Reducing Liability Exposure for Non-Audit Work

By Klein, Donald | The National Public Accountant, May 1994 | Go to article overview

Reducing Liability Exposure for Non-Audit Work


Klein, Donald, The National Public Accountant


More lawsuits have been brought against accountants in the last fifteen years than in the entire preceding history of the accounting profession. The principal causes of the accounting profession's liability are unwarranted litigation and coerced settlements. Abusive and unwarranted litigation is a problem not just for the accounting profession but also for business and the economy generally.

The heavy financial burden placed on accounting firms by runaway litigation affects business and the economy in two major ways: first, through the actual and threatened failure of accounting firms; and, second, through the many "survival tactics" firms are forced to employ.(1) Our litigious society has forced the accounting profession, like the medical profession, to implement defensive practices. A primary reason for the increased defensiveness has been the existence of what the accounting profession has termed the "expectation gap." This has been defined as the difference between what the public perceives the accountant's responsibility to be and what the accountant thinks is sufficient and professional performance.

The following explores the means by which accountants can minimize their legal exposure to non-audit work, especially as related to compilation and review types of accounting services.

Malpractice

What does accounting malpractice mean? Different courts have applied various tests in defining third party liability of accountants.

Malpractice includes fraud, deceit and gross and ordinary negligence. Negligence is deviation from a standard of behavior that in most cases is that of a reasonable person. Negligent action is not only based on a violation of accounting standards but is also based on the usual practices of one's peers in similar engagements. The plaintiff will undoubtedly maintain that just doing the minimum required by the Statement on Standards for Accounting and Review Services (SSARS) is not enough when one investigates what other professional peers are doing.

Accountants should be aware that if standards are perceived to be inadequate, the courts are vested by society with the responsibility to define and enforce standards. There are many court cases that have been ruled in favor of the plaintiff that have shocked the accounting profession.(2)

Limited Assurance

What is limited assurance? It is analogous to semi-reliable. Either you are reliable or you are not. In the real world semi-reliable does not exist. There can be no middle ground between reliable and unreliable financial statements from a user or a third party perspective. A limited assurance is an attempt by the accountant to indicate to users that non-audit accounting work was done and the user should be aware that the report is not as reliable as one may desire. A compilation represents next to zero reliability, while a review with footnotes is semi-reliable. Is there any wonder that the user and the courts have difficulty comprehending what a compilation or a review is?

User's perceptions become user's expectations when adverse economic consequences present themselves. There is little doubt that the user's perceptions of reality are at variance with the preparer of the data. Consequently, the accountant should be defensive and street wise in the preparation of non-audit work.

The following list of recommendations is presented in an attempt to lessen liability exposure and to enhance the quality of non-audit work. It is suggested that the accountant apply as many of the ideas as possible on each non-audit engagement.

Recommendations

Client Selection

Firms need to develop a strategy and a quality manual for selecting clients. Everyone in the firm should know the type of client the firm wants to serve and the risk level the firm is willing to accept. A top priority in any practice should be to have clients with integrity. It is unfortunately how often we need to remind ourselves of this. …

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Reducing Liability Exposure for Non-Audit Work
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