What is a Qualified intermediary Anyway?

Under­stand­ing and exe­cut­ing a 1031 exchange for a novice investor may be a daunt­ing task. Expe­ri­enced investors will review all the steps involved in a 1031 exchange since this trans­ac­tion may not hap­pen every day. As a real estate investor, you may want to inves­ti­gate a 1031 tax deferred exchange.

What is a Qual­i­fied inter­me­di­ary Any­way?

By Al DiNi­co­la, AIF®
Jan­u­ary 15, 2023
DST 1031 Spe­cial­ist
NAMCOA® — Naples Asset Man­age­ment Com­pa­ny®, LLC
Secu­ri­ties offered through MSC-BD, LLC

Besides all the require­ments for tim­ing as well as finan­cial tech­ni­cal­i­ties there are addi­tion­al chal­lenges that may trip up the exchange. In the past few years, the options of uti­liz­ing a Delaware Statu­to­ry Trust (DST) as an accept­able solu­tion for replace­ment prop­er­ty has gained in pop­u­lar­i­ty. How­ev­er, you will need to fol­low the IRS guide­lines and that includes uti­liz­ing the ser­vices of a Qual­i­fied Inter­me­di­ary or QI.
The IRS has spe­cif­ic reg­u­la­tions that must be fol­lowed to suc­cess­ful­ly car­ry out the exchange. One of my investors stat­ed she viewed the exchange process like bak­ing from scratch and the impor­tance of fol­low­ing all steps in a spe­cif­ic order. One missed step may cost dear­ly. The miss­ing step may end up with an unex­pect­ed cap­i­tal gains tax bill. A qual­i­fied Inter­me­di­ary (QI) should be able to ensure all steps are fol­lowed.

Under­stand­ing the roles of the par­tic­i­pants in a 1031 exchange is crit­i­cal­ly impor­tant. The QI is instru­men­tal in the exchange process and with­out using a QI the exchange may fail. Investors ini­tial­ly will ask “what does the QI do”, “why do I need them”, and “how do find one”.

What is the func­tion of a Qual­i­fied Inter­me­di­ary?

A qual­i­fied inter­me­di­ary (QI), also known as an Accom­moda­tor or Facil­i­ta­tor of a 1031 may per­form many of the com­plex and com­pli­cat­ed tasks that are required in a 1031 tax deferred exchange.
It is required a QI be a neu­tral third-par­ty indi­vid­ual or com­pa­ny who takes on the respon­si­bil­i­ty of han­dling 1031 exchange pro­ceeds. A qual­i­fied inter­me­di­ary MUST not share any rela­tion­ship with the tax­pay­er under the sec­tion 1031. An investor can­not use their par­ents, rel­a­tives, chil­dren, spouse or as the investor’s CPA advi­sor, real estate agent, attor­ney or bro­ker as a qual­i­fied inter­me­di­ary.
The exchange process is facil­i­tat­ed (per IRS rules) by an unre­lat­ed par­ty typ­i­cal­ly a QI. This is to ensure the prop­er han­dling of the pro­ceeds accord­ing to fed­er­al reg­u­la­tions.
It may not be a sur­prise that there will be tax­es due when you sell a prop­er­ty. If you are the tax­pay­er and you sell a prop­er­ty, the good peo­ple at the Inter­nal Rev­enue Ser­vice (IRS) will look for any pro­ceeds received by you (cap­i­tal gains) as a poten­tial rev­enue source as tax­es on your gain(capital gains tax­es). There may be a way to defer tax­es on your gain through the use of a 1031 tax deferred exchange. This is a defer­ral not an elim­i­na­tion. There are very strict rules on who can han­dle your pro­ceeds. The process involves the QI receiv­ing or obtain­ing your funds on the clos­ing of your relin­quished prop­er­ty and then secure­ly trans­fer­ring your pro­ceeds (at a future date) for the acqui­si­tion of your replace­ment prop­er­ty. You can­not have access to the funds if you want to suc­cess­ful­ly exe­cute a 1031 exchange.
QIs respon­si­bil­i­ties go beyond sim­ply hold­ing the mon­ey. Here are items that may come under the scope of the QI. There will be trans­ac­tion doc­u­men­ta­tion that will be pro­vid­ed to all par­ties. This includes com­mu­ni­ca­tion with the escrow and title agency or in some cas­es an attor­ney han­dling the clos­ings. The IRS reg­u­la­tions are black & white, and QIs will ensure the process com­plies with the IRS rules. To com­plete the exchange there may be stan­dard forms as well as addi­tion­al doc­u­ments includ­ing tax doc­u­ments.

There may be mul­ti­ple par­ties involved with the trans­ac­tion beside the sell­er and buy­er. Tax advi­sors, attor­neys, finan­cial advi­sors, finan­cial insti­tu­tions, and oth­ers all need to be con­tact­ed and aware of the process and needs for a suc­cess­ful exchange.
The exchange process may be con­fus­ing, and the QI should be able to offer guid­ance with crit­i­cal infor­ma­tion includ­ing the dead­lines and nec­es­sary forms.

What are the qual­i­fi­ca­tions to be a QI?

Each year there are bil­lions of dol­lars in 1031 exchanges. One of the inter­est­ing facts that may sur­prise many peo­ple would be the absence of any licens­ing, state, or fed­er­al reg­u­lat­ed stan­dards on a per­son oper­at­ing as a Qual­i­fied Inter­me­di­ary busi­ness. If there are no stan­dards, how do you qual­i­fy? That is a good ques­tion. This is an unreg­u­lat­ed pro­fes­sion. Real estate bro­kers and agents need to obtain a state issue real estate license and many who hold a real estate license may be a Real­tor. That means they sub­scribe to a code of ethics and are a mem­ber of the Nation­al Asso­ci­a­tion of Real­tors as well as a mem­ber of a state and local asso­ci­a­tion. Finan­cial advi­sors typ­i­cal­ly pass licens­ing test pro­vid­ed by orga­ni­za­tion and super­vised by the secu­ri­ties and exchange com­mis­sion (SEC) or The Finan­cial Indus­try Reg­u­la­to­ry Author­i­ty (FINRA). So, are qual­i­fied inter­me­di­aries “qual­i­fied” for the posi­tion and to hold funds? Sur­prise- any­one who is not the tax­pay­er can func­tion as a QI.
The oppo­site of qual­i­fied per­son would be a “dis­qual­i­fied per­son”. As pre­vi­ous­ly stat­ed, your fam­i­ly mem­bers, friends and any­one direct­ly asso­ci­at­ed with you may not be your QI. What this poten­tial­ly mean is that any­one may call them­selves a QI.

In search of a Qual­i­fied Inter­me­di­ary

Choos­ing an expe­ri­enced QI is cru­cial to avoid cost­ly mis­takes. Numer­ous investors have fall­en vic­tim to shady oper­a­tions or inex­pe­ri­enced QIs that inten­tion­al­ly or unin­ten­tion­al­ly mis­man­age funds, lead­ing to sub­stan­tial finan­cial loss­es. Choos­ing a QI can be a daunt­ing task, espe­cial­ly when faced with many options and list­ing on the inter­net. For­tu­nate­ly, there are sev­er­al ways to seek out and locate com­pe­tent help.

There are real estate brokers/agents who may be able to sug­gest a QI based on per­son­al expe­ri­ence. Finan­cial advi­sors who are involved with 1031 exchanges uti­liz­ing Delaware statu­to­ry Trust (DST) have engaged with QIs. What you want to avoid is to have a per­son assist­ing you as a QI with lim­it­ed expe­ri­ence and fail­ing to assist you in the strict exchange process. Seek out a QI pri­or to actu­al­ly need­ing their ser­vice this will pro­vide you with time to ask the ques­tions, per­form due dili­gence, estab­lish a com­fort lev­el and trust. You want to avoid any mis­steps that may dis­qual­i­fy your exchange.

There is a well-known orga­ni­za­tion called the Fed­er­a­tion of Exchange Accom­moda­tors (FEA). Exchange Accom­moda­tors may be used inter­change­ably with Qual­i­fied Inter­me­di­ary. FEA is a rec­og­nized orga­ni­za­tion rep­re­sent­ing qual­i­fied inter­me­di­aries. This is a mem­ber­ship orga­ni­za­tion and FEA seeks to pro­vide edu­ca­tion to the mem­bers as well as estab­lish­ing best prac­tices. Sim­i­lar to the real­tor orga­ni­za­tions and finan­cial advi­sors orga­ni­za­tions, FEA was cre­at­ed to estab­lish eth­i­cal stan­dards of con­duct for the QI indus­try.

Insight into search­ing for a QI. There are many ques­tions or top­ics you may dis­cuss with the QI. Here are just a few.

1. How funds are man­aged. The most impor­tant item would be fol­low­ing the mon­ey. You need to clear­ly under­stand where the funds will be deposit­ed once the clos­ing occurs on your relin­quished prop­er­ty. The QI needs to under­stand your expec­ta­tions and desires. QIs man­age funds in dif­fer­ent ways. Under­stand their prac­tices. You may even want to con­sult a legal coun­sel if you are new to the 1031 exchange process.
   Remem­ber that QIs are not reg­u­lat­ed so fol­low the mon­ey or at least know where the mon­ey goes and when it will be released. Will you have the abil­i­ty to pro­vide writ­ten con­sent to the release of your pro­ceeds. Where are your funds being deposit­ed and into what type of account. Is the mon­ey in a sep­a­rate account or lumped in with every­one else’s mon­ey. Are the funds invest­ed and gain­ing inter­est and to whose ben­e­fit. Is there a bond in force for your mon­ey.
2. Ref­er­ences and longevi­ty. The firm should be able to eas­i­ly pro­vide a recap of the busi­ness his­to­ry, and ref­er­ences just for starters. Some QIs are part of a nation­al firm with mul­ti­ple loca­tions and oth­ers may be local with years of expe­ri­ence. The knowl­edge base will help with deal­ing with the occa­sion­al com­plex sit­u­a­tion.
3. Trans­paren­cy. You should know who you would be work­ing with or deal­ing with when you select a QI. One of the first items may be trans­paren­cy. This may be as sim­ple as who owns the prac­tice and the size of their staff. Are staff mem­bers attor­neys, CPAs, proces­sors, etc. What safe­guards are in place to ensure the exchange process will be com­plet­ed. Who han­dles their bank­ing and deposits. What are the fees and ser­vice charges.
4. Cus­tomer ser­vice and com­mu­ni­ca­tion may be the key. Be aware that if you are not pre­pared ahead of time the ser­vice you receive may be affect­ed. If you wait until you are just a few days from clos­ing on your relin­quished prop­er­ty there may be lit­tle time to assist you. How­ev­er, under nor­mal sit­u­a­tions you should expect prompt and con­cise com­mu­ni­ca­tion. Response time will vary based on the agreed method you engage with the QI. Make sure you have your ques­tions answered and main­tain a log of respons­es. QIs should be very clear on their process. You need to avoid any vague respons­es pri­or to enter­ing into an agree­ment. Typ­i­cal­ly, these agree­ments are bind­ing once exe­cut­ed and the clos­ing agent on your relin­quished prop­er­ty is noti­fied.

The Qual­i­fied Inter­me­di­ary plays a piv­otal role in your 1031 exchange. You want a per­son or firm with exten­sive knowl­edge of the process. Plan on spend­ing time research­ing more than one QI. You don’t want to roll the dice with just any QI. They will be han­dling your mon­ey and just as impor­tant secur­ing the suc­cess­ful com­ple­tion of your 1031 Exchange.

Keep up with oth­er top­ics on DSTNews.org

https://dstnews.org/

DSTs are not for all investors. The acqui­si­tion of a DST is for accred­it­ed investors only. Con­tact your invest­ment advis­er for addi­tion­al details on how a DST may be a solu­tion to your 1031 Exchange and suit­ed for your invest­ment future. For more infor­ma­tion on how to prop­er­ly set up an IRC 1031Tax Deferred Exchange or if you are an accred­it­ed investor and would like addi­tion­al infor­ma­tion on a DST con­tact Al DiNi­co­la at 239–691-8098 or email adinicola@namcoa.com.

This is not an offer to pur­chase or solic­i­ta­tion to pur­chase any secu­ri­ty, as such be made only through an offer­ing mem­o­ran­dum or prospec­tus. Invest­ing in secu­ri­ties, real estate, or any invest­ment, whether pub­lic or pri­vate, involves risk, includ­ing but not lim­it­ed to the poten­tial of los­ing some or all of your invest­ment dol­lars when you invest in secu­ri­ties. You should review any planned finan­cial trans­ac­tions that may have tax or legal impli­ca­tions with your per­son­al tax or legal advi­sor. NAMCOA, LLC is a Reg­is­tered Invest­ment Advi­sor, reg­u­lat­ed by SEC (Secu­ri­ties and Exchange Com­mis­sion). Our cor­po­rate office is locat­ed at 999 Van­der­bilt Beach Road, Suite 200, Naples Flori­da 34108. Secu­ri­ties Offered through MSC-BD, LLC, Mem­ber of FINRA/SIPC. 1719 NW Edgar Street, McMin­nville, OR 97128 MSC-BD, LLC and NAMCOA are inde­pen­dent­ly owned and are not affil­i­at­ed.
Thank you.

NAMCOA® — Naples Asset Man­age­ment Com­pa­ny®, LLC