<p>This five-minute overview of a reverse exchange, which allows a taxpayer to purchase a replacement property prior to selling the property they wish to relinquish in a 1031 exchange.</p>

<p>Want to see more short videos on 1031 topics? <a href="https://www.youtube.com/c/Accruit&quot; target="_blank">Subscribe to our YouTube Channel</a>.</p>
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<p>Accruit, LLC, the nation’s leading provider of qualified intermediary and 1031 like-kind exchange program solutions, today announced a definitive agreement to acquire all of the assets of Bankers Escrow Corporation, one of the largest full service escrow companies in Colorado.&nbsp; The parties anticipate a closing on June 30, 2016. Going forward, services will be provided under Accruit-owned Bankers Escrow, LLC.<br />
<br />
Since 1991, Bankers Escrow Corporation has been an escrow agent for tax and insurance reserves, installment land contract and wrap-around mortgage servicing, lease to purchase arrangements, software code escrows, and document and cash holding escrows. Additional escrow services offered are construction draw escrows, business and assumption closing services, and private placements.&nbsp;&nbsp; All the current escrow officers will be transferring to the newly-formed Bankers Escrow, LLC, where they will continue to provide all the current escrow services, ensuring consistency of service and processing.&nbsp;</p>

<p>Like Accruit, Bankers Escrow Corporation provides qualified intermediary and exchange accommodation titleholder services for 1031 like-kind exchange clients, therefore the acquisition furthers Accruit’s presence in the 1031 real estate market.&nbsp; “We’re delighted to expand Accruit’s offerings to include escrow services and to continue to grow the business that Mary Lou has built both in the escrow and real estate 1031 arenas.&nbsp; Banker’s Escrow is a strong brand whose customer-oriented focus aligns well with Accruit’s own,” said Accruit CEO, Brent Abrahm.&nbsp;&nbsp;</p>

<p>As of July 1, Bankers Escrow Corporation vice president, Mary Lou Schwab, will join Accruit in a consulting role, bringing 30 years of real estate tax accounting, tax deferred exchange, and escrow experience. Ms. Schwab is also a Certified Exchange Specialist^® through the Federation of Exchange Accommodators, a licensed CPA, and an educator in real estate taxation and 1031 exchange continuing education classes for Colorado realtors.&nbsp; Ms. Schwab stated, “With this acquisition, Bankers Escrow will continue to serve new and longstanding customers with integrity and professionalism. The additional technology and resources Accruit provides will propel Bankers Escrow to a new level of service and security.”</p>

<p>In April, Senator Ron Wyden (D-OR) released a cost recovery reform and simplification discussion draft that would repeal our current depreciation method for assets used in business.&nbsp; Currently, deprecation is calculated under MACRS (Modified Accelerated Cost Recovery System).&nbsp; This proposal would repeal MACRS and replace the schedules with six individual pooling methods into which similar tax life assets are grouped together (pooled) and depreciated as a group of assets.&nbsp; Accruit, along with several of our association partners, were given an overview of the plan and asked for feedback prior to the release.</p>

<p>At a high level, pooling doesn’t sound like a bad idea; there are six buckets and an inclusive structure for like-kind exchanges without the requirements that burden today’s taxpayer. But closer analysis of the draft bill yields some concerns. Tracking detailed information at an asset-level is standard operating procedure and not considered an extra burden by the majority of Accruit’s clients who made&nbsp; investments years ago into systems that provide the asset-level tracking required in many types of businesses (leasing, for instance) and by most states.</p>

<p>The following, provided by PwC, presents a detailed overview of the discussion draft. I will keep you apprised of ongoing discussion with our 1031 Coalition partners, Senate Finance Committee members, and others as I coordinate further commenting on the draft proposal.</p>

<p>Senate Finance Committee examines business tax reform issues; Ranking Member Wyden releases draft cost recovery tax reform bill</p>

<p>^{<a href="https://www.flickr.com/photos/pirateyjoe/6741095543&quot; target="_blank">Photo of Senator Wyden by Sam Craig</a>}</p>

<p>A reverse 1031 exchange allows the taxpayer to purchase a replacement property prior to selling the property they wish to relinquish in a 1031 exchange. In this video, Paul Holloway walks through the ten steps of a reverse exchange.</p>

<p>Want to see more short videos on 1031 topics? <a href="https://www.youtube.com/c/Accruit&quot; target="_blank">Subscribe to our YouTube Channel</a>.</p>
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<p><em>Accruit was pleased to contribute to the following letter submitted to the Senate Finance Committee yesterday on behalf of the 1031 Like-Kind Exchange Coalition. We are seeing great strides in our efforts with Congress as we continue to educate members on the benefits that 1031 like-kind exchanges bring to the economy.</em></p>

<p><span style="color:#000000;">May 10, 2016</span></p>

<p><span style="color:#000000;">The Honorable Orrin G. Hatch<br />
Chairman<br />
Senate Committee on Finance<br />
219 Dirksen Senate Office Building<br />
Washington, D.C. 20510</span></p>

<p><span style="color:#000000;">The Honorable Ronald L. Wyden<br />
Ranking Member<br />
Senate Committee on Finance<br />
219 Dirksen Senate Office Building<br />
Washington, D.C. 20510</span></p>

<p><span style="color:#000000;">Dear Chairman Hatch and Ranking Member Wyden:</span></p>

<p><span style="color:#000000;">As the Senate Finance Committee considers ways to create jobs, grow the economy, and raise wages, we strongly urge you to retain current law regarding like-kind exchanges under section 1031 of the Internal Revenue Code (“Code”). Like-kind exchanges are integral to the efficient operation and ongoing vitality of thousands of American businesses, which in turn strengthen the U.S. economy and create jobs. Like-kind exchanges allow taxpayers to exchange their property for more productive like-kind property, to diversify or consolidate holdings, and to transition to meet changing business needs. Specifically, section 1031 provides that firms and investors do not immediately recognize a gain or loss when they exchange assets for “like-kind” property that will be used in their trade or business. They do immediately recognize gain, however, to the extent that cash or other “boot” is received. Importantly, like-kind exchanges are similar to other non-recognition and tax deferral provisions in the Code because they result in no change to the economic position of the taxpayer.</span></p>

<p><span style="color:#000000;">Since 1921, like-kind exchanges have encouraged capital investment in the United States by allowing funds to be reinvested in the enterprise, which is the very reason section 1031 was enacted in the first place. These investments not only benefit the companies making the like-kind exchanges, but also suppliers, manufacturers, and others facilitating them. Like-kind exchanges ensure both the best use of real estate and a new and used personal property market that significantly benefits start-ups and small businesses. Eliminating them or restricting their use would have a contraction effect on our economy by increasing the cost of capital. In fact, a recent macroeconomic analysis by Ernst &amp; Young found that limitations on like-kind exchanges could lead to a decline in U.S. GDP of up to $13.1 billion annually.¹</span></p>

<p><span style="color:#000000;">Companies in a wide range of industries, business structures, and sizes rely on the like- kind exchange provision of the Code. These businesses—which include construction, industrial, and farm equipment; vehicle manufacturers and lessors; and real estate—provide essential products and services to U.S. consumers and are an integral part of our economy. A study by researchers at the University of Florida and Syracuse University supports that without like-kind exchanges, businesses and entrepreneurs would have less incentive and ability to make real estate and capital investments. The immediate recognition of a gain upon the disposition of property being replaced would impair cash flow and could make it uneconomical to replace that asset.² As a result, requiring the recognition of gain on like-kind exchanges would hamper the ability of businesses to be competitive in our global marketplace. The reduced investment in real estate and capital would also have significant upstream and downstream impacts on economic reactivity and employment in industries as diverse as real estate, agriculture, construction, tourism, hospitality, trucking, and equipment supply.</span></p>

<p><span style="color:#000000;">In summary, there is strong economic rationale, supported by recent analytical research, for the like-kind exchange provision’s nearly 100-year existence in the Code. Limitation or repeal of section 1031 would deter and, in many cases, prohibit continued and new real estate and capital investment. These adverse effects on the U.S. economy would likely not be offset by lower tax rates. Finally, like-kind exchanges promote uniformly agreed upon tax reform goals such as economic growth, job creation and increased competitiveness.</span></p>

<p><span style="color:#000000;">Thank you for your consideration of this important matter.</span></p>

<p><span style="color:#000000;">Sincerely,</span></p>

<p><span style="color:#000000;">American Car Rental Association<br />
American Farm Bureau Federation<br />
American Truck Dealers<br />
American Trucking Associations<br />
Asian American Hotel Owners Association<br />
Associated General Contractors of America<br />
Avis Budget Group, Inc.<br />
CCIM Institute<br />
C.R. England, Inc.<br />
Equipment Leasing and Finance Association<br />
Federation of Exchange Accommodators<br />
Hertz Global Holdings, Inc.<br />
Idaho Dairymen’s Association<br />
Institute of Real Estate Management<br />
National Apartment Association<br />
National Association of Real Estate Investment Trusts<br />
National Association of Realtors ®<br />
National Automobile Dealers Association<br />
National Multifamily Housing Council<br />
National Stone, Sand, and Gravel Association<br />
National Utility Contractors Association<br />
The Real Estate Roundtable<br />
Realtors ® Land Institute<br />
South East Dairy Farmers Association<br />
Truck Renting and Leasing Association<br />
Western United Dairymen</span></p>

<p>¹ <a href="http://www.1031taxreform.com/wp-content/uploads/EY-Report-for-LKE-Coali…; target="_blank">Economic Impact of Repealing Like-Kind Exchange Rules</a>, ERNST &amp; YOUNG (March 2015, revised November 2015)</p>

<p>² David Ling and Milena Petrova, <a href="http://www.1031taxreform.com/wp-content/uploads/Ling-Petrova-Economic-I…; target="_blank">The Economic Impact of Repealing or Limiting Section 1031 Like-Kind Exchanges in Real Estate</a> (March 215, revised June 2015)</p>

<p>&nbsp;</p>

<p>For further practices that could derail your 1031 exchange, check out <a href="/blog/1031-like-kind-exchange-pitfalls-avoid-part-ii">1031 Like-Kind Exchange Pitfalls to Avoid - Part II</a>.</p>

<h2>Constructive Receipt Issues</h2>

<p>A taxpayer cannot take actual possession or be in control of the net proceeds from the sale of relinquished property in a 1031 exchange. For tax purposes, the taxpayer does not receive payment, rather those funds are being held for application towards a replacement property to complete the exchange.&nbsp; Should no replacement property work out by the end of the 180-day exchange period or no property be identified by the end of the 45-day identification period, the funds can be received, and the sale would be reported as such.&nbsp; However, the following pitfalls must be avoided by the taxpayer and the exchange company.</p>

<h2>1031 Exchange Pitfall No. 1 – Receipt of Excess Funds</h2>

<p>Often, a taxpayer will identify more than one possible replacement property but acquire just one during the exchange. Generally, when an exchange is completed, it is permissible to return excess funds.&nbsp; However, if the taxpayer has identified more than one property and there are still available funds in the account, the taxpayer, whether or not he had the intention to, could use those funds to buy another property.&nbsp; In such a case, the funds need to be held until a termination event occurs (usually 180 days from the inception of the account).&nbsp;</p>

<p>Should the excess proceeds be returned earlier and the taxpayer found to have some control of the funds, the exchange could be jeopardized.&nbsp; An exchange company can prevent this situation in advance by requiring the taxpayer to indicate how many of the designated properties he intends to acquire.&nbsp;</p>

<p>For example, if two properties are identified as potential replacement properties, and the taxpayer indicates that they are in alternative to one another (only one is intended to be purchased), most exchange companies will release excess funds after one is purchased, since the clear intent was for the second property to be a backup if the first one could not be acquired.</p>

<h2>1031 Exchange Pitfall No. 2 – Payment of Certain Transactional Costs</h2>

<p>The Regulations permit the payment of certain transactional costs out of the exchange account.&nbsp; In order for the costs to be eligible, they have to (i) pertain to the disposition of the relinquished property or the acquisition of the replacement property and (ii) appear under local standards in a typical closing statement as the responsibility of the buyer or seller.&nbsp; The first criterion is almost always present; it is the second that can be problematic.&nbsp;</p>

<p>As an example, payments relating to a loan on the replacement property, such as a loan application fee, points, credit report, etc., are not an exchange expense, rather they are capitalized into the cost of the replacement property.&nbsp; However, expenses for real estate commissions, transfer taxes, recording fees and other expenses would seem to fall within the requirements of the second criterion and are properly paid out of exchange expenses.</p>

<p>Exchange companies are sometimes asked to pay for legal fees or accountant fees out of the exchange account.&nbsp; Often, the attorney fees or accounting fees pertain exclusively to the exchange transaction.&nbsp; In these instances, the attorney can be asked to provide a memo or e-mail confirming his opinion that the attorney fee appears under local transactions in a typical closing statement as the responsibility of the buyer or seller.&nbsp; Fees for accountants, for example, do not usually appear on closing statements anywhere, and the exchange company would be well advised to withhold this kind of payment request.</p>

<p>Once, again, the larger point here is that allowing access to the exchange funds for costs or expenses that are not permitted would put the taxpayer in constructive receipt of the funds.</p>

<h2>1031 Exchange Pitfall No. 3 – Earnest Money Payouts</h2>

<p>It is not unusual for a taxpayer to provide earnest money at the time the replacement property contract is entered into.&nbsp; At some time prior to the closing of the replacement property purchase, the taxpayer will request a reimbursement for the advance of funds used to purchase the property.&nbsp; Unfortunately, under the exchange rules, a taxpayer cannot receive a benefit (much less a payment) from the exchange account.&nbsp;</p>

<p>As an alternative, the taxpayer may request that the exchange company make a superseding earnest money payment and arrange for the person holding the original deposit to return it directly to the taxpayer. Another alternative would be to ask the closing agent to show an offsetting debit line item on the settlement titled “Reimbursement of prepaid earnest money to buyer.” The exchange company can overfund the wire to closing by the amount of reimbursement, and the taxpayer can be reimbursed by the closer in the closing.</p>

<p>A related issue occurs if the exchange company has not yet been assigned the taxpayer’s rights under the new purchase agreement when an earnest money deposit is requested. When the taxpayer enters into the replacement property contract, it is he who is contractually obligated to furnish the earnest money.&nbsp; If the taxpayer requests earnest money to be paid out of the exchange account, he is obtaining the benefits of the exchange funds.&nbsp; A better practice is to assign the contract rights to the exchange company at the same time the earnest money is requested.&nbsp; Once that assignment is made, the exchange company is linked into the purchase agreement and has a basis to make the requested payment upon the client’s request.</p>

<h2>1031 Exchange Pitfall No. 4 – Early Return of Funds</h2>

<p>At various times during the exchange period, a taxpayer may elect not to proceed with the transaction.&nbsp; When this happens, the taxpayer will tell the exchange company that he understands that he will pay applicable taxes on the gain.&nbsp; Under the regulations, exchange facilitators are only permitted to disburse funds at specific times for specific reasons.&nbsp; The election by the taxpayer to terminate the account is not one of those instances.&nbsp;</p>

<p>In such a case, the client may not care if the rules are not followed - after all, he is agreeing to pay the applicable taxes.&nbsp; The problem is that if the exchange facilitator is found to be deviating from the rules, previous exchanges for this taxpayer as well exchanges for other taxpayers serviced by the exchange company could be jeopardized.</p>

<h2>1031 Exchange Pitfall No. 5 – To Whom was the Property Identified</h2>

<p>The exchange company must be careful not to allow the return of funds other than in a prescribed manner.&nbsp; Generally, one of the permitted factors that allows for the return of the funds is the failure by the taxpayer to identify any property within the 45-day designation period.&nbsp; Although the designation notice is customarily given to the exchange company, the regulations provide that the designation can be valid so long as it is in writing and is given to “any party” to the transaction.&nbsp;</p>

<p>For example, the taxpayer may provide within the replacement property purchase agreement that the subject property is being identified as the taxpayer’s replacement property in an exchange. So in addition to confirming that the exchange company received no designation, the taxpayer should confirm that the designation was not given to any other party to the transaction.&nbsp; Otherwise, the taxpayer could be receiving funds after the identification process but before the termination of the transaction.&nbsp; Once again, the payment of the funds in this scenario could be viewed by the IRS as a departure from the rules.</p>

<h2>1031 Exchange Pitfall No. 6 – Attorney as Settlement Agent</h2>

<p>In some jurisdictions, closings are facilitated by a title insurance company.&nbsp; In others, the taxpayer’s attorney will act as closing agent.&nbsp; In this capacity, the attorney will be in possession of the exchange funds in order to make disbursements as needed from the closing.&nbsp; The regulations state in part that, “In addition, actual or constructive receipt of money or property by an agent of the taxpayer…is actual or constructive receipt by the taxpayer.”&nbsp; Attorneys will frequently state that there is a distinction between their representation of a client and their actions as the closing agent for the parties.&nbsp; In non-exchange transactions, it wouldn’t matter that the attorney is acting in both roles.</p>

<p>The treasury regulations speak to who can and cannot act as a qualified intermediary (the exchange facilitator). In general, those persons who are agents of the taxpayer cannot do so; the regulations refer to those prohibited persons as a “disqualified person[s].”</p>

<p style="margin-left:.5in;">"DEFINITION OF DISQUALIFIED PERSON. (1) For purposes of this section, a disqualified person is a person described in paragraph (k)(2), (k)(3), or (k)(4) of this section. (2) The person is the <strong>agent </strong>of the taxpayer at the time of the transaction. For this purpose, a person who has acted as the taxpayer's employee, <strong>attorney</strong>, accountant, investment banker or broker, or real estate agent or broker within the 2-year period ending on the date of the transfer of the first of the relinquished properties is treated as an agent of the taxpayer at the time of the transaction.”</p>

<p>The definition of the attorney as an agent in the above rules makes clear that, if the attorney has provided legal services within the two years preceding the exchange, the attorney is a disqualified party.&nbsp; It is fair to say that if the attorney is a disqualified person as a result of being the taxpayer’s agent, then it is not a stretch to consider the attorney who holds taxpayer funds to place the taxpayer in constructive receipt.</p>

<h2>Summary</h2>

<p>There are many ways an exchanger can get tripped up even if he is acting in good faith to keep to the regulations, particularly when it comes to constructive receipt of the funds.&nbsp; And sometimes the activities that can lead to an allegation of constructive receipt are less than obvious.&nbsp; The taxpayer or taxpayer’s counsel should take great care to avoid these possible pitfalls. Learn about more pitfalls to avoid in <a href="/blog/1031-like-kind-exchange-pitfalls-avoid-part-ii">1031 Like-Kind Exchange Pitfalls to Avoid - Part II</a>.</p>

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