A 1031 exchange qualified intermediary is the key piece to any 1031 transaction. Without this critical facilitator, a 1031 exchange cannot take place. If you are new to a 1031 exchange, this is a term and procedural process you will need to master.
What is a 1031 exchange qualified intermediary?
Section 1031 in the IRS rules and regulations states that a 1031 exchange qualified intermediary cannot be your agent, Lawyer, broker, Accountant or real estate Agent unless this individual has not represented you within the previous two years. Additionally a 1031 exchange qualified intermediary cannot be your parent, sibling or child.
As part of the transaction, your 1031 exchange qualified intermediary officially sells the relinquished property, purchases the new replacement asset, and afterward transfers the deed to you. The qualified intermediary must hold the proceeds, prepare the legal documents, and execute the sale within IRS regulations.
1031 Exchange Qualified Intermediary Role
A qualified intermediary engages in the following activities for your 1031 transaction:
- Arranges and consults on the structure of the 1031 exchange
- Creates formal paperwork regarding the relinquished and replacement properties
- Sends detailed information and procedures for the escrow and title Company to follow for the 1031 transaction
- Coordinates and secures an arms length transaction in the contract between the investor and 1031 exchanged qualified intermediary. It is ultimately the QI that transfers the relinquished asset and conveys the property to the new purchaser
- Deposits the money from the sale of the relinquished property into an insured account.
- Forbids the relinquisher from receiving constructive receipt for all funds related to the relinquished sale.
- Holds the funds during the 45-day identification window
- Keeps and maintains all written information regarding replacement investments
- After the replacement property is identified, the 1031 exchange qualified intermediary sends the funds to the title or escrow company for the next purchase.
- The QI acquires the replacement property in their own name and subsequently conveys title to the exchanger through a deed.
- Provides a detailed record of the 1031 exchange record keeping purposes
- Sends a 1099 to the exchanger and the IRS for interest earned paid proceeds
Due to section 1031 in the IRS code, an entire industry has been created toward assisting the 1031 exchange.
All 1031 exchange qualified intermediaries should hold errors and omissions and fidelity insurance to protect the exchanger against fraud or negligence.
We recommend asking your real estate attorney, title company, real estate broker, local escrow officer or other relevant contacts for a qualified intermediary referral. Not all QI contacts are the same. It is wise to choose someone that not only knows the rules, but is familiar with real estate transactions in a desired location for your replacement purchase.
The cost of acquiring intermediary services can vary, but should cost in the several thousand dollar range. Saving money should be the least of your concerns in this transaction. Selecting an experienced facilitator is the priority.
When identifying property, investors have three different options. A qualified intermediary should provide these alternatives:
- Three Rule Identification – An exchanger may select any three properties for a purchase. Its important to choose multiple properties, as the preferred investment may fall through. A back-up will be needed
- 200 Percent Rule – An amount no greater than 200 percent of the relinquished sale price may be chosen. This may allow for a variety of property identification, but the total purchase amount of all properties selected must not exceed 200 percent
Amending your Identification Property
Finding that ideal 1031 exchange investment is always the goal with this type of transaction. Within the 45 day identification period, the exchanger is able to amend the list. When selecting the properties, the identification letter will list the properties to the 1031 CORP. Any amendment must be adjusted in writing in the identical format as the original identification. Post midnight of the 45th day, no adjustments can be made to the property identification and selection.
Identification at the Last Minute
Property identification can be faxed, scanned or emailed to the 1031 CORP moments before the clock strikes midnight on day 45. The 1031 CORP has a secondary fax number for emergency purposes. The email sent also disbursed to several recipients to ensure timely receipt. However, most importantly the properties must be verified. A negative downside to sending the 1031 identification at the last minute is the loss in ability for your Exchange Officer to review the identification, change, correct and resend the identification properties before the time is up.
Selecting and identifying a replacement property requires specific Apartment numbers and property addresses details. Vague documentation cannot be used or sent to the 1031 Corp at the end of your 45 day identification period. The rules required by the IRS are strict and must not be taken lightly.
We encountered numerous 1031 exchange Qualified Intermediaries over the years that are a bit lapse with their submissions. JSG Realty advises all of our clients to interview their prospective intermediary thoroughly and obtain references from others.
JSG Realty strongly recommends every 1031 exchange buyer list several back-up properties with their 1031 exchange qualified intermediary. Whether deploying the three property or 200 percent rule, additional replacement investments should be listed in case the first property purchase falls through.
Unfortunately, there are buyers that fail to take this part of the process seriously. They have difficulty selecting a primary investment and do not spend the adequate time and effort listing fall-back properties. This part is critical as certain real estate markets move at rapid fire. One must always have extra properties in the pipeline that can be purchased in the event of an issue with the preferred purchase.
Purchasing with a Colleague
An exchanger can purchase a 1031 exchange investment property with a colleague, however the structure must be as tenants-in-common and not partners. The percentage of ownership or the dollar amount of ownership must be clearly disclosed and identified.
Buying a property with a friend or associate can be quite a challenge. It’s a long-term relationship and both parties must be certain there interests and goals are aligned. Several questions to consider include the following:
- Is this a long-term investment hold for both owners?
- Do the potential purchasers have children or heirs?
- Who are the heirs?
- Is your colleague looking to retire or invest in more properties?
Making certain your contact shares a similar vision will save you a lot of headaches in the long-term.
Interview Your 1031 Exchange Qualified Intermediary
We recommend asking the following questions to a prospective 1031 exchange qualified intermediary
- How many 1031 transactions have they completed?
- How many years of experience in the industry?
- How did they get into the intermediary business?
- Specification on states transacted
- What are the fees they charge?
- Explanation of the entire process
- Referrals from previous clients
The above details are very important in determining the 1031 exchange qualified intermediary to select for your transaction. There is a lot of money on the table. Make sure all of your ducks are in a row.
As a full service 1031 exchange brokerage firm, JSG Realty is available to assist with all of your 1031 exchange transaction needs. Selecting a 1031 exchange qualified intermediary will be the first step to successfully completing your transaction.
Additional 1031 Exchange Resources
- IRS 1031 Code
- Forbes 1031 Advice
- Forbes 1031 Vacation Homes
- Cornell 1031 Review
- US News 1031 Wealth Accumulation
- Huffington Post 1031 Analysis