United States

Federal court dismisses unclaimed property complaint

Marathon Petroleum’s federal preemption argument found unconvincing

TAX ALERT  | 

On Sept. 23, 2016, a U.S. District Court granted Delaware’s motion to dismiss in Marathon Petroleum v. Cook, finding the plaintiff’s complaint against the state and the state’s third-party auditing agent, Kelmar Associates LLC, failed to state a claim on which relief could be granted.

Background

In 2007, the state of Delaware began an unclaimed property audit of the plaintiffs through Kelmar Associates. That audit resulted in an estimated liability for unredeemed gift certificates in the amount of $8,231,049.20 for the period 1986 through 2000. The plaintiffs protested that liability, resulting in the state expanding the audit through extensive detailed information requests related to the plaintiffs’ gift card business. The plaintiffs produced documents indicating that they were Ohio limited liability companies, not Delaware entities.

Kelmar Associates subsequently sent the plaintiffs a letter detailing an enforcement action by threatening to refer the audit to the state Attorney General’s office if the requested documentation was not produced. The plaintiffs responded by filing the instant complaint, alleging that the state’s unclaimed property law was preempted by federal common law and that the request for documents constituted an unreasonable search and seizure under the Fourth Amendment of the U.S. Constitution.

Opinion

The court examined the state’s motion to dismiss under three issues: ripeness, the sufficiency of the plaintiffs’ preemption claim, and the sufficiency of the plaintiffs’ Fourth Amendment claim.

Ripeness

The court found that the plaintiff’s complaint was ripe for review, concluding that the adversity of the parties’ interests, the probable conclusiveness of a judgment and the utility of a judgment were all present in the complaint. The court recognized that the plaintiffs interests were adverse to the state that, while not currently subject to an enforcement action, the state’s third-party audit was aggressive and persistent, including being subject to a letter threatening attorney general intervention. The court also recognized that the plaintiffs’ challenge was not isolated as other plaintiffs to the states escheats procedures have also recently been addressed in the courts, such as Temple-Inland which found the state’s escheat procedures troubling and shocking to the conscience.

The court found that the complaint satisfied the conclusiveness element of the ripeness analysis because the plaintiffs’ issues were purely legal in nature, i.e., whether the state’s audit of non-Delaware entities is preempted by federal law and violative of the Fourth Amendment. The court noted material differences between the plaintiffs’ claim, and those from the plaintiffs in Plains All American Pipeline v. Cook, a recent U.S. district court complaint that similarly challenged a Delaware unclaimed property audit. However, the complaint in Plains All American was made before the audit and enforcement action even began. Therefore, the issues in Plains All American were primarily factual and warranted dismissal, unlike here where the audit was conducted over nine years and involved questions of a legal nature.

Preemption

The plaintiffs alleged that the audit is preempted by the trilogy of U.S. Supreme Court cases that established the priority rules used to disburse unclaimed property to states. The state contended that the trilogy of cases only apply to disputes between two states, not disputes between a private entity and a state, i.e., the plaintiffs and the state of Delaware. The court agreed with the state, citing the recent Temple-Inland decision reaffirming that the trilogy of priority rules cases resolved disputes between states, not private parties and states. Therefore, federal preemption would not apply because it would interfere with a state’s valid exercise of regulatory power over unclaimed property.

Fourth Amendment

Finally, the plaintiffs alleged that the third-party audit was an unreasonable search and seizure in violation of the Fourth Amendment of the U.S. Constitution. The court dismissed the argument, again agreeing with the state. Here, the plaintiffs assert that the state did not have the authority to issue a summons or take any other action to compel them to produce the requested documents. The court noted that the state did not have the authority to compel compliance with the document requests and that the requests were more akin to a police officer’s request for permission to conduct a search—not a compelling action. Therefore, the court concluded that plaintiffs failed to state a Fourth Amendment claim.  

Takeaways

A joint status report was filed with the court on Sept. 28, 2016, indicating that the plaintiffs intend to appeal the order dismissing the plaintiffs’ claims and requesting the judge to enter a final, appealable order. The litigation in Marathon appears far from over.

Marathon is the latest in a number of high-profile Delaware unclaimed property cases recently addressed in the federal courts. In Temple-Inland, a U.S. district court found that the state’s unclaimed property audit administration shocked the conscience, but the parties settled the litigation before a remedy could be reached. To read more about Temple-Inland, please read our alert, Temple-Inland’s Delaware unclaimed property audit challenge dismissed. In Plains All American, the plaintiff challenged an unclaimed property audit action before the audit even begun and was eventually dismissed for ripeness. Businesses under audit are increasingly challenging Delaware’s audit procedures, and in light of the court’s reaction in Temple-Inland, it is becoming increasingly likely that these challenges will not be slowing down.

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