Unclaimed Property Laws (#391)
/The Nature of Unclaimed Property
Unclaimed property is any asset that belongs to someone else, but which has been on your organization’s books, and unclaimed by that other party. It’s usually been sitting on your books because you can’t find the other party. Some common examples are uncashed payroll checks, dormant bank accounts, customer refunds, and dividend payments.
The main point is that the property still belongs to the owner, not your business. The owner’s rights have not expired. Instead, the owner has simply become inactive or can’t be reached. When that period of inactivity lasts long enough, the law requires that you transfer it to the state government. The period of inactivity varies by asset, and it’s called the dormancy period. Instead of permanently taking ownership of these assets, the state takes custody until the rightful owner appears. Which, to be fair, hardly ever occurs. Nonetheless, the state is technically safeguarding assets on behalf of the owners.
The Legal Environment
What is the legal structure behind this? It’s fragmented. There is no single federal unclaimed property law. Instead, each state establishes its own rules. They determine which types of property are covered, how long the dormancy period lasts before a business has to turn over the goods, and how the reporting process works. As a result, a business that operates in multiple states has to comply with potentially dozens of state-level statutes.
This can be a problem when some states have laws that are designed to give them priority over the rights of other states. To keep the state governments from competing for the same property, the Supreme Court came up with a set of priority rules, which are pretty simple. The first claim to unclaimed property belongs to the state of the owner’s last known address. So if you send a check to a supplier in Kansas and the supplier does not cash it, then the amount of that check will eventually go to the Kansas state government. If there is no address, then a secondary rule applies – which is that the property goes to the holder’s state of incorporation. So if your organization is incorporated in Montana, then the Montana government gets the money. These rules are critical, because they determine which state government gets the goods.
That second rule is really important, because any state that incorporates lots and lots of businesses has a right to their unclaimed property. And that state, obviously, is Delaware. It makes tons of money from corporation filing fees, but also from unclaimed property. As of last year, Delaware was raking in about $400 million annually from unclaimed property. We’ll get back to Delaware in a minute.
Types of Unclaimed Property
Now, let’s talk about the types of property that can be classified as unclaimed property. The largest category is cash and cash equivalents, which includes uncashed checks, refunds, deposits, and dormant bank account balances. Payroll checks are a big one. States usually impose a very short dormancy period on uncashed payroll checks, normally around one year.
An interesting one is customer credits. Businesses routinely issue small credits to customer accounts for various reasons, many of which are never used by customers – possibly because they don’t even know that the credits exist. Individually, these amounts may appear insignificant, but when aggregated across thousands of accounts, they can represent quite a large liability.
Here’s another one – gift cards. Some states exempt certain gift cards from unclaimed property reporting, while others require unused balances to the forwarded to the state after the dormancy period is over. Because the rules vary by state, businesses have to be really careful about tracking unused balances.
Or, how about securities? If dividend checks are uncashed or there is no contact with shareholders for an extended period of time, both the unpaid dividends and the underlying shares may have to be forwarded to the state. That’s a scary one. So make sure that you log into your securities account every now and then, or your broker might sell your securities and hand them off to the state. I’m not kidding.
Here’s a big one for insurance companies. If an insurer can’t find the beneficiary for a life insurance policy, or annuity payments, then – once again – the state gets the proceeds.
And an item for banks to be concerned about about is the contents of safe deposit boxes. If rental fees go unpaid and the bank loses contact with the customer, then the box may be opened and its contents transferred to the state. At this point, state governments might seem like giant vacuum cleaners that hose up all the unclaimed money in the economy, and that’s about right.
Holder Responsibilities
Let’s get back to the organizations that originally hold these assets, which are called holders. A holder is any entity that possesses property belonging to someone else. Almost any business can be a holder. Holders have a couple of responsibilities. The first is tracking dormancy periods. These usually range from one to five years, depending on the type of property.
Second, a holder has to perform due diligence before reporting property to the state. This usually involves sending written notices to owners, warning that their property will be transferred if they don’t respond. This gives owners one last chance to reclaim their property directly from the holder.
Next, holders have to file annual reports with the states that are entitled to receive the property. These reports list the owner’s name, last known address, the type of property, and the amount owed. There is a standard reporting format used by most states, but each state has a different reporting deadline, and different exemptions for what has to be reported. In other words, let’s make it complicated.
And finally, holders have to remit the property itself to the state government, usually in the form of an electronic payment.
Unclaimed Property Audits
Now, here’s the central issue. Lots of companies ignore unclaimed property laws, and may not even know that they exist. The trouble is that some states are quite aggressive about collecting these assets, and they use audits to enforce the law. They may have their own in-house audit staffs for this, or they may hire third-party auditors. In either case, the auditors are going to dig through the holder’s records for evidence of unreported property.
If your historical documentation isn’t good enough or it doesn’t exist at all, then the auditors can apply estimation techniques to approximate the amounts that should have been forwarded to the state in prior years. Plus penalties.
This can be a lot of money, and can come as quite a shock to businesses that were pretty loose about what happened to their unclaimed property. Which brings us back to Delaware. Some state governments have come to rely on the proceeds from unclaimed property to fund a good chunk of their ongoing operations, and so have very aggressive unclaimed property auditing operations. Which states might those be?
Delaware is considered to be by far the most aggressive. After that, we have New York, California, Texas, and Illinois. Other states that are known to be increasing their audit departments for unclaimed property are Pennsylvania, New Jersey, Massachusetts, Florida, and Michigan.
In short, the accounting department is the party most likely to be involved in keeping track of unclaimed property and reporting it. If you’re ignoring this area, and your business is in one of the states I just mentioned, then you might want to get your paperwork in order. And even if you’re located in some other state, don’t assume that an audit team will never show up at your door.