NJ Outline on Accounting & Auditing Liability Issues

New Jersey Outline on Accounting and Auditing Liability Issues

A. Nature of Malpractice Claim (Tort, Contract, etc) 

In New Jersey, accountant liability is governed by the Accountant Liability Act (“the Act”), which provides that an accountant will be liable for negligence arising out of and in the course of rendering accounting services to a client¹. However, under the Act an accountant is not insulated from liability for intentional conduct, including aiding and abetting or fraud²

B. Standing/Existence of Duty

1. Clients

In New Jersey, under the Act a “client” is defined as the party directly engaging an accountant to perform a professional accounting service³. The Act specifically limits the liability of accountants to claims raised by clients, except for limited statutorily proscribed circumstances where knowledge and intent to rely upon the services of the accountant is established at the time of the work. Under New Jersey law an accountant’s liability is defined by the scope of the engagement it entered⁴. The duty owed to another is defined by the relationship between the parties and any negligence must be based on the scope of that, or related, understandings and agreements to determine whether the defendant violated any duty⁵. However, it has been held that an accountant did not have a duty to a third-party claimant when there was no contractual relationship between the parties⁶.

2. Trustees and Receivers

In New Jersey, the receiver or trustee of an insolvent or liquidated business has standing to assert accounting malpractice claims based upon duties to the prior business. New Jersey Courts may recognize a “deepening insolvency” theory to support such claims against accountants⁷. Such a claim contends that the accountant artificially prolonged, or contributed to the artificial prolongation of, the business’s life, thereby increasing the debt, depleting the assets and increasing exposure to creditors⁸.

3. Assignees of Clients

In New Jersey the assignment of an accounting malpractice claim may be recognized, but the assignee can have no greater rights than the assignor and can recover no more than the assignor could have recovered⁹.

4. Third Parties/Non-Clients

In New Jersey liability to non-client, based upon negligence, requires satisfaction of a three-prong statutorily proscribed test. Under the Act, an accountant will not be liable for damages arising from negligent professional accounting services unless the claimant was the account’s client or all three criteria are established¹⁰. Under the Act, non-client liability requires the claimant to establish: (1) the accountant knew at the time of the engagement that the accounting services would be made available to the claimant¹¹; (2) the accountant knew the claimant intended to rely upon the accounting services in connection with a specified transaction; and (3) the accountant directly expressed to the claimant by words or understanding to the claimant that the accountant understood that the claimant would rely upon the services¹². However, in the case of a non-client bank claimant, the accountant must have acknowledged the bank’s intended reliance on the accounting service in a written communication¹³.

Contact Lum, Drasco & Positan

Lum, Drasco & Positan LLC
103 Eisenhower Parkway
Suite 401
Roseland, NJ 07068
Phone: 973-403-9000
Fax: 973-403-9021

Our law office is located in Roseland, New Jersey.

To speak with an attorney at our firm about your legal needs, call 973-403-9000.

Corporate Transparency Update Summer 2021

CORPORATE TRANSPARENCY UPDATE: July 2021

By: Steven J. Eisenstein, Esq.

On January 1, 2021 Congress enacted the National Defense Authorization Act overriding a Presidential veto. As part of this new law the Corporate Transparency Act was put into place. The CTA had failed several previous attempts at passage but as part of the annual Defense bill passage was assured. Ostensibly the rationale for including it was to ensure that foreign companies do not become unseen participants in our national defense. Whatever the rationale the law now exists and business owners must learn to deal with it.

Basically the CTA requires certain business to report the identity of their beneficial owners to the Financial Crimes Enforcement Network, a part of the Treasury Department. While there are still many open questions a brief examination of these three components seems to be in order.

What are the “Reporting Companies” which have these obligations? Any corporation, limited liability company or similar entity which is formed or registered to do business by the filing of a formation document with a state must comply unless they fall within one of 24 exceptions. Among the exceptions are publicly traded companies, public utilities, financial services companies and companies which employ 20 or more people in the U.S., filed a tax return in the prior year reporting at least $5,000,000 in gross revenue and have a physical presence in the United States. Since newly formed companies will not have filed a tax return yet is appears to be the intent of the law to require all newly formed private companies to supply the information.

Who is a beneficial owner? An individual who, directly or indirectly, either owns 25% or more of the equity of the company or exercises substantial control, an undefined term. Minors are not included nor are people who acquire their equity through inheritance. There will doubtless be substantial confusion over the issue of control but even the seemingly fixed standard of 25% equity may be in doubt when issues like options and warrants are considered. Close attention should be paid to further developments in this area.

What information needs to be reported? FINCEN is to receive the full legal name of each Beneficial Owner, the date of birth, the current business or residence street address and an ID number from a Governmental document such as a driver’s license or passport. A person who files the application for the formation may obtain a FINCEN ID number and that ID number may be supplied in lieu of anything else. The information is to be kept confidential by FINCEN but may be released to other Federal agencies in law enforcement, national security or intelligence, to local and state agencies pursuant to a court order or to financial institutions with the consent of the companies.

When will reporting begin? New companies must file reports upon formation or registration to do business. Existing companies have two years to file after the effective date of the anticipated regulations. Regulations have not yet been drafted and all reporting requirements are suspended until they are passed. The reported information will need to be kept current and changes reported within one year of the change.

Are penalties involved? Do you need to ask? Failure to comply may result in both civil and criminal penalties. Fines of up to $500 for each day of violation are possible and prison sentences of up to 2 years may be imposed. Criminal penalties for unauthorized disclosure or use of the violation can result in up to 5 years imprisonment and substantial fines.

Until regulations are drafted there is much that remains unknown. The issue of substantial control will be of great interest in the regulations. This will prove to be of interest to creditors who may be covered if they meet the definition of Beneficial Owner upon foreclosure of security interests. Anyone seeking to form a new company is advised to seek competent advice before doing so as getting it wrong can have serious consequences.

The Business Law Section of Lum, Drasco & Positan stands ready to assist. For more information please contact Steven J. Eisenstein,  Kevin Murphy

Contact Lum, Drasco & Positan

Lum, Drasco & Positan LLC
103 Eisenhower Parkway
Suite 401
Roseland, NJ 07068
Phone: 973-403-9000
Fax: 973-403-9021

Our law office is located in Roseland, New Jersey.

To speak with an attorney at our firm about your legal needs, call 973-403-9000.