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Chapter 16

Chapter 16. Professional Liability. The Legal Environment Affecting Litigation against Auditors. Liability that affects CPA firms is derived from the following laws:. Contract law. Common law. Statutory law. The Legal Environment Affecting Litigation against Auditors (cont’d).

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Chapter 16

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  1. Chapter 16 Professional Liability

  2. The Legal Environment Affecting Litigation against Auditors Liability that affects CPA firms is derived from the following laws: Contract law Common law Statutory law

  3. The Legal Environment Affecting Litigation against Auditors (cont’d) • Joint and Several Liability • Audit Time and Fee Pressures • Audits Viewed as an Insurance Policy • Contingent-Fee Compensation for Lawyers • Class Action Suits

  4. Legal Concepts • The Auditor must understand • Concepts of breach of contract and tort • Parties who may bring suit • Legal precedence and statutes that may be used as a standard • Defenses available to auditors

  5. Legal Concepts • Causes of legal action • Breach of contract • Negligence • Gross negligence (constructive fraud) • Fraud • Scienter

  6. Legal Concepts • Parties that may bring suit against auditors • Liability to clients • Breach of contract • Negligence • Misleading financial statements

  7. Legal Concepts • Common-law liability to third parties • Foreseeability and Negligence: Common Law • The Ultramares case: The third-party beneficiary test • Expansion of Ultramares: The identified user test • Foreseen user test • Foreseeable user test • Current status

  8. Legal Concepts Statutory Liability to Third Parties Securities Act of 1933 Securities Act of 1934

  9. Legal Concepts • Criminal Liability to Third Parties • Continental Vending (U.S. v. Simon) • Equity Funding

  10. Legal Concepts • Liability Impact of Internet Dissemination of Audited Financial Information • Summary of Auditor Liability to Third Parties • Auditor defenses • Due diligence • Statements not materially misstated • Audit not the cause of loss • Auditor has no duty to the plaintiff

  11. Approaches to Mitigating Liability Exposure • Continuing Education Requirement • Membership Requirements for Firms • Quality Control Programs • External peer reviews • Internal peer reviews

  12. Defensive Auditing • Engagement letters • Client screening • Evaluating the firm’s limitations • Maintaining accurate and complete working papers • Limited Liability Partnerships (LLP) • Role of insurance • Tort reform

  13. Effect of Court Cases on Auditing Standards and Practice • Engagement letters • Audit Procedures • Subsequent Events • Related-Party Transactions

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