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U.S. Supreme Court resolves escheat controversy involving states' conflicting claims to abandoned securities distributions.

On Mar. 30, 1993, the U.S. Supreme Court held in Delaware v. New York, 113 S. Ct. 1550 (1993), that the right to escheat funds held by intermediary banks, brokers and depositories on behalf of beneficial owners who cannot be identified or located belongs to the state in which the intermediary is incorporated. As a result, Delaware, instead of New York or any other state, was granted the right to collect hundreds of millions of dollars of unclaimed securities distributions held by brokerage firms doing business in New York but incorporated in Delaware.

The case involved roughly $360 million in unclaimed dividends, interest and other distributions made by securities issuers between 1985 and 1989. By arrangement with the beneficial owners, intermediaries frequently hold securities in a beneficial owner's account in their own names (i.e., as owner of record or nominee). Although the intermediaries generally distribute the large majority of fun receive to their beneficial owners, some of the funds remain undistributed because the beneficial owner's location or identity cannot be determined. Because the intermediary claims no property interest in these funds, they became escheatable to the state.

New York escheated the undistributed funds from abandoned securities held by intermediaries doing business in New York. Delaware contended that it had the right to escheat funds held by intermediaries incorporated in Delaware and filed suit. Because the case involved a controversy among the states, the Supreme Court had original jurisdiction. A Special Master was appointed to hear the case and make recommendations.

The Special Master proposed awarding the right to escheat such funds to the state in which the principal executive offices of the securities issuer are located. Such a result would have spread the money among many states. However, the Court rejected this ruling, claiming that such a scheme would be confusing and difficult to administer.

Relying on precedent, the Court set forth a three-step analysis to be used for resolving escheat disputes among the states. The debtor-creditor relationship as defined by law must be ascertained. The first opportunity to escheat belongs to the state of the creditor's last known address, as shown by the debtor's books and records, because the property interest in any debt belongs to the creditor rather than the debtor. When this primary rule fails because the debtor's records disclose no address for a creditor or because the last known address is in a state whose laws do not provide for escheat, the right to escheat belongs to the state in which the debtor is incorporated. State of incorporation was selected rather than state of principal place of business to facilitate ease of administration.

Applying this analysis, the Court concluded that the primary rule did not apply, since the beneficial owners of the securities (i.e., the creditors) were unknown or could not be located. Furthermore, the Court concluded that the relevant debtors were the intermediaries, because it was their unfulfilled legal obligation, not that of the issuers, to deliver the unclaimed securities distributions to the beneficial owners. Accordingly, the bulk of the abandoned intangible property at issue was escheatable to the state of the intermediaries' incorporation.
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Author:Mims-Velarde, Rebecca F.
Publication:The Tax Adviser
Date:Jun 1, 1993
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