Understanding Qualified Intermediaries for 1031 Exchanges

[Julio Gonzalez]

A 1031 exchange swaps one real estate investment property for another, allowing you to defer capital gains. It’s an effective tax-deferral strategy, but there are, of course, rules that you have to play by.

Here’s a helpful article about 1031 exchanges if you need more details https://www.biggerpockets.com/forums/311-buying-selling-real-estate/topics/965199-requirements-for-1031-exchanges.

Timing is often an issue for investors. The exchange property must be identified within 45 days of the sale of the property, and you must close within 180 days of the sale. Investors can overcome this problem by doing a delayed exchange with a qualified intermediary (QI). 

What is a Qualified Intermediary?

A QI is a neutral third party that facilitates the 1031 exchange. They hold the proceeds from the sale of the property and use them to acquire a replacement property.

IRS guidelines prohibit investors from receiving funds directly to maintain tax-deferral status. The QI ensures compliance with this rule by holding the proceeds on behalf of the investor.

What are the responsibilities of a Qualified Intermediary?

QIs play a crucial role in a 1031 exchange. Their responsibilities include:

• Holding the sale proceeds. Funds are kept in a secure escrow account.
• Handle the logistics of the exchange. QIs ensure that deadlines are met and the properties involved meet all of the requirements for a like-kind exchange.
• Document preparation. A QI is responsible for preparing exchange-related documents to ensure compliance with tax laws.
• Transferring funds for the replacement property purchase. QIs also ensure that the proceeds are used to purchase the property in accordance with IRS guidelines.

Experienced QIs can also provide valuable guidance on how to navigate the 1031 exchange process.

How do you choose the right QI?

There are several things to consider when choosing a QI for your 1031 exchange, including:

• Experience and track record: Make sure the firm has experience and a proven track record of success in 1031 exchanges. Specifically, you want someone who has experience with your type of exchange.
• Handling of funds: Look for a firm that will hold your funds in a segregated account that's protected by FDIC insurance.
  Compliance: Your QI should follow IRS guidelines and offer guidance on complex exchanges.
• Fees & Costs: Make sure you understand costs and fees upfront.

A 1031 exchange is an excellent tax-deferring strategy, but it is crucial to work with a trusted and experienced QI to facilitate the process. Be sure to do your due diligence before selecting a QI.

What has your experience been with 1031 exchanges and working with QIs?

[Dave Foster]

@Gregory Wilson, That magical "worth it" number is incredibly unique to each investor.  I've had clients pay over $100K of taxes on a transaction because they didn't feel the 1031 was right at that moment.  My favorite client of all time was a retired woman in Cape Coral FL who saved $500 by the time her 1031 was done.  I asked her ahead of time if she was sure it was worth it.  Her response was, "That's my $500.  I want it."

Are you wanting to stay in real estate?  Can you find a new property in the required timelines? What's your tax profile outside the 1031 consideration?  All of these things have to be considered. Along with the vehemence of your own distaste for paying taxes :). 

The ones who say you should 1031 every time are just as wrong as the ones who say you should never do them.  It's a tool.  And it's a powerful tool.  But at the end of the day a tool does not build the house.  It only helps build the house along with the other tools.