According to Joseph Wolfe of the AICPA, tax practice generates approximately 60% of all accounting malpractice claims in the U.S and Florida. CPA firms have more tax claims against them than any other practice area; however, the severity of tax claims is much lower than that of other practice areas. This area of accounting malpractice encompasses individual tax preparation, small/medium business accounting, and accounting for large corporations.
Most CPAs would agree that individual tax preparation is one of the easiest areas of accounting. The software that is now available to aid in the preparation of tax returns has allowed the CPA to complete required forms more efficiently. Tax preparation claims can arise from an accountant failing to file a client's tax return on time, completing tax forms incorrectly, failing to communicate with clients on tax issues, etc. If a CPA or an accountant fails to follow IRS guidelines he/she may be guilty of malpractice. In most cases you must show that the accountant violated these guidelines, rules, and regulations to make a claim for malpractice.
The following is a possible scenario involving an individual tax return that was filed incorrectly:
A CPA in Florida prepared tax returns for an individual client for many years. The client had residences in two different states, Michigan and Florida. The CPA was aware of the client's second home through casual conversations with the client, but never discussed the residency rules of the states' Department of Revenue (i.e., Michigan and Florida). The CPA prepared the federal income tax return and the state income tax return for Florida only, which the client identified as the primary residence. The client eventually was the subject of a personal income tax audit in Michigan, where the second home was located. Due to noncompliance with Michigan's residency rules, the client incurred substantial additional taxes, penalties, and interest. The client pursued a claim against the CPA. The CPA denied having been engaged to provide tax advice, but indicated that he was aware of the client's second residence in Michigan. Given the lack of an engagement letter limiting the CPA's responsibility to the preparation of tax returns, and the fact that the CPA was aware of the client's dual residency, the claim was settled for a portion of the penalties and interest incurred by the client.
Claims resulting from small/medium business tax engagements occur frequently in Florida. In approximately 60% of these claims (according to the AICPA), the client alleges that the CPA provided inappropriate tax advice or failed to provide tax advice that would have assisted the client with tax compliance issues and reduced their tax liability. Typically, these types of claims involve miscommunication or failure to communicate with clients on tax issues. Other claims involve allegations that the CPA had a duty to provide tax planning advice that in fact, was not part of the engagement.
The following is a possible scenario involving a small business client who believed that the CPA had a duty to provide tax planning advice:
A Florida CPA firm prepared annual tax returns and financial statements for a business that was a cash basis taxpayer. No engagement letter was issued explaining the type and extent of services to be provided, any limitations of the services agreed upon, and deadlines for performance. The client had substantial expenses that needed to be paid by year-end to reduce taxable income. The CPA advised the client to pay the expenses prior to year-end, but did not document the discussion in the working paper file. The client failed to pay the expenses prior to year end, resulting in a significant tax liability. A claim was made against the Florida CPA firm, alleging the CPA had a duty to advise the client to pay the expenses prior to year-end, but failed to do so. Since there was no engagement letter limiting the CPA's responsibility to the preparation of the tax returns, the claim was settled for a portion of the client's costs in securing a loan to pay the tax liability.
Inadequate documentation is a problem seen in most accounting malpractice cases. In the small/medium business tax practice area, tax preparation software has improved, whereas the use of engagement letters is typically weak.
Accounting services and tax preparation for large corporations have had the most regulatory changes in the past couple of years. The implementation of new accounting rules and regulations, such as Sarbanes-Oxley, has made corporate accounting one of the most difficult areas of accounting for a CPA firm. Accountants must follow certain accounting rules outlined in the Generally Accepted Accounting Principals (GAAP). If a CPA firm or CPA fails to follow these rules, they may be guilty of malpractice. In most cases you must show that your accountant violated GAAP rules to make a claim for malpractice.
To view the most up-to-date information on accounting malpractice claims relating to publicly traded companies and large corporations, please visit our Accounting Malpractice in the News page.
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