Who is Disqualified to Act as an Intermediary in a 1031 Tax Exchange?

The main stipulation in a 1031 Tax Exchange is that the exchanger must not receive any of the proceeds from sale in the transaction and must reinvest them into a Like Kind Property.  In order to insure this, a qualified intermediary is often employed by the exchanger to temporarily hold the sales proceeds, document the transaction, advise the client and facilitate the transaction. The IRS specifically states (in Treasury Regulation 1.1031(k)-1(k)) that an agent of the exchanger at the time of the exchange is specifically disqualified to act as a qualified intermediary on behalf of the exchanger. An agent of the exchanger is anyone who has been an employee of the exchanger, relative, attorney, accountant, financial advisor, banker, broker or real estate agent during the last two years prior to the transaction. Also, affiliated members of the firm or any other organization of a disqualified person are also deemed disqualified.

There is a specific exception to the general rules laid out above. Anyone who performs routine financial, legal, title, escrow, or trust services specifically related to 1031 Tax Exchanges on behalf of the exchanger is not disqualified.

If a disqualified person does assist in the exchange, and controls the sales proceeds during the transaction, the IRS may not recognize the transaction as a 1031 Tax Exchange. The IRS may determine that due to the disqualified persons involvement in the exchange, the exchanger had “actual or constructive” receipt of the exchange proceeds. If this is the case, the exchanger could end up paying capital gains taxes and depreciation recapture taxes on the sale of their property.