On February 2, 2017, Delaware enacted Senate Bill 13 (“S.B. 13”) into law, which substantially revised and updated the Delaware Abandoned and Unclaimed Property Law. Section 1176(b) of S.B. 13 directed the Secretary of Finance, in consultation with the Secretary of State, to promulgate regulations on or before July 1, 2017, “…regarding the method of estimation to create consistency in any examination or voluntary disclosure.” S.B. 13 further provided that such regulations must include permissible base periods, items to be excluded from the estimation calculation, aging criteria for outstanding and voided checks, and a definition of what constitutes complete and researchable records. On or about April 1, 2017, the Delaware Department of Finance issued draft revised and replacement regulations pertinent to all areas of unclaimed property, including estimation, in the form of an “Abandoned or Unclaimed Property Reporting and Examination Manual.” As stated in its Summary of Proposal to the Examination Manual, the new Department of Finance draft regulations are to provide a “…framework to ensure that Holders of unclaimed property have a basic understanding of the processes available to them as well as the State’s expectations.” At or about the same time, the Delaware Department of State issued draft Voluntary Disclosure Agreement (VDA) Regulations Relating to Estimation. As a review of all aspects of the regulations is beyond the scope of this Alert, this Alert will focus primarily on the impact of the new estimation provisions set forth in the proposed Department of Finance Regulations. However, a few highlights from the Regulations pertinent to other related unclaimed property areas will be discussed, as will a few highlights from the proposed Department of State VDA Regulations.
Proposed Department of Finance Regulations - Estimation
Highlights of the Regulations as they apply to estimation are as follows:
- Effective Date - The proposed Regulations state that they are to be effective on the date of adoption. It is indicated that they will apply to all new examinations commenced after that date. In addition, they will apply to any ongoing examination “to the extent practical.” Interested persons have until May 3, 2017, to submit written comments on the draft estimation or VDA Regulations. After such comments have been considered, both sets of regulations will presumably be finalized on or before July 1, 2017, as required by S.B. 13.
- Base Period - This term is defined in the draft Regulations as the period of time for which the holder possesses complete and researchable records. Delaware requires that a holder retain records for a minimum of ten years, plus dormancy, which results in a 15-year period for most property types. However, even if the holder does not have records for the entire ten-year period, the state’s expectation is that the holder should have several years at a minimum.
- Complete and Researchable Records -The proposed Regulations define complete records as those that reconcile to the general ledger within an immaterial amount. Researchable records include those records for which a holder may research the resolution of an item. The Regulations further state that researchable records include those items that contain a last known address of the owners’ property. Both the draft Department of Finance Regulations for audits and the VDA Regulations indicate an expectation that a holder will have seven to eight years of researchable records. If not, the holder and the state are to discuss use of an alternative data set with fewer years.
- Estimation - If sufficient records are not retained for the base period, the Regulations indicate that the state may use any available dormant records to estimate an unclaimed property liability. In order to draw a representative error rate, the Regulations, Sec. 18.104.22.168, indicate that the base periods utilized “shall consist of at least three years from the universe of complete and researchable records.” Interestingly, the VDA Regulations state that the base period to be used shall consist of at least the two oldest continuous years the holder has complete and researchable records outside the dormancy period, although the holder may elect to use more than two years. See VDA Regulation, Sec. 22.214.171.124.
- Items Excluded from Estimation Calculation - Two main areas are excluded from the population of potential unclaimed items. First, both the proposed Department of Finance and the VDA Regulations state that items payable to an owner that is a U.S. federal department or agency will be excluded. Second, funds returned in the normal course of business prior to issuance of the examination notice will not be included in the population of potential unclaimed items. For those involved in a VDA, funds returned in the normal course of business prior to enrollment in the VDA program are excluded from the population of potential unclaimed items. However, funds returned after enrollment in the VDA program will not be excluded.
- Aging Criteria - There are some noteworthy differences here between the draft estimation Regulations and the draft VDA Regulations. The proposed VDA Regulations, Sec. 126.96.36.199, state that checks that are outstanding or are voided less than 90 days after issuance shall be excluded from the estimation population. With respect to audits, the proposed estimation Regulations also have the 90-day rule for outstanding checks, unless the State Escheator, in its sole discretion, determines that a different outstanding period is necessary. However, the Regulations state that a check that is voided within 30 days of issuance shall generally be excluded from the population, unless the State Escheator, in its sole discretion, determines that a redefined outstanding period is necessary. See Regulations, Sec. 2.18.6.
- Statistical Sampling - Stratified sampling is expressly permitted by the Regulations. However, if a holder determines that it is advantageous to research the entire population, the research must be performed within a “reasonable time,” which is not defined in the Regulations.
- Projection - If the holder records are insufficient to ascertain the amount of unclaimed property to be reported, projection or estimation techniques then may be used. Significantly, both the draft Department of Finance and VDA Regulations state that “[t]o the extent permitted by law, names and addresses identified in the base period shall not be used to determine which state has the priority claim to the abandoned property estimated to be due over periods where records of owners’ addresses do not exist.” See VDA Regulations, Sec. 188.8.131.52; see Regulations, Sec. 2.19.1. This provision seems designed to allow Delaware to continue to project or estimate and claim for itself all unclaimed property, not just unclaimed property due to Delaware, for periods for which no records exist. As such, the criticism of Delaware’s estimation methodology by the U.S. District Court in the recent Temple-Inland decision seems to have been ignored.
Proposed Regulations - Non-Estimation Comments
- Gift Cards - Delaware law provides that for a stored value card or gift card, the amount unclaimed is the amount representing the maximum cost to the issuer of the merchandise, cards, or services, represented by the card. However, the law does not provide guidance as to how “maximum cost” is calculated. The Regulations, Sec. 2.4.2, provide guidance as to how such cost is determined, by indicating certain specific information from a holder’s annual federal income tax return is to be used to determine the cost of goods sold.
- Address of Owner to Establish Priority State - The Regulations, Sec. 2.8, provide that the state no longer requires a holder to retain sufficient information for the delivery of mail. Rather, it states that a holder may retain a description or code that evidences the state of the owner’s last known mailing address. It provides that a code or description shall include two of the following three data points, which must not conflict with each other: (i) a city, (ii) a state or foreign code, and (iii) a zip code. It is stated in the draft Regulations that the location of the transaction is not evidence of the last known address of the owner.
- Indication of Owner Interest - The “indication of owner interest” is an important concept in unclaimed property, as it operates to toll or interrupt the running of the dormancy period. The Regulations, Sec. 2.5.2, state that actions which do not indicate the owner’s interest in the property include, but are not limited to, 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). Significantly, the proposed Regulations permit a holder to cross-reference an indication of interest in one investment or account with the same holder if the records of the holder indicate the same name on the account, signature card, or contract.
While largely just documenting what was already administrative practice under both the Delaware audit and VDA programs, the proposed Regulations of both the Department of Finance and Department of State are somewhat helpful to the holder community, in that they provide written guidance with respect to several key areas, such as estimation, gift card calculations, etc., in which previously nothing had been published. However, with regard to estimation, the proposed regulations do not appear to address the various constitutional issues raised in the Temple-Inland case. Additionally, Secretary of State Bullock has recently provided guidance with respect to converting an existing Delaware audit into a VDA with the Department of State. However, a number of questions remain with converting an audit into a VDA, as well as with regard to converting an existing audit into an expedited audit. If final regulations are issued by the Department of Finance and Department of State, respectively, with respect to estimation within the next month or so, holders would have only 60 days after the estimation regulations are adopted to make any of the important decisions regarding conversion of existing audits into a VDA or expedited audit.
Holders seeking additional clarification on how these matters relate to their specific factual situations may contact their designated Ryan AUP representative.