Tightening the language used in tax and other engagement letters will help limit your professional liability. This is part one of a two-part series of blogs on tax engagement letters.
Accountancy firms are taking a renewed interest in having well written and up to date engagement letters. In this blog we outline the fundamentals of best practice in tax engagement letters, and we suggest provisions that will help minimize legal liability faced by accountants in practice.
Professional liability insurers and defence solicitors will often agree that engagement letters are one of the first lines of defence in a professional negligence claim against an accountant. When drafted properly, engagement letters form the basis for an enforceable contract and should contain:
- caveats unique to the scope of the service provided
- state the amount of risk inherent in the engagement, and
- ensure that professional standards are met.
Over the years, in our experience, the majority of claims (by frequency) reported by leading professional indemnity insurers arise from tax services, yet individual tax engagements are where engagement letters are hardly ever used.
General Principles for all Engagement Letters
The following ten general principles apply to almost all types of engagement letter.
- Address the letter to the appropriate parties in a formal introductory paragraph.
- Exclude any taxes not within the scope of the tax return
- Exclude other entities owned by the individual tax client, if dealt with elsewhere.
- Include the appropriate year or years that are being prepared.
- Identify which returns are being prepared, and do not combine multiple returns. (For example, do not include a gift tax return service with an income tax return unless the proper disclaimer language for a gift tax return is included.) The following language is highly recommended.
‘We will prepare your [Year] income tax return. This engagement pertains only to the [Year] tax year, and our responsibilities do not include preparation of any other tax returns that may be due to any tax authority. Where we receive specific instructions from you about other taxes or other tax years, these assignments will be the subject of separate engagement letters. ‘
- Deal with the price of the service, payment terms, retainers, additional charges for information received late, additional fees.
- Clarity and diligence must be adhered to, as many professional liability lawsuits, professional body ethical complaints, and loss of clients have resulted from misunderstanding these provisions. Too often, a phrase like the following is used in a standard letter:
‘Our fee for services will be at our standard hourly rate for the personnel assigned to this engagement [or fixed fees to cover other than hourly fee arrangements]. Payment is expected when our services are complete.’’ This is far too vague and uncertain.
- The following improvements to the wording will help a lot:
- Specify more clearly the payment terms.
- If you wish, stipulate that a retainer will be required and will be applied toward the final fee and that the retainer is not an estimate of the fee charged for services.
- Identify when payment is expected.
- Provide for a termination of services if the fee is not paid in full.
- Use an additional charge clause for services not originally contemplated.
- Include a provision for reimbursement for out-of-pocket expenses such as travel, registered delivery, etc.
- Use a tax checklist that is sent to clients. The value of tax checklist in defending a professional liability claim cannot be overstated. However, many tax advisers complain that their clients do not complete the checklist and often return it unopened.
Accountants and tax advisers need to get the client to take responsibility for completing the checklist. The language used in the engagement letter should establish this responsibility:
‘We will prepare the returns from information which you will furnish to us. It is your responsibility to provide all the information required for the preparation of complete and accurate returns. We will furnish you with questionnaires and/or worksheets as needed to guide you in gathering the necessary information. Your use of such forms will assist us in keeping our fee to a minimum. To the extent we render any accounting and/or bookkeeping assistance, it will be limited to those tasks we deem necessary for preparation of the returns’.
- AI – include an appropriately worded paragraph in the letter of engagement informing clients about the potential use of artificial intelligence in carrying out tax assignments. All our template engagement letters on the website have been updated with such a paragraph about AI.
More next week on the style of improved wording that a tax engagement letter might contain.
If you need an up-to-date engagement letter, there is a search bar near the bottom of our home page (www.jmcc.ie) to quickly look up the item you need. More details see here.
For those of you still in the process of ISQM 1 implementation, please see our ISQM TOOLKIT or if you prefer to chat through the different audit risks and potential appropriate responses presented by this new standard, please call or e-mail John McCarthy FCA or e-mail him at john@jmcc.ie.
We typically tailor our training and brainstorming sessions to suit each firm’s unique requirements.
Publications:
-
- The ISQM TOOLKIT 2022 is available to purchase here.
- See our latest Anti-Money Laundering Policies Controls & Procedures Manual (March 2022) – View the Table of Contents click here.
- To ensure your letters of engagement and similar templates are up to date visit our site here where immediate downloads are available in Word format. A bulk discount is available for orders of five or more items if bought together.
