How to survive an unclaimed property audit

Over the last few years as states have found themselves in growing financial troubles, many began adjusting unclaimed property laws to allow them to escheat property to state coffers more quickly and with fewer measures to prove that the property was indeed lost and unclaimed. Most states will now move to escheat property after it has been lost or unclaimed for a three-year period; not long ago, five to seven years was the norm. States will also audit and fine issuers for not recognizing that property should have been escheated to the state, and with the expanded liability that has been built into newly adjusted escheatment laws, such actions that can cost companies millions.

According to the Conference Board’s recent report, ‘Expanded liability in unclaimed property: Are states going too far?’, states are pushing the envelope on what compliance will mean for audited companies. According the report, ‘32 percent of respondents were audited based on a look-back period of 20 years or more. Moreover, the burden of proof is on the holder. Because such look-back periods surpass most companies’ document retention policies, and the burden of proof falls on the holder, companies frequently find themselves virtually unable to refute assessments [of fines and interest penalties].’

Generally, the states admit that they are increasing audits in order to increase revenues, but they also maintain that they are only trying to get companies to comply with existing law. Since unclaimed property has traditionally been an area that corporations have not concentrated on, the corporate secretary should begin the process of assessing internal systems for tracking unclaimed property and determining what resources and legal assistance the company may need to marshal to deal with an unclaimed property audit. With states changing their escheatment laws and stepping up enforcement, companies may find themselves the subject of an audit at any time, so it’s important that companies begin understanding how they can best interact with state regulators so that they can survive an unclaimed property audit with as little disruption as possible.  

Make sure audit is warranted

An unclaimed property audit can involve many different types of assets, including, stocks, bonds and other securities, un-cashed dividend checks, unclaimed paychecks or other wages, unredeemed vendor credits, credit balances of accounts receivable, and employee benefits plans.

Unfortunately, since there are no uniformed laws involving unclaimed property, companies will have to deal with each individual state’s rules regarding unclaimed property and such audits. For example, Delaware can impose penalties as high as 50 percent of the unclaimed property value, or as high as 75 percent if fraud is involved.  Therefore it is important that companies make sure that the state has correctly identified property that is truly ‘unclaimed and abandoned and therefore escheatable’ before agreeing to the audit. Undergoing an audit carries significant negatives outcomes for a company including, bad publicity that can lead to reputational risk, a drain on internal resources as the company fights legal battles that can go on for years, costly fines and interest penalties and possible shareholder lawsuits seeking additional damages.   

Jennifer Borden, executive vice president and general counsel for Unclaimed Property Recovery & Reporting, advises companies to research the escheatment laws of each state and fight the state to maintain control of shares or other property if you believe you have been following your unclaimed property compliance procedures correctly. ‘Make them prove that the shares they are after need to be escheated and removed from your custody – make the state prove their case,’ says Borden.

Borden explains that you may have to ‘say no to auditors’ because there are other issues to consider. First, many states hire audit firms that typically charge about 12 percent of the total property collected in contingency fees, which sometimes leads to overzealous or inaccurate assessments. Secondly, the auditors’ may simply be mistaken or have inaccurate information. But perhaps the most important reason to make certain auditors are right is the high cost of litigation from shareholders if you allow the state to escheat property prematurely.

‘You don’t want your shareholders coming at you later, suing you for their shares, plus appreciation,’ says Borden. ‘Fighting the state to keep the shares from being escheated is better than facing angry shareholders.’

Raising red flags

Valerie Jundt, managing director of Keane’s consulting and advisory services, says many companies that have unclaimed property procedures believe they are complying with existing laws, but they are not.  ‘Many companies assume they are filing their unclaimed property reports, but if you ask them when they were filed, they don’t know,’ she says.

Since there have been so many recent changes to unclaimed property laws, companies may also be filing under old state regulations – a practice that will get you audited. ‘If you are still filing under the old statute, that’s going to raise a red flag,’ says Jundt.

Other things that will trigger an audit include: having no history of filing a report, missing property types on the report, recent M&A activity, unsigned reports, whistleblower tips to regulators and certain types of media publicity. States will target certain industries or watch the news for certain events that might affect certain types of companies. For example, companies in the hotel, restaurant or temporary help industries are likely to have unclaimed payroll checks for many workers, so they might expect to be audited if they’ve had higher than average turnover.

Additionally, she notes, ‘If shareholders call up to check on their shares and find out that they have been escheated, that could trigger an audit.’

Preparing your audit team  

Being organized is the best thing you can do to prepare for an unclaimed property audit, and that requires putting together a team that will research and analyze all the information to either stop the audit from happening or allow you to proceed with the audit in a way that limits any financial or reputational damage Managing the audit. Jundt says companies that believe they will face an audit should do the following:

Analyze the business – Jundt says to analyze the corporate structure of the business because this will determine where your unclaimed property liability will come from.  ‘You should understand where you’re incorporated, how long you’ve been doing business, what type of dispersals you might have had, what type of mergers and acquisitions you might have had in the last 10 years – all that tells your story,’ says Jundt

With this information you can prove to auditors that you have indeed complied with the unclaimed property rules of the state you are incorporated in, that you have records of all dispersals of property, and that you have properly tracked and reconciled all shares that may have needed to be transferred to shareholders during merger activity.

If there is a merger, ‘They’re going to wait to see what the company reports next year because they want to see if there is going to be some past due property from the company that was acquired,’ says Jundt.. ‘If you acquire a company with [previous] unclaimed property issues, that becomes your problem,’ she warns.

Identify the potential property types – Once you know the kind of property dispersals you’ve done over the years, you can pull all those records and the individuals who are responsible for those areas and make sure your records add up. Make sure you have listed all of the correct property types you should have filed in your unclaimed property reports and then consult with your legal department.

‘Make sure you get corporate counsel involved in the process early because at the end of the day they are the ones who are going to get pulled in when you get selected for an audit,’ she says.

Thoroughly research auditor’s claims – Many times auditors go after property that is accounted for elsewhere on a company’s books – it could just be accounting errors that triggered the audit. Jundt says to review general ledger and chartered accounts – there may be items in your chartered accounts that are listed incorrectly as abandoned property. She also notes that auditors are often curious about ‘write-off’ accounts and ‘miscellaneous income’ accounts, so make sure you can properly account for property contained in any of these.

Research can often uncover accounts that were neglected or misfiled, but may not need to be escheated. ‘We’ve worked with companies that have never reconciled their bank accounts,’ says Jundt, ‘they just closed them and started new ones.’

Be prepared to handle multiple audits – Many companies will find that they will receive audit requests from several states at the same time. Be prepared to answer all the requests in a timely manner. When audited, make sure you send the right materials to the right state – if you send material elsewhere it will prolong the process and may lead to property being escheated to the wrong state. A legal strategy to handle multiple lawsuits due to the audits should also be prepared.

Consider voluntary compliance programs – Jundt says some states like New York are instituting voluntary compliance programs to get companies that have not executed unclaimed property filings to come forward in exchange for waived or reduced fines and penalties. She suggests that any company that does the analysis and realizes that they do have unclaimed property concerns would be wise to take advantage of working with states that offer this option.

By stepping forward, ‘You can save on interest and penalties, you are reducing what you owe, you are reducing reputational risk and you avoid litigation,’ she says. That becomes a win-win for everyone.

Managing the audit
Keane’s consulting and advisory services offers the following advice for managing an unclaimed property audit:

•     Respond to the state to confirm receipt of the audit notice
•     Communicate timely and frequently with your client
•     Define the scope & timeframe for the audit
•     Reinforce the message that you intend to cooperate with the auditors
•     Secure a confidentiality agreement (if conducted by a third-party auditor)
•     Assign one point of contact to lead and respond to all requests
•     Confirm that all requests and responses be documented in writing
•     Compile and gather relevant records  
•     Provide information and respond to requests in a timely fashion  
•     Research and analyze relevant accounting records
•     Proactively engage counsel and an unclaimed property consultant into the process early on.

Before you meet with auditors, coordinate a committee including but not limited to: at least one C-suite representative (CEO, CFO, COO), legal (internal and/or external), risk management, internal audit, human resources, comptroller or treasury management and third-party paying agents.

Assign one point of contact to be responsible throughout the project and delegate roles and responsibilities. Identify, compile and gather all relevant records (your client will be asked to produce evidence reports have been filed on its behalf). Finally, conduct a preliminary review/analysis to assess potential exposure.