Financial Statement Considerations
Anthony J. Testa, Jr.
budget woes resulting from dwindling income and franchise
tax receipts have led states to pursue alternative nontax
funding sources. Nontax government obligations are generally
a limited for concern business; however, a state’s
abandoned or unclaimed property and escheat laws may lead
to potentially material risk considerations.
of the potential relevance and applicability to financial
statement engagements, CPAs should perform and document
an escheat analysis. Escheat, in broad terms, refers to
the devolution, or transfer, of property to the state. Because
property rights are derived from state (not federal) law,
each state defines what, when, where, and how property devolves
to the state. Before performing an escheat analysis, one
must properly identify states in which escheat laws apply
and determine the applicable escheat laws and regulations.
Three core elements comprise the basis for escheat, each
of which forms an important component of the subject.
analyze an escheat obligation or liability, one must examine
the character of escheatable property, the identity of the
parties, and the period of dormancy. Before an escheat obligation
can arise, the state must articulate the specific property
subject to escheat. While escheatable property can take
any character, real or personal, or any form, tangible or
intangible, the most vexing falls within the intangible
personal property category. Intangible personal property
includes unredeemed gift cards or certificates, uncashed
checks to vendors, uncashed payroll checks, and mis- or
unapplied cash receipts. Once the state-specific escheatable
property is determined, the duty to remit the property depends
upon a proper classification of the parties.
states label the party with the duty to remit escheatable
property as the “holder.” Generally, a holder
occupies the same position as a debtor (i.e., one party
who owes to another party either payment or the transfer
of goods). For example, a merchant who issues a gift card
to a patron becomes a holder of the unclaimed goods owed
to the patron. If a creditor fails to receive escheatable
property from a holder after a statutory dormancy period—whether
due to the creditor’s death, abandonment, or failure
to claim—the property automatically escheats, by law,
to the state. For example, after the date of sale, a beverage
distributor that collects a security deposit of five cents
for each bottle sold to a customer must remit, by law, each
unclaimed nickel to the state after a statutory dormancy
period. As with the definition of property, the period of
dormancy varies considerably by state and property type.
of the somewhat oblique nature (and relatively low enforcement)
of escheat laws, a CPA might not think it necessary to perform
an escheat analysis during a financial statement engagement.
Nevertheless, CPAs should consider escheat during the planning,
fieldwork, and reporting phases of each engagement.
the planning phase of an engagement, CPAs should document
the risks that the client, as a holder, must escheat certain
property to the state. In the case of a multistate company,
CPAs should consider the potential for multistate escheat
obligations. Furthermore, engagement planning should consider
whether the company has any systems or mechanisms in place
to record, summarize, and classify such property as escheatable.
During the planning phase, CPAs should also consider the
need to mail legal letters to determine whether escheatable
property exists, when escheat obligations arise, and which
state laws are applicable.
should consider whether a company entered into or recorded
transactions not addressed during the planning phase. During
the fieldwork phase of an engagement, CPAs should carefully
consider and evaluate any property that might need to be
remitted to the state. Such obligations might arise in the
form of contra assets; for example, as outstanding checks
(vendor, payroll, or dividend), unapplied cash, or miscellaneous
accounts-receivable credits. Such obligations might likewise
arise during the analysis of liability accounts; for example,
as unclaimed security deposits, miscellaneous suspense account
credits, or as gift cards/certificates payable and not redeemed.
If the fieldwork phase identifies potentially escheatable
property not considered during engagement planning, the
company should send out additional legal letters.
fieldwork results should lead to several financial statement
classification and reporting considerations. The balance
sheet should distinguish property of the company (i.e.,
assets) from property held by the company but escheatable
to the state (i.e., liabilities). The effect on a client’s
statement of operations depends upon whether the client
incurred any accuracy-related charges from the state. Accuracy-related
charges generally result from the failure to file (or to
timely file) escheat returns (for any periods open under
the statute of limitations), or the failure to remit (or
to timely remit) escheatable property to the state.
filings also create accuracy-related charges. Based upon
the materiality of the escheat-related amounts recorded
in the primary financial statements, or based upon legal
advice, the company may need to disclose escheat matters
in a footnote for commitments and contingencies.
a final consideration before reporting on the financial
statements, CPAs might draft appropriate language to include
in the management representation letter. Management should
affirm its assertions regarding the company’s escheat
obligations and the propriety of the accounting and reporting
J. Testa, Jr., JD, CPA, serves as vice president,
treasurer, CFO, and general counsel for Nixon Uniform Service,
Inc., in Wilmington, Del. He serves as chair of the Tax Committee
of the Delaware Society of CPAs and is a member of its board
of directors and of the sections of Taxation and of Estates
and Trusts of the Delaware State Bar Association and the Wilmington