How to Counsel Clients on Intermediary Selection

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With the continuing race for distinction in the accounting profession, even the smallest bits of useful information can make a big difference for your clients. For those who have clients with pending 1031 exchanges, for example, one piece of useful information which can be provided is a recommendation for an intermediary.

Selecting a facilitator (or “qualified intermediary” as the Treasury Regulations refer to it) is an extremely important part of the 1031 exchange process. For all exchanges other than direct swaps, taxpayers are required to select a facilitator. In this post, we will go over a few helpful hints which can aid clients as they attempt to select an intermediary.

Accountants can provide value by highlighting these essentials hints so that clients make the best selection for their exchange. Intermediary selection is particularly important given the fact that the 1031 industry is currently unregulated at the federal level.

There have been numerous scandals involving criminal or fraudulent behavior on the part of intermediaries. Due diligence will help to prevent this from happening to one of your clients.

Facilitators Cannot Be a Disqualified Person

First, before you recommend an intermediary for a client, it might be beneficial to mention that certain people are legally barred from acting as an intermediary. As it turns out, taxpayers cannot select a person who is “disqualified,” as defined by the Treasury Regulations.

What’s more, they cannot select a person who has a certain degree of relatedness (relatedness also being something defined by the code). A disqualified person means someone who has acted as the taxpayer’s employee, attorney, accountant, investment banker or broker, or real estate agent or broker within the past two years. Companies which provide routine escrow, title insurance or trust services are not considered disqualified. 

In a way, this is the first step in the intermediary selection process. And, in many cases, clients may initially want to choose their regular attorney or real estate broker as their intermediary, so this information will come in handy. 

Bonding & Insurance Coverage

This piece of advice is perhaps the most intuitive. Under the federal regulations, intermediaries are not required to hold a fidelity bond, nor are they required to hold errors and omissions insurance. These things may be required at the state level, but the federal regulations do not impose any universal requirements.

Clearly, both of these forms of protection are things which clients should look out for. Fidelity bonds provide protection for the intermediary, up to certain dollar amounts, in the event of dishonest or criminal behavior from employees. Although technically this protects the intermediary, this type of coverage demonstrates the financial capabilities of the intermediary.

This is also true of errors and omissions insurance as this kind of insurance provides liability protection for the intermediary in the case of a legal complaint. If a client sues the intermediary for inadequate work or professional negligence, this is the type of behavior covered by errors and omissions insurance. 

Given the stakes involved with 1031 transactions, these types of financial protection are exceedingly important. You definitely want to make certain that a given intermediary is well covered before initiating an exchange.

Organizational Credentials & Staff

As mentioned, the 1031 industry is not federally regulated. But, there is an organization which is recognized at the national level for its expertise. The Federation of Exchange Accommodators (FEA) offers membership to intermediaries which demonstrate certain levels of competency and coverage.

Membership in the FEA won’t guarantee that everything goes smoothly with a given transaction, but it’s a certification which is certainly worth mentioning. An intermediary which gains membership in the FEA can provide clients with some level of assurance that the applicable laws and regulations will be accounted for. 

Another important indicator that a given intermediary will be a wise choice is staff. You should tell clients that they need to select an intermediary which has qualified staff. Clients should note the experience level of the staff, the staff’s educational background, track record and so forth.

Intermediaries which have in-house corporate counsel are generally superior to those which do not. In-house attorneys can help identify potential legal issues with a given exchange and recommend outside legal assistance when necessary.

Staff is a very important part of the viability of an intermediary. Intermediaries are only as valuable as the staff they keep. Choosing an intermediary with qualified professionals can make or break an exchange, and this can have great financial implications.

Conclusion

In the end, intermediary selection is not something which should be glossed over or taken lightly. As mentioned, the 1031 industry still has something of a “wild west” quality to it. This is because of the industry’s relative youth and difficult legal concepts.

In an environment fraught with uncertainty, providing a good recommendation will go a long way. You can build credibility and improve client retention by providing good information in this area.

Related Articles

How to Guide Clients on 1031 Taxation

Three 1031 Related Party Rules You Should Know

About Jorgen Rex Olson

About Jorgen Rex Olson

Jorgen Rex Olson is a graduate of Washington State (B.A., cum laude, 2008) and the Indiana University (McKinney) School of Law (J.D., 2012). He writes for Mackay, Caswell & Callahan, P.C., one of the leading tax law firms in New York State.

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