Understanding §1.468B-9 Disputed Ownership Funds

When there is a disagreement regarding the ownership of funds or other assets, a Disputed Ownership Fund (DOF) established pursuant to §1.468B-9 can provide a formal and secure arrangement to hold and preserve the funds or other assets until a court can resolve the claimants’ conflicting claims of ownership. This article explores various facets of DOFs, in what circumstances it is best to utilize this tool, and when other options, such as Qualified Settlement Funds (QSFs) or traditional escrow accounts, are more appropriate.

Introduction

DOFs refer to amounts under contention resulting in conflicting claims of ownership. These conflicting claims of ownership can arise for numerous reasons, including disagreements over private and commercial transactions or arrangements, invoices, claims, adjustments, estates, divorce, etc.

The IRS has established that all “pooled” Court Interpleader Accounts [aka Court Registry Accounts] (Court Accounts) are DOFs. However, the inherent disadvantage of Court Accounts is that the court imposes a significant fee, typically 10% of income, on the first $240 million.

Likewise, Court Accounts have restrictive operating rules, such as required pooling of accounts and (by way of example) limiting investment options to:

“Funds on deposit with the Court are to be placed in some form of interest-bearing account, or invested in a court approved, interest-bearing instrument...”

Therefore, Court Accounts do not provide flexibility and thus may not be best suited to parties’ needs. Alternatively, when funds or other assets are in dispute, a private trust-based DOF allows the parties to customize the arrangement and benefit from a more comprehensive array of investment options. Unlike Court Accounts, a private DOF does not have investment restrictions.

Finally, FDIC insurance covers only the first $250,000 in a Court Account’s investment pool. In the event of a depositary bank’s default, as we have seen with SVB and others, the Court Account maybe be unable to recover all funds held on deposit in the failed institution. Suppose the Court Account is purchasing government bonds as they may under the rule; in that case, the liquidation of such bonds in a rising interest rate environment can result in market-based losses or a lack of liquidity to fulfill disbursements.

A private DOF can eliminate both of these types of risks.

What Qualifies as a DOF?

The regulations (1.468B-9(b)(1)) define the four simple requirements for an arrangement to qualify and operate as a DOF:

(1) Disputed ownership fund means an escrow account, trust, or fund that—

     (i) Is established to hold money or property subject to conflicting claims of ownership;

     (ii) Is subject to the continuing jurisdiction of a court;

     (iii) Requires the approval of the court to pay or distribute money or property to, or on behalf of, a claimant, transferor, or transferor-claimant; and

     (iv) Is not [emphasis added] a qualified settlement fund under §1.468B–1, a bankruptcy estate (or part thereof) resulting from the commencement of a case under title 11 of the United States Code, or a liquidating trust under §301.7701–4(d) of this chapter (except as provided in paragraph (c)(2)(ii) of this section);

What is Disputed Property (Claims)

The regulations (§ 1.468B-9(b)(5)) also define what is “Disputed Property.”

(5) Disputed property means money or property held in a disputed ownership fund subject to the claimants’ conflicting claims of ownership;

DOFs vs. Escrow Accounts

While an escrow account can be a DOF, not all escrow accounts are DOFs; as traditional commercial escrow accounts are never DOFs. The following are the key differences:

• DOFs require a court order to disburse funds, and escrow accounts may disburse funds upon the parties’ mutual agreement.
  
• Escrow accounts may operate as a Grantor-type trust arrangement - DOFs may not.
  
• Escrow accounts need not be subject to the continuing jurisdiction of any court.
  

When to Utilize a Private DOF vs. a Non-DOF Escrow Account

The requirements of § 1.468B-9 do not apply to traditional escrow arrangements (Non DOFs); therefore, traditional escrow arrangements may operate outside the DOF requirements. Traditional escrow arrangements are typically used when the parties are satisfied that the funds or other assets held under the supervision and custody of an independent trustee or escrow agent are sufficiently controlled and that the ultimate distribution of those assets is safeguarded to the parties’ mutual satisfaction.

On the other hand, when the parties are at such odds or levels of distrust and conflict that they are motivated to prevent the loss of the assets and have a court adjudicate the question of ownership, then a Private DOF is the appropriate solution.

Disputed Ownership Funds vs Qualified Settlement Funds (QSF)

It is also essential to differentiate between a DOF and a QSF, as they are not interchangeable.

• A QSF requires governmental authority approval to establish – a DOF does not.
  
• A QSF is established to receive funds to resolve or satisfy one or more claims by funding a settlement or judicial award liability (§1.468B-1(c)(2)):
  

“Resolve or satisfy one or more contested or uncontested claims that have resulted or may result from an event (or related series of events) that has occurred and that has given rise to at least one claim asserting liability”

• A DOF is not a QSF, and a DOF exists solely to hold assets subject to conflicting claims of ownership; the resolution of said conflicting claims shall occur by future court order.
  
• A QSF does not require a court order to disburse funds, while a DOF does require a court order to disburse funds.
  

Conclusion

Understanding Disputed Ownership Funds, when their use is appropriate, and the alternatives such as traditional escrow accounts are vital in selecting the appropriate instrument to resolve ownership disputes or prevent asset loss risks. By grasping these concepts, stakeholders can better address ownership disputes and navigate the resolution processes more efficiently.