At a Glance…

For the second time this year, the Delaware Department of Finance has published draft regulations governing unclaimed property audits. As required by law, these regulations address Delaware unclaimed property audit procedures, estimation, and sampling methodology, as well as unclaimed property record-retention requirements. To the extent your company is under audit by Delaware and is eligible to convert the audit to the VDA program pursuant to the provisions of Senate Bill 13, the 60-day timeline for electing to convert has not yet begun to run, because these regulations were published in draft form. Comments may be submitted through August 31, 2017. The regulations would likely become final no earlier than October 1, in which case, the earliest likely deadline for conversion would be November 30.

What’s in the new draft regulations?

The new draft regulations appear to be very similar to the prior draft regulations that were published April 1. Here are a few key takeaways from the new draft:

  • Scope of audit expressly includes all affiliates of the holder and any and all records. (In the VDA program, the holder may determine the scope of entities included to some degree, but will only obtain release for those entities.)
  • Nondisclosure agreements: A form nondisclosure agreement (“NDA”) is no longer required, although a sample is provided. In contrast to the prior draft regulation, the new draft no longer requires adherence to the security standards outlined by the International Organization for Standardization, but rather permits a security standard to be tailored by the auditor. The new draft regulation continues to allow auditors to retain the holder’s documents for as long as the auditor is contracting with the state. However, the new draft, like the prior draft, also prohibits an auditor from soliciting other states once an NDA is signed, and provides certain data security breach protections to the holder.
  • Auditors are permitted to come on-site and interview “key personnel.”
  • The statutory record-retention requirement is broadened to include “date, place, and nature of the circumstances that gave rise to the property right.” The new draft lists various documents (to be retained for 15 years), including bank statements, bank reconciliations, detailed general ledgers, aged accounts receivable reports, and more.
  • An officer of the holder still must certify availability of records, but language has been added to allow such certification to be to the best of his or her knowledge, after a reasonable inquiry and due diligence. A false statement, as determined by the State, is considered a “willful misrepresentation” where it is “made with intent to mislead the State Escheator.”
  • Estimation is still permitted based on extrapolations of property subject to escheat to other states, a method that the Temple-Inland court held resulted in “significantly misleading results,” based on an interpretation of Texas v. New Jersey that went to “troubling lengths.”1 Thus, it appears that exempted business-to-business property, as well as reported items, remain in the estimation calculation.
  • Various provisions in the new draft relating to estimation raise concern, including a provision that adopts a narrow interpretation of periods with “researchable” records, as well as provisions describing how the estimation will be performed.
  • For purposes of selecting items to be reviewed in an audit, checks outstanding for more than 90 days and checks voided 30 days or more after issuance will be presumed abandoned in the absence of evidence to prove otherwise. This contrasts with the standard applicable in the VDA program, which applies the 90-day aging for both outstanding checks and voided checks.
  • The State Escheator’s settlement authority is confirmed.
  • Upon request by the holder, the State is required to provide all records of prior filed unclaimed property reports.
  • For purposes of determining whether good cause exists for the abatement of interest or penalties, the State Escheator may consider the following factors: whether the holder has a significant history of filing unclaimed property reports; the responsiveness of a holder during the examination; and whether the holder used ordinary business care in its compliance efforts.
  • An anticipated audit timeline of 24 months is identified. This is the same period identified for a VDA.
  • No information is provided regarding “expedited examinations,” other than an indication that additional information will be published by form at a later time.
  • Actions that do not indicate the owner's interest in the property are identified. For example, the following do not indicate an interest in property: automatic postings; automatic reinvestments; computer system conversion dates and non-return of mail (other than a non-returned IRS Form 1099 for ACH or Dividend Reinvestment accounts).
  • A sufficient address for property is defined as an address that includes at least two of the following three data points (assuming the two data points are not in conflict): a city; a state or country code; and a postal code.

Differences between audit and VDA

Although there is no practical difference between an audit and Delaware’s VDA program on certain key points (e.g., lookback period, method or records used to determine liability, and burdens to determine researchable records), there are some key differences:

  • The presumption of abandonment based on age of voided checks (30 days for audits vs. 90 days for VDA);
  • Costs: Contingent-fee contract auditor for audit vs. holder-paid advocate for a VDA;
  • Up to 50% of applicable interest can be abated for good cause in an audit, whereas full interest relief is available in a VDA, if the VDA is concluded within two years; and
  • Holders reserve the right to challenge legal issues arising out of audit, whereas a holder waives the right to challenge the results of a VDA. (In order to challenge a VDA, a holder must withdraw from the VDA program and be subject to audit.)

Major issues subject to challenge

The new draft regulations contained very minor revisions to the original draft regulations proposed in April. As a result, the following legal challenges to Delaware’s audit practices remain:

  • The estimation methods used by auditors are still subject to challenge on multiple grounds.
  • The scope and breadth of an audit may be challenged as contrary to certain Constitutional requirements under the Fourth and Fifth Amendments, and under federal common law.
  • The aging criteria applied by auditors are subject to challenge as invalid burden shifting.
  • Various definitions in the new draft regulations may be subject to challenge, including, for example, the definitions of “researchable records” and “address.”

A copy of the new draft regulations can be found here.