FUNDAMENTALS OF AUDITING ACC 311 Lec 8
Lesson 08
LIABILITIES OF AN
AUDITOR
Auditors’ Liabilities
• Civil Liabilities
(arising from law suits/Liability for negligence)
• Under law of contract
(initiated by the audit client)
• Under law of tort
(initiated by other users of FS)
• Criminal Liabilities
– Under sections 157,
255, & 257
– Against charges of
forgery (evidence created / documents forged etc.)
– Against false
statement (regarding opinion in report)
Civil Liabilities
Civil liabilities arise
in the situation when there is absence of reasonable care and skill that can be
expected
of a person in a set of
circumstances.
When negligence of an
auditor is being evaluated, it is in terms of what other competent auditors
would
have done in the same
situation
Duty of care under
contract Law
The company has a
contract with the auditor and hence can sue the auditor for breach of contract
if the
auditor is negligent in
carrying out the terms of the contract. Note that only the company can sue the
auditor in contract as
other people, such as banks, creditors and shareholders are not in a
contractual
• When carrying out
their duties the auditors must exercise reasonable care and skill. This is
required
by the accountant’s rule
of professional conduct.
• Members should carry
out their professional work with due skill, care diligence and expedition and
with proper regard for
the technical and professional standards expected of them as members.
• The degree of skill
and care expected of an auditor in a particular situation depends on the
circumstances. There is
no general standard of skill and care; the auditor is respected to react to
the
situation and
circumstances he is facing
Breach of contract
A contract breaches when
failure of one or both parties in a contract to fulfill the requirements of the
contract arises.
An example is the
failure of a CA firm to deliver a tax return on the agreed upon date.
Parties who have a
relationship that is established by a contract are said to have privity of
contract.
Typically, CA firms and
clients sign an engagement letter to formalize their agreement about the
services to
be provided, fee, and
timing.
There can be privity of
contract without a written agreement, but an engagement letter defines the
contract
more clearly
Tort action of
negligence
Failure of auditors to
meet their obligations, thereby causing injury to another party (other than
audit client)
A typical tort action
against a CA firm is a bank’s claim that an auditor had a duty to uncover
material
misstatements in
financial statements that had been relied on in making a loan.
21
Jeb Fasteners v Marks
Bloom (1980)
The plaintiff acquired
the share capital of the company. The audited accounts, due to the negligence
of the
auditors, did not show a
true and fair view of the state of affairs of the company. It was accepted that
at the
time of the audit the
defendant auditors did know of the plaintiffs but did not know that they were
contemplating a take
over bid.
HELD: whilst recognizing
that the auditors owed a duty of care in this situation. It was decided that
the
auditors were not liable
because the plaintiff had not suffered any loss. It was proved that the
plaintiffs
would have bought the
share capital of the company at the agreed price whatever the accounts had
said.
Therefore, whether or
not a duty of care existed was not directly relevant to the decision.
How to minimize the
liabilities
• Not being
negligent
• Following the ISAs
• Agreeing the engagement
letter
• Defining in report the
work undertaken
• Defining the purpose
for the report
• By limiting
liabilities to third parties
• By defining the scope
of professional competence
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