The problem with evergreen engagement letters.

PositionThe Risk Management

Accountants know the importance of reaching an understanding with clients regarding professional services to be performed prior to the start of the engagement. Engagement letters are issued routinely and are strongly encouraged by professional standards when rendering certain types of professional services. Those letters can be critical to the defense of accountants who are sued for malpractice, especially when they define the scope of services and the time period of the engagement.

Clients sometimes attempt to assert accounting malpractice claims several years after the service they allegedly relied upon was rendered. In many cases, these claims would be time-barred based upon applicable state statutes of limitations. A successful statute of limitations defense may be dependent upon producing evidence that an engagement ended on a specific date. An engagement letter that defines the scope of services and the time period of the engagement and has been signed by both the client and the accounting firm can serve as such evidence.

In the interest of saving time, some CPA firms issue engagement letters that indicate services will continue until either party terminates the professional relationship. These types of engagement letters, often referred to as self-renewing or evergreen letters, do not indicate that the service concludes upon delivery of the accountant's work product or advice, or at the end of a specified time period. As a result, in the event of a claim, evergreen letters have the potential to jeopardize a successful statute of limitations defense.

Statute of Limitations

The statute of limitations establishes a time limit for the institution of legal proceedings, including those against professionals. The statute of limitations for accounting malpractice actions varies among the states, as most states did not adopt the Uniform Accountancy Act, (1) which would provide a uniform statute of limitations.

The determination of when the statute of limitations is triggered can be complicated. The statute may begin to run upon the discovery of an error or when the plaintiff has incurred damage. Some states have enacted limitations provisions called statutes of repose that bar actions after a specified time period--for example, six years from the date of the act or omission, regardless of discovery. Some jurisdictions provide for a tolling, or interruption, of the running of the time period if there is continuous representation of the client by the accountant. One rationale given is that it may be difficult to discover the error or damage while the professional is still representing the client.

A defense based on the statute of limitations can be asserted in response to any type of professional malpractice allegation. However, the defense may be weakened if a firm uses an evergreen or multiyear engagement letter.

Determining the application of statutes of limitation and repose to professional liability claims is both case and jurisdiction specific, and is subject to court interpretation of applicable statutory, regulatory and case law. Competent legal counsel should always be consulted regarding such matters.

Continuous Representation

The continuous representation doctrine grew out of the doctrine established in medical malpractice cases termed "continuous treatment." As defined in the medical malpractice arena, continuous treatment occurs when the patient continues to be treated by the same doctor or hospital for the condition that gives rise to the claim. In this instance, the statute of limitations is "tolled," or suspended, until the treatment is concluded. (2) One rationale behind this doctrine is that it relieves the patient of the burden of pursuing a timely claim within the statute of limitations while the patient is still receiving treatment...

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