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Transcript of © 2010 Pearson Education, Inc., publishing as Prentice-Hall 1 ACCOUNTANTS’ LIABILITY © 2010...
© 2010 Pearson Education, Inc., publishing as Prentice-Hall 1
ACCOUNTANTS’ LIABILITY
© 2010 Pearson Education, Inc., publishing as Prentice-Hall
CHAPTER 51
© 2010 Pearson Education, Inc., publishing as Prentice-Hall 2
Functions of Accountants
• Primary functions:– Auditing financial statements.– Rendering opinions about those audits.
• Other functions:– Rendering tax advice and tax preparation.– Preparing unaudited financial statements.– Consulting services.
© 2010 Pearson Education, Inc., publishing as Prentice-Hall 3
Certified Public Accountant
• CPA – an accountant who has:– met certain educational requirements.– passed the CPA examination.– had a certain number of years of audit
experience.• Public Accountant – a person who is not
certified.
© 2010 Pearson Education, Inc., publishing as Prentice-Hall 4
Accounting Standards and Principles• Generally
Accepted Accounting Principles (GAAP)– Standards for the
preparation and presentation of financial statements.
• Generally Accepted Auditing Standards (GAAS)– Standards for the
methods and procedures that must be used to conduct audits.
© 2010 Pearson Education, Inc., publishing as Prentice-Hall 5
Audit
• Verification of a company’s books and records pursuant to:– Federal securities laws– State laws– Stock exchange rules
• Must be performed by an independent CPA.– Must conduct sampling of inventory.– Verify information from third parties.
© 2010 Pearson Education, Inc., publishing as Prentice-Hall 6
Auditor’s Opinions
• After the audit is complete, the auditor must render an opinion about how fairly the financial statements present:– the company’s financial position,– results of operations, and– change in financial position.
© 2010 Pearson Education, Inc., publishing as Prentice-Hall 7
Auditor’s Opinions (continued)
• The auditor’s opinion may be:– Unqualified– Qualified– Adverse
• Disclaimer of Opinion indicates auditor’s inability to draw a conclusion as to accuracy of company’s financial records.
• Company not receiving unqualified opinion may have difficulty selling securities or obtaining loans.
© 2010 Pearson Education, Inc., publishing as Prentice-Hall 8
Limited Liability Partnership (LLP)
• All partners are limited partners. • Only loss incurred is capital contributions.• Most public accounting firms operate as
an LLP.
© 2010 Pearson Education, Inc., publishing as Prentice-Hall 9
Limited Partnership
© 2010 Pearson Education, Inc., publishing as Prentice-Hall 10
Accountants’ Liability to Clients
Breach of ContractBreach of Contract
FraudFraud
NegligenceNegligence
© 2010 Pearson Education, Inc., publishing as Prentice-Hall 11
Breach of Contract
• Terms of engagement specified in contract.
• Accountant who fails to perform is liable for breach.
• Damages include:– Expenses incurred in securing new
accountant.– Fines and penalties owed because of delay.
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Fraud
• When accountant is liable for actual or constructive fraud, client can recover damages.
• Punitive damages may be awarded in cases of actual fraud.
© 2010 Pearson Education, Inc., publishing as Prentice-Hall 13
Negligence
• Accountant owes duty to use reasonable care, knowledge, skill, and judgment.– E.g., comply with GAAPs or GAASs.
• Measured against those actions of a reasonable accountant.
• Liable for damages if fail to meet standards.
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Liability to Third Parties
• Major rules of liability:– Ultramares Doctrine– Section 552 of the Restatement (Second) of
Torts– Foreseeability standard
© 2010 Pearson Education, Inc., publishing as Prentice-Hall 15
Ultramares Doctrine
• Accountant is liable only for negligence to third parties who are in privity of contract or a privity-like relationship with the accountant.
• Provides the narrowest standard for holding accountants liable to third parties for negligence.
• Majority rule for accountants’ liability.
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Section 552 of Restatement
• Accountant is liable only for negligence to third parties who are members of a limited class of intended users of the client’s financial statements.
• Broader standard than Ultramares doctrine.
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Foreseeability Standard
• Accountant is liable for negligence to third parties who are foreseeable users of the client’s financial statements.
• Broadest standard for holding accountants liable to third parties for negligence.
© 2010 Pearson Education, Inc., publishing as Prentice-Hall 18
Fraud
• If an accountant engages in actual or constructive fraud, a third party who relies on the accountant’s fraud and is injured may bring tort action to recover damages.
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Breach of Contract
• Third parties generally cannot sue accountants for breach of contract.– Third parties are merely incidental
beneficiaries who do not acquire any rights under the accountant-client contract.
– Not in privity of contract with the accountant.
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Accountant’s Duty to ReportClient’s Illegal Activity
• Section 10A of Securities Act of 1934 imposes duty on auditor to detect and report illegal acts committed by clients.– Any act or omission that violates law, rule, or
regulation, unless act is “clearly inconsequential.”– Report to client’s management and audit
committee.– If management fails to act, report to board of
directors.
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Statutory Liability of Accountants
• Section 11(a) of Securities Act of 1933– Liability for making or failing to find
misstatements or omission in registration statement.
• Section 10(b), 18(a) and Rule 10b-5 of Securities Exchange Act of 1934– Liability for deception in sale or purchase of
securities, making false statements to SEC.
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Private Securities Litigation Reform Act of 1995
• Imposes pleading and procedural requirements on plaintiffs in class action lawsuits.
• Imposes proportionate liability. Parties liable only up to degree of fault, unless acted knowingly.
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Aiders and Abettors
• No private right of action for aiding and abetting a Section 10(b) violation.– May mean that auditors not civilly liable under
securities law.– Government may still bring criminal action.– May still be held liable for state common law
action in negligence.
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Criminal Liability of Accountants• Section 24 of Securities Act of 1933
– Untrue statements or omissions in registration statements.
• Section 32(a) of Securities Exchange Act of 1934– False or misleading statements in SEC filings.
• 1976 Tax Reform Act– Willful understatement of tax liability.
• RICO liability.
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Sarbanes-Oxley Act of 2002
• Establishment of the Public Company Accounting Oversight Board.
• Public accounting firms must register with the board.
• Separation of audit and nonaudit services.• Audit reports sign-offs.• Prohibited employment.
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Accountant-Client Privilege
• Exists in 20 states.• Accountant cannot be called as a witness
against a client in a court action.– May also be work product immunity.
• Does not apply under federal law.