Deck 32: Legal Liability of Accountants

Question 1

The traditional defenses of contributory negligence and comparative negligence do not apply in a negligence action against an accountant.

Answer 1

False

Question 2

When an accountant violates a duty, he may be called before an administrative body, but not a judicial body.

Answer 2

False

Question 3

Which of the following statements is true of negligence by an accountant?

A) The failure of an accountant to discover fraud by the client's employees or others is in itself proof of negligence by the accountant.
B) The investigative techniques used by accountants will always uncover the fraud of a skillful and careful crook.
C) The traditional defenses of contributory negligence and comparative negligence can apply in a negligence action against an accountant.
D) It is not necessary to notify an appropriate person in management if an accountant has a basis for suspicion of fraud.

Answer 3

C
Explanation: The traditional defenses of contributory negligence and comparative negligence may apply in a negligence action against an accountant. However, many courts hesitate to allow the client's contributory negligence to excuse the accountant's negligence because of the accountant's superior skills. The defense is more likely to succeed in an instance in which the client failed to follow the accountant's advice or in which the client already was aware of the irregularities before the accountant failed to discover them.

Question 4

Accuracy Group, an accounting firm, has been given a deadline by its client to prepare an audit report by February 28. The deadline was proposed by a prospective lender to the client. Accuracy Group agrees to complete the audit by February 28. If the audit report is not finished until after the deadline, then Accuracy Group would:

A) be liable even if the delay occurred because the client obstructed performance of the audit.
B) not be liable if it had other deadlines to meet at the same time.
C) be liable for the client's resulting loss if the lender has no more funds available at that time.
D) not be liable if it had delegated its responsibilities to another accounting firm.

Question 5

The working papers that an accountant prepares in making an audit belong to the accountant, not the client.

Question 6

Many courts today have refused to apply the privity doctrine to third-party negligence suits against accountants.

Question 7

Jiang, an accountant, is assigned by Wanley Inc. to perform an audit and prepare an annual report for its shareholders. Jiang fails to execute his duty with sincerity as he fails to discover embezzlement by a chief accountant of the firm, which is later discovered by the firm's creditors. In this scenario, Jiang's breach of duty might also trigger an action in breach of the contract between Jiang and Wanley Inc. because:

A) a breach of duty always follows generally accepted accounting principles.
B) the relationship does not have an express agreement.
C) liability of the accountant is never civil or criminal in nature.
D) the relationship between the accountant and the client is contractual in nature.

Question 8

An accountant may be forced by a subpoena to make available to the Internal Revenue Service (IRS) working papers involving a client who is being investigated.

Question 9

The Restatement (Second) of Torts theory of liability imposes less liability on accountants than does the Ultramares rule.

Question 10

State licensing boards that regulate the ethical conduct of the accounting profession strictly regulate the accountants' right to advertise their services to the public.

Question 11

Hawthorne Corp. entrusted Edgar, an independent accountant, to prepare an audit report to apply for a loan from Daft Corp. Edgar accepted the accuracy of the client's books without proper investigation while representing that he had completed Hawthorne's audit. A careful audit, however, discovers later that an employee of Hawthorne Inc. was regularly embezzling funds. In this scenario, Edgar:

A) will be liable to Daft Corp. as well as any other creditor who provided loans to Hawthorne Corp. based on his audited financial statements.
B) will not be liable to Hawthorne Corp. to return the fee for the audit because the loan was not provided by Daft Corp.
C) will be liable to Hawthorne Corp. for any losses it suffered from the time when his audit should have discovered the embezzlement.
D) will not be liable to any of the parties as he does not owe them the duty of superior skill or careful scrutiny.

Question 12

An accountant who violates the federal securities acts may be subjected to an administrative hearing before the Federal Trade Commission (FTC).

Question 13

Section 11(a) of the Securities Act of 1933 explicitly imposes liability on accountants for misstatements or omissions of material facts in the information they furnish for registration statements required by the 1933 Act.

Question 14

Generally accepted accounting principles:

A) limit recovery to those with a direct contractual relationship to the accountant.
B) apply to the way business transactions should be recorded.
C) give directions to accountants in auditing the books of an enterprise.
D) protect the investor who is unknown to the accountant when the financial statements are prepared.

Question 15

The main basis of liability for accountants is the duty to exercise ordinary skill and care.

Question 16

The liability of the accountant can be both civil and criminal.

Question 17

An accountant cannot be held liable for aiding and abetting misleading information if the information were prepared by others.

Question 18

Under Section 11(a) of the Securities Act of 1933, the purchaser can recover even if he had not read the registration statement containing the material misstatements or omissions.

Question 19

Section 10(b) and Rule 10b-5 of the 1934 Act have been the basis of most of the suits by investors against accountants.

Question 20

Under Section 11 of the Securities Act of 1933, the purchaser must sue the accountant within three (3) years after the time the misstatement or omission was or should have been discovered.

Question 21

The near privity approach was adopted by courts in contrast to the strict privity rule of the:

A) Balancing approach.
B) Reasonably Foreseeable Users approach.
C) Ultramares approach.
D) Restatement approach.

Question 22

Rule 10b-5 of the Securities Act of 1934 prohibits any person from making a misstatement or omission of a material fact in connection with the:

A) mortgage of real estate.
B) mortgage of constructing a building.
C) purchase or sale of any security.
D) purchase or sale of a property.

Question 23

Under Rule 10b-5 of the Securities Act of 1934, _____.

A) the plaintiff must prove that the accountant acted with scienter
B) the intent to deceive is not an element of the offense
C) an accountant will never be liable to a purchaser for a misstatement of material fact in the registration statement
D) an accountant must prove he exercised due diligence to escape liability

Question 24

Under Section 11(a) of the 1933 Act, accountants are:

A) liable only if privity of contract is with the purchaser.
B) liable for defective registration statements unless they can prove that they exercised due diligence.
C) liable only to purchasers who relied upon the omissions or falsities in the registration statements.
D) not liable to any purchaser of securities issued pursuant to a defective registration statement.

Question 25

Which of the following statements is true of intentional misrepresentation?

A) Generally, if an accountant is found liable in fraud, the client is not entitled to recover punitive damages.
B) Under a punitive damage award, the client will always receive a lesser amount than his actual loss.
C) Generally, in a negligence or contract action, the client is limited to recovering compensatory damages.
D) An accountant cannot be liable in fraud for any losses suffered by the client from the time when the audit should have discovered the embezzlement.

Question 26

Section 18(a) of the Securities Act of 1934:

A) requires that the plaintiff prove reliance.
B) makes an accountant liable for accidental mistakes in the audit.
C) is not triggered by reliance.
D) requires the accountant to prove that he exercised due diligence.

Question 27

Under the Balancing Approach, in a third-party negligence against an accountant, the third party _____.

A) cannot recover unless in privity
B) cannot recover unless the accountant knew the purpose of reports and the identity of user
C) may recover when the accountant knew audited material would be used
D) may recover if determinative factors make liability desirable

Question 28

Which of the following statements is true of misstatements or omissions of material facts in the information furnished by accountants for registration statements?

A) An accountant is not liable to a purchaser of securities issued pursuant to a defective registration statement.
B) An accountant's duty is to have a reasonable belief in the accuracy of the figures at the time the registration statement becomes effective.
C) A purchaser can recover even if the accountant can demonstrate that the purchaser was aware of the misstatements or omissions in the registration statement before buying the securities.
D) A purchaser cannot recover if he has not read the registration statement containing the material misstatements or omissions.

Question 29

Under the near privity approach, an accountant may be liable in negligence to third parties when the:

A) accountant is unaware that the financial reports were to be used for a particular purpose.
B) identity of the third parties is unknown to the accountant but the accountant knows that these third parties would rely on the reports.
C) accountant is not aware of the fact that the third party would rely on the reports.
D) conduct of the accountant links him or her to the third party that evidences the accountant's understanding of the third party's reliance.

Question 30

Section 11(a) of the Securities Act of 1933 imposes liability on accountants for:

A) misstatements or omissions of material facts furnished in registration statements.
B) inadvertent error in the information provided by the client.
C) accidental miscalculations in audits.
D) statements of opinion.

Question 31

The Restatement approach to third-party negligence suits against accountants:

A) does not require that the accountant be aware of the third parties.
B) holds that the accountant is liable only to those third parties who are unreasonably foreseeable.
C) does not protect the typical investor who was unknown to the accountant and his or her client when the financial statements were prepared.
D) requires that the accountant be unaware of the third parties' reliance on the financial statements.

Question 32

Akira purchased a certain number of securities and incurred losses due to a decline in the price of securities in the market. She held her accountant, Jason, liable for her entire loss. Given this information, which of the following statements is true?

A) Jason can be held liable because he did not demonstrate that the purchaser was aware of the omissions in the registration statement before buying the securities.
B) Akira can hold Jason liable for her losses because an accountant is liable to any purchaser of securities issued pursuant to a defective registration statement.
C) Jason cannot be held liable because the losses were totally unrelated to the accountant's negligence.
D) Akira can hold Jason liable for her losses because he did not prove that he made a reasonable investigation and reasonably believed that the certified financial statements were accurate.

Question 33

After an independent audit, an accountant certifies the financial statement by issuing a(n) _____.

A) certificate of audit
B) opinion letter
C) memorandum
D) amicus brief

Question 34

Which of the following is an approach to third-party negligence actions?

A) Strict privity approach
B) Near privity approach
C) Reasonable person approach
D) No delegation approach

Question 35

Which of the following is true of the criminal liabilities under the Securities Act of 1933?

A) A willful misrepresentation, including an omission, in a registration statement is made a criminal act.
B) The 1933 Act makes it a crime to willfully make a false or misleading statement in reports that are required to be filed under the act.
C) The criminal provisions of the 1933 Act specifically mention that they will be used against accountants.
D) A willful violation of Rule 10b-5 is a crime under the 1933 Act.

Question 36

Edward, an accountant, certified a client's financial statements because he believed they were correct on the basis of his use of standard accounting and auditing practices. Later, while doing further work for the same client, Edward discovered information leading him to the conclusion that the financial statements he had certified were false and misleading. Which of the following statements is true of this scenario?

A) Edward has a duty of loyalty only to the third parties who must have reasonably relied on the accuracy of those financial statements.
B) Edward can have no liability to anyone if he chooses not to reveal the unreliability of the financial statements because when he certified them, he had good reason to believe they were accurate.
C) Edward has a duty to disclose the unreliability of the financial statements to anyone he knows is relying on the financial statements.
D) Edward has no duty to inform any third parties of what he has discovered.

Question 37

The duty of care of accountants:

A) is limited to their actions during the audit.
B) extends beyond their actions during the audit itself.
C) does not allow them to disclose the unreliability of earlier reports.
D) does not comply with generally accepted accounting standards.

Question 38

Which of the following statements is true of the Sarbanes-Oxley Act of 2002?

A) It requires foreign accounting firms to register with the Public Company Accounting Oversight Board if they audit public companies.
B) The act reduces criminal penalties for securities fraud.
C) Its registration and reporting provisions apply only to U.S. companies listed on U.S. securities exchanges.
D) Section 106 of the act deals expressly with national accounting firms.

Question 39

Which of the following statements is true of liability to third persons?

A) Contract law has been widely used by third persons suffering damages as a result of an accountant's breach in the absence of special circumstances.
B) At common law, recovery by a creditor was not permitted on the theory that the creditor was a third-party beneficiary of the contract employing the accountant.
C) Common law required showing that the accountant was aware that the audit was ordered to satisfy the demand of a creditor or prospective creditor.
D) Historically, third-party suits against accountants were generally permitted by the privity doctrine.

Question 40

Under the Reasonably Foreseeable Users approach, _____.

A) the accountant could be liable to third parties who are unknown to the accountant
B) a negligent accountant is exposed to lesser liability than in the Restatement approach
C) the accountant could only be liable to third parties who are specifically foreseeable users
D) a negligent accountant is exposed to lesser liability than in the Ultramares approach

Question 41

When might an accountant issue a qualified opinion?

Question 42

Identify the true statement concerning communications between clients and accountants.

A) In all states, communications between clients and accountants are treated the same way communications between clients and attorneys are treated.
B) Communications between clients and accountants are treated by courts as privileged in the vast majority of states.
C) Even if a state has a statute that grants protection to accountants' working papers, federal courts do not always recognize such state statutes.
D) The accountant can never be forced to testify about the client's records and about conversations that the accountant had with the client.

Question 43

An accountant may have conducted such a limited audit that she does not feel able to offer an opinion as to the accuracy of the client's financial statements. In such situations, the accountant may issue a(n) _____.

A) qualified opinion
B) disclaimer
C) unaudited statement
D) opinion letter

Question 44

Which of the following statements is correct with regard to working papers prepared by an accountant?

A) The working papers prepared by the accountant are owned by the client.
B) The accountant may need to justify the accountant's work before the Internal Revenue Service or a court.
C) The accountant can dispose of the working papers prepared by him or her as he or she pleases.
D) The client does not possess the right of access to the working papers.

Question 45

Raunak, an accountant, has been subpoenaed to testify and produce its working papers as well as conversations regarding a lawsuit brought against Shyam, one of his clients. Which of the following statements is true of Raunak's attempt to avoid having to present such evidence?

A) The federal law recognizes the existence of the privileged communication rule if the accountant is certified.
B) The privilege of confidentiality is available regarding working papers since the accountant is deemed to own them.
C) The privilege of confidentiality is as widely available as the attorney-client privilege.
D) The law does not recognize the existence of the privileged communication rule between accountants and their clients.

Question 46

Describe the accountant-client privilege.

Question 47

The accountant issues a(n) _____ if the audited financial statements accurately reflect the client's financial condition in compliance with generally accepted accounting principles.

A) unqualified opinion
B) disclaimer
C) unaudited statement
D) opinion letter

Question 48

Explain the near privity approach to third-party negligence suits against accountants.

Question 49

Explain the Ultramares approach to third-party negligence suits against accountants.