Here are key steps to take when thinking about starting a Reverse or Improvement Exchange:
STEP 1 Select a QUALIFIED INTERMEDIARY to assist you with the reverse exchange as early in the process as possible. Key points to consider in selecting a Qualified Intermediary are: the knowledge and experience of the staff; the professional assistance provided by the Qualified Intermediary to your real estate agent, CPA, and attorney; and the security of the property while it is being held by the Qualified Intermediary, which is of especially critical importance. It is highly recommended that you work with a Qualified Intermediary with significant financial strength and stability to ensure that the Qualified Intermediary will be in business and able to transfer your property to you when you are ready to complete your exchange.
STEP 2 In all types of exchange transactions, always instruct your real estate agent to include an “Exchange Cooperation Clause” as an addendum to the purchase and sale agreement on both the relinquished property(ies) and the replacement property(ies).
STEP 3 Contact your tax and/or legal advisor as early in the reverse exchange process as possible to determine the advisability of completing a reverse exchange. Your Qualified Intermediary will consult with your tax and/or legal advisor to determine which property, the replacement, or the relinquished will be used in the Reverse Exchange. This determination will depend upon such variables as the type of property in the exchange, the lender on the property to be purchased, environmental issues, tenant issues, construction plans, vesting and entity title issues, and numerous tax considerations. Reverse Exchanges are significantly more expensive than Delayed or Simultaneous Exchanges because they are more complex and require additional time and effort by the Qualified Intermediary to set up and administer. In addition, since the Qualified Intermediary or its affiliated Exchange Accommodation Titleholder must hold title to either the Relinquished or Replacement Properties to complete the exchange, the Qualified Intermediary has increased risk and liability in Reverse Exchanges that are not present in Delayed or Simultaneous Exchanges, which significantly adds to the cost of the exchange.
STEP 4 Contact your Qualified Intermediary as soon as possible after entering into the purchase and sale agreement for the purchase of the Replacement Property and advise the Qualified Intermediary of the timing and close of the transaction. It is recommended a minimum of two weeks prior notice to review the details of the Reverse Exchange and to prepare the applicable exchange documents. Both your attorney or accountant and 1031k Exchange company used must approve the transaction before the exchange company will finalize the exchange documents. The exchange company will work closely with your tax and legal advisors during every step of the transaction. DO NOT CLOSE on the Replacement Property without a Qualified Intermediary and all of the Reverse Exchange documents in place.
STEP 5 Prior to the Exchange Accommodation Titleholder taking title to either the Replacement or Relinquished Property, you must have hazard and liability insurance coverage naming the Exchange Accommodation Titleholder as an insured or additional insured for the amount of liability coverage specified by your 1031k Exchange Company. In Reverse Build-to-Suit Exchanges, each contractor or subcontractor that will work on the construction project must be licensed and have the appropriate insurance and a bond satisfactory to your 1031k Exchange Company. In addition, prior to the Exchange Accommodation Titleholder taking title to commercial, industrial, or non-residential raw land, your 1031k Exchange Company must be provided with a copy of the Phase 1 Environmental Site Assessment report or other comparable environmental evaluation that is no more than six months old for review and approval. Your 1031k Exchange Company will require that Phase I be certified to the Exchange Accommodation Titleholder.
STEP 6 If the Exchange Accommodation Titleholder is taking title to the Replacement Property and if there is a third party lender, you must inform your lender that you will be completing a Reverse Exchange and that the Exchange Accommodation Titleholder will be the borrower on the loan until such time as the Replacement Property is transferred to you. The loan must be non-recourse to the Exchange Accommodation Titleholder. Your lender may also require that the Exchanger be a guarantor on the loan and that the Exchanger offer other collateral (other than the Relinquished Property), if necessary, to meet the lender’s underwriting guidelines. Your 1031k Exchange Company will work closely with your lender to assist them in understanding the Reverse Exchange process.
