Unclaimed Property Audit Defense Strategies

In MarketSphere’s previous Unclaimed Property Audit Series blog posts, we examined the current unclaimed property audit environment, how to respond to an audit letter, and the audit process. To conclude this series, this blog post looks at strategies for building a strong audit defense.

Audit Defense Team

Successfully navigating an unclaimed property audit is complex, so the importance of having an experienced audit defense team in place cannot be understated. Knowledgeable advocates understand the auditors’ playbook and the intricacies of how a company’s specific circumstances will impact their audit exposure (industry, merger and acquisition history, past software system migrations, compliance history, record retention, accounting practices, etc.).

Key advocates include unclaimed property consultants and attorneys. Consultants ensure the audited company is treated fairly, monitor auditor activities to enforce acceptable guardrails, verify that record requests and audit methodologies are reasonable, and help resolve conflicts regarding data quality and supporting documentation. Attorneys provide legal expertise, assisting with contractual obligations, legal rights, non-disclosure, settlement and release agreements, and expert guidance regarding other legal issues.

Within the audited company, the internal team lead should be the company’s go-to unclaimed property champion. The internal champion understands the importance of unclaimed property compliance, as well as the financial and reputational risks when subjected to an audit. The internal champion helps affected departments recognize the importance of prompt and complete record request fulfillment and serves as the primary liaison between the business and the audit defense team.

Communication Protections

Attorney-client privilege ensures that all information communicated between attorneys and their clients remains confidential. However, in some cases, such as when undergoing an audit, it may be prudent to expand the scope of this confidentiality to include non-attorney consultants. Kovel agreements allow for the extension of attorney-client privilege to include third parties serving as the attorneys’ agents. If an unclaimed property audit leads to litigation, this protection shields sensitive communications that could otherwise be available to the state.

Data security and confidentiality are also vital when transferring sensitive information between parties. Increasingly stringent data security and privacy laws and regulations add another layer of risk for companies handling sensitive information about customers, vendors, and other parties. Because the audit process includes exchanging records that contain potentially sensitive information, members of the audit team should transfer data using only secure methods.

Risk Assessment

Once the audit defense team and communication protections are in place, conducting a pre-audit assessment will clarify the company’s overall unclaimed property status and the issues an auditor may uncover during the audit. A risk assessment provides information that will assist in developing an effective audit defense strategy and allows the holder to begin addressing deficiencies.

Unclaimed property consultants typically conduct the risk assessment, applying their expertise to demonstrate the holder’s compliance strengths and weaknesses. The assessment:

Establishes a thorough snapshot of the business and industry.
Outlines the company’s methods for identifying and reporting unclaimed property.
Identifies process gaps and potential risks.
Provides an understanding of complete and researchable record availability for audit purposes.
Estimates potential financial exposure under audit.
Recommends action steps to resolve gaps and mitigate exposure.
Provides the baseline information needed for developing key audit defense strategies.

Managing scope and establishment of positions

Coming out of the risk assessment, the audit defense team will have a good understanding of the applicable unclaimed property statutes for the respective audit states and the audit scope. This will allow the team to manage the scope of the audit effectively.

An understanding of the scope should include knowledge of the following items:

The participating states.
The audit lookback period for each state.
The entities and business units to be reviewed, including which entities may be subject to estimations (i.e., considering record availability, state of formation, the applicable state statutes, and other details).
The property types are included in the review.
They are reporting history, including prior audits and VDAs.

Before responding to detailed records requests it will be important to have clear and documented positions to help contain scope creep from the auditors and prevent overreaching requests. A few examples of important considerations are listed below.

The types of transactions, products, etc., subject to unclaimed property. Statutes (consider exemptions, preemptions, deductions, contracts, contractual terms and conditions, etc. ).
Actions or data points that may impact dormancy or reporting requirements (owner activity, returned mail, death, etc.).
Merger and acquisition history and the impact on unclaimed property reporting obligations.

Agreeing with the auditors in advance of progressing to detailed audit requests can be helpful, in some cases. While formal documents, such as Audit Resolution Agreements, may be created by auditors to document agreement on important matters, these documents should be carefully reviewed by your legal team in consultation with your unclaimed property advocates.

Setting Expectations

Setting expectations early in the examination is crucial. Companies should be professional and cooperate with reasonable auditor requests but also assertive and proactive to protect the company. Consider the company’s resources, business cycles, and other constraints, and establish reasonable timelines and response expectations with the auditors.

Establishing expectations upfront reduces the chances of unreasonable requests from the auditors during the audit. Require that all agreed-upon terms be documented in writing. Such documentation can be used to push back if an auditor attempts to overstep terms as the audit proceeds. If disagreements with third-party auditors cannot be mutually resolved, work with the state administrators to seek reasonable solutions.

Record Requests and Detailed Testing

Overreaching Requests

When the audit is underway, the auditor will request company records for review. The records you provide will be used by the auditors to determine the company’s level of compliance and potential liability. Before responding, closely review these requests and challenge those that are overly broad or fall outside the agreed-upon review parameters. Maintain a spirit of cooperation and communication, but beware of unreasonable requests. Having the established positions discussed above will help prepare you for these requests and responses.

Completeness and Researchability

To gain an understanding of the record availability for each in-scope entity and property type, limit submissions to periods where available records are complete and researchable for the audit. This will be important for the remediation efforts and estimations discussed below and in prior blog postings.

Expedited Approaches

Auditors have standard testing procedures for most property types and will request records based on these procedures, however, they do not always apply or may not be the most effective way to accomplish the process for your situation. Working with knowledgeable advocates who understand these procedures and their objectives will allow you to take what you know about your company and negotiate expedited testing approaches that may limit time and unnecessary work for you and your colleagues.

Estimations

Depending on your circumstances the auditor may extrapolate estimated liability for past unclaimed property amounts by testing a sample from the available records. It is not uncommon for estimated liability to be the largest portion of a company’s exposure under audit. It will be important to understand how the sampling and estimation models work and what factors will increase or decrease the estimations. The process is subjective and many decisions made early in the audit may largely impact estimations. Thus, it is crucial to understand these factors and consult with advocates before providing any records or responses to auditors.

Remediation Tactics

Auditors will use the records provided to them to create populations or samples that contain items they believe represent unclaimed property. Refer to blog post 3 for a more detailed understanding of testing populations. The selected items will generally be considered unclaimed property unless documentation can be provided that proves the obligation is no longer owed or does not represent unclaimed property.

Do not blindly accept populations or samples from auditors, review them, and ensure they are free of errors or other issues (exemptions, preemptions, sampling issues scope transactions, etc.).
Identify categories or types of transactions that could be broadly removed or excluded based on business cases or other explanations.
Work with auditors to understand and agree on which documentation is acceptable to support resolutions.
Educate and train the internal team researching the populations.
Understand how individual items impact the overall liability calculations and prioritize high-value items.

Review and Rebut Findings

Request a written explanation of testing and calculation methods and dispute any miscalculations. Consider your company’s unique circumstances and processes, and present your case and why the auditor’s findings may not accurately reflect your true liability. If resolutions cannot be completed with the auditors, attempt to resolve matters directly with the states.

When it comes to unclaimed property audits, the adage that the best defense is a good offense applies. Following best practices for unclaimed property compliance before an audit notice is received will ease the burden if faced with an examination. Similarly, when an auditor comes knocking, strategically proceeding with the right team, knowledge, protections and expectations in place will help make an undesirable audit more manageable.

Navigating the intricacies of unclaimed property compliance can be challenging. To learn more about unclaimed property audits, register today for MarketSphere’s upcoming webinar on August 15th when we present: Unclaimed Property Audits: Developing a Proactive Strategy to Protect Your Company. This webinar will help attendees understand protection strategies to build a strong audit defense.

For help with your unclaimed property needs, contact us so we may assist you in considering your available options and determining your next steps.

*Content contained in this article is considered accurate as of the publish date.