On June 28, 2016, the U.S. District Court for the District of Delaware issued a potential landmark unclaimed property audit-related memorandum opinion in the case between Temple-Inland and the State of Delaware. The decision is very satisfying for holders who have either experienced extreme extrapolation and sampling methods conducted by third-party auditors during audits (especially on behalf of Delaware) — or have feared they might be in such a situation in the future.
The most important part of the court’s decision deals with a motion for summary judgment requested by Temple-Inland relating to its substantive due process claim. The decision concludes that Delaware’s extrapolation methodology and audit techniques during an audit of Temple-Inland violated its constitutional right to substantive due process.
A remedy for this violation has not yet been provided by the court. Although the ultimate effect of this case on future audits in Delaware or elsewhere is unknown, it is believed by many that this could be the beginning of a “kinder, gentler” — and fairer — unclaimed property audit process throughout the industry. To see a legal analysis of this decision, we suggest you visit the recent blog written by our friends at McDermott, Will and Emery.
Perhaps the most shocking (and satisfying) aspect of this court decision is the comment made by Judge Gregory M. Sleet:
“[t]o put the matter gently, [Delaware has] engaged in a game of ‘gotcha’ that shocks the conscience.”
In fact, “shocking the conscience” was a necessary condition in order for the court to conclude that the combined actions of Delaware and its auditor, Kelmar, violated constitutional substantive due process.
Some of the actions Judge Sleet included in his conclusion:
- waiting 22 years to audit
- exploiting loopholes in the statute of limitations
- failing to properly notify holders of the need to retain records longer than normal
- failing to show any reason other than the raising of revenue for its statute allowing the state to examine holders’ records (12 Del. C. 1155)
- using records characteristics for estimation that favor liability, while ignoring characteristics that reduce liability
- subjecting the holder to multiple liabilities
Although no decisions have been made about the consequences of these actions, there are some immediate benefits for holders. Specifically, any unclaimed property holder currently under audit or with a VDA in process with Delaware could have grounds for negotiation. This may also be true in other states that employ similar estimation techniques. McDermott suggests the closing agreements of previously settled audits could be reviewed for potential appeal.
For clients who are currently involved in audits and VDAs in Delaware and other states, we recommend contacting your MarketSphere representative with specific questions and to discuss this new development. Even if you are not a MarketSphere customer, we hope you will feel free to contact us with your concerns.
This decision obviously is not an overarching solution to the problem of excessive auditing. Many questions still remain related to a number of subjects, including statute of limitations, reasonable estimation techniques and cross-state claims to unclaimed property. Delaware will most likely appeal the decision, and it’s possible there could be a modification of the result.
MarketSphere will keep an eye on this situation and continue to draw our readers’ attention to new developments.