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TO:   

RE:   Killing the golden goose

DATE: January 7, 2015

 

The final report of the task force to improve fairness and compliance in Delaware’s unclaimed property program has just been released. The General Assembly commissioned the task force in response to complaints, and even lawsuits, from major firms incorporated in Delaware regarding the increasingly aggressive and arbitrary practices used by the state in going after unclaimed property.

Backed by the convoluted logic of a series of U.S. Supreme Court decisions, states now are the ‘rightful’ owners of abandoned property such as unclaimed dividends, stocks, bonds, insurance benefits, mineral royalty payments, and even unused gift certificates.

Every politician’s dream is to have more money to spend without raising taxes. While all 50 states have rushed to this revenue trough, few have been aggressive as Delaware. A recently released analysis of state unclaimed property laws by the Council On State Taxation gives Delaware a grade of D-.

Using third party auditors on contingency fees, a “look back” period extending to 1981, and a limited time for property to be claimed by owners, Delaware has managed to increase its state revenue from abandoned property by 15 fold since 1990. Abandoned property revenue is projected to be $554 million during the state current fiscal year, accounting for 14% of all state net receipts. Revenue from abandoned property is now the state’s third largest single source of tax revenue.

Since 1913 Delaware has been the state of choice for incorporation by companies around the nation. The attraction has been management and stockholder friendly laws and decades of reinforcing case precedents. This has led to more than one half of the Fortune 500 being incorporated in Delaware.

The benefits of this incorporation advantage are many. Most obvious has been the annual revenue from the state franchise tax. Currently projected to be $554 million for FY15, the franchise tax is the second largest source of Delaware‘s state general fund revenue. It is basically a severance tax on corporate law that reduces the tax burden of Delaware residents by almost one-fifth. And low resident taxes drive the surge of high income retirees to Delaware’s beaches.

Because local counsel is required on Chancery court cases in Delaware, the legal services industry has been a steady and important component of the state’s economy. Wages are nearly double the state average and employment was stable following the recession.

Delaware corporate legal services also have a substantial multiplier, including hotel stays and meals at top quality restaurants, data processing and printing.

So what has this to do with Delaware’s aggressive pursuit of abandoned property tax revenue? The growing audit assaults on firms incorporated in Delaware, including firms with no precise Delaware footprint, cost the firms time and money. The effort to defend themselves from what they may view as abuse, has even led to a growing specialization in Delaware legal services to protect firms from escheat audits and associated penalties.

Logically this would appear counter to Delaware’s efforts to be corporate friendly, and it is. When 23 years of data are examined and the business cycle is controlled for (gross state product from the U.S. BEA), the relationship between Delaware’s abandoned property tax and franchise tax revenue is negative. On average, every new dollar of abandoned property tax revenue results in a 21 cent drop in franchise tax revenue (at close to the 95% confidence level). This inverse relationship has gotten more significant in recent years.

Up to the 2002 recession, approximately 30 cents in abandoned property revenue was collected in Delaware for every dollar of franchise tax revenue. Refusing to cut state spending in the face of declining tax revenue from the 2002 recession, the state aggressively pushed the abandoned property revenue up to 51 cents per dollar of franchise tax revenue the next fiscal year. This hit 93 cents for FY 13, 76 cents for FY 14, and is projected to be 85 cents for the current fiscal year.

This comes despite the enactment of a Voluntary Disclosure Program that shortened the “look back” period (to 1993), forgave interest and penalties, and eliminated third-party audit firm contingency fees.

Complicating matters, the abandoned property tax revenue reported by the state Department of Finance as going into the General Fund may understate the extent of claims collected as some of this revenue is being diverted to unsupervised state government Special Funds.

Delaware legislators appear to believe that there are no opportunity costs for aggressively “mining” for abandoned property. They accept the logic of the U.S. Supreme Court that an unclaimed dividend shouldn’t be a source of investment capital for a firm, but rightfully belongs to the state.

Analysis of the data appears toindicate that the legislators are mistaken. Time will tell.

 

Dr. John E. Stapleford, President

Caesar Rodney Institute