Nonprofit Suggests Changes to Qualified Settlement Fund Regs

May 5, 1999

[1] The Federation of Exchange Accommodators (hereinafter the "FEA") hereby submits the following comments for consideration by the Internal Revenue Service (hereinafter the "IRS") in connection with the Public Hearing scheduled for May 12, 1999, regarding the above referenced proposed regulations (hereinafter the "Proposed Regulations").

I. BACKGROUND

[2] The FEA is a non-profit corporation established to provide a trade organization for qualified intermediaries involved in real estate exchanges and for their primary advisors. The FEA was incorporated in August, 1989, and maintains a non-profit status.

[3] The FEA is designed to promote the discussion of ideas and innovations in the industry, to provide for and promote the establishment of ethical standards of conduct, to offer education to both the industry and the general public, and to work for the development of a uniformity of practice and terminology within the exchange industry.

[4] Membership in the FEA is limited to those companies whose primary business is acting as a qualified intermediary in exchange transactions, and to the attorneys and accountants who advise them. Qualified intermediary members have a variety of backgrounds, including affiliates of escrow companies, title companies, real estate brokers, attorneys, and accountants. At the time of this writing, the FEA has over 160 members, acting as qualified intermediaries in thousands of deferred exchange transactions annually. FEA members maintain offices in approximately 39 states.

[5] Andrew G. Potter, the primary author of this letter, is the President and a member of the Board of Directors of the FEA. Information regarding the Proposed Regulations was circulated among the members of the FEA in order to obtain their input.

[6] Andrew G. Potter, is a practicing attorney, licensed in the State of California, and has advised clients with regard to transactions structured under Internal Revenue Code Section 1031 (hereinafter "IRC section 1031") for approximately twenty (20) years. His practice is located in Irvine, California, has seen an increasing allocation of its resources being devoted to exchange transactions, and since 1984, to deferred exchange transactions in particular. Mr. Potter is a member of the FEA.

[7] The FEA submitted comments to both the deferred like-kind exchange regulations originally proposed in May, 1990, and the multi- asset and personal property regulations originally proposed in April, 1990. The FEA offered testimony in September, 1990, at hearings held for both of these proposed regulations. Additionally, the FEA submitted comment to the coordination of deferred like-kind exchange and installment sales regulations which were proposed in November, 1992.

[8] In proposing the deferred like-kind exchange regulations and the combined deferred like-kind exchange and installment sales regulations, the IRS largely followed a pragmatic approach which adopted existing practice in the exchange industry. In general, the FEA and its members are quite pleased with that regulatory approach. However, in the instance of the current proposed regulations dealing with funds held in connection with an IRC section 1031 transaction, existing practice seems to have been ignored.

II. DISCUSSION

[9] 1. The FEA believes that the Proposed Regulations should be drafted to explicitly include funds held by a qualified intermediary as well as those held in a qualified escrow account or a qualified trust account. The consensus of our view is that the failure to include qualified intermediary held funds by the IRS was a mere oversight. Additionally, the FEA believes that the reporting of any earnings from any funds held in a transaction intended to qualify under IRC section 1031 should be governed by the Proposed Regulations whether or not the strict requirements of a safe-harbor under the deferred like-kind regulations are met.

[10] 2. Existing reporting practice among the vast majority of FEA members dictates that a Form 1099 be issued in the name of each party to an IRC section 1031 transaction who receives interest or "growth factor." Where the fee arrangement between the qualified intermediary and the taxpayer calls for a division of interest earned between them, each receives a Form 1099; sometimes the financial institution issues both, sometimes the financial institution issues one in the name of the qualified intermediary and the qualified intermediary issues the other in the name of the taxpayer. It is inequitable to treat funds held as "owned" by either the taxpayer or the qualified intermediary in instances where a division of interest earned exists. This approach results in one of the parties being required to report income which has not been received and the other party receiving income without being taxed. A better approach is to follow existing industry practice and require the issuance of Forms 1099 to the actual recipients.

[11] 3. The FEA believes that the attempt to characterize funds held in a deferred exchange as a below-market loan from the exchangor to the transferee or qualified intermediary where the exchangor does not receive the income earned by the assets is misplaced. No "loan" has been made and IRC section 7872 generally does not apply in short term financing situations. Recall that deferred exchanges are required to close within 180 days of the transfer of the relinquished property. The interjection of unstated interest issues unnecessarily complicates essentially deferred exchanges.

III. SUMMARY

[12] The FEA would like to thank you for considering the comments expressed in this letter. Please feel free to contact Andrew G. Potter at (949) 753-1033 should you have any questions or wish to further discuss the positions taken by the FEA in these comments or to discuss the content of our proposed testimony on behalf of the FEA.

Very truly yours,