If he says no, is my only option to back out and lose the earnest money deposit ($6,000) or go forward with the purchase, knowing I'll have a $3,000 - $5,000 bill or more if I decide to do this later?

If you cannot refinance it is unlikely you'll be granted the novation and it will take a lot longer to get an answer on that.The beneficiary of that assumption has to fully credit qualify so, while yes, I agree that might be an option, it's not a given.

Ironically, the offers we had from private entities to purchase the property were approximately $200k less than the final price.Why was this the case?

My wife and I have made several offers on multifamily houses recently but keep being beaten out by (lower) cash offers.

Those are good hacks to get better options than what you might get here, looking in a particular area.You have the right idea though, you want to give some sweat equity first or gopher skills.

Yes its called a participation agreement but they all need to be in alignment and agreement.The other option is to raise is through syndication which gets a lot more expensive setup then each investor would be pari passu but would be easier for investors to agree to these terms than doing a participation agreement. 

The IRS sees the DST as nothing more than a pass thru entity, you just do your same schedule E.Royal Legal does offer an additional service for 50 bucks a month.

What should we look for instead, if this is not that great of an option?

Still options with certain lenders where there is pricing at zero points.  

This was actually one of the options they gave me.