Real estate is a hot market and profitable one for savvy investors. One of the strategies savvy real estate investors use to build their wealth is the 1031 exchange that enables one to defer capital gain taxes on the sale of an investment property. The IRS only permits it if the proceeds from the sale of the investment property will be used to reinvest in a replacement property of like kind.

However, 1031 exchange has strict rules that demand a qualified intermediary such as the dst exchange to facilitate the exchange. A qualified intermediary facilitates the sale of the property to another party, followed by a purchase of a like-kind property.

It is essential to execute your due diligence when picking a qualified intermediary, especially since they will be handling your property, money, and tax documentation. Here are the things to evaluate.

1031 exchange experience

Before hiring a qualified intermediary for a 1031 exchange, you must ask yourself a question. Is the intermediary seasoned in handling 1031 real estate exchanges? Note that there are different variations of 1031 exchanges, including a delayed exchange, reverse exchange, simultaneous exchange, and improvement exchange. Therefore you need to work with a qualified intermediary with knowledge and experience to facilitate even the most complicated 1031 exchanges. They should be able to offer 1031 exchange advice to help you make informed choices during the transaction.

Transactional transparency

In most 1031 exchanges, the exchanger or investor is not even sure where their money is being held. As you may already know, you make all gains immediately taxable if you, as the investor, touch any proceeds or cash known as the boot. However, ensure you pick a qualified intermediary who guarantees full transparency of the account activity holding the exchange funds.

Security of the funds

Still, on the exchange funds, you also need to ask the qualified intermediary how they ensure the security of the exchange funds. Are the funds held in an FDIC-insured bank? You must ensure that your exchange funds are secure in a top-tier bank.

Independent qualified intermediary status

Another thing to consider before hiring a qualified intermediary is whether the one you intend to hire can work with different banks or is limited to a specific one. It is best to engage a qualified intermediary with the freedom to work with different banks so that you are not limited to only one financial institution.

Compliance

You also need to ensure that your qualified intermediary is compliant with all the annual compliance examinations, such as the SSAE 16. Compliance with such tests assures you that the qualified intermediary is skilled and committed to facilitating the most secure and compliant 1031 exchanges.

The takeaway

In most cases, a qualified intermediary is a company that specializes in 1031 exchanges, but it could also be an attorney, accountant, banker, or broker with experience in 1031 exchanges. Since the qualified intermediary will take over the property sale proceeds and hold them in escrow until the purchase of a replacement property, you should choose a reputable and established one.