Tag: unclaimed property

California Considers Unclaimed Property Voluntary Disclosure, Interest Forgiveness Legislation

The California State Assembly is considering Assembly Bill 2280, which would launch a much-anticipated opportunity for businesses to report unclaimed property to California – interest-free – under an amnesty program.

Unclaimed property is a regulatory challenge for businesses in every industry and commonly results when company financial obligations remain unsatisfied or inactive for a legally defined period.

The unclaimed property is often owed to vendors, employees, customers, or shareholders stemming from ordinary business transactions, including:

  • accounts receivable credits
  • bank and investment accounts
  • gift cards
  • royalties
  • securities and dividends
  • uncashed payroll and vendor payments
  • virtual currencies

California has tried passing voluntary compliance legislation since its amnesty program expired several years ago, but has been unsuccessful. The sleeping giant has again awakened.

Any company with operations in California, with California-formed entities, or with customers, vendors, or employees in California should proactively evaluate its unclaimed property compliance and monitor this legislation carefully.

Every state’s law requires companies to report unclaimed property to the state annually, yet compliance rates are low nationwide. AB 2280 estimates that 1.3 million California tax-filing businesses did not correctly report unclaimed property in 2020. To close this compliance gap, California and most other states regularly audit companies to identify unreported unclaimed property. Such audits often involve detailed reviews of company accounting records for 10 or more years by third-party auditors on behalf of numerous states.

Currently, California imposes 12 percent annual interest on any past-due unclaimed property identified, which likely deters annual compliance, with companies electing to wait for the state to authorize an audit rather than pay the interest assessment. The new bill aims to fix that.

Under AB 2280, California’s Controller is authorized to establish a voluntary disclosure agreement (VDA) or voluntary compliance program for any company that:

  • is not currently under examination by California
  • is not involved in a civil or criminal action involving unclaimed property compliance
  • has not been notified of an unclaimed property interest assessment or negotiated a waiver of interest in the last five years

The proposed law would allow the state to forgive the interest if the company:

  • participates in an educational training program
  • reviews accounting records for unclaimed property for 10 years
  • makes sufficient efforts to reunite property with owners
  • timely files initial reports and remits all identified unclaimed property for the 10 years

The bill may be heard in committee March 19 and it is unclear whether this legislation will become a reality. AB 2280 is not California’s first voluntary disclosure effort. California had a temporary unclaimed property amnesty program in the early 2000s, and the State Assembly declined to advance voluntary disclosure program legislation in February 2018.

Notably, even if AB 2280 successfully becomes law, the voluntary compliance program is contingent upon the legislature appropriating funds in the Budget Act.

Beyond AB 2280, California is ramping up other efforts to drive unclaimed property compliance:

  • In the 2019 California Budget Act, the State Controller’s Office was tasked with increasing unclaimed property compliance, including through adopting an unclaimed property amnesty program; it’s unclear whether this particular bill satisfies that task or if there is more to come
  • In July 2021, California’s governor approved and signed into law Assembly Bill 466, which authorizes the Franchise Tax Board to share information with the Controller’s

Office regarding the taxpayer’s revenue and previous unclaimed property compliance (or lack thereof). This development is notable because revenue and reporting history detail is often used by states to identify companies for unclaimed property enforcement initiatives.

Voluntary compliance programs and VDAs that include an interest abatement are a common-sense incentive for voluntary compliance for states, and the advantages for companies merit thoughtful consideration.

© 2022 BARNES & THORNBURG LLP
For more articles about California legislation, visit the NLR California law section.

Unclaimed Property in M&A Transactions: The Potential for an Unwelcome Surprise

GT Law

As the economy continues to recover, an increase in M&A activity is expected. A target company’s historical compliance with unclaimed property laws is an important, but often overlooked, area for due diligence in M&A transactions. A target company’s failure to comply with unclaimed property laws can potentially create multi-million dollar exposure for the buyer. The transaction itself may have the effect of drawing the attention of state unclaimed property regulators and third party contingency fee auditors. There are various ways, as discussed below, for the buyer to control or limit its potential exposure.

A Brief Introduction to Unclaimed Property

While the exact parameters of what constitutes “unclaimed property” vary from state to state, unclaimed property generally consists of a wide range of both tangible and intangible property held by a business. Once the business has held the property for a statutorily mandated holding period without communication with the owner, it becomes unclaimed property subject to escheat. Some examples of unclaimed property include: un-cashed rebate checks and other customer credits; unused gift certificates and gift cards; un-cashed vendor checks; un-cashed dividend checks; insurance proceeds; and the underlying stock or other evidence of an ownership interest in a business.

Businesses are responsible for reporting unclaimed property to the states on an annual basis in accordance with priority rules established by the U.S. Supreme Court. The first-priority rule is that unclaimed property escheats to the state of the apparent owner’s last known address, as shown on the company’s books and records. The second-priority rule provides that the unclaimed property escheats to the state of the company’s incorporation if: (1) the apparent owner’s address is unknown, (2) the last known address is in a foreign country, or (3) the last known address is in a state that does not provide for escheat of the property in question. As the unclaimed property laws vary from state to state, the outcome of this jurisdictional priority analysis can have a meaningful impact on the property required to be escheated. Some states even require negative reports to be filed, stating that no unclaimed property is due and owing to the state.

The Importance of the Transaction’s Structure

A transaction’s structure can significantly impact the unclaimed property exposure that a buyer may inherit from the target. In an asset purchase, the buyer acquires only those liabilities specifically identified in the purchase document. While it is still possible for the buyer to acquire certain unclaimed property liabilities in an asset purchase (such as those associated with bank accounts, accounts receivable, or gift cards), the buyer’s potential exposure for the target’s failure to comply with unclaimed property laws will typically be less than in a stock purchase where the buyer generally acquires all of the target’s disclosed and undisclosed liabilities, including its unclaimed property liabilities.

In addition, unclaimed property can arise in the context of a merger involving a share exchange, where the former stockholders (who now cannot be located) fail to receive the shares issuable to them in the merger. At least one SEC reporting company recently entered into a settlement with the State of Delaware as a result of more than four million shares which were reserved for issuance in the merger, but which were not claimed by former stockholders. The settlement resulted in the SEC reporting company making a $20,000,000 cash payment to the State of Delaware.

The Impact of a Target’s Failure to Comply with Unclaimed Property Laws

There are a number of factors that can make a target’s failure to comply with the unclaimed property laws very costly for a buyer. In many states, there is no statute of limitations on unclaimed property. As a result, even voluntary compliance arrangements with the states can result in a look-back period of five to ten years or even longer. Audit look-back periods can be significantly longer. Oftentimes, the buyer will not have complete records from the target. In such situations, state regulators in a post acquisition audit have been known to use various formula to estimate the liability. The target may have made acquisitions itself prior to being acquired, further compounding the potential for non-compliance. Once interest (and potentially even penalties) is added to the equation, a potential multi-million dollar exposure can be created — definitely an unwelcome surprise for the buyer.

Methods for Avoiding an Unwelcome Surprise

Prospective buyers can take proactive steps to manage and minimize potential exposure. Below are a few such steps:

Structure of Transaction. If possible, buyers should consider structuring a transaction as an asset purchase to minimize the unclaimed property liabilities inherited from the target. The purchase document should be carefully drafted and negotiated to leave any unclaimed property liabilities out of those liabilities acquired by the buyer.

Due Diligence. Oftentimes, unclaimed property compliance is overlooked in the due diligence process. As a starting point, buyers should request copies of the target’s unclaimed property policies and procedures, a description of the target’s unclaimed property due diligence process, copies of historical unclaimed property reports filed by the target, correspondence with state unclaimed property regulators, and any unclaimed property audit notifications. Given the current interest, especially in Delaware, in equity property (e.g., stock, dividends, etc.), buyers should make sure the target’s response includes materials that permit the buyer to determine the target’s compliance for this property type, especially because this information may be in possession of the target’s transfer agent or other third party. Depending on the materials provided, additional due diligence may be warranted.

Representations and Warranties. Unclaimed property is not a tax and thus is typically not covered by the tax representations and warranties. The purchase document should include specific representations and warranties of the target, backed by an indemnity and an escrow if possible, regarding the target’s historical unclaimed property compliance. The target’s indemnity obligations should be excluded from any basket and cap exceptions applicable to indemnities. Most representations and warranties only survive for a specified period following the closing of the transaction. However, as discussed above, oftentimes there is no statute of limitations with respect to unclaimed property compliance. If possible, the target’s representations and warranties regarding unclaimed property compliance should survive closing indefinitely. Additionally, even if the target is current in its compliance, provision should be made for property still in its dormancy period, i.e., property that may be abandoned but not yet subject to escheat.

Voluntary Compliance Initiatives. If it is determined that the target is not in compliance with the unclaimed property laws, the buyer should consider whether voluntary compliance is a viable option. Many states offer voluntary compliance programs with limited look-back periods.

©2012 Greenberg Traurig, LLP

Unclaimed Property in M&A Transactions: The Potential for an Unwelcome Surprise

The National Law Review recently published an article written by Jonathan I. Lessner, Marc J. Musyl, and Sarah Niemiec Seedig of Greenberg Traurig, LLP regarding M&A Transactions:

GT Law

As the economy continues to recover, an increase in M&A activity is expected. A target company’s historical compliance with unclaimed property laws is an important, but often overlooked, area for due diligence in M&A transactions. A target company’s failure to comply with unclaimed property laws can potentially create multi-million dollar exposure for the buyer. The transaction itself may have the effect of drawing the attention of state unclaimed property regulators and third party contingency fee auditors. There are various ways, as discussed below, for the buyer to control or limit its potential exposure.

A Brief Introduction to Unclaimed Property

While the exact parameters of what constitutes “unclaimed property” vary from state to state, unclaimed property generally consists of a wide range of both tangible and intangible property held by a business. Once the business has held the property for a statutorily mandated holding period without communication with the owner, it becomes unclaimed property subject to escheat. Some examples of unclaimed property include: un-cashed rebate checks and other customer credits; unused gift certificates and gift cards; un-cashed vendor checks; un-cashed dividend checks; insurance proceeds; and the underlying stock or other evidence of an ownership interest in a business.

Businesses are responsible for reporting unclaimed property to the states on an annual basis in accordance with priority rules established by the U.S. Supreme Court. The first-priority rule is that unclaimed property escheats to the state of the apparent owner’s last known address, as shown on the company’s books and records. The second-priority rule provides that the unclaimed property escheats to the state of the company’s incorporation if: (1) the apparent owner’s address is unknown, (2) the last known address is in a foreign country, or (3) the last known address is in a state that does not provide for escheat of the property in question. As the unclaimed property laws vary from state to state, the outcome of this jurisdictional priority analysis can have a meaningful impact on the property required to be escheated. Some states even require negative reports to be filed, stating that no unclaimed property is due and owing to the state.

The Importance of the Transaction’s Structure

A transaction’s structure can significantly impact the unclaimed property exposure that a buyer may inherit from the target. In an asset purchase, the buyer acquires only those liabilities specifically identified in the purchase document. While it is still possible for the buyer to acquire certain unclaimed property liabilities in an asset purchase (such as those associated with bank accounts, accounts receivable, or gift cards), the buyer’s potential exposure for the target’s failure to comply with unclaimed property laws will typically be less than in a stock purchase where the buyer generally acquires all of the target’s disclosed and undisclosed liabilities, including its unclaimed property liabilities.

In addition, unclaimed property can arise in the context of a merger involving a share exchange, where the former stockholders (who now cannot be located) fail to receive the shares issuable to them in the merger. At least one SEC reporting company recently entered into a settlement with the State of Delaware as a result of more than four million shares which were reserved for issuance in the merger, but which were not claimed by former stockholders. The settlement resulted in the SEC reporting company making a $20,000,000 cash payment to the State of Delaware.

The Impact of a Target’s Failure to Comply with Unclaimed Property Laws

There are a number of factors that can make a target’s failure to comply with the unclaimed property laws very costly for a buyer. In many states, there is no statute of limitations on unclaimed property. As a result, even voluntary compliance arrangements with the states can result in a look-back period of five to ten years or even longer. Audit look-back periods can be significantly longer. Oftentimes, the buyer will not have complete records from the target. In such situations, state regulators in a post acquisition audit have been known to use various formula to estimate the liability. The target may have made acquisitions itself prior to being acquired, further compounding the potential for non-compliance. Once interest (and potentially even penalties) is added to the equation, a potential multi-million dollar exposure can be created — definitely an unwelcome surprise for the buyer.

Methods for Avoiding an Unwelcome Surprise

Prospective buyers can take proactive steps to manage and minimize potential exposure. Below are a few such steps:

Structure of Transaction. If possible, buyers should consider structuring a transaction as an asset purchase to minimize the unclaimed property liabilities inherited from the target. The purchase document should be carefully drafted and negotiated to leave any unclaimed property liabilities out of those liabilities acquired by the buyer.

Due Diligence. Oftentimes, unclaimed property compliance is overlooked in the due diligence process. As a starting point, buyers should request copies of the target’s unclaimed property policies and procedures, a description of the target’s unclaimed property due diligence process, copies of historical unclaimed property reports filed by the target, correspondence with state unclaimed property regulators, and any unclaimed property audit notifications. Given the current interest, especially in Delaware, in equity property (e.g., stock, dividends, etc.), buyers should make sure the target’s response includes materials that permit the buyer to determine the target’s compliance for this property type, especially because this information may be in possession of the target’s transfer agent or other third party. Depending on the materials provided, additional due diligence may be warranted.

Representations and Warranties. Unclaimed property is not a tax and thus is typically not covered by the tax representations and warranties. The purchase document should include specific representations and warranties of the target, backed by an indemnity and an escrow if possible, regarding the target’s historical unclaimed property compliance. The target’s indemnity obligations should be excluded from any basket and cap exceptions applicable to indemnities. Most representations and warranties only survive for a specified period following the closing of the transaction. However, as discussed above, oftentimes there is no statute of limitations with respect to unclaimed property compliance. If possible, the target’s representations and warranties regarding unclaimed property compliance should survive closing indefinitely. Additionally, even if the target is current in its compliance, provision should be made for property still in its dormancy period, i.e., property that may be abandoned but not yet subject to escheat.

Voluntary Compliance Initiatives. If it is determined that the target is not in compliance with the unclaimed property laws, the buyer should consider whether voluntary compliance is a viable option. Many states offer voluntary compliance programs with limited look-back periods.

©2012 Greenberg Traurig, LLP