decisions and
      assessments on an ongoing basis.  Actual results may differ from these
      estimates under different assumptions or conditions.  We have identified
      our most critical accounting policies to be the following:




**Revenue
      Recognition**


Interest
      income on our mortgage investments is recognized over the life of the investment
      and recorded on the accrual basis. Loan origination fees and certain direct
      origination costs associated with mortgage investments funded by us, are
      deferred and recognized as an adjustment to yield over the lives of the related
      loans using the straight-line method. Income recognition is generally suspended
      for loans at the earlier of the date at which payments become 90 days past
      due
      or when, in the opinion of management, a full recovery of income and principal
      becomes doubtful. Income recognition is resumed when the loan becomes
      contractually current and performance is demonstrated to be
      resumed.





Loan
      brokerage fees are nonrefundable fees we receive for brokering loans to third
      party investors. Loan brokerage fees are recognized once the loans associated
      with the fees are funded and closed.





We
      also
      charge fees to service loans brokered to third party investors as well as other
      miscellaneous fees during the loan term. These service and other loan fees
      are
      recognized throughout the life of the loan as they are earned.




**Mortgage
      Investments and Loans Held-for-Sale**


Mortgage
      investments are intended to be held to maturity and, accordingly are carried
      at
      cost, net of any unamortized deferred fees and costs, and any allowance for
      loan
      losses. Loans held-for-sale are carried at the lower of cost or market
      value.





**Allowance
      for Loan Losses**


Management
      monitors the delinquencies and defaults on the underlying mortgages and, if
      an
      impairment of the related mortgage loan is deemed to be other than temporary,
      the carrying value of the related mortgage loan will be reduced to fair value
      through a charge to the allowance for loan losses.





An
      allowance for loan loss is reflected in our financial statements based upon
      an
      evaluation of known and inherent risks in our mortgage loans. The allowance
      is
      based on our assessment of numerous factors affecting our portfolio of mortgage
      assets including, but not limited to, current and projected economic conditions,
      delinquency status, credit losses to date on underlying mortgages and any
      remaining credit protection. Loan loss estimates are reviewed periodically
      and
      adjustments are reported in earnings when they become known. Actual losses,
      if
      any, could ultimately differ from these estimates.




15
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**Income
      Taxes**


We
      elected to be taxed as a REIT, under Sections 856 through 860 of the Internal
      Revenue Code, beginning with our taxable year ended December 31, 2004. To
      qualify as a REIT, we must meet certain organizational and operational
      requirements, including a requirement to distribute at least 90% of our ordinary
      taxable income to stockholders. As a REIT, we generally are not subject to
      federal income tax on taxable income that we distribute to our stockholders.
      If
      we failed to qualify as a REIT in any taxable year, we would then be subject
      to
      federal income taxes on our taxable income at regular corporate rates and we
      would not be permitted to qualify for treatment as a REIT for federal income
      tax
      purposes for four years following the year during which qualification was lost
      unless the Internal Revenue Service granted us relief under certain statutory
      provisions. Such an event could materially adversely affect our net income
      and
      net cash available for distributions to stockholders. However, we intend to
      operate in the foreseeable future in such a manner so that we will qualify
      as a
      REIT for federal income tax purposes.




Our
      taxable REIT subsidiaries are subject to federal, state, and local
      taxes.





**Results
      of Operations**





***Comparison
      of the three months ended September 30, 2006 compared to three months ended
      September 30, 2005.***





***Revenues***




Interest
      income increased $4.1 million, or 315%, to $5.4 million in the third quarter
      of
      2006 from $1.3 million for the three months ended September 30, 2005. This
      increase was due to a 290% increase in the average balance of the loan portfolio
      from $35 million for the quarter ended September 30, 2005 to $137 million in
      the
      same period in 2006. This was a result of increased loan funding as a result
      of
      the ongoing sale of our equity securities and an increase in the amount of
      borrowed funds. The average yield on mortgage investments increased 110 basis
      points to 13.5% for the quarter ended September 30, 2006 from 12.4% in the
      same
      period in 2005. This increase was a result of higher market rates of interest.




Non-interest
      income decreased $0.7 million, or 25%, to $2.1 million in the third quarter
      of
      2006 from $2.8 million for the same period in 2005. This
      decrease was primarily due to a decrease in the principal amount of loans
      brokered in the third
      quarter of 2006, and the deferral and amortization of the origination fees
      on
      those loans instead of immediate recognition of the fees.




***Expenses***




Interest
      expense increased $0.7 million, or 233%, to $1.0 million in the third quarter
      of
      2006 from $0.3 million for the same period in 2005. This increase was due to
      a
      580% increase in the average debt financing on our loan portfolio from $6
      million for the quarter ended September 30, 2005 to $41 million for the same
      period in 2006. This increase was due to greater borrowing for loan
      originations, as well as a 40% increase in the average cost of these borrowings
      from 6.5% to 9.0% resulting from increased market rates of interest and
      principal amounts of borrowings.




Non-interest
      expenses increased $0.6 million, or 29%, to $2.8 million in the third quarter
      of
      2006 from $2.3 for the same period in 2005. This increase was primarily due
      to
      an increase in base management fees and incentive fees to Burton as a result
      of
      the increase of the average balance of our loan portfolio, additional
      depreciation expense associated with the office building that was placed into
      service in July 2005, and an increase in advertising expenses.





***Comparison
      of the nine months ended September 30, 2006 compared to nine months ended
      September 30, 2005.***





***Revenues***




Interest
      income increased $9.8 million, or 350%, to $12.6 million in the first nine
      months of 2006 from $2.8 million for the nine months ended September 30, 2005.
      This increase was due to a 311% increase in the average balance of the loan
      portfolio from $26 million for the nine months ended September 30, 2005 to
      $108
      million in the same period in 2006. This increase was primarily due to increased
      loan originations as a result of the ongoing sale of our equity securities
      and
      an increase in the amount of borrowed funds. The average yield on the mortgage
      investments increased 130 basis points to 13.5% for the nine months ended
      September 30, 2006 from 12.2% in the same period in 2005, as a result of
      increased market rates of interest.




Non-interest
      income increased $0.9 million, or 13%, to $7.9 million in the first nine months
      of 2006 from $7.0 million for the same period in 2005. This increase was
      primarily due to the financial statements being consolidated for the full nine
      months of 2006 as compared to only six months of consolidation for the first
      six
      months of 2005.




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***Expenses***




Interest
      expense increased $1.0 million, or 143%, to $1.7 million for the first nine
      months of 2006 from $0.7 million for the same period in 2005. This increase
      was
      due to a 296% increase in the average debt financing on our loan portfolio
      from
      $6 million for the nine months ended September 30, 2005 to $24 million for
      the
      same period in 2006. This increase was primarily due to increased borrowing
      for
      loan originations, as well as a 29% increase in the average cost of these
      borrowings from 6.6% to 8.5% as a result of increased market rates of interest
      and principal amounts of borrowings.




Non-interest
      expenses increased $3.5 million, or 73%, to $8.3 million in the first nine
      months of 2006 from $4.8 for the same period in 2005. This increase was
      primarily due to the financial statements being consolidated for the full nine
      months of 2006 as compared to only six months of consolidation for the first
      six
      months of 2005. Other factors that contributed to the increase were an increase
      in base management fees and incentive fees to Burton resulting from an increase
      in the average balance of our invested assets, additional depreciation expense
      associated with our office building, and an increase in advertising
      expenses.





**Liquidity
      and Capital Resources**


Liquidity
      is a measurement of the ability to meet cash requirements, including ongoing
      commitments to repay borrowings, fund and maintain loans and investments, pay
      dividends and other general business needs. **** We
      believe that our principal sources of working capital and funds for additional
      investments will primarily include: 1) cash flow from operations; 2) borrowings
      under our credit facilities 3) proceeds from common equity offerings and, to
      a
      lesser extent, 4) the proceeds from principal payments on our investments. 
We believe these sources of financing will be sufficient to meet our short-term
      liquidity needs.





Net
      cash
      provided by operating activities for the nine months ended September 30, 2006,
      was approximately $10.5 million, which was primarily generated from interest
      on
      our mortgage notes receivable and fees generated from originating and servicing
      loans. We expect cash flows from operating activities to increase as we continue
      to invest proceeds from the Offering into mortgage loans and generate additional
      origination fees.





We
      have a
      $7.5 million secured revolving credit facility with a term of one year that
      expires in August 2007.  The facility is drawn upon for short term funding
      requirements. Amounts drawn under this facility bear interest at a rate equal
      to
      prime plus 75 basis points and must be repaid within 90 days.  Amounts
      drawn under this facility generally are secured by the corresponding loan that
      is being funded. The interest rate on this facility at September 30, 2006 was
      9.00%. At September 30, 2006 we had $2.6 million outstanding and $4.9 million
      available under this facility.





In
      June,
      2006 we completed the issuance of $30 million in unsecured trust preferred
      securities through a newly formed Delaware statutory trust, Desert Capital
      TRS Statutory Trust I, which is our wholly owned subsidiary.  The
      securities bear interest at a floating rate based on the three-month LIBOR
      plus
      400 basis points, which was 9.48% on September 30, 2006.




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The
      trust
      preferred securities require quarterly interest distributions. The trust
      preferred securities mature in July 2036 and are redeemable, at our option,
      in
      whole or in part, with no prepayment premium any time after July 30,
      2011.




Desert
      Capital TRS Statutory Trust I issued $0.93 million aggregate liquidation amount
      of common securities, representing 100% of the voting common stock of Desert
      Capital TRS Statutory Trust I to us. Desert Capital TRS Statutory Trust I used
      the proceeds from the sale of the trust preferred securities and the common
      securities to purchase our junior subordinated notes.  The terms of the
      junior subordinated notes match the terms of the trust preferred
      securities.  The notes are subordinate and junior in right of payment to
      all present and future senior indebtedness and certain other of our financial
      obligations.




Our
      interest Desert Capital TRS Statutory Trust I is accounted for using the equity
      method and the assets and liabilities of Desert Capital TRS Statutory Trust
      I
      are not consolidated into our financial statements.  Interest on the junior
      subordinated notes is included in interest expense on our consolidated income
      statements while the junior subordinated notes are presented as a separate
      item
      in our consolidated balance sheet.




In
      April
      2006 we commenced the second public offering of our common stock. Through
      September 30, 2006, we received gross proceeds of $7.1 million. These proceeds
      were used to invest in mortgage loans and pay offering expenses.





In
      order
      to continue to qualify as a REIT and to avoid corporate-level tax on the income
      we distribute to our stockholders, we are required to distribute at least 90%
      of
      our REIT taxable income on an annual basis. Therefore, once the net proceeds
      we
      receive from the offering are substantially fully invested, we need to continue
      to borrow in order to grow our business and acquire additional assets. Our
      sources of funds are primarily the net proceeds from the offering, operating
      cash flows and borrowings. Operating cash flows consist of fees and interest
      received on mortgage loans and investments. Liquidity is also generated through
      lines of credit with commercial banks. We believe that we will continue to
      be
      able to obtain financing in amounts and on terms that are acceptable to us
      and
      consistent with our business strategy. We believe that these cash resources
      are sufficient to satisfy our immediate liquidity requirements. However, we
      do
      continue to pursue additional capital from the continued sale of our securities
      and leveraging opportunities.





**Item
      3. Quantitative and Qualitative Disclosures about Market
      Risk**


Market
      risk refers to the risk of loss from adverse changes in the level of one or
      more
      market prices, rate indices or other market factors. We are exposed to market
      risk primarily from changes in interest rates that are very sensitive to a
      variety of factors including political, economic and other factors outside
      of
      our control.




Interest
      rate risk arises primarily as a result of our core business activities of
      acquiring mortgage loans and funding a portion of the purchases with borrowings
      and the associated asset and liability management required to match maturities
      of loans to funding sources. The principal objective of our asset and liability
      management is to maximize net interest income while operating within acceptable
      limits established for interest rate risk and maintaining adequate levels of
      liquidity.




The
      primary interest rate exposure to which we are subject relates to our mortgage
      loan portfolio. Our mortgage investments contain fixed rates of interest, while
      the liabilities that we finance our investments with contain variable interest
      rates. Any change in the general level of interest rates in the market can
      affect our net interest income and net income in either a positive or negative
      manner. Net interest income is the difference between the income earned from
      interest bearing assets less the expense incurred relating to interest bearing
      liabilities. Fluctuations in the interest rate environment can also affect
      our
      ability to acquire new loans, the value of our loans held-for-sale portfolio
      and
      our ability to sell the loans held for sale and the related income associated
      with a sale.




We
      do not
      intend to use any derivative instruments to manage our interest rate exposure.
      Given the short time horizon of our anticipated investments and our related
      borrowings, we do not believe a hedging strategy is necessary. In addition,
      our
      actions are limited by rules with which REITs must comply.




**Item
      4.Controls and Procedures**


As
      a
      result of a review of our Form 10-K for the year ended December 31, 2005 by
      the
      Securities and Exchange Commission (SEC), we have restated our financial
      statements for the twelve month period ended December 31, 2005, the six month
      period ended June 30, 2005, and the nine month period ended September 30, 2005.
      Due to the restatements in 2005 our Chief Executive Officer and Chief Financial
      Officer have determined that there were deficiencies that existed in the design
      or operation of our controls and procedures in 2005. The deficiencies in our
      controls and procedures are related to the accounting treatment of our
      installment purchase of Consolidated Mortgage throughout 2005. Subsequent to
      2005 we have revised our control process with respect to the review of
      information required in filings with the SEC. We have engaged a third party
      to
      review the reporting and disclosures of special transactions, on a quarterly
      basis that are not a part of our ordinary course of business. Other than this
      change, there have not been any significant changes in internal control over
      financial reporting since 2005 that has affected, or is likely to materially
      affect our internal control over financial reporting.




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As
      of the
      end of the period covered by this quarterly report, we carried out an
      evaluation, under the supervision and with the participation of management,
      including the our Chief Executive Officer and Chief Financial Officer, of the
      effectiveness of the design and operation of the Company’s disclosure controls
      and procedures pursuant to Securities Exchange Act Rule 13a-15. Based on that
      evaluation, the Chief Executive Officer and the Chief Financial Officer have
      concluded that these disclosure controls and procedures are effective as of
      the
      end of the period covered by this report. There have been no changes in the
      internal controls over financial reporting identified in connection with the
      evaluation described above that occurred during the period covered by this
      report that materially affected, or is reasonably likely to materially affect,
      our internal control over financial reporting.




**Part
      II. Other Information**





**Item
      1A. Risk Factors**


During
      the periods covered by this report, there were no material changes to the risk
      factors discussed in our Annual Report on Form 10-K for the year ended December
      31, 2005.




**Item
      2. Unregistered Sales of Equity Securities and Use of
      Proceeds**




Desert
      Capital REIT’s Form S-11 Registration Statement, File No. 333-128885,
      registering the sale of up to 15 million shares of Desert Capital’s common
      stock, was declared effective by the Securities and Exchange Commission on
      March
      22, 2006. The offering commenced on April 1, 2006. The offering is a “best
      efforts” offering, and as of the date of the filing of this Form 10-Q, the
      offering is continuing. The dealer-manager for the offering is CMC Financial
      Services, Inc. The offering price is $15.00 per share, with discounts and
      commissions payable to the dealer-manager equaling $1.425 per share. The
      aggregate price of the 15 million shares of common stock registered is $225
      million As of September 30, 2006 Desert Capital has sold approximately 0.47
      million shares, with an aggregate offering price of $7.08 million, and issued
      0.16 million shares pursuant to the dividend reinvestment plan.




From
      April 1, 2006 through September 30, 2006, Desert Capital has incurred offering
      expenses of approximately $0.74 million, consisting of $0.67 million in
      commissions paid to CMC Financial Services, Inc., the dealer-manager, and $0.06
      million for legal, accounting, and filing fees resulting in total expenses
      of
      $0.74 million. Todd B. Parriott, the Chairman of the Board and Chief Executive
      Officer of Desert Capital is a director and principal of CMC Financial Services,
      Inc. The net offering proceeds to Desert Capital REIT after deducting total
      offering expenses as of September 30, 2006 are $6.34 million.




Of
      the
      $6.34 million of net proceeds received from sales of Desert Capital’s common
      stock as of September 30, 2006, $6.34 million has been invested in loans secured
      by real estate.




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**Purchases
      of equity securities by the issuer and affiliated
      purchasers**




**Period**
            **Total
                Number of Shares
                Purchased**
            **Average
                Price Paid Per Share**
            **Total
                Number of Shares Purchased as part of Publicly Announced Plans or
                Programs
                (1)**
            **Maximum
                Number of Shares that May Yet Be Purchased Under the Plans or
                Programs**January
                1, 2006 - January 31, 2006
            4,578
            $10
            4,578
            (2)February
                1, 2006 - February 28, 2006
            885
            $10
            885
            (2)March
                1, 2006 - March 31, 2006
            22,500
            $10
            22,500
            (2)April
                1, 2006 - April 30, 2006
            152,726
            $10
            152,726
            (2)May
                1, 2006 - May 31, 2006
            -
            
            -June
                1, 2006 - June 30, 2006
            -
            
            -July
                1, 2006 - July 31, 2006
            22,839
            $10
            22,839
            (2)August
                1, 2006 - August 31, 2006
            -
            
            -September
                1, 2006 - September 30, 2006
            -
            
            -Total
            203,528
            
            203,528


(1)
      The
      shares we repurchased were repurchased in connection with our share repurchase
      plan in as disclosed in our Form S-11 registration statement.  Our share
      repurchase plan limits the amount we repurchase in each quarter and is subject
      to certain conditions.




(2)
      We
      may, at our option, repurchase the common stock presented for cash to the extent
      we have sufficient available proceeds from our DRIP to do so.  For purposes
      of funding the Repurchase Plan, all proceeds from the DRIP for the applicable
      calendar quarter will be used by the reinvestment agent on our behalf to
      repurchase shares of our common stock pursuant to the terms of the Repurchase
      Plan.  In addition, we may, at our discretion, use up to $100,000 per
      calendar quarter of the proceeds of the Offering for repurchases under the
      Repurchase Plan.  However, at no time during any consecutive 12-month
      period would the number of shares repurchased by us under the Repurchase Plan
      exceed 5% of the number of outstanding shares of our common stock at the
      beginning of that 12-month period.




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**Item
      4. Submission of Matters to a Vote of Security
      Holders**





The
      annual meeting of stockholders of the Company was held on August 22, 2006,
      for
      the purpose of considering and acting upon the following:





**(1)**
            **Election
                of Directors**.
                Six directors were elected and the votes cast were as
                follows:





**Nominees**
            
            **For**
            **Against**
            **Abstain**
            **Total
                Shares Voted**Todd
                B. Parriott
            
            7,341,787.0971
            117,490.3810
            138,599.1934
            7,597,876.6715James
                L. George
            
            7,422,492.6984
            36,784.7797
            138,599.1934
            7,597,876.6715Thomas
                L. Gustafson
            
            7,426,757.6001
            32,519.8780
            138,599.1934
            7,597,876.6715Robert
                B. Beville
            
            7,433,970.4987
            25,306.9794
            138,599.1934
            7,597,876.6715G.
                Steven Dawson
            
            7,459,277.4781
            0.0000
            138,599.1934
            7,597,876.6715Bryan
                L. Goolsby
            
            7,433,970.4987
            25,306.9794
            138,599.1934
            7,597,876.6715




**(2)**
            **To
                approve five separate amendments to our Second Articles of Amendment
                and
                Restatement**.
                The votes case were as follows:





**Issues**
            
            **For**
            **Against**
            **Abstain**
            **Total
                Shares Voted**Amendment
                of indemnification provisions
            
            7,242,094.1392
            139,958.1704
            501,351.5027
            7,883,403.8123Amendment
                to limitation on liability provisions
            
            7,146,588.8971
            245,182.0000
            491,632.9152
            7,883,403.8123Amendment
                regarding removal of directors
            
            7,338,683.5177
            59,036.3552
            485,683.9394
            7,883,403.8123Amendment
                regarding voting rights
            
            7,401,120.9534
            48,929.0153
            433,353.8436
            7,883,403.8123Amendments
                regarding definitions
            
            7,401,624.3179
            65,810.4780
            415,969.0164
            7,883,403.8123





**(3)**
            **Ratification
                of Auditors**.
                Eide Bailly LLP was ratified as the Company’s independent registered
                public accounting firm for fiscal year ending December 31, 2006.
                The votes
                cast as follows:





**For**
            **Against**
            **Abstain**
            **Total
                Shares Voted**Ratification
                of Eide Bailly LLP as the Company’s independent auditors
            
            7,200,051.0644
            65,533.4986
            332,292.1085
            7,597,876.6715








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**Item
      5. Other Information**




None.




**Item
      6. Exhibits**




a)
      Exhibits







31.1
            Certification
                of Chief Executive Officer, Pursuant to Section 302 of the Sarbanes-Oxley
                Act of 2002*31.2
            Certification
                of Chief Financial Officer, Pursuant to Section 302 of the Sarbanes-Oxley
                Act of 2002*32.1
            Certification
                of Chief Executive Officer and Chief Financial Officer, Pursuant
                to 18
                U.S.C Section 1350, as Adopted Pursuant to Section 906 of the
                Sarbanes-Oxley Act of 2002**







*Filed
      herewith






**
      Furnished herewith







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**SIGNATURES**





Pursuant
      to the requirements of the Securities Exchange Act of 1934, the registrant
      has
      duly caused this report to be signed on its behalf by the undersigned thereunto
      duly authorized.













DESERT
                CAPITAL REIT, INC.November
                14, 2006
            /s/
                TODD B. PARRIOTTTodd
                B. Parriott,Chairman
                of the Board, Chief Executive Officer, President and Chief Investment
                Officer
              (Principal
                Executive Officer)








November
                14, 2006
            /s/
                JONATHAN G. ARENSJonathan
                G. Arens,Chief
                Financial Officer
              (Principal
                Accounting Officer)







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EXHIBIT
      INDEX




31.1
            Certification
                of Chief Executive Officer, Pursuant to Section 302 of the Sarbanes-Oxley
                Act of 2002*31.2
            Certification
                of Chief Financial Officer, Pursuant to Section 302 of the Sarbanes-Oxley
                Act of 2002*32.1
            Certification
                of Chief Executive Officer and Chief Financial Officer, Pursuant
                to 18
                U.S.C Section 1350, as Adopted Pursuant to Section 906 of the
                Sarbanes-Oxley Act of 2002**




*Filed
      herewith




**
      Furnished herewith