On January 23, 2015, the Securities Industry and Financial Markets Association (SIFMA) released a new white paper outlining the unique and varied challenges broker-dealers face when complying with state unclaimed property laws and regulations. The paper, entitled “In Brief: Unclaimed Property Compliance Obligations and Challenges For Broker Dealers” (the SIFMA Paper), gives an overview of basic federal and state unclaimed property principles, and identifies several key issues in applying existing law to investment assets and broker-dealer business models. SIFMA released this new paper to inform its members and others of the current unclaimed property landscape, to identify current issues and risks for broker-dealers, and to initiate a dialog on the best means of addressing these issues and modernizing the regulatory and compliance landscape as it applies to unclaimed property.
The SIFMA Paper identifies a number of specific challenges for broker-dealers when applying unclaimed property laws to investment assets. These challenges include, among others, identifying the appropriate statutory dormancy triggers, which can include one or more triggers including owner inactivity, receipt of undeliverable mail, or failure to cash distributions; applying dormancy standards to broker-dealer customer accounts that may contain an aggregation of different types of assets; handling special account types that are not freely payable or distributable, such as individual retirement accounts and tax-deferred accounts; and handling unclaimed account distributions under outmoded statutory provisions that were drafted decades ago and do not reflect modern methods for processing securities transactions.
The SIFMA Paper also notes that both a clearing firm and a corresponding introducing broker each may have some unclaimed property compliance responsibilities. In addition, contractual arrangements between broker-dealers and various third parties may give rise to questions about which entity is the “holder” of unclaimed property; whether the corresponding legal liability may be shifted by contract; and whether multiple parties could ever be considered the holder for different purposes and/or different contracts.
The SIFMA Paper identifies a number of problematic aspects of unclaimed property enforcement initiatives, such as multistate audits performed by contingent-fee auditors with a financial stake in the amount of the assessment. The SIFMA Paper discusses specific concerns that have been raised by broker-dealers, including the assertion of novel theories of liability by contract auditors, in some cases based on use of the Social Security Death Master File (DMF); the application of overly onerous standards to rebut presumptions of abandonment; and threats of assessing penalties and interest even where the holder has a robust compliance history and where states have not historically imposed such penalties. (For prior Legal Alerts discussing the use of the DMF in the life insurance industry, see the footnote below.)1 The SIFMA Paper notes that overly aggressive theories of liability asserted by auditors can impact owners of securities as well as broker-dealers. Owners may face early (and unwanted) liquidation of securities turned over to the state, with a corresponding loss of investment potential and/or adverse tax consequences.
Release of the SIFMA Paper comes during an active time for initiatives related to unclaimed property. For example, the Uniform Law Commission has undertaken a rewrite of the Uniform Act Governing Unclaimed Property, the first such revision since 1995. In Delaware, an Unclaimed Property Task Force authorized by the legislature recently made findings and recommendations related to improving the fairness of and compliance with Delaware’s unclaimed property program; some of the recommendations are already being used as the basis for new legislation.
The SIFMA Paper concludes by suggesting that broker-dealers consider taking specific action steps now, including reviewing the broker-dealer’s contractual relationships with third parties, such as clearing firms, for the purpose of assessing whether there is a common understanding regarding which compliance duties are imposed on each party by law and/or by contract. In a side-note, the SIFMA Paper also notes that broker-dealers may have certain obligations with respect to “lost securityholders” under SEC Rule 17Ad-17, which also needs to be considered in addition to compliance with state law.