Illinois Slides Backward on Unclaimed Property Law
By Stanley R. Kaminski and Maureen L. McCluskey
September 18, 2017
State Tax Notes
In its budget passed in July, the Illinois General Assembly overrode the veto of Gov. Bruce Rauner (R) and implemented major changes to state taxes and the state's unclaimed property law. Regarding the unclaimed property law, the General Assembly repealed the decades-old and relatively business-friendly Uniform Disposition of Unclaimed Property Act (the Old Act) and replaced it with a much less friendly Revised Uniform Unclaimed Property Act (the Revised Act). Illinois thus became one of four states so far, along with Delaware, Utah, and Tennessee, to adopt a modified version of the newly released and controversial Revised Uniform Unclaimed Property Act (RUUPA), which was finalized by the Uniform Law Commission in July 2016 as a replacement for the 1995 Uniform Unclaimed Property Act (1995 UUPA). While the RUUPA is surely not viewed as a business-friendly law, as we highlight in this article, Illinois chose to be even more business unfriendly by principally adopting those provisions from the RUUPA that are very harsh on business and then ignoring many of the more moderate provisions of the RUUPA, such as the revised statute of limitations, as discussed below.
By way of background, state unclaimed property laws generally require that property owed to others and not returned to the true owner should be turned over to the state for safekeeping (to hold on behalf of the true owner) after an abandonment or holding period. While unclaimed property laws are heralded as consumer protection laws, in reality much of the money turned over to the state is never claimed and it is often a source of significant revenue to the state. Thus, in times of financial crisis, cash-strapped states often make business-unfriendly changes to their unclaimed property laws or view aggressive collection of unclaimed property as a means to generate revenue.
The New Revised Act
The new Revised Act is a complete replacement of the Old Act and changes everything from definitions to exemptions, to statute of limitations, to abandonment periods, etc. This article focuses on only five major antibusiness changes, and explains the retroactive transition period: (1) the reduction in the general abandonment period from five years to three years; (2) the elimination of the business-to-business (B2B) exemption; (3) the modification of the statute of limitations; ( 4) the creation of a new contingent fee audit program; and (5) the expansion of the last known address rule. Also, under the transition provisions, property not reportable under the Old Act for the last five years is now required to be reported under the Revised Act as if the Revised Act were the law for the last five years.
Let's start with the abandonment period. The general abandonment period under the Old Act was five years, with various exceptions. The Revised Act creates a three-year general abandonment period with specific exceptions. So now most property falls under this three year window, requiring businesses to send out more frequent notices to customers and suppliers. It also requires businesses to change their accounting and computer programs on unclaimed property and, because of the transition rules, formally escheat property that would not have been escheated under the Old Act. This obviously will create more administrative expense and headaches for Illinois businesses, making Illinois more hostile to business than it was in the past.
Second, the Revised Act eliminates the B2B exemption that existed under the Old Act which will have a substantial negative impact on business holders. Under the Old Act, "any property due or owed by a business association to or for the benefit of another business association resulting from a transaction occurring in the normal and ordinary course of business" was exempt from escheat. Under the Revised Act, credits, overpayments, uncashed checks and rebates, and other similar property due to any business association in Illinois will now be deemed reportable. In essence, a company's escheat liability is thus increased by the elimination of the B2B exemption since property claimed to be owed by one business to another that was not reportable under the Old Act now has to be turned over to the state under the Revised Act. From a policy perspective, the elimination of the B2B exemption represents a significant step backward regarding the business environment in Illinois.
In other words, the Old Act recognized that unclaimed property laws should not be used to interject the state in the affairs of B2B transactions since businesses can take care of themselves, but rather were intended to protect the individual, who is thought to be less capable than a business regarding tracking or pursuing outstanding claims owed[8.] In contrast, the elimination of the B2B exemption allows the state to intervene in B2B transactions and places an onerous recordkeeping burden on business holders. These holders will now need to closely monitor credit balances and other amounts owed to other vendors, even vendors with which the holder has an ongoing business relationship, and consider these amounts which may be easily reconcilable between the two businesses, to be potentially escheatable to the state. For example, in the ordinary course of business, credit may be improperly issued or applied for one reason or another by one business against another business. Under the B2B exemption in the Old Act, business holders did not have to worry about tracking credit balances for purposes of reporting and could simply resolve outstanding balances amongst the business entities as they saw fit. However, now under the new reporting requirements of the Revised Act, businesses need to be more cognizant of tracking and reporting credit balances and therefore should be advised against just writing off open business credit balances without written documentation evidencing that the credit was issued in error, or improperly applied. Lawmakers obviously thought the elimination of the B2B exemption would be a good revenue source to the state at the expense of businesses, which now have the added administrative expense of tracking, accounting for, and keeping records of these funds, as well as the significant cost of remitting the funds to the state.
Third, the Revised Act provides for an unlimited statute of limitations against businesses that not only fail to file reports but also businesses that actually file reports but simply fail to report a potentially escheatable amount, even when they dispute whether the transaction/amount is actually escheatable to the state. Rather than adopting the more business-friendly statute of limitations from the most recent RUUPA, the Revised Act instead adopts the harsher statute of limitations provision from the 1995 UUPA[9.] The statute of limitations as set forth in the Revised Act and the 1995 UUPA applies only to property "specifically identified" in a filed report. Thus, not only is there no statute of limitations under the Revised Act when reports have not been filed, there is also no statute of limitations for items that were left off the report because the holder believed them non-reportable as not being unclaimed property. As a result, this gives the state unlimited authority to audit and assess property that has not been reported, regardless of the number of years after the year in question. This is a significant deviation from the statute of limitations provision recently adopted in the RUUPA. Under RUUPA, there is a five-year statute of limitations for the state administrator to bring an action against property reported in a nonfraudulent report and a 10-year statute of limitation for the state administrator to bring an action related to a duty under the Revised Act, which runs from the date that the duty arose, regardless of whether a report was ever filed. As explained in the official comments to RUUPA, "this 10 year limitations period provides a holder with a clear cut-off date on which it can rely". However, there will be no such clear-cut reliance available to business holders in Illinois under the Revised Act; instead, the opposite will be true with an unlimited statute of limitations.
Fourth, the Revised Act allows state administrators to contract with third-party auditors using a contingent fee arrangement. This is a substantial diversion from the Old Act, which allowed contingent fee arrangements only when non-Illinois business holders were involved. Under the Revised Act, the state may contract with third parties to conduct an examination of any holder based on a contingent fee arrangement so long as the fee does not exceed 15 percent of the amount or value of the property recovered as a result of the examination. The use of contingent fee auditors by states has been controversial in recent years and raises concern regarding improper incentive and abuse. In April 2014 the U.S. Chamber Institute for Legal Reform released a report addressing the use of private auditors that particularly criticized contingent fee arrangements, explaining that contingency fee arrangements "inject a private profit motive into the enforcement of state laws" and therefore carry a significant risk of abuse. "Auditors who stand to gain from every additional dollar collected have a built-in incentive to aggressively interpret or exceed the boundaries of the law in order to maximize their return". The potential for overaggressive enforcement under this new contingency fee regime is just one more element that makes the Revised Act considerably less business friendly than the Old Act.
Finally, Illinois expands its jurisdiction to take custody of unclaimed property under the Revised Act by expanding the last known address rule. Under the Old Act, the state had the right to take custody of property if the last known address of the owner was in Illinois. This was understood to mean the last known address as reflected in the holder's records. As a result, the holder simply followed his records to determine whether to escheat any funds to Illinois. Under the Revised Act, and consistent with the new RUUPA but inconsistent with the 1995 UUPA, Illinois gives the administrator the ability to determine the last known address of the owner even if the records of the holder do not reflect the last known address of the apparent owner. This is an explicate departure from Old Act and raises the question whether in an audit of a business holder, can Illinois look beyond the holder's records to extrinsic evidence to determine if funds have to be reported to Illinois. The Revised Act does not explain how the administrator may "determine" the last known address. Therefore, this vague expansion of power will surely extend the state's reach to unclaimed property that it would not have had the right to retain custody of under the Old Act.
The foregoing changes, detrimental to businesses in their own right, are even more burdensome when coupled with the transitional provision under the Revised Act that requires retroactive reporting of all property types that would be presumed abandoned under the Revised Act if it applied during the five years before the effective date of the Revised Act (January 1, 2018). This requires business holders to go back five years (January 1, 2013, to December 31, 2017) and potentially escheat unclaimed B2B property to Illinois, even though the B2B property was exempt under the Old Act. The retroactive effect creates an administrative nightmare for holders, and will generate not only substantial administrative expense but also will likely cost businesses millions of dollars in revenue that now will go into state coffers, as opposed to funding expansion, paying employees, or even giving dividends to shareholders. Notably, many businesses may have paid federal and state income taxes on that revenue, so they may now be required to file refund claims with federal and state taxing agencies to hopefully recover such taxes.Moreover, given the potential fines and penalties for not complying with the Revised Act, holders will need to carefully review records from the past five years to ensure they are in compliance with the B2B requirements of the Revised Act. This may be difficult for those businesses that may not have retained the proper records to comply with the new Revised Act, given that under the Old Act, B2B property was exempt.
The Revised Act carries with it significant changes for both businesses located in Illinois and simply doing business in Illinois that will substantially affect not only the day-to-day affairs of those businesses (that is, reporting and tracking requirements) but also will have substantial long-term negative effects on the revenues of these businesses. The increased costs of compliance, the elimination of the B2B exemption, the uncertainties of the new modified sourcing test, the unlimited statute of limitations for unreported items, the acceptance of contingent auditors, and the retroactive application of this law, to name just some of the major changes, surely place Illinois amongst the most unfriendly business states when it comes to unclaimed property. Combine this with the recent increase in the Illinois corporate income tax to 9.5 percent (7 percent base rate plus 2.5 percent replacement tax rate), and Illinois may become a state that businesses will seek to avoid, whenever possible, in their business dealings.
- Article 15 of Public Act 100-0022 replaces 765 ILCS section 1025 et seq.
- See Revised Uniform Unclaimed Property Act (2016); and see RUUPA, National Conference of Commissioners on Uniform State Laws.
- See Uniform Unclaimed Property Act (1995) (1995 UUPA).
- See "Unclaimed Property - Best Practices for State Administrators and the Use of Private Audit Firms," U.S. Chamber Institute for Legal Reform (Apr. 15, 2014). "Unsurprisingly, in times of budget tightening, aggressive collection of unclaimed property is a natural focus of cash-strapped states." Id.
- See 765 ILCS 1025/2.
- Escheat is a commonly used term for turning unclaimed funds over to a state, even though technically it's a common law doctrine whereby assets of a person are required to be turned over to the state when a person dies without heirs.
- See 765 ILCS section 1025/2a(b ).
- See "What Is Unclaimed Property," National Association of Unclaimed Property Administrators. "The purpose of unclaimed property laws is to protect consumers by ensuring money owed to them is returned to them, rather than remaining permanently with financial institutions and other companies." Id.
- Section 19 of the 1995 UUPA states: "An action or proceeding may not be maintained by the administrator to enforce this [act] in regard to the reporting, delivery, or payment of property more than 10 years after the holder specifically identified the property in a report filed with the administrator or gave express notice to the administrator of a dispute regarding the property." See 1995 UUPA, section 19. The foregoing section mirrors section 15-610 of the Revised Act, which similarly states, "An action or proceeding may not be maintained by the administrator to enforce this Act in regard to the reporting, delivery, or payment of property more than 10 years after the holder specifically identified the property in a report filed with the administrator or gave express notice to the administrator of a dispute regarding the property. In the absence of such a report or other express notice, the period of limitation is tolled. The period of limitation is also tolled by the filing of a report that is fraudulent." See article 15 of Public Act 100-0022/15-610.
- See RUUPA section 610 (2016).
- See RUUPA section 610 cmt. (2016).
- See article 15 of Public Act 100-0022/15-1009.
- The Old Act stated: "The State may not enter into a contract with a person to conduct an examination of a holder located within the State of Illinois under which the State agrees to pay such person a fee based upon a percentage of the property recovered for the State of Illinois. Nothing in this Section prohibits the Office of the State Treasurer from entering into contracts with persons to examine holders located outside the State of Illinois under which the Office of the State Treasurer agrees to pay such persons based upon a percentage of the property recovered for the State of Illinois." See 765 ILCS 1025/24.5.
- The Revised Act states that "a contingent fee arrangement may not provide for a payment that exceeds 15 percent of the amount or value of property paid or delivered as a result of the examination." See article 15 of Public Act 100-0022/15-1009(a)(2).
- See "Best Practices for State Administrators and the Use of Private Audit Firms," U.S. Chamber Institute for Legal Reform (2014). "The lack of transparency surrounding the selection and contracting process heightens the risks inherent in contingency fee arrangements by opening the door to 'pay to play' schemes." Id.
- See article 15 of Public Act 100-0022/15-302.
- The Revised Act states that any report for property "that was not required to be reported before the effective date of this Act, but that is required to be reported under this Act, must include all items of property that would have been presumed abandoned during the 5-year period preceding the effective date of this Act as if this Act had been in effect during that period." See article 15 of Public Act 100-0022/15-1503.
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