By: Steve Haskell, Vice President, Kay Properties and Investments, LLC
When checking off the boxes for your 1031 exchange “to do” checklist, choosing a qualified intermediary should be on top of that list. The IRS requires exchangers to employ a qualified intermediary (aka “QI, “accommodator,” or “facilitator”) to receive the funds upon sale of the exchanger’s property. Section 1031 of the Department of the Treasury Regulations authorizes the QI to receive and hold the funds, advise on compliance matters, and prepare all agreements and documentation pertaining to the 1031 exchange transaction to ensure the exchange is executed properly under the Internal Revenue Code and Treasury regulations.
Exchangers are putting a tremendous amount of their wealth and trust in the hands of these qualified intermediary entities. Therefore, it is important to make an educated decision when selecting a qualified intermediary. Here are a few questions to ask QI candidates prior to selecting one for your exchange.
How experienced are you? Find out how many exchanges they have done, how long they have been in service, and how much in exchange funds they are currently holding. You should collect this information for both the company as well as the officer that has been assigned to your account. The 1031 Exchange is a nuanced process and attention to detail is extremely important. It is critical that you are equipped with sound guidance and the administration of your exchange is properly managed. Otherwise, it could result in a painful tax consequence and/or a failed exchange.
What type of internal control processes are in place to protect my exchange funds? The QI should be able to provide you with a written copy of their internal policy that outlines the safety measures in place to potentially protect your funds. One of the most important being that the QI CALLS YOU AND CALLS THE CLOSING AGENT PRIOR TO WIRING THE FUNDS. They should not simply disperse the information when contacted by the seller’s escrow/closing agent.
Is your firm licensed? The IRS does not require QIs to be regulated. QIs can choose to obtain a license and fall under the regulation of various agencies in order to increase their credibility and ensure they are maintaining certain standards when handling client funds. Therefore, you should always find out if your QI is licensed and by whom they are regulated and audited.
Do you hold clients’ 1031 Exchange funds in either a separate Qualified Trust Account or a Qualified Escrow Account? It is important that the QI holds the funds in a Qualified Trust Account or a Qualified Escrow Account. Some firms will offer accounts that are “comingled” with other exchanger’s money. You should be able to receive a statement of your account at any time that shows how much and where your money is being held.
Do you carry errors and omissions (E&O) insurance? Some QI’s have a fidelity bond that only covers themselves. Others offer coverage to other parties in the exchange. The more coverage they have, the more your funds are potentially protected.
How do you ensure against embezzlement and employee theft? Though it is rare, it is important that your funds are insured from nefarious activity. You should find out if your QI’s fidelity bond coverage is “per occurrence” or merely “in aggregate”. Ask the QI for proof that their coverage is still active and in full effect.
What are the QIs hours? It is important to know if/how you can contact the QI after business hours, especially as you near the end of your 45 day window. You should also know the absolute last minute QI will receive your identification for the replacement property. Do they accept ID’s over the weekend? At night? What if your 45th day falls on a Sunday?
How are my funds managed/invested while with the QI? Find out if your funds are held in a bank account or placed in various investment vehicles. If your funds are invested, make sure you understand the policy that guides how and where your funds are invested.
Mismanagement of funds, fraud, and bankruptcy is rare in the QI industry however it has happened before. Most companies do a satisfactory job. However, one mistake could lead to costly consequences. Therefore, it is critical that you take the time to do your due diligence when selecting the right QI for your exchange.
