Tag: Delaware

An Offer You Might Not Want to Refuse

Delaware Secretary of State Issues VDA “Invitation” Notices

The Delaware Secretary of State’s Office recently sent letters to over 100 companies identified as “likely” out of compliance with Delaware’s unclaimed property laws. The letters “invite” those companies to enroll in Delaware’s Voluntary Disclosure Agreement (VDA) program. Delaware’s VDA is program pursuant to which a company performs a thorough self-review of its unclaimed property reporting history and remits any overdue unclaimed property to the state. That self-review is, in turn, thoroughly reviewed by unclaimed property professionals on behalf of the Secretary of State’s office who may identify additional property, if any, to be reported and remitted. In exchange for performing this self-review, the VDA program provides companies with a waiver of all penalties and interest that the state might otherwise assess on late-reported unclaimed property. In addition, the company and the Secretary of State will generally agree in advance on a methodology for certain contested issues that come up during the review: How far back does the review go? What entities have to be reviewed? What is the process for dealing with periods for which the company does not have researchable records?

The waiver of penalties and interest is the VDA’s “carrot;” now for the “stick”: companies who do not accept the invitation to enroll in the VDA program may be selected for audit by the State. That audit is not a company-controlled, state-checked review, but is conducted by a private auditing firm retained by the state. Those audits tend to be much (much, much) lengthier than a VDA and carry the threat of interest and penalties. In addition, the auditors generally employ more aggressive and controversial audit methodologies, seeking to shift the burden upon the company to prove that items are not unclaimed property, rather than the auditors demonstrating that items are unclaimed property. Indeed, there have been several lawsuits filed in just the past few years challenging the practices used by Delaware’s selected auditing firms. See Univar v. Geisenberger, Case No. 18-cv-01909 (U.S. District Court, D. Del.); AT&T Capital Services v. Geisenberger, Case No. 19-cv-2238 (U.S. District Court, D. Del.); Eaton Corp. v. Geisenberger, Case No. 19-cv-2269 (U.S. District Court, D. Del).

Given the potential audit risk, companies that are incorporated in Delaware should be on the lookout for these notices.  Unfortunately, the letters often do not go to the individual responsible for reporting and remitting unclaimed property at the organization, but rather are generally addressed to a senior executive such as the Chief Financial Officer.  Time to accept the invitation is limited; companies receiving the notice have 60 days from the date the request was made to enroll in the VDA program.  After that, an audit notice may issue.

Developing: Jury Finds Against Gift-Card Issuer in Delaware Qui Tam Litigation

Delaware ex rel French v. Card Compliant, et al, has been one of the most closely-watched unclaimed property cases in recent memory.  The case involves a whistleblower claim by a former executive of a so-called “GiftCo” structuring entity, alleging that the “giftco” structure (whereby a company issues gift cards through a subsdiary incorporated in a state that exempts gift cards from the scope of unclaimed property laws) amounts to an improper avoidance of Delaware’s escheat laws.

According to a press release issued by the Plaintiff’s attorneys, the jury unanimously found that the card issuer violated Delaware law by using a “giftco” structure to circumvent the state’s escheat laws.  More information when it becomes available.

New Delaware State Escheator Named

According to release from the Delaware Department of Finance, Brenda R. Mayrack has been named the Delaware State Escheator.  Escheator Mayrack is well known to the unclaimed property professionals’ community, having served as both an auditor as well as attorney in private practice representing holders.  She takes over Delaware’s Office of Unclaimed Property at a crucial time.  Delaware is in the midst of several high profile unclaimed property matters including, most recently, a decision by the United States Court of Appeals in Marathon Petroleum Corp. v. Cook, holding that private parties may raise the Texas v. New Jersey priority rules established by the Supreme Court to challenge a state’s authority to escheat property, and allowing for the possibility of broader challenges to Delaware’s audit practices.

 

Reminder: Deadline for Converting Delaware Audit to VDA Approaching

As we noted earlier, Delaware legislation passed October 1 (effective October 11) commenced a 60 day period during which some holders undergoing Delaware unclaimed property audits have the option of converting that audit to a Voluntary Disclosure Agreement.

Unlike a traditional unclaimed property audit, in the VDA program a holder completes a self-review of its records and reports those items believed to be in scope.  In return for this remittance, the Secretary of State agrees to waive the interest and penalties that could otherwise be assessed the holder for noncompliance.  Note that while the VDA program offers a holder more autonomy and control over the review process, the holder’s ultimate report, methodology and remittance are subject to approval by the Secretary of State’s office.

According to the Delaware Secretary of State’s website, any holder currently under audit that received a notice of examination from the State Escheator on or before July 22, 2015, except any securities examinations in which estimation is not required, is eligible to convert.  Conversion forms are available from the Secretary of State’s website.  According to the website, the deadline for conversion is December 11.

Delaware Adopts New Unclaimed Property Audit Regulations, Starting 60 Day Audit Conversion Clock for Some Holders

On October 1, 2017, the Delaware Department of Finance issued long-awaited unclaimed property regulations, effective October 11.   The new regulations continue the overhaul of the State’s unclaimed property program and provide numerous and detailed instructions to both holders and auditors relating to unclaimed property audits.  The regulations specify, among other things, the State’s process for initiating and audit, the process of information requests and inquiries by the auditors, and specific guidelines on the use of estimation.  The guidelines also address a number of substantive issues of interest in the normal reporting process, such as:

  • a specification of records to be maintained by the holder in the ordinary course of business;
  • details on calculating the “maximum cost to the issuer” associated with gift-card or stored value instrument that must be escheated to the state;
  • specifications concerning what activities do, or do not, constitute “owner activity” sufficient to void the presumption that property has become abandoned;
  • what information is sufficient to establish the state of the owner’s last-known address; and
  • standards for requesting an extension of the annual reporting deadline.

In coming posts, we will review the details of some of the new regulations.  In the meantime, however, holders should be aware that the promulgation of these new regulations starts a 60 day period during which certain companies under audit by the State of Delaware will have the option of converting the audit to a Voluntary Disclosure Agreement with the Secretary of State.

Pursuant to legislation adopted earlier this year, for audits commenced on or before July 22, 2015, (except for securities examinations in which estimation is not required) the holder “may notify the State Escheator and the Secretary of State of the person’s intent to convert the pending examination into a review under the Secretary of State’s voluntary disclosure program.”  Holders are required to make that election “within 60 days of the adoption of regulations under § 1176(b) of this title.”  Thus, the new regulations kick-off that election period.  Holders that are currently under audit by Delaware should take this opportunity to assess whether the VDA program is more favorable.

Notice of the conversion period, as well as forms for implementing the conversion process, can be found at the Secretary of State’s VDA website.

Delaware Unclaimed Property Legislation on the Fast Track

The unclaimed property community is abuzz regarding new legislation in Delaware that is being touted as a fix for the numerous deficiencies and questionable practices that a federal court vigorously criticized last summer.  The new legislation — Senate Bill 13 — is intended to fix the problems identified by U.S. District Court Judge Gregory M. Sleet in Temple Inland v. Cook, as well as to adopt some of the new proposals set forth in the Revised 2016 Uniform Unclaimed Property Act.

Some of the highlights of the proposed legislation include:

  • a uniform due diligence requirement;
  • more clarity on what information constitutes a last-known address;
  • notice to the owner by the State Escheator for certain types of property;
  • clearer standards for determining when a debt has been discharged;
  • a 10 year record retention provision;

While these are all welcomed potential developments, what really has the unclaimed property community intrigued are the provisions relating to audits.  In particular, a 10 year period of limitation on the state’s audit rights (except for cases of fraudulent or willful misrepresentation), and a provision limiting the state’s use of estimation to those periods where statutorily required records are not kept.  Even more notable is a potential provision impacting audits that are already underway.

For any audit commenced on or before July 22, 2015 (except for certain securities examinations where estimations are not being used) the holder under audit may exercise the option of converting the audit into a review under the Secretary of State’s Voluntary Disclosure Agreement (VDA) program, and limit the period under audit to 10 report years from the date of the original audit notice.

The legislation, introduced on January 12, has already passed the Senate and been approved by the House Administration Committee and is currently on the “Ready List” (meaning that it is ready for debate by the full House).

 

Delaware and Temple Inland Settle – Questions to Remain Unanswered

In late June, 2016 a Delaware federal court issued a decision ruling that Delaware’s unclaimed property audit and estimation practices “shock[ed] the conscience” of the court and likely violated the due process rights of Temple Inland (a Delaware company being subjected to an unclaimed property audit on Delaware’s behalf by a private auditing firm).  While the court’s holding was big news in the unclaimed property industry and signaled potentially seismic changes in the way unclaimed property audits are conducted, the real work was left to be done:  the Court expressly left open the issue of how Delaware’s violations were to be remedied.

Even with this important step left to be taken, the holder community was understandably excited that — finally — there would be some answers concerning (a) the interplay between estimation and availability of records; (b) the proper methods for calculating and sourcing historical unclaimed property liabilities; and (c) the retroactivity of Delaware’s estimation authority.

Well, it seems that we will have to wait a little longer.  According to a an Associated Press story in Saturday’s Chicago Tribune, the parties in the Temple Inland case reached a settlement resolving the matter in full.  According to a joint-motion to dismiss the case filed by the parties on Friday, Delaware and Temple Inland have “entered into a voluntary settlement agreement that fully and finally resolves all claims, including all claims that were asserted, or that could have been asserted, in the case and therefore the matters in dispute between Plaintiff and Defendants have been resolved.”

Accordingly, while the Temple Inland case showed that courts are willing ask the hard questions about Delaware’s unclaimed property audit practices, it ultimately left those questions unanswered.

Temple Inland Scores Win in Estimation Suit Against Delaware — How Big Remains to Be Seen

In 2014, Temple Inland filed a lawsuit against the State of Delaware, challenging the results and methodology of an unclaimed property audit performed by that state.  As part of a 2008 audit, the State of Delaware assessed Temple Inland unclaimed property liabilities for a 22 year time period, allegedly because of Temple Inland’s failure to maintain records (notwithstanding the fact that no Delaware law requires a holder to keep such records).  After availing itself of the state’s administrative appeal process, Temple Inland filed a lawsuit in feeral  challenged the state’s use of estimation in the audit context, arguing that the technique (1) was preempted by the Supreme Court’s Texas v. New Jersey decision; (2) violated Temple Inland’s rights under the Due Process Clause of the Constitution; (3) represented an unconstitutional “taking” of Temple Inland’s property; and (4) violated the ex post facto clause of the Constitution.

Initially, both parties moved for a quick knockout — Temple Inland sought a preliminary determination that the use of estimates was completely prohibited by the U.S. Supreme Court’s decision in Texas v. New Jersey, while Delaware asked the court to dismiss the suit in its entirety.  In March 2013, the court denied both those arguments, allowing the case to continue.

Later both parties moved for summary judgment (a ruling providing that there is no need for a trial because one party is right as a matter of law) on the remaining claims that estimation was barred by the Due Process Clause, represented an unconstitutional taking of Temple Inland’s property, or violated the ex post facto clause.  The court ruled on those motions yesterday.

The Court Rules Against Delaware on Due Process Claim, Leaves Remedy Open

The court began its substantive opinion with a section titled “Delaware’s Dependence on Unclaimed Property Revenue.”  While none of the following facts will be particularly startling to unclaimed property professionals, seeing them acknowledged by a federal judge is notable.  In  particular, the court recognized:

  • Unclaimed property represents Delaware’s third largest revenue source;
  • In 2007, Delaware transferred over $350 in unclaimed property to the general fund, but only returned $20 million to owners; and
  • It is estimated that 90% of the property collected by Delaware is owner-unknown property (meaning it will likely never be paid out to its rightful owner).

Against this backdrop, the court evaluated whether Delaware’s use of estimation was consistent with its obligation to provide Temple Inland with due process of law.  As the court noted, the key protection of the due process clause is to prevent “arbitrary” government action.  Under the relevant caselaw, the court recognized, action by a government agency like the Delaware Department of Finance is deemed to be arbitrary when it “shocks the conscience” of the court.  While noting that no clear precedent existed for the court to determine whether any of Delaware’s individual actions met this threshhold, the court concluded that “in combination, defendants’ executive actions shock the conscience.”

In particular, the court singled out the following actions for criticism:

  • The fact that Delaware attempted to avoid the three or six year statute of limitations (which does not apply where no report has been filed) by not requiring negative reports and by not (apparently) keeping copies of reports filed by holders;
  • That Delaware never gave the holder notice that it must keep records of unclaimed property compliance (Delaware has no unclaimed property records retention statute) then tried to capitalize on the lack of such records to justify its estimation practices;
  • Delaware’s attempt to impose the estimation statute retroactively;
  • The mechanics of the estimation process itself.  In particular, the he court intimated that Delaware may not properly take custody of estimated sums where the underlying liabilities upon which those estimates are based relate to amounts owed in other states.  Specifically, the court explained that “[I]f the property in base years shows an address in another state, then the characteristic of that property has to be extrapolated into the reach back years;” and
  •  The potential for double liability if other states estimate the same period.

While the court ruled that this conduct amounted to a violation of Temple Inland’s due process rights, it did not decide the appropriate remedy.  Instead, it deferred to Delaware for suggestions, explaining that “[i]t is defendants who are best able to know which remedy will be the most palatable in its anticipated efforts to normalize the enforcement of its unclaimed property laws.  Thus, the court will defer its decision on the subject of an appropriate remedy until another day.”

The Court Defers the Takings Clause Claim

The court made no final decision on the “taking” claim.  Pursuant to the Fifth Amendment (made applicable to the states by the Fourteenth Amendment) a state may not take private property for public use without just compensation.  Temple Inland argued that, by demanding estimated property in the context of an unclaimed property audit, the state was impermissibly taking Temple Inland’s property for public use.  The court rejected the absolute nature of this argument.  While the court recognized that an inaccurately performed estimate could result in the taking of a holder’s property, the court held “reasonable” estimation, in and of itself, did not represent an unconstitutional taking of a holder’s property.  Noting that the parties had not yet presented evidence on whether the estimation at issue was “reasonable,” the court deferred a decision on this issue.

The Court Rejects the Ex Post Facto Challenge

The court found in favor of Delaware on the ex post facto cause claim.  The Constitution’s ex post facto clause (Art. I, Sec. 10) prevents states from retroactively punishing an act that was not prohibited at the time of the act.  As the court recognized, however, violations of the ex post facto clause have generally only been found in connection with criminal statutes, or civil statutes that operate as criminal punishments.  Because the court found that the estimation provisions of Delaware’s unclaimed property law were civil, not criminal, in nature it rejected this claim.

The Temple Inland decision is no doubt a big win for the unclaimed property holder community that, for years, has been complaining about Delaware’s overly aggressive and at times seemingly arbitrary estimation practices.  That said, the Court has expressly left open the issue of how Delaware’s violation is to be remedied.  Until the court’s ruling is given some practical effect, it is unclear just how much of a game changer this ruling will be.

Friday Lost + Found: California’s Audit Haul, Delaware Faces Threats, AARP Says “Open Your Mail”

California Unclaimed Property Audits Bring in Over $1B Per Year — The Lake Arrowhead, California Mountain News has an article about a recent speech given by California State Treasurer John Chiang.  In addition to discussing the state budget, new technology initiatives, and “his perspective on the ‘American Dream,'” Treasurer Chiang gave some information relating to his time as the State Controller.  As reported by Mountain News, Treasurer Chiang claimed that California’s unclaimed property program was “broken” when he took over as Controller, and that his focus on “high profile audits brought in $9.3 billion” during his time in office (or about $1.2 billion per year).   To put that number into some perspective, $1.2 billion per year is more than the GDP of at at least 17 countries.

Delaware Online Chronicles Threats to Delaware’s Revenue — In Delaware Online there is an editorial by Harry Themal which outlines some of the “clouds on the horizon” with regard to Delaware’s future financial outlook.  Along with many of the same problems that plague other states, the article specifically notes Delaware’s vulnerability to fluctuations in revenue from abandoned property and the possibility of future lawsuits (as suggested by Justice Alito’s comments in Taylor v. Yee).  As Mr. Themal notes, “[e]scheat has netted Delaware half a billion dollars – an eighth of the budget – so court rulings could be deadly.”

AARP:  “Open Your Mail!”The AARP recently posted an article entitled “Abandoned Funds May be at Risk” which sounds the alarm over the speed and relative ease with which some states declare investment accounts and securities as “abandoned” property.  While many investors favor a “buy and hold” or similar passive investment strategy, the article notes that investors need to stay in contact with financial institutions (and open their mail) to prevent funds from being deemed “abandoned.”

Temple-Inland Court Renders Federal Preemption Decision – Case Will Continue

Last year, a company called Temple-Inland commenced a lawsuit against the State of Delaware, challenging the findings of a Kelmar-initiated unclaimed property audit, especially as to how estimated liabilities are calculated.  In particular, Temple-Inland alleged that Delaware made an audit demand in excess of $1 million for estimated historical unclaimed property liabilities after having identified only about $150 in actual liability.  Delaware promptly moved to dismiss that litigation (that is, that the court should not even hear the dispute) and Temple-Inland responded by asking the Court for summary judgment (an order that Plaintiff is entitled to judgment as a matter of law, without the need for a trial) on the grounds of federal preemption.

Wednesday afternoon, the trial court issued its decision on the dueling motions.  In sum, both parties’ attempts for a quick knockout were largely rejected, and the case will continue.  The one substantive decision that the Court made relates to federal preemption (i.e., the argument that federal law displaces contrary state law).  The Court expressly rejected T-I’s argument that federal preemption prevented Delaware from employing estimation to assess historical unclaimed property liabilities.

The Federal Preemption Decision

In numerous cases, the Supreme Court has held that a state’s jurisdiction to take custody of unclaimed property relates to the debtor-creditor relationship between the holder and owner of unclaimed property.  In Delaware v. New York, for example, the Court held that the determination of which state was entitled to escheat property started with a determination of the “precise debtor-creditor relationship” that gave rise to the property.   In the T-I case, Temple Inland argued that the use of estimation to calculate unclaimed property liabilities (where no exact debtor-creditor relationship is shown) was preempted (i.e., prohibited) by federal authority relying on the existence of this debtor-creditor relationship, and similar authority refusing to use statistical estimates to apportion unclaimed property among the states in lieu of the Texas v. New Jersey priority rules.  T-I also argued that, although the Texas v. New Jersey and Delaware v. New York holdings arose in the context of disputes between states, the Supreme Court’s holdings in those cases were nonetheless applicable to disputes between a state and a holder.

The Delaware District Court rejected this argument and dismissed T-I’s federal preemption claim.  In so doing, the court reasoned that the since the “stated purpose” of the Texas v. New Jersey priority rules was to “apply to disputes among States, not to disputes between private parties and States” there was no relevant federal law to preempt Delaware’s enforcement of its unclaimed property act.  Accordingly, the District Court avoided the need to determine whether estimation itself was preempted via federal law by finding, in effect, that there was no applicable federal law at all.  The court’s holding regarding federal preemption necessarily resulted in the denial of T-I’s motion for summary judgment.

The Case Will Continue

As to the remainder of T-I’s claims, the court held that the complaint stated a set of facts that, if proven, might entitled T-I to relief, and thus denied the remainder of Delaware’s motion to dismiss.  The case will now continue.