Unclaimed Property (UP) Audits and How They Differ from Tax Audits
By Angela Gebert, National Leader, Unclaimed Property
In this third and final part of our UP executive thought leadership series we’ll discuss the UP audit process.
Remind me: What is UP?
UP is tangible or intangible property that has been abandoned or lost by its rightful owner for an extended period of time and diverted to the state to be returned.
Common forms of UP include stocks, uncashed/stale dated payroll and dividend checks, insurance payments or refunds, unused accounts receivable credit balances, uncashed/stale dated vendor checks, savings or checking accounts, and, in certain states, gift certificates. A company in possession of UP is known as a “holder.”
For more on UP, read our detailed technical overview.
Are UP audits the same as tax audits?
No. While similarities do exist between their processes and purpose have notable differences.
- Tax audits are administered by the Internal Revenue Services or by a state’s Department of Revenue. As UP is state law-dependent, UP audits are usually handled by the Secretary of State and/or Attorney General.
- In most states UP audits are conducted by third-party auditors, whereas state agents perform tax audits.
- Tax audits happen from a single state and not in conjunction with other states. In contrast, UP audits typically involve multiple states; it is not uncommon to have 20-30 states added to an UP audit, particularly when a business has operations in multiple states.
- The scope of UP audits naturally flows into multiple departments, business functions, and processes due to the multiple types of UP. Tax audits are usually much more limited in scope.
- State tax audits typically have a statute of limitations of three to four years where as the UP audit lookbacks typically extend 10 to 15 years.
How do states execute UP audits?
The quality and quantity of state resources needed to carry out a successful UP audit can be draining on available resources.
This has prompted states to use third-party UP “bounty hunting” firms—in this case an exciting name for auditors—to conduct these audits. UP auditors are contracted by the state on a contingency or hourly basis, leading them to pursue each UP audit as aggressively as possible. UP auditors will often shop the company’s name out to a multitude of states prior to the first audit notice being sent out. This means that by time the company receives the initial state audit notice, they may have 20 or 30 states joining the audit. As a result, multi-state or national businesses are often the subject of UP audits.
Which factors may trigger an UP audit?
By now states have gathered an extensive amount of benchmarking data from prior audits and compliance reporting. This benchmarking data allows the states/auditors to more accurately target companies suspected of noncompliance or underreporting.
The inexhaustive list of factors that could lead to a state outreach letter or UP audit includes:
- Lack of filing history: If a company has never submitted an UP filing but industry benchmarking indicates that its peers have, an audit may be triggered.
- Inconsistent filing history: An audit may be triggered by companies with inconsistent filing histories, either in terms of dollar value, filing frequency, or property types reported.
- Not reporting a particular property type common to your industry: UP audits are often triggered by the failure to file certain common UP types, such as unapplied accounts receivable credits.
- A large number of vendors, customers, or employees: More vendors, more customers, more employees… combined they offer more opportunity for UP errors due to sheer volume of transactions and lack of adequate support.
- Merger and acquisition history: Poor UP filing history of a merged or acquired entity could trigger an audit (especially with stock purchases).
- Industry<: Certain industries, regardless of policies, filing history, and remittance amounts will receive regular audits. Healthcare, for example, is more prone to UP based solely on the existence of such factors as significant volume of patients with small dollar account credits to be resolved.
- Cyclical audits: If a business operates in more than one state the states may audit in a cyclical pattern, putting companies in a perceived sense of continual audits.
How do UP audits work?
While there is an increase in audit activity from a number of states, that activity isn’t always a direct audit. If your business has been identified for an UP audit you’ll be contacted in one of the following ways:
1. Outreach letter
Outreach letters are typically physical “snail mail” forms of outreach. Many are simple enough, often reminders of the UP filing deadline in that state and a prompt to file appropriately. However, if you’re getting a letter—the state knows you exist and have attached your business to a potential missing UP filing.
2. Compliance questionnaire
A bit more comprehensive than a reminder letter, some states send a request for information surrounding UP. For example, New York routinely sends out phishing letters requesting the organization complete a short online questionnaire attesting to their UP activities. All of the questions are about the company’s UP property, policies, and filings.
The purpose of these questions is to determine how closely a business comes to the aforementioned benchmark numbers. Then, the state may ask for further information or initiate an audit based on those answers when compared to their benchmarking data.
Some states send outreach requesting businesses perform a “self-audit” of their UP activities. While the company performs the audit, it is overseen by third-party auditors who compare your audit findings to their benchmarking data.
4. Voluntary Disclosure Agreement (VDA)
A company that finds itself to have overdue unclaimed property may report these compliance violations via a voluntary disclosure agreement (VDA), which may allow said business to receive decreased penalties and interest.
Audits take years to complete, between three and seven years on average. Most states’ third-party auditors will ask for bulk amounts of sorted data, often with short timelines for response (e.g. 60 days). Lookback periods imposed on businesses vary by state but can stretch as far as 15 years or more. Bear in mind that businesses operating in more than one state will have separate compliance mandates for each state.