Use standard terms to build a liability shield

By Deborah K. Rood, CPA, and Steve Platau, CPA, J.D.

Imagine for a moment a scenario in which a claim has been brought against your firm and you are sitting at the witness stand to defend the firm's services. Your confidence is bolstered by detailed engagement letters used for each service. Yet doubt creeps into your mind as you remember your client's comments.

"The engagement letter is eight pages long—it grows a page every year! You expect me to read this? The tax engagement letter has different terms than the assurance letter. Who's in charge? Do you guys talk to each other?"

How many times have CPAs heard clients make similar statements? How many times have CPAs made similar statements about their own engagement letters? How can CPAs address these all-too-common (and often valid) complaints? Let the standard terms and conditions come to your rescue!

WHAT'S THE PROBLEM?

Client misunderstanding

An engagement letter, even the most detailed and in-depth, is only as effective as the understanding it creates with the client. If the client does not understand the engagement letter's provisions, CPAs may limit the effectiveness of one of their most important professional liability defense tools. While the engagement letter should be comprehensive, a less sophisticated client may argue it is impossible to read or understand—an argument juries are often sympathetic to.

Conflicting terms and conditions

Since the terms of a tax services engagement letter differ from those for an attest service or a forensic investigation, several engagement letters can be issued for a single client. Perhaps a different office provides a specialized service and issues a separate engagement letter for a particular service. The result of these different services and offices is that clients often receive multiple engagement letters.

When a firm has several engagement letters for the same client with differing "boilerplate" terms, the client may suggest that there was really no meeting of the minds on the terms of service since the terms were inconsistent or incongruous across the multiple letters. Alternatively, the client may assert that the terms most advantageous for them apply to all engagements.

When drafting documents, it is important to consider that inconsistencies and ambiguities may be construed against the drafter. Although some may suggest that the engagement letter is jointly drafted by the client and the CPA, courts may be inclined to interpret ambiguities and inconsistencies between two engagement letters for a single client against the CPA firm.

Even if not argued in court, conflicting terms can lead to disagreements and confusion with clients. In the event of a dispute, different engagement letter provisions make reaching a resolution challenging.

THE SOLUTION? STANDARD TERMS AND CONDITIONS

There is a remedy for this problem—a set of standard, firmwide terms and conditions updated periodically and attached as an addendum to every engagement letter issued by the firm. Standard terms and conditions apply to all engagements and give the firm and the client the benefit of a single understanding addressing the key contractual elements of the relationship.

When a terms-and-conditions strategy is employed, each client service group can focus its attention on the critical task of determining and agreeing to engagement specifics with the client, including the scope of services, deliverables, timing, fees, professional standards, and client responsibilities. The lack of a clear understanding of the scope of services to be performed for the client represents a leading issue in disputes between clients and their CPAs. Therefore, focusing efforts on these elements generally helps to reduce the risk of a future disagreement. Before the engagement letter is finalized, the engagement team can add any special terms and attach the terms and conditions to the document to be signed by the client.

TERMS AND CONDITIONS THAT SHOULD BE INCLUDED

Terms and conditions should address the administrative and legal elements of the engagement. Policies, procedures, limitations, and legal notices are all items that may be included in terms and conditions. Some provisions that are generally addressed in the terms and conditions may include:

  • Management's responsibilities. Management's role in making decisions, maintaining records, safeguarding assets, reviewing deliverables, and disclosing client information to the CPA firm may be communicated via the terms and conditions. Management responsibilities specific to the services provided can be addressed in the actual engagement letter.
  • Reliance on written advice. Specifying that only advice requested and provided in writing may be relied on may assist in the defense against allegations that a client relied on oral advice.
  • Responsible person/client contact. The client should be able to identify the party with whom the CPA firm should communicate and rely on for elections, representations, and changes in the engagement scope. Identifying the client's responsibility to designate such an individual is appropriate for the terms and conditions.
  • Payment terms. Timeliness of payment and the consequences of late payments or a failure to pay are important items to agree to in writing. Inconsistent engagement letter provisions provide clients the opportunity to suggest that the firm did not follow its own policies on collecting invoices or the consequences of failing to pay.
  • Subpoenas. Many firms reach an understanding with their clients about how to respond to subpoenas. Differing or silent engagement letter treatment can impede a CPA firm in responding to subpoena requests.
  • Third-party service providers. When subcontractors receive or retain data, the CPA firm is required to disclose this protocol to the client under ET Sections 1.150.040, 1.300.040, and 1.700.040 of the AICPA Code of Professional Conduct. The terms and conditions are an efficient means of fulfilling this mandate.
  • Document retention and ownership. The terms and conditions should explain that client records will be returned at the conclusion of the engagement and that the CPA firm's records are its property. In addition, the CPA firm's document-retention policy should be attached or available upon client request.
  • Confidentiality. The intended nature of communications between the client and the firm should be delineated and agreed to by the client. The expenses of asserting client confidentiality or privilege if a third party requests client information from the CPA also should be specifically explained and agreed to by the client.
  • Dispute resolution. Agreeing in advance with a client on alternative dispute resolution (ADR) and the jurisdiction, venue, and forum for engaging in ADR can expedite the resolution of disagreements.
  • Termination and withdrawal. Ensuring that the CPA firm may withdraw for any reason without completing services is important. Examples of reasons for termination can be included. For instance, if the client does not pay or demonstrates questionable behaviors, the firm may wish to withdraw.
  • Limitation of liability and indemnification of the firm. Where permissible, these clauses help limit the firm's exposure if a claim arises. If the engagement is of a type whereby the firm would be precluded from including these clauses, which would impair the independence of the firm, strike these terms from the terms and conditions through a notation in the engagement letter.

REGULAR UPDATES

Firm management should revisit the terms and conditions to address new professional developments, changes in law, or changes to firm policies. Typically, updates occur annually and are disseminated firmwide.

ONE LAST ITEM

The client should acknowledge that the terms and conditions have been received, read, and accepted in a separate acknowledgement, through checking a box on the engagement letter signature block indicating acceptance or initialing each page of the terms-and-conditions attachment.

SUCCESS STORY

A CPA firm provided bookkeeping and tax compliance services to the client. When the IRS disallowed a deduction resulting in additional tax, penalties, and interest for the client, the client claimed that the CPA firm was responsible for the penalties. The firm reviewed its engagement letters and determined that it had implemented the terms-and-conditions strategy the year before the matters relating to the disallowance and included a limitation-of-liability clause. This technique was beneficial to the firm because the prior year, the corporate tax engagement letter limited liability to three times fees for the service, but the bookkeeping engagement letter was silent. If the claim had occurred in the prior year, the client may have argued that it was a bookkeeping mistake and that the limitation-of-liability clause did not apply. Instead, one set of terms and conditions that limited liability applied. Terms and conditions to the rescue!

Deborah K. Rood (deborah.rood@cna.com) is a risk control consulting director at CNA. Steve Platau (platau@ut.edu) is a professor of accounting at the John H. Sykes College of Business at the University of Tampa in Tampa, Fla.


Continental Casualty Co., one of the CNA insurance companies, is the underwriter of the AICPA Professional Liability Insurance Program. Aon Insurance Services, the National Program Administrator for the AICPA Professional Liability Program, is available at 800-221-3023 or visit cpai.com.

This article provides information, rather than advice or opinion. It is accurate to the best of the author's knowledge as of the article date. This article should not be viewed as a substitute for recommendations of a retained professional. Such consultation is recommended in applying this material in any particular factual situations.

Examples are for illustrative purposes only and not intended to establish any standards of care, serve as legal advice, or acknowledge any given factual situation is covered under any CNA insurance policy. The relevant insurance policy provides actual terms, coverages, amounts, conditions, and exclusions for an insured. All products and services may not be available in all states and may be subject to change without notice.

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