Examining the roles of real estate agents and qualified intermediaries in deferred exchanges

Most individuals disposing of income producing or investment held property fail to use the services of professional tax consultant before a real estate transaction is begun. Under these circumstances, the real estate agent is often the only one in the transaction at that time, that may recognize the opportunities and pitfalls that may result if a real estate transaction is structured to comply with Internal Revenue Code Section 1031. This section of the Code, allows for the tax-deferment of federal and in most cases state income tax on gain when disposing of income producing or investment held properties, which allows the taxpayer to pay no tax.  Real estate agent's liability Real estate agents are liable for whatever they say or do. real estate agents are also liable for whatever they do not say or do. An agent is expected to advise his clients of the transaction alternatives available including the potential for structuring their transaction as an exchange. Just about every listing agreement in the U.S. today, states that the real estate agent who is executing a listing agreement (employment agreement) when marketing the property is marketing it for the sale, exchange, rent or lease. But the concept of exchanging versus treating the transaction as a sale just about never comes up. The agent should never represent themselves as exchange experts unless they are. It is unfair to the broker for his agents to make representations that jeopardize the agent and the brokerage. Nor should the real estate agent advise against a real estate exchange because they are not familiar with the concept or feel that they may jeopardize their transaction somehow by recommending an exchange even without having any expertise in the subject matter. The agent has a certain responsibility to their clients. That responsibility should include that if they don't understand how a real estate exchange works they should recommend to their client to speak with a professional who specializes in the structuring of a real estate exchange. That professional today, is called a "qualified intermediary." This is the name given to these professionals who structure deferred exchanges based on the exchange regulations.  Today, we are finding many lawsuits that are being brought against real estate agents, their brokers and even attorneys, for misrepresentation of this matter to their clients. A number of these suits having been settled out of court and are taking place nationally and here in our own backyard. Very often owners disposing of their principal residence, which is part of a double or duplex will fall into this trap. By disposing of this property and acquiring a single-family home creates a tax problem from the unit of the double or duplex that has been available for rental. That portion of the subject property is considered income-producing (business) held not part of the principal residence, so when sold will create a tax liability based on the gain.  Another trap is the individual disposing of one income-producing or investment held property and plans on acquiring another income producing or investment held property. That individual is an ideal candidate for a real estate exchange. But, the exchange has to be structured properly as an exchange before the relinquished property is disposed. That means that the qualified intermediary must be brought into the transaction to provide the proper structuring before the closing.  Today, we find an even bigger problem, than the responsibility of the real estate agent to understand the exchange concept. That problem is attorneys representing their clients in the closing of the transaction jeopardizing the exchange by telling their clients that they can perform the duties of a qualified intermediary when they already have had an "agency" relationship with their client, not following closing directions provide by the qualified intermediary and having the checks (net proceeds from disposing) made payable to them as attorney or to their client instead of the qualified intermediary. Most people think that a qualified intermediary is nothing more than an escrow agent escrowing the net proceeds when structuring deferred exchanges. A professional qualified intermediary should be providing customary services such as consulting with the taxpayer to determine the objectives and collecting of data, exchange transaction analysis, the structuring of the transaction, consulting with the taxpayer's real estate agent, attorney, title company and accountant/cpa, research of transactional issues, providing exchange documents, having the rights of both the relinquished and replacement properties assigned to the qualified intermediary and handling the administration of the qualified escrow account. A professional qualified intermediary is in the business of facilitating real estate exchanges and should have special training in negotiations contract law, taxation, investment analysis, escrow procedures, real estate practices and most importantly a proven success record in the business of facilitating real estate exchanges. Without this service being provided by a professional qualified intermediary, or using someone such as just an escrow agent, you will not have a good exchange for IRS purposes. Russell Gullo, CCIM, CEA, is a certified exchange advisor and president of R. J. Gullo & Co., Inc., Buffalo, N.Y.