Criminal Liability of CPAs in Federal Securities Fraud and Tax Fraud Cases

Article excerpt

Knowledge, Willful Blindness, and Unawareness

Corporate fraud "remains one of the highest priorities" of the FBI's criminal investigative division, according to the agency's Financial Crimes Report to the Public for fiscal years 2010/201 1 (http://www.fbi.gov/statsservices/publications/financial-crimesreport-20 10-201 1/financial-crimes-report2010-2011). The report describes three significant corporate fraud prosecutions, one of which was the conviction of the former chief accounting officer of Beazer Homes USA for "cookie jar" accounting. Although criminal liability is uncommon in such cases - in contrast to malpractice litigation and regulatory action - criminal prosecution, conviction, and punishment can be overwhelming and devastating to CPAs.

The ensuing discussion examines the criminal liability of CPAs in federal securities fraud and tax fraud cases. In addition, it explores the state of mind required to be found guilty of a crime. For example, how much must a CPA know to be guilty? What distinguishes a crime from ordinary malpractice or an innocent mistake? Some cases are clear and easily determined, such as that of an accountant who is overheard scheming with a client about how to best conceal unpleasant facts. Other clear-cut cases involve accountants who followed all professional standards but were duped by skilled and corrupt management.

There is a gray area that lies between these two scenarios. For example, mistakes made during an engagement might be a case of malpractice, but they are surely not a crime - or so one might assume. But a mie of law called "willful blindness" (discussed later) blurs the line between malpractice and fraud.

The following sections review the basic rules of legal liability, focus on criminal culpability, and consider real-life federal securities fraud and tax fraud prosecutions against CPAs. The use of the willful blindness rule by prosecutors and regulators, the use of deferred prosecution agreements by accounting firms, and the lessons that criminal cases offer careful CPAs are also discussed. The collapse of Lehman Brothers presents a useful example; even though criminal charges have not been brought against Lehman's auditors, the case raises several relevant issues.

Basic Principles of Legal Liability

One way of classifying legal liability is by the nature of the plaintiff - namely, a prosecutor; a regulatory agency; or a private party. In a criminal prosecution, the plaintiff - the government - is represented by a prosecutor who must prove that the defendant committed a crime. In the federal fraud cases discussed later, the prosecutor is the United States Attorney. A defendant who is convicted will be punished, often by serving a term in prison or by paying a penalty to the government and perhaps restitution to victims.

A regulatory agency acting as the plaintiff may impose administrative sanctions. A state board of public accountancy, the SEC, the PCAOB, and the IRS can all revoke or suspend a CPA's privilege to practice and can possibly impose a civil penalty as punishment for breaching the agency's rules of practice. For example, on December 3, 2012, the SEC began an administrative proceeding against the Chinese affiliates of the Big Four, as well as BDO, in order to determine whether the firms should be censured or denied the privilege of practicing before the SEC for refusing to provide it with certain requested audit workpapers, in violation of section 106 of the Sarbanes-Oxley Act of 2002 (SOX).

Finally, an individual who was injured by the misdeeds of another can bring a civil suit, seeking money to compensate for a loss. Depending upon the circumstances, the civil suit can be for breach of contract, malpractice, or fraud.

In the most egregious cases, a wrongdoer may be criminally prosecuted, administratively sanctioned, and sued civilly. Upon criminal conviction for securities fraud, the SEC will suspend an accountant from practice before the agency, as will the IRS upon an accountant's conviction in a tax fraud offense (e. …