If structured properly, a Sec. 1031 tax-deferred exchange allows a taxpayer to defer payment of capital gains taxes on the sale of business or investment property if he or she uses the proceeds to purchase replacement property, utilizing the services of a qualified intermediary.

Rattikin Exchange Services, Inc. provides qualified intermediary services to facilitate Sec. 1031 exchanges. The firm has handled hundreds of millions of dollars worth of exchanges on a local, state and national level. We offer our clients the highest degree of integrity, professionalism and efficiency, at a price well below that charged by the national exchange companies.

In order to initiate an exchange, a property owner must appoint a qualified intermediary, such as this firm, to hold the net proceeds during the pendency of the exchange. The intermediary will prepare several instruments required to document the exchange, including the following:

(1) Exchange Agreement;
(2) Assignment of Rights and Notification-Relinquished Property Contract;
(3) §1031 Tax Free Exchange Notice, Waiver and Release;
(4) W-9 Form;
(5) Identification of Replacement Property.

In order to facilitate a §1031 tax deferred exchange, the property owner will execute the first four documents mentioned above and return them to the intermediary. Basically, the Exchange Agreement outlines the rights and obligations of the parties in connection with the exchange. The Assignment of Rights and Notification-Relinquished Property Contract assigns the property owner’s interest in the contract to the intermediary, which entitles the intermediary to receive and hold the net proceeds of sale pending the purchase of replacement property. The Notice, Waiver and Release form is necessary to induce the intermediary to act as Intermediary in the exchange process. The W-9 allows the intermediary to invest the sales proceeds in an interest bearing account on behalf of the client during the pendency of the exchange.

Once these documents have been completely executed, the intermediary will notify the title company that it is acting on the property owner’s behalf as Intermediary and has received an assignment of the contract from him or her. The title company will close the sale on this property in the usual fashion. You will note that the Exchange Agreement allows for “direct deeding”. This means that all legal documents, including the Warranty Deed, will go directly from the property owner to the buyer. The Intermediary will never enter into the chain of title and will not be included in any legal documentation evidencing the sale. However, because the property owner has assigned the contract to the intermediary pursuant to the Exchange Agreement, the title company will be instructed to deliver the net proceeds of the sale directly to the intermediary to be held on the property owner’s behalf pending his purchase of replacement property.

Once the transaction closes and the intermediary receives the net proceeds, it will invest the proceeds in an interest bearing account. The client will receive all interest that accrues on the account during the pendency of the exchange.

After closing, the client has 45 days in which to identify replacement property which he or she may wish to purchase. The fifth document referred to above should be executed by him, identifying the property he desires to purchase. Once he has identified the replacement property, he has 180 days from the date of the sale of the first property to complete the purchase of the replacement property. However, in the event his tax filing deadline (usually April 15) occurs prior to the expiration of 180 days, it will be necessary for him to file for an automatic extension in order to take advantage of the full 180 day period in which to close on the replacement property.

At the time of closing of the replacement property, the intermediary will turn over to the title company all funds held by it to be applied toward the purchase price. In the event the purchase price, plus closing costs, are more than the amount the intermediary is holding, the client will be required to come out of pocket for the balance. In the event the purchase price and closing costs are less than the amount held by the intermediary, the client may receive a refund of the balance or apply the remaining amount towards another replacement property (which must be identified within the 45-day period). If he does receive a refund of any funds held by the intermediary, he will not receive tax free treatment on that amount.

I hope this letter explains to some extent the process involved in completing a tax deferred exchange.

Copyright 2009 Jeffrey A. Rattikin, all rights reserved