Property owners who wish to defer capital gains taxes on the sale of property may be able to do so by entering into a Section 1031 Exchange agreement instead of completing a traditional sale under the rules of the Internal Revenue Service. In an effort to ensure that 1031 Exchanges comply with the complex, and ever changing, rules, as well as to safeguard funds and ownership documents during an exchange, participants in a 1031 Exchange are required to use a Qualified Intermediary, or QI, to complete the transaction. The role of the QI is one of a facilitator, meaning that the QI takes possession of titles and funds and distributes them to the appropriate parties at the appropriate time. Because a QI acts in a fiduciary role, many individual states have passed legislation in addition to that found under the federal rules that further dictates the duties and responsibilities of a QI. Oregon is one of those states; however, in Oregon a Qualified Intermediary is referred to as an Exchange Facilitator, or EF.
Oregon House Bill 3484
In Oregon, HB 3484 addresses the role of an EF in a 1031 Exchange. Under HB 3484, an EF is required to either maintain a fidelity bond in an amount of $1 million, deposit with a financial institution funds or irrevocable letters of credit valued at $1 million, or be listed on a named insured on a fidelity bond in an amount not less than $1 million. A fidelity bond is not required if funds are held in a qualified escrow account (QEA). In addition, an EF must maintain an errors and omissions policy of not less than $250,000 at all times or deposit funds or irrevocable letters of credit in a financial account in an amount of not less than $250,000. The EF is not required to licensed or registered.
Along with maintaining the appropriate level of funds, bonds, use of a QEA or insurance policies, an EF in Oregon must also only make investments with client funds that “meet a prudent investor standard and that satisfy the investment goals of liquidity and preservation of principal.” Although there may be other situations that qualify for a violation of the prudent investor standard, HB 3484 specifically states that the prudent investor standard is violated if the EF knowingly co-mingles funds with the QI’s operating account or if the EF loans or otherwise transfers funds to someone who is affiliated with, or related to, the EF with the exeption of the Exchange Accommodator Titleholder used in reverse or deferred improvement exchange. Furthermore, exchange funds are not subject to attachment or execution against any claim made against the EF and the EF may not keep monies in a financial account in a client’s name unless the client has entrusted the funds to the EF.
Along with the duties and responsibilities of an EF in Oregon, there are a number of things that an EF is prohibited from doing, including:
- Making a false statement or misrepresentation intended to mislead a client
- Fail to account for monies or property within a reasonable amount of time
- Engage in conduct that constitutes fraud or dishonesty or commit a crime involving fraud, misrepresentation, deceit, embezzlement, misappropriation of funds, robbery or theft
- Fail to fulfill his or her contractual duty
When an EF fails to fulfill his or her duties, or violates any of the provisions of HB 3484, an injured client has right of action on the bonds or deposits required to be held by the EF. Any legal action against an EF must be brought in the appropriate Oregon Circuit Court.
A "clawback" tax is imposed on the gain of the Oregon relinquished property when an out of state replacement property is sold. For those taxpayers selling Oregon realty and replacing with out of state property, Oregon requires taxpayers to file an annual report with the Oregon Department of Revenue per Oregon Revenue Statute Sections 316.738 and 317.327.
Be sure to ask four key questions when vetting potential EFs. Learn four key questions by downloading this set of 1031 related questions.