LIQUIDITY OF FUNDS
What could be more exciting than a discussion of the liquidity of
funds, right? Okay, so it sounds pretty dry. Let me try to explain why
it is actually of critical importance.
In my opinion, the cornerstone responsibility that a Qualified Intermediary
has to his client is to protect the client's money while it is in the
QI's possession. If the QI does something that makes it so his client's
money is not available when it is needed, or it is worth less than it
was when it was transferred to the QI, then it really does not matter
how well the QI prepared the documents, or how in tune with the laws
that affect Section 1031 exchanges he is, now does it? The QI who
places his clients' funds and accounts at risk is on a track for
Unfortunately, there have been a few disasters in the QI industry.
The numbers are very, very small number in comparison to the number of
practitioners; a tiny fraction of one percent, thankfully. It is not
beneficial to delve into any specific failures. Instead, I will point
out that, in every case about which I am aware, the crux of the problem
was that the QI had, knowingly or unknowingly, placed his clients'
funds at risk.
What can be done to avoid these risks as an exchanger?
- Ask your QI where he or she intends to hold your money. The answer,
in my opinion, should be that it will be held in an account that is
strictly segregated from all other exchange accounts of the QI. No
pooling or aggregating of accounts should be allowed. Ask your QI if he
or she pools funds with other exchangers.
- In addition and equally as important, ask your QI in what type of
account the funds will be held. Again, in my opinion, the best answer
is an FDIC-insured money market account. Investing funds in just about
any other type of account leaves those funds subject to the risks of
the market. In some cases of QI failure, funds were invested in
something called "auction rate securities," which gave the appearance
of liquidity but failed that test as the overall market went south. The
only risk that money market accounts carry is the risk of failure of
the FDIC to honor its guarantee. Most investors would feel fairly
confident of that not happening.
We sometimes have a client who simply signs the documents to start
an exchange without paying any attention to what we intend to do with
their money. We like to point out to them what our plans are so they
can feel comfortable, even though it may not have occurred to them to
feel otherwise. Do not just blindly turn your money over to your QI. Ask questions and satisfy yourself that ALL of your money will be available when you need it to close on your replacement property!