Equipment Leasing & Finance
Leasing Law

Hidden Liability

Nov/Dec 2021

unclaimedART

Your Company and Unclaimed Property Laws 


As states continue to try and fill the gap between revenue and expenses, many are looking to unclaimed property. For example, 10% of Delaware’s annual revenues come from the collection of unclaimed property. As probable holders of unclaimed property, ELFA members should be aware of these laws and their related liability issues. 

Unclaimed property terminology 
Let’s assume your company does business with a supplier. That supplier issues your company an invoice. Your company cuts a check to the supplier. The check is never cashed. In this situation, the uncashed check is unclaimed property. The supplier is the owner of that unclaimed property. Your company is the holder. 

What property is subject to unclaimed property laws?
For something to be considered property under unclaimed property laws, it must meet four criteria: 
  • The property is typically intangible but can be tangible. Examples of intangible property include vendor credits, customer credits, uncashed payroll checks, uncashed payable vendor checks, shares and dividends and unresolved suspense account items. 
  • It must be unredeemed, uncashed or unused.
  • It must be on the holder’s books or in the holder’s custody. 
  • It must be the result of fixed and certain obligations of the holder.
What is unclaimed? 
Property is uncHTMLlaimed if after a period of time, often called a dormancy period, the owner has not communicated with the holder concerning the property. The dormancy period varies from state to state but is generally three to five years.

What happens to unclaimed property? 
Once an item is deemed to be unclaimed property, the holder must report and remit it to either the state of the last known address of the owner or, if the property owner is unknown or unreachable, to the state where the holder is incorporated.

What to expect if you are audited
To ensure unclaimed property laws are being complied with, state governments will audit businesses, often with special focus on those businesses incorporated in that state. If your business is the subject of an audit, there are six things you should be aware of.

First, the audit will likely be done by a third-party, not by government employees. These third-party auditors are generally compensated by the state on a contingent fee basis. Because the third-party auditors have a direct interest in an audit outcome, they have strong incentive to resolve any doubts in favor of the state and against the holder.

Second, most audits will cover multiple states. Since unclaimed property must be turned over to the state of the owners last known address or where the holder is incorporated, the auditor will be looking for unclaimed property in every state that has retained them. Most third-party auditors are retained by multiple states. 

Third, the audit will cover a long period of time. Most states have statutes that allow auditors to look back 10 reporting years. This means that when you add in the dormancy period, a holder will need to have records from as many as 15 years prior to the audit.

Fourth, an unclaimed property audit will be subject to “estimation.” Estimation occurs when a holder no longer has records for periods covered by an audit. When those records are missing or incomplete, the holder’s state of incorporation will estimate the amount of unclaimed property held by the holder for those periods. To do so, the state will typically (1) calculate the holder’s actual unclaimed property liability for the periods for which the holder does have records, (2) compute an “error rate” for that period and (3) use the error rate to extrapolate unclaimed property liability. (For example, assume you had $1M in revenue in 2020 and adequate records showing unclaimed property of $10,000. Your error rate would be 1% of your revenue. Therefore, if you had $750,000 in revenue in 1996 but missing records for that year, the state will assume you had $7,500 in unclaimed property in 1996.) Of course, any estimated unclaimed property has no real or identifiable owner. Therefore, the holder’s state of domicile will claim such extrapolated liabilities. 

Fifth, your company will have the burden of proof. In general, the state has the burden of proving the existence of any unclaimed property. However, many states take the position that if the holder’s records indicate the existence of a liability (for example, issuance of a check), the burden is shifted to the holder to demonstrate that the obligation is invalid or satisfied. Unfortunately, holders don’t often maintain adequate records to meet the state’s high standard of proof. The inability to remediate such apparent liabilities is compounded once the error rate is extrapolated back to estimate liability for prior periods.

Sixth, you can expect to be paying out cash. Generally, if the auditor finds unclaimed property on a holder’s books, the auditor will give the holder a brief period of time to contact the owner. If contact is made, this property will no longer be unclaimed. However, where the holder is unable to make contact, the property must be turned over to the state, usually in the form of a check. If your accounting practices are sufficient, you are excluding possible unclaimed property from your financial statements, so turning this money over will not affect your bottom line. However, if you are subject to estimation, there is a significant chance you will be cutting a check for liabilities you did not know you had.

Conclusion 
In the current economic climate, states are enforcing unclaimed property laws to increase revenue. Careful holders would be well advised to review their compliance policies and procedures and to assess the exposures associated with unclaimed property. 


Categorized With:

  • LEGAL RESOURCES