CPA's Legal Liability

Question 1

4 things to prove CPA negligence

Answer 1

• Duty of CARE
• BREACH of that duty
• HARM to the plaintiff (cause/effect)
• DAMAGES (monetary)

Question 2

What happens if no cause & effect relationship can be established between harm and CPA negligence?

Answer 2

CPA is not liable for the damages

Question 3

Is contributory negligence by the plaintiff a defense for the CPA?

Answer 3

Not in most states. Most states have adopted COMPARITIVE NEGLIGENCE for plaintiff to recover a percentage of damages.

Question 4

CPA fails to confirm receivables, receivables overstated, client bankruptcy, causes bank to lose money on loan to client. What are the 4 parts of negligence?

Answer 4

1. CPA had a duty of professional care and competence when performing audit to confirm receivables.
2. CPA failed to confirm receivables and therefore breached duty of care.
3. Cause/Effect - Failed to confirm, receivables overstated on f/s.
4. Damages - money; bank lost money when client declared bankruptcy.

Question 5

Is an honest error of judgement considered CPA negligence?

Answer 5

No

Question 6

If a CPA breaches a contract and NO fraud or negligence is found, who can sue?

Answer 6

Just the client.

No third parties can sue because they do not have privity.

Question 7

If CPA breaches contract and negligence IS found, who can sue?

Answer 7

• Client
• Third parties who suffer money damages as a result of the breach

**Remember, negligence opens the door!

Question 8

Can a party known to the CPA to be relying on work sue the CPA for ordinary contract breaches?

Answer 8

Yes, the third party has privity since they are known to the CPA.

Question 9

Can a third party sue a CPA for negligence if they lack privity of contract with the CPA?

Answer 9

Yes, in a majority of states, a limited class of third parties such as CREDITORS and INVESTORS (not members of the general public) can sue a CPA for ordinary neglience.

Question 10

What is the rule called where CPAs are only held liable to the client and known third party beneficiaries for ordinary negligence? Where is this applicable?

Answer 10

The Ultramares Rule

Only upheld in a minority of states.

Question 11

In a majority of states, who can sue the CPA for ordinary negligence?

Answer 11

• client
• known 3rd party beneficiaries
• limited class of parties that could be “foreseen parties” to rely upon the f/s (creditors/investors) (party must have actually relied on statements)

Question 12

Who can sue the CPA for Common Law Fraud?

Answer 12

Anyone can sue the CPA if they can prove fraud on the part of the CPA.

Question 13

4 parts to prove FRAUD

Answer 13

1. Material OMISSION of fact
2. INTENT to deceive
3. Justifiable RELIANCE on CPA
4. DAMAGES - money

Anyone can sue! Even general public.

Question 14

If the CPA is reckless in regard to the rights of others, what is this considered?

Answer 14

Constructive fraud / gross negligence

(not actual fraud or actual negligence)

Members of the general public can sue for constructive fraud!

Question 15

Order 4 charges from least serious to most serious

Answer 15

• Breach of contract
• Ordinary negligence

-Gross negligence/Constructive Fraud
“CPA reckless”

-Actual (common law) Fraud - stealing/lying

Question 16

Constructive Fraud vs. Actual Fraud

Answer 16

Actual Fraud requires all 4 elements to be proven

Constructive Fraud - can’t prove intent to deceive

Question 17

Which of the 4 elements is lacking if the CPA is found to commit Constructive Fraud/Gross Negligence?

Answer 17

Intent to Deceive

“Scienter”

Question 18

SEC Act of 1933
vs.
SEC Act of 1934

Answer 18

1933: IPOs
1934: Transactions after IPO

Question 19

1933 Act

Answer 19

Forced a company about to go public to:

-Disclose information (amount of debt, pending lawsuits, largest shareholders, intent for money raised at IPO)

So investors can make informed decisions!

Question 20

What does an injured party have to prove to sue under the 1933 Act?

Answer 20

• Bought the stock
• Material error in audited f/s
• Lost money

No need to prove negligence or fraud

Question 21

CPA is guilty under the 1933 Act until they can prove

Answer 21

Due Diligence (followed PCAOB, GAAP)

CPA has burden of proof!

Question 22

What does the plaintiff have to prove to sue under the 1933 Act?

Answer 22

• They bought the securities
• There was a material error
• Lost money

No need to prove fraud or negligence

Question 23

Why was the 1934 Act passed?

Answer 23

To make the SEC a watchdog over the securities markets.

Question 24

Registration of companies

Reporting Requirements: Annual report (10K), Quarterly Reports (10Q)

What Act are these items covered under?

Answer 24

Securities Act of 1934

Question 25

Under the 1934 Act, in order for the CPA to be sued, what must the plaintiff prove?

Answer 25

Must prove FRAUD on the part of the CPA, that the CPA acted in bad faith, RELIANCE ON THE F/S. CPA is innocent until proven guilty.

Question 26

Is reliance on the financial statements needed to sue under the 1933 Act?

Answer 26

No, only under the 1934 Act.

Question 27

In regards to who can sue the CPA for negligence, what is often the correct answer?

Answer 27

"any foreseen parties"