On the road again: the D.C. circuit reinvigorates the work-product doctrine in United States v. Deloitte & Touche.

• Author: Wray, Christopher R.

INTRODUCTION

In 2009, the United States Court of Appeals for the First Circuit, sitting en banc, found that tax accrual workpapers prepared by in-house tax attorneys did not constitute work product. (1) The decision was widely panned. One prominent law firm described the Textron decision as "merrily roll[ing] over established notions of work-product," (2) while a representative for the Association of Corporate Counsel-an organization for in-house attorneys--described the case as "eviscerat[ing] the work-product doctrine." (3)

Only months later, the United States Court of Appeals for the District of Columbia Circuit revived the work-product doctrine and found that audit workpapers can receive protection. (4) Unlike Textron, the United States v. Deloitte LLP decision was well reasoned and well received: one prominent law firm described the decision as "redeem[ing]" the work-product doctrine and "rebuff[ing]" Textron. (5) Public companies--particularly their general counsels--breathed a sigh of relief.

The Deloitte decision contributes to work-product case law in three respects: (1) it is the first federal circuit court decision on the work-product doctrine as applied to audit workpapers following the First Circuit's much maligned Textron decision; (2) it is the first federal appellate court decision to comment on the waiver of work product in the context of financial statement audits; and (3) it affects the rules of evidence in the United States Tax Court.

This Note will analyze the current status of the work-product doctrine and review positively Deloitte's impact on the law, arguing that the opinion, unlike Textron, provides a sound legal framework rooted in statute and longstanding case law.

Part I of this Note provides a foundational background of the work-product doctrine as applied to audit workpapers. Part II analyzes the Deloitte decision's effect on what constitutes work product, and Part III discusses the decision's effect on work-product waiver.

Finally, in Part IV, this Note analyzes the policy and legal arguments for and against the discoverability of audit workpapers and positively critiques the Deloitte decision.

1. THE WINDING ROAD FROM HICKMAN TO TEXTRON:. THE WORKPRODUCT DOCTRINE AND TAX ACCRUAL WORKPAPERS

   1. The Journey Begins: Hickman and Rule 26(b)(3)

      The Supreme Court established the work-product doctrine in 1947 in Hickman v. Taylor. (6) In Hickman, the Court held that an attorney's notes taken during interviews with witnesses in anticipation of litigation are not discoverable. (7) To prepare for litigation, the Court said, our system must enable an attorney to "sift what he considers to be the relevant from the irrelevant facts, prepare his legal theories and plan his strategy without undue and needless interference." (8) Such "work is reflected ... in interviews, statements, memoranda, correspondence, briefs, mental impressions, personal beliefs, and countless other tangible and intangible ways" that are undiscoverable. (9) The work-product doctrine, as envisioned in Hickman, precludes opposing counsel from gaining access to an attorney's thoughts, trial strategies, and legal theories.

      The Supreme Court based its decision primarily on public policy concerns. Asserting that lawyers would be less likely to put their thoughts in writing if they were discoverable, the Court said the "effect on the legal profession [of permitting discovery] would be demoralizing" and the "interests of the clients and the cause of justice would be poorly served." (10) Work-product protection would encourage robust legal analysis by disallowing parties from litigating "on wits borrowed from the adversary." (11)

      The Hickman decision became partially codified by Federal Rule of Civil Procedure 26(b)(3), which provides that "a party may not discover documents and tangible things that are prepared in anticipation of litigation or for trial by or for another party or its representative" unless a substantial need can be shown. (12) The Advisory Committee's notes reflected the public policy sentiments of the Court in Hickman: "[E]ach side's informal evaluation of its case should be protected ... each side should be encouraged to prepare independently, and ... one side should not automatically have the benefit of the detailed preparatory work of the other side." (13)

      As the Deloitte majority would later point out, Hickman was only partially codified by Federal Rule of Civil Procedure 26(b)(3). (14) The Rule does not contain an exhaustive list of what is work product, and any document containing the "mental impressions" of an attorney--as well as intangible items--can qualify for work-product protection. (15)

   2. A Necessary Detour: Audit Workpapers and Tax Accruals

      All public companies in the United States are required to provide an annual financial report to the Securities and Exchange Commission (SEC). (16) The report must include financial statements prepared in accordance with generally accepted accounting principles (GAAP), and the financial statements must be audited by an independent public accountant under generally accepted auditing standards (GAAS). (17) GAAP is promulgated exclusively by the Financial Accounting Standards Board (FASB), and GAAS is established chiefly by the American Institute of Certified Public Accountants (AICPA). (18) Under GAAS, an auditor must state in the audit report "whether the financial statements are presented in accordance with [GAAP]." (19) Material departures from GAAP require either a qualified or an adverse opinion in the auditor's report. (20)

      GAAS also mandates that the auditor prepare and maintain "audit documentation in connection with each engagement in sufficient detail to provide a clear understanding of the work performed[,] ... the audit evidence obtained and its source, and the conclusions reached." (21) The documentation "[p]rovides the principal support for the opinion expressed regarding the financial information or the assertion to the effect that an opinion cannot be expressed." (22) Audit documentation is commonly known as workpapers or working papers. (23)

      GAAP has long required public companies to "accrue" a "reserve" (24) for contingent tax liabilities, now usually referred to as uncertain tax positions (UTPs). (25) Contingent tax liabilities include estimates of potential losses if certain tax positions are not sustained. (26) While various documents are used to analyze tax accruals, a common format was spotlighted in the Textron dispute: a spreadsheet listing "each debatable item, including in each instance the dollar amount subject to possible dispute and a percentage estimate of the IRS's chances of success. Multiplying the amount by the percentage fixes the reserve entered on the books for that item." (27) These documents are routinely given to independent auditors to provide support for the contingent tax liabilities and UTPs, and auditors are required to keep such documents in the workpapers to support their opinion.

      Thus, "tax accrual work papers provide a resource for the IRS, if the [government] can get access to them." (28) These work-papers "pinpoint the 'soft spots' on a corporation's tax return by highlighting those areas in which the corporate taxpayer has taken a position that may, at some later date, require the payment of additional taxes" and by providing "an item-by-item analysis of the corporation's potential exposure to additional liability." (29)

   3. A Bump in the Road: Arthur Young

      The Supreme Court considered whether work-product protection would extend to audit workpapers in United States v. Arthur Young. (30) In Arthur Young, the Supreme Court considered whether "tax accrual workpapers prepared by a corporation's independent certified public accountant in the course of regular financial audits are protected from disclosure in response to an Internal Revenue Service summons." (31)

      During a routine audit of Arthur Young's client, Amerada Hess Corp., the IRS learned that Amerada had made questionable payments from a special disbursement account. (32) The IRS initiated a criminal investigation and issued an administrative summons to Arthur Young for its Amerada files, including the tax accrual workpapers. (33) Amerada ordered Arthur Young not to comply with the summons. (34)

      The IRS instituted an enforcement action in the United States District Court for the Southern District of New York, and the District Court declined to recognize an accountant-client privilege. (35) The United States Court of Appeals for the Second Circuit reversed, finding it necessary "that some form of privilege be carved out to protect the independent auditing process." (36) Relying on Hickman, the Second Circuit said that promoting full disclosure to public accountants would ensure the accuracy and trustworthiness of data available in securities markets. (37)

      The Supreme Court reversed the Second Circuit and declined to recognize either an accountant-client privilege or work-product immunity for auditor's workpapers. (38) Reasoning that independent auditors have a "public responsibility transcending any employment relationship with the client," the Court said that to "insulate from disclosure a certified public accountant's interpretations of the client's financial statements would be to ignore the significance of the accountant's role as a disinterested analyst charged with public obligations." (39)

   4. Forks in the Road: Interpreting "In Anticipation of Litigation"

      While Arthur Young declined to extend privilege to accountants or recognize work-product immunity for auditors' workpapers, traditional notions of work product, including attorney-client work product, remained intact after the decision. Under Hickman and Federal Rule of Civil Procedure 26(b) (3), if a document is "prepared in anticipation of litigation," it is generally not discoverable until after the producing party redacts any attorney opinions or impressions. But soon after Arthur...