Companies are required by state laws to try to reunite ex-employees and others with unclaimed property — prizes, credits, wages, shares of stock and other assets. And with states looking to close their budget deficits, there’s been an uptick in auditing activities designed to discover businesses that may not be complying and collect penalties.
When someone mentions an unclaimed property audit, typically what comes to mind are thoughts of prizes never awarded or client credits that are more than 12 months old. By now most everyone knows that failure to comply with a state’s unclaimed property rules can result in hefty financial penalties.
Unfortunately, the examples above may be only the tip of the iceberg. Unclaimed property can also include wages, shares of stock or other assets that are owed to a former employee. The National Association of Unclaimed Property Administrators (NAUPA), which represents state unclaimed property programs, reports that claims totaling $2.25 billion were returned to 2.5 million rightful owners last year, representing an average claim of $892. That’s out of a total of $41.7 billion in assets “waiting to be returned by state unclaimed property programs,” according to the organization.
While the goal of NAUPA’s members involves reuniting the rightful owners with these properties, unclaimed property is also a revenue generator for state treasuries. Not only do businesses pay financial penalties for failing to comply with a state’s rules, states may also charge additional interest on the value of unclaimed property covering the period beginning with when it should have been paid or delivered.
With states looking for ways to close their budget deficits, there’s been an uptick in auditing activities designed to discover businesses that may not be complying and collect penalties that can be deposited into the states’ coffers.
But the risk of financial penalties doesn’t stop there. Your business could be assessed a penalty payable to the rightful owner of that property for failing to comply with the state’s due diligence reporting responsibilities.
“As states attempt to balance their budgets by generating revenues from unclaimed property audits, property owners have likewise become just as aware of the potential for generating additional cash flow from these ‘forgotten’ monies,” warn Kellie A. Lanford and Marshal T. Kline.
Lanford is a senior manager and Kline is a managing director at CBIZ MHM, a full-service certified public accounting provider and management consulting firm. They outlined the risks for failing to comply with due diligence reporting requirements in an article that appears in the current edition of MFM’s The Financial Manager (TFM) magazine.
“Failure to comply with the proper due diligence requirements can create additional risk in the form of scrutiny from both states and the rightful property owners,” Lanford and Kline note. “While you may be aware of a state’s ability to assess penalties for the performance of improper due diligence, or for lack of performance, you may be surprised to learn that rightful property owners have successfully litigated lawsuits against corporations over these same infractions.”
Lanford and Kline outline several cases where rightful property owners have done just that.
One instance involved a former employee who had purchased shares of stock through an employee stock purchase plan. Because communication with the employee relied upon his work address all correspondence was returned as undeliverable after that office had been closed. The company ultimately transferred the stock to the state as unclaimed property. The former employee filed suit, claiming the employer had not exercised proper due diligence before transferring the shares to the state.
The employer argued that it was protected by immunity provisions that govern the transfer of unclaimed property to the particular state. However, this particular state, California, also maintained another immunity provision relating specifically to the transfers of stock. In the end, the California Court of Appeals determined that the general immunity provision did not grant “absolute” immunity to holders who had not complied with the provisions of the unclaimed property laws. The Court of Appeals further concluded that the immunity provision specific to the transfer of stock interests was not applicable in this instance.
What the experts find particularly noteworthy about this case is that it seemed to contradict earlier decisions which concluded that “absolute” immunity was the intent of the legislature. For this reason, a case with similar circumstances was later reviewed by the state’s Supreme Court in order to resolve the conflict between these appellate decisions.
In this case, the entity that was entitled to stock complained that there was a breach of fiduciary duty, since the holder knew the owner’s location and proper notice was not provided before delivering the stock to the state. Because the state had received the certificate and sold the stock, the rightful owner sought further damages representing the difference between the proceeds received from the sale of the stock and the value of the stock on the date it learned the stock had been sold.
The California Supreme Court determined that immunity only applied to the “holder” of stock that was actually subject to the laws governing stock certificates. Ordinarily, the stockholder would be in physical possession of the original stock certificate and considered the “holder” of this property. This means the corporation should have delivered duplicate stock certificates to the state controller in order to receive immunity from due diligence penalties. The court further concluded that the immunity wouldn’t be granted to corporations that delivered duplicate stock certificates unless they also complied with the notice requirements governing stock interests, since “… the notice provision would be meaningless if corporations could ignore it and still receive immunity for their actions.”
Delaware also has provisions addressing immunity for property delivered to the state and for immunity in situations involving the delivery of stock to the state. The experts recounted a case in which the rightful owner sought damages in the amount of $870,487 representing the increase in value from the time the stock was sold to the time of inquiry concerning the stock.
While both parties agreed that the rules governing unclaimed stock interests applied to the case, the corporation that had turned the stock over to the state argued that it was still entitled to immunity under the general rules governing unclaimed property.
However, because the unclaimed property laws governing stock interests were passed at a subsequent date, the Delaware court viewed them as a means of “creating a safeguard” for rightful owners of stock. As a result, the court ruled immunity would only be warranted if the corporation that turned the stock over to the state demonstrated its compliance with that set of provisions.
As the authors note, “failure to comply with a state’s due diligence procedures can result in significant consequences from the rightful property owners, an outcome that may be unexpected given a corporation’s reliance on a state’s unclaimed property immunity provisions.”
In order to avoid costly claims, they recommend companies evaluate their current due diligence procedures in light of the specific statutory requirements for each jurisdiction in which they operate a business. The key considerations include:
- Identification of dormancy periods for escheatable property.
- Proper notification requirements.
- The existence of standard policies that may limit the evaluation of property owner information.
- A timely determination of when property becomes escheatable.
- The proper method for surrendering escheatable property.
Recognizing that this additional due diligence requires additional administrative time and costs, they point out that “it may save you costly lawsuits and damages resulting from the claims of property owners as well as potential penalties assessed by the states.”
A copy of their article, “Being Diligent About Due Diligence,” is currently available on MFM’s website. I hope it serves as a starting point for your own year-end due diligence concerning the unclaimed property laws governing your operation.
Doing the necessary “due diligence on due diligence” should also include checking in with your legal counsel and tax experts familiar with unclaimed property laws that apply to your business, whether it’s a single station operation or a multi-media corporation operating in multiple states.
In the same way that each operating unit’s net operating profits contribute to corporate results, I believe that MFM members working together to share information and best practices helps all of us in the media industry avoid pitfalls that can have a companywide or industry-wide impact.
Mary M. Collins is president and CEO of the Media Financial Management Association and its BCCA subsidiary. She can be reached at [email protected]. Her column appears in TVNewsCheck every other week. You can read her earlier columns here.