Accountants can be held liable to third parties not in privity under certain conditions. The majority rule is that accountants are liable for negligence to "foreseen parties" - those the accountant knew would rely on financial statements for a specific transaction. Accountants are also liable for fraud or gross negligence to all parties. While the majority rule does not hold accountants liable to "foreseeable parties" - those an accountant could reasonably foresee relying on statements - some courts now do for negligence. The Securities Act of 1933 also provides for statutory liability of accountants to third parties for misstatements in registration statements.
Accountants can be held liable to third parties not in privity under certain conditions. The majority rule is that accountants are liable for negligence to "foreseen parties" - those the accountant knew would rely on financial statements for a specific transaction. Accountants are also liable for fraud or gross negligence to all parties. While the majority rule does not hold accountants liable to "foreseeable parties" - those an accountant could reasonably foresee relying on statements - some courts now do for negligence. The Securities Act of 1933 also provides for statutory liability of accountants to third parties for misstatements in registration statements.
Accountants can be held liable to third parties not in privity under certain conditions. The majority rule is that accountants are liable for negligence to "foreseen parties" - those the accountant knew would rely on financial statements for a specific transaction. Accountants are also liable for fraud or gross negligence to all parties. While the majority rule does not hold accountants liable to "foreseeable parties" - those an accountant could reasonably foresee relying on statements - some courts now do for negligence. The Securities Act of 1933 also provides for statutory liability of accountants to third parties for misstatements in registration statements.
2. Common Law Liability to Third Parties (Nonclients)
3. Client is in privity of contract with accountant based on contractual relationship (1) In typical accountant-client relationship, there usually is no privity of contract between the ac- countant and third parties (2) Traditionally, accountants could use defense of no privity against suing third parties in con- tract and negligence cases (a) Ultramares decision is leading case in which accountants held liable only to parties for whose primary benefit financial statements are intended 1] This generally means only client or third-party beneficiaries since these were in priv- ity of contract with accountant 2] However, anyone (including third parties) who can prove fraud or constructive fraud may recover (b) This is a significant minority rule today 4. More recently, many courts have expanded liability to some third parties. The following distinc- tions should be understood: (1) Foreseen party-third party who accountant knew would rely on financial statements, or member of limited class that accountant knew would rely on financial statements, for specified transaction (a) Majority rule is that accountant is liable to foreseen third parties for negligence 1] Rationale for not allowing liability to more third parties is that accountants should not be exposed to liability in indeterminate amount to indeterminate class . EXAMPLE: A CPA agrees to perform an auditfor ABC Client knowing that the financial statements will be used to obtain a loan from XYZ Bank. Relying on the financial statements, XYZ Bank loans ABC $100,000. ABC goes bankrupt. 1fXYZ can establish that the financial statements were not fairly stated, thus causing the bank to give the loan, and ifnegligence can be established, most courts will allow XYZ Bank to recover from the CPA. EXAMPLE: Facts are the same as in the example above except that XYZ Bank was not specified. Since the CPA knew that some bank would rely on these financial statements, the actual bank is a foreseen party since it is a member of a limited class and most courts will allow for liability. (b) Accountant liable for fraud, constructive fraud, or gross negligence to all parties whether foreseen or not (2) Distinguish foreseen party and foreseeable party (a) Foreseeable party-any party that accountant could reasonably foresee would receive fi- nancial statements and use them 1] Majority rule is that accountant not liable to merely foreseeable parties for negligence EXAMPLE: A CPA is informed that financial statements after being audited will be used to obtain a loan from a bank. The audited financial statements are also shown to trade creditors and potential investors. The bank is aforeseen third party but these other third parties are not actually foreseen parties and generally cannot recover from the CPAfor ordinary negligence. They may qualify as foreseeable third parties since creditors or investors are the types of parties whom an accountant should reasonably foresee as users of the audited financial statements. 2] Some courts now hold that accountant is liable for negligence to parties that are merely foreseeable. 5. Statutory Liability to Third Parties-Securities Act of 1933 6. General information on.the Securities Act of 1933 (1) Covers regulation of sales of securities registered under 1933 Act (a) Requires registration of initial issuances of securities with SEC (b) Makes it unlawful for registration statement to contain untrue material fact or to omit ma- terial fact