Accountants Face Malpractice Lawsuit Threats
Business clients who run afoul of the law and face fraud charges will oftentimes turn around and sue their accountants for malpractice, at the urging of their attorneys.
Even if the relationship between client and accountant has been faithful and loyal for many years, that can change suddenly when clients find themselves having to explain themselves to the authorities. Ralph Summerford, president of Forensic Strategic Solutions in Birmingham, Ala., calls it the Client Appreciation Curve, charting how the relationship dramatically plummets and results in a malpractice suit. He assists accountants and their defense counsel in helping fend off malpractice lawsuits, but sometimes also works with plaintiffs’ attorneys in determining whether an accountant committed malpractice.
“The Client Appreciation Curve starts off like a bell curve,” he told me on the sidelines of the Association of Certified Fraud Examiners’ Global Fraud Conference in Las Vegas earlier this week. “You’re doing a great job and the client really appreciates you. You are just going straight up on the curve and then you expect that you’re going to level off and at some point you’ll go down to get a true bell-shaped curve. What happens is, you’re at the top of the list. You’re the greatest thing that ever happened, and then the client says, ‘Oh, where was my CPA when this fraud was occurring? Why didn’t they catch it?’ It’s not a normal bell-shaped curve. It stops and goes straight below zero and they sue you.”
Even if the accountant has done a great job, when fraud is discovered at a client’s business, the CPA can expect to get sued. “They’ve got to get ready,” said Summerford. “They’re going to get sued. What we see when we go in and there has been a fraud, the accountants get sued. Then we look at the work papers, and they’ve taken a shortcut on a lot of steps that they should have done and they haven’t followed their own audit procedures. When an accountant gets sued for malpractice, it’s one of the most devastating things that could happen to a CPA during their professional career. It doesn’t happen to that many, but it happens. It’s a question of integrity, it’s a question of credibility, it’s a question about their capabilities. Their client, who they thought they had a wonderful relationship with, turns on them and sues them.”
Even if the CPA or their firm has liability insurance, they may not be sufficiently protected. At a workshop on the opportunities and pitfalls in accounting malpractice cases at the ACFE conference, Summerford advised attendees not to rely on the liability insurer’s attorney if they get sued for malpractice, but to hire their own attorneys who will be looking out for their interests.
“If you were to interview anybody that’s gone through an accounting malpractice case, they will tell you that if they ever had it happen again, they would hire their own attorney to represent them,” he told me. “That’s not to say that the defense attorney that the insurance company hires is not good and capable enough to do the job, but in my opinion they may have a conflict and so they can avoid that conflict by having their own attorney to give them counsel.”
Summerford pointed out that the defense counsel represents the insurance company, and many accountants who are sued for malpractice are not aware of that fact. “The accountants don’t approve the bills, the accountants usually don’t know what’s being charged, and they don’t know how many motions are taking place. Accountants should wake up, and if they have an accounting malpractice case, they should have their own attorney to represent their interests and utilize counsel. Their counsel can work with the insurance company’s counsel.”
Accounting firms represent an attractive target for malpractice suits. “Lawyers, when they file a lawsuit, will go for the deep pockets, where they can get a settlement for the plaintiff client,” Summerford pointed out. “Accountants are a natural because they carry insurance, normally quite a bit of insurance, more than their net worth, and they want to settle cases. They don’t want it to go viral. They don’t want it to be in the public domain. One of the best defenses for the accountants is it’s not their job to do the client’s policing and work for them. Your client has responsibilities that they failed.”
In a few instances, Summerford has seen accountants who sought counsel from bankruptcy attorneys after they were sued for malpractice, although he hasn’t met any accountants who actually closed their practices because of a lawsuit. “They’ve contemplated having to file personal bankruptcy because of the personal liability that they attach,” he said. “Thank goodness for the laws that say retirement plans and insurance cash values are not subject to creditor claims. They can’t get them in bankruptcy, but they can get a house. When I started my practice in 1992, I could not afford to carry malpractice insurance. I started trying to transfer any assets I had to try make myself judgment-proof because I couldn’t afford it if I got sued for malpractice and I didn’t want to lose my home.”
If they are sued, it’s in the accountant’s best interest to get the lawsuit resolved as soon as possible because the legal fees and aggravations can mount quickly. When Summerford’s firm is is hired by defense counsel, it will first look at a case to assess whether or not there is a valid malpractice claim.
“A number of times we’ve told defense counsel, “You need to settle this case. Your client in my opinion will be found guilty of malpractice.’ And in other cases, we’ve said, ‘No, we think you have a very good, legitimate defense, and we think you should go to the mat with them, because we think you have very good defenses and the accountants did a great job.’ It can go either way.”
Accountants are more likely to prevail when the cases go to arbitration rather than before a jury. The plaintiffs’ counsel can elicit sympathy from jury members who are not familiar with accounting rules and regulations by appealing to their emotions and focusing on non-accounting issues, such as putting themselves in the position of a failing business owner. It is also difficult for CPAs to convince a jury that they are independent when an attorney can show that they have been paid by the client. In arbitration, the case often goes before a three-person panel of experts who are better acquainted with accounting standards.
“Then it will be cerebral, with the accounting rules and regulations and what they did,” said Summerford. “I’ve seen in arbitrations, accountants have fared much better than they do with a jury. Before a jury, they’ll get killed.”