Unclaimed property holders in the oil and gas industry have been hit hard by third-party audits in recent years. Unfortunately, we have reason to believe this focus will continue and perhaps even intensify over the next year. The key to addressing this situation is understanding what auditors are looking for from oil and gas unclaimed property holders and then establishing proactive policies and procedures that can both remediate old issues and help oil and gas holders avoid future complications.
The current situation: unclaimed property auditors are beginning to focus on holders operating unconventional fields
In the past, audits targeted on oil and gas holders have focused primarily on operations in conventional oil and gas fields located in states such as Texas and Oklahoma. We are beginning to see a new focus toward companies operating unconventional fields in states such as North Dakota and Montana.
In part, this may reflect the fact that many companies with conventional fields have already been audited. In addition, the increased focus on unconventional fields is likely a natural transition for third-party audit firms as unclaimed royalty payments from the last decade’s boom are now becoming dormant or even past due.
Why are oil and gas companies being targeted for unclaimed property audit?
Generally, third-party unclaimed property auditors who are paid on a contingent-fee basis look for pockets of commerce where they believe they may find more unclaimed property. State auditors also look for pockets of unclaimed property to help them return property to owners in their state, as well as to increase assessments for the benefit of the state.
There are several reasons oil and gas companies have become targets for assertive unclaimed property auditors including:
The complexity of the unclaimed property process in this industry increases the likelihood that holders will inadvertently misunderstand and/or mismanage the process which can result in larger assessments under audit, and the higher potential for over or under reporting.
High volume of transactions. Ongoing new discoveries and division of old accounts into smaller, more numerous co-owner payments make it more difficult to keep clean, updated records. When mistakes are made, states can assess penalties and/or interest.
Longer look-back periods. Old unreported amounts for generations of oil and gas property owners can add up to large assessments and more income for auditors.
Suspense accounts. It can be difficult to manage and track owner balances and activity within suspense accounts. Owner balances can be moving target, and lags in updating activity and status codes can cause items to be reported late or in error. This is compounded by the fact the rules vary by state, aren’t understood correctly, and change over time.
Numerous property types and codes. Holders are more likely to apply codes incorrectly, leading to penalties.
Frequent mergers and acquisitions. Past due unclaimed property liabilities resulting from the acquired suspense are often overlooked by the purchasing company, which opens the door to penalties, interest and past-due payments for new owners.
Current pay rules. These rules vary by state, are not well understood by most states or holders, and increase the amount of unclaimed property states can collect with minimal additional effort, which is appealing to auditors.
Documented policies and procedures provide a shield against potential liabilities of oil and gas unclaimed property audits
One of the best ways to reduce unclaimed property liability in the event of an audit is to improve owner records and use location services to reduce the amount of unclaimed property a company holds. In addition, Voluntary Disclosure Agreements can mitigate penalty and interest assessments. However, the most powerful way to reduce an oil and gas holder’s potential liability is something much less glamorous: documentation and implementation of policies and procedures before an audit notice is received.
Systems and controls must correctly account for all unclaimed property and reflect the true nature of unclaimed amounts. Include policies and procedures for researching and resolving uncashed royalty payments, reviewing suspense accounts, and keeping up with reporting requirements. Unclaimed property specialists can help reduce complexity, determine which rules and codes apply for types of property, uncover exemptions, complete due diligence tasks to free staff for regular duties, keep track of statutes, and ensure every precaution is taken to avoid excessive assessment.
In addition, make sure the policies and procedures themselves are documented, to show a willingness to follow the law. This provides incentive for auditors to assess fairly. This might take the form of a procedures document, and documentation should include memos and directives instructing staff to follow the procedures.
Overall, the three basic goals of any oil and gas company should be 1) to resolve as many accounts as possible to take them out of the unclaimed property bucket, 2) to create and document policies and procedures to ensure efficient reporting and guard against unnecessary liability in an audit, and 3) to work with unclaimed property specialists who have the experience to help holders avoid costly missteps.