McGowanPRO Professional Liability Blog / Resources / Articles

Professional to professional referral is common practice in most industries.  A referral can provide value to the client, the referrer, and the referee.  Your client can benefit through a needed additional service, as well as, saving the time in finding an expert on their own.  Referrals can also strengthen your value by showing your interest in the client’s well being, and your connections in the industry.

However, referrals can also expand your liabilities in areas that you may not be aware.  Your liability typically does not end once you have made the referral to another professional.  Here are five things to consider when referring your client to another professional.

1. Always keep the client’s best interest in mind.  This should go without saying, but referrals should not be made on a blanket basis.  Each of your client’s scenarios are unique and referring a client to another professional for unnecessary services may decrease your standing with your client.
2. Confirm that the other professional maintains Errors & Omissions insurance.  This is important regardless of fee sharing agreements and/or indemnification clauses.  The best position is to request a formal “certificate of insurance”.  You will have a formal record, and as a certificate holder you are entitled to be notified if their insurance is cancelled, or non-renewed.
3. Disclose the relationship to your client prior to the referral, and obtain a signed disclosure statement.  This is essential if you are receiving fees, commissions, or any monetary value for the referral.  Transparency is key to maintaining your neutrality.
4. Make sure the referral fees you receive are in-line with industry standards and in relation to the amount of continued involvement on your part.  If your referral fee is higher than industry standards it implies that your role in the continued service is also greater than the industry standard.  When reasonable do not accept referral fees, but rely on good-will to your client, and return referrals as compensation for your efforts.
5. Provide at least 2 or 3 referrals in each circumstance.   Providing options to your client does not completely eliminate your liability, but it does increase the emphasis on their role in selecting the right match for their circumstances. 

The above list is not all encompassing, but it is a start for you to consider in mitigating your liability.  By implementing these items you will provide a better value, while protecting your firm and industry related partners.

We regularly hear from accountants who ask about the effectiveness, and enforceability, of “negative engagement letters”.

A Negative Engagement letter is one that includes wording that indicates even if the client does not sign the letter, certain action taken by the client (submission of tax returns) will be deemed as acceptance of the engagement letter terms.

We spoke with Ralph Picardi, Esq, specialists in Accountants Professional Liability, and received the following insight on negative engagement letters.

A signed engagement letter is by far the best course of action in any engagement.  By obtaining the client’s signature on an engagement letter, the firm creates a clear contract with the client including all of the important terms of the engagement.  Most firms, however, have a very difficult time receiving back completed organizers and sufficient source documentation, let alone signed engagement letters in 1040 engagements. 

To address that concern, many firms have opted for negative letters, i.e., letters that do not require a signature.  They can take many forms.  Attorney Picardi clarified that every state recognizes that contracts can be formed by something other than a signed writing.  Oral contracts and those formed by actions are examples.  In the absence of a state law requiring a signed writing (and you should check this with local counsel), the reasonableness of the communication will probably control the matter if litigation ultimately ensues. 

Attorney Picardi further recommends the following approach.  The firm should continue to style its engagement letter to be signed by the client, but should also include language that purports to make the terms of the letter binding even in the absence of a client signature.  Example language would be as follows: 

If you agree to authorize this firm to prepare your 200_ personal income tax returns pursuant to the terms set forth above, please execute this letter on the line below designated for your signature, and return the original of this executed letter to this office along with a completed copy of the enclosed tax organizer and the supporting documentation requested therein.  You should keep a copy of this fully executed letter for your records.  If this firm does not receive from you the original of this letter, in fully executed form, but receives from you a completed copy of the enclosed tax organizer and/or supporting documentation requested therein, then such receipt by this office shall be deemed to evidence your acceptance of all of the terms set forth above.  If, however, this office receives from you no response to this letter, then this office will not proceed to provide you with any professional services, and will not prepare your 200_ income tax returns.

Negative engagement letters may not be the best, but they are useful and are certainly recommended over no engagement letter at all.

For more information, visit NAPLIA's dedicated website to engagement letter education,

www.cpaengagementletters.com

If you own or have authority over a foreign financial account, including a bank account, brokerage account, mutual fund, unit trust, or other types of financial accounts, you may be required to report the account yearly to the Internal Revenue Service. Under the Bank Secrecy Act, each United States person must file a Report of Foreign Bank and Financial Accounts (FBAR), if;

• The person has a financial interest in, or signature authority (or other authority that is comparable to signature authority) over one or more accounts in a foreign country and
• The aggregate value of all foreign financial accounts exceeds $10,000 at any time during the calendar year.

The FBAR is required because foreign financial institutions may not be subject to the same reporting requirements as domestic financial institutions. The FBAR is a tool to help the United States government identify persons who may be using foreign financial accounts to circumvent United States law. Investigators use FBARs to help identify or trace funds used for illicit purposes or to identify unreported income maintained or generated abroad.

The IRS has announced a new 2011 Offshore Voluntary Disclosure Initiative that runs through Aug. 31, 2011. For more more information about the special the 2011 initiative, visit (2011 OVDI landing page). For questions and answers about the 2011 program, visit (FAQ page link)

Read more including sample engagement letter wording, www.naplia.com/fbar

President Obama has signed into law S. 3987, the Red Flag Program Clarification Act of 2010, which exempts accounting firms and other businesses from the Federal Trade Commission's "Red Flags" rules set forth in the Fair Credit Reporting Act.

The exemption is a victory for the American Institute of CPAs and the state CPA societies that sought to relieve CPA firms of the unwarranted requirements, as CPAs are already subject to confidentiality requirements.

The text of S. 3987 can be found at:
http://www.gpo.gov/fdsys/pkg/BILLS-111s3987cps/pdf/BILLS-111s3987cps.pdf 

According to an article in the LA Times today, the economy grew at a 3.2% annual rate in the last three months of 2010, driven by stronger consumer spending and trade, the Commerce Department reports. Economists expect the recovery to pick up momentum this year, though a shadow still looms over employment.  Read full story

Despite pessimism over the impact of the economy growth on employment an analysis of professional liability applications over the past 4 years shows noticeable improvement in hiring in the Accounting industry.

Accounting professional staff counts from professional liability applications received through NAPLIA:

2006  - control

2007 - moderate growth from 2006

2008 - significant decrease from 2007

2009 - flat

2010 - significant improvement back to 2007 numbers

Although not a scientific study, employment in the Accounting industry can be measured through insurance applications.  Our experience is that the Accounting industry is seeing a recovery and we expect that employment rates in the industry will continue to rise through 2011.

As the New Year approaches so does Tax Season for our CPA clients.  One of the consistent issues that arise for CPA’s at this time of the year is the question of utilizing engagement letters for tax clients.  Some CPA’s feel that requesting their tax clients to sign engagement letters is burdensome and may appear ominous to some clients. 

The professional liability (errors & omissions) insurance market has always been cyclical.  In other words, the market will go for a few years with excess capital which means low premiums and an abundance of carriers offering coverage to accounting firms.  However, the capital eventually dries up and those carriers who were looking for a quick profit drop out of the market, leaving fewer carriers, tighter underwriting restrictions and increasing premiums.

2010 was an “extended” soft market for the accountants (and other) professional liability market.  The tightening of capital and low investment returns for insurance companies was over shadowed by the recovering recession.  The market continued to be soft despite economic indicators that would typically reflect a hardening market.

For 2011, we are starting to see some signs that the hard market may eventually come.  Keep in mind, we’ve inaccurately predicted this before.

However, here are 3 specific signs that lend us to believe the hard market is coming:

1. Economy is improving.

According to the Commerce Department, the economy grew at an annual rate of 2.6 percent in the third quarter of 2010, a touch above its earlier 2.5 percent estimate.  Many forecasters expect gross domestic product to continue to expand at a 3 percent to 3.5 percent pace in the fourth quarter.  A separate report from the National Association of Realtors showed existing home sales rose 5.6 percent in November to a 4.68 million unit annual pace, the highest since June but a still-depressed level that was slightly weaker than expected.  Surprisingly, an improvement in the economy allows insurance carriers to improve their investment income and demand more underwriting profit.

1. Carriers look to get off sub-standard accounts and take premium.

We have seen an increasing trend of professional liability carriers electing to non-renew accounts that just a year ago they were willing to take a chance on.  In addition, subsequent to those carriers that have filed formal rate increases, underwriters are being stingier with applying available premium credits.

1. The New York Attorney General sues Ernst & Young, accusing the accounting firm of helping Lehman Brothers, its client, “engage in a massive accounting fraud”

In the property & casualty business they have hurricanes and other natural disasters to harden the market.  Ernst & Young might just be the hurricane of the accounting professional liability market that pushes carriers to finally tighten up their pens.  You can read more about this story here, http://dealbook.nytimes.com/2010/12/21/cuomo-sues-ernst-young-over-lehman/?scp=2&sq=lehman%20brothers&st=cse

In general, no one can predict exactly if the insurance market will harden, or to what extent.  But, there are definitely some signs on the horizon.  In our next blog, we’ll discuss ways your firm can prepare.