Increasingly, states are enacting laws governing the business practices of qualified intermediaries (QIs) as a means to promote consumer protection.  The State of Washington recently amended its QI law that was originally enacted in 2009.  The state made some important changes to those laws, effective June 7, 2012, which are clearly designed to increase transparency in the 1031 exchange transaction and boost confidence in the security of exchange funds.

As a leader in the development of Qualified Intermediary best practices, NES Financial offers the highest levels of security, transparency and compliance in its 1031 exchange facilitation QI business.  NES Financial is in full compliance with the Washington state law changes, and our best practices apply to every exchange that we facilitate, whether the exchange is in Washington State or Washington, DC.

When does the law apply?

Because it is a state law, the Washington QI law applies only to exchanges that have a significant nexus to the state of Washington.  Thus, the law applies to an exchange where the relinquished property is located in Washington or to an IRS Rev. Proc. 2000-37 parking arrangement if the parked property is located in Washington.  Any QI that maintains an office in Washington for the purpose of soliciting business as an exchange facilitator must comply as well, regardless of whether it actually facilitates any exchange or parks any property in the state.

Among the changes made by the amendment is a narrowing of the ways in which a QI can comply with the security requirements of the Washington law.  Previously, a QI could comply either by (1) depositing at least $1 million in cash, securities or an irrevocable letter of credit with a financial institution of its choosing; (2) by holding the exchange funds in a qualified trust (QT) or qualified escrow (QE) arrangement that meets the requirements of Treas. Reg. §1.1031(k)-1(k)(g)(3) and requires dual authorization by the QI and the exchanger to withdraw any amount; or (3) maintain a fidelity bond of at least $1 million.

Protecting the exchanger

It seems fairly obvious that option 1 perhaps lacked sufficient third party oversight to be an effective way to ensure security for an exchanger’s funds.  So it is not surprising that the 2012 amendment has  eliminated option 1.  Now the only available alternatives are the QE/QT arrangements with dual authorization and the $1 million fidelity bond.

The amendment also clarified the requirements for the fidelity bond by explicitly providing that the bond must cover the acts of the exchange facilitator’s employees and the owners’ acts as well if the exchange facilitator is not a publicly traded entity.

NESF offers compliant QTs or QEs with a variety of leading banks as well as an ample compliant fidelity bond for the maximum protection of our clients’ exchange funds.

Eye-catching notifications – New requirements

The amendment also introduced new disclosure requirements.  These disclosures must be made both on the exchange facilitator’s website and on its documents.  The disclosures must contain the following statements in “large, bold, or otherwise conspicuous typeface calculated to draw the eye”:  Washington state law, RCW 19.310.040, requires an exchange facilitator to either maintain a fidelity bond in an amount of not less than one million dollars that protects clients against losses caused by criminal acts of the exchange facilitator, or hold all client funds in a qualified escrow account or qualified trust.

Further, if the QI recommends other products or services, such as a bank to act as a qualified escrow holder or as the trustee of a qualified trust, the QI must disclose to the client that it may receive a financial benefit, such as a commission or referral fee, as a result of such recommendation.  Lastly, the exchange facilitator must not recommend or suggest to a client the use of services of another organization or business entity in which the exchange facilitator has a direct or indirect interest without full disclosure of such interest at the time of recommendation or suggestion.

So if you’re considering a like-kind exchange and want to review our exchange documents, you’ll find it easy to locate our eye-catching mandatory disclosures.

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