F i s h b u r n s
solicitors
In this Update we highlight recent changes to the ICAEW PII Minimum Terms which represent the most significant overhaul of these terms since their introduction. We also review a number of recent decisions of interest to accountants and their professional indemnity insurers.
STOP PRESS: SIGNIFICANT AND WIDE-RANGING
CHANGES TO THE ICAEW MINIMUM TERMS TAKE EFFECT FROM 1 SEPTEMBER 2010
Professional Indemnity Insurance (“PII”) policies issued to accountants who are members of the Institute of Chartered Accountants of England and Wales (“ICAEW”) on or after 1 September 2010 will be subject to the revised ICAEW PII minimum terms. The revised minimum terms represent the largest overhaul of those terms since their inception and contain some significant differences.
Background
PII policies for accountant members of the ICAEW are subject to the ICAEW minimum terms in effect when that policy commenced or renewed. Usually, the PII policy is either in the same terms as the minimum terms, or it contains a “difference in conditions” clause providing, broadly, that the minimum terms will apply instead of the policy terms where the minimum terms are more favourable to the insured accountant. The Institutes of Chartered Accountants in Scotland and Ireland have long used a similar minimum terms wording to the ICAEW and we understand that both institutes are issuing revised minimum terms in keeping with the new ICAEW minimum terms, which will equally take effect from 1 September 2010. The revised minimum terms apply to ICAEW member PII policies commencing or renewing on or after 1 September 2010 that provide cover up to the limit of indemnity required by the ICAEW PII regulations (although cover above that limit of indemnity need not comply with the ICAEW minimum terms). Given the primacy of the minimum terms over PII policies that are subject to them, it is important to consider the main changes to the minimum terms. By way of summary, these changes may be grouped into three themes: 1. Changes to the scope of cover
This is by far the largest category of changes to the minimum terms, of
which the following are particularly important:
• Insuring Clause A2 now covers “recommendations” from an Ombudsman, not just final and binding awards.
• Clauses B2 and B3 (replacing the old clause D2) contain new definitions of “Claim” and “Claimant” respectively. A Claim is now no longer defined as being “a demand by a Claimant”, but is now “any written or oral demand”. There is still no provision in the wording for aggregation of claims. The ICAEW PII regulations continue, however, to provide for the maximum excess that an insured can pay in one policy year.
• Clause B4 contains a new definition of Defence Costs (replacing the old clause B3). Sub-clauses (b) and (c) of the new clause B4 expressly include cover for the costs of proceedings for recovery in respect of a Claim; reducing or avoiding a Claim; and investigating, reducing, avoiding or settling any potential Claim. The insured still needs participating insurers’ written consent to incur these costs (not to be unreasonably withheld).
• Clause C2.1 no longer states that notification of a Claim is a condition precedent (replacing the old clause B8). The ICAEW has expressly said that this change is to prevent participating insurers from avoiding paying the claim if this condition is breached, but that firms should always notify the participating insurer of any claim as soon as possible as the participating insurer may still argue that their ability to defend the claim has been prejudiced by late notification. In addition, the insured now has the “as soon as reasonably practicable” timeframe within which to notify a Claim, which must in any event be within seven days of the end of the policy period. • Clause C2.2 requires notification of circumstances “as soon as
reasonably practicable” (unlike the old clause B9, which was “as soon as practicable”). It also provides that circumstances (unlike claims) must be notified within the policy period. It remains to be seen whether the Court will interpret this clause as a condition precedent to cover, as was the case with a predecessor clause (HLB Kidsons v Lloyd’s Underwriters [2008] EWCA Civ 1206). • Clause C6.1, on the conduct of claims (previously clause B7), is also
no longer a condition precedent (although this has not been highlighted by the ICAEW in its summary of the 2010 changes).
JULY 2010
• Clause C6.2 (replacing the old clause B7) now gives the insured a right to information reasonably requested from the participating insurer as to what is going on, although arguably only after the participating insurer has taken over the defence of the Claim. • Clause C8 prevents the participating insurer from seeking a
recovery from one of the insureds under the PII policy, except, broadly speaking, (1) in cases of fraud or illegality; or (2) where the insured is a sub-contractor otherwise covered under the PII policy, but about whom the insured has not told participating insurers or its previous participating insurers.
• Clause C9 (which replaces the old clause B11) expressly provides that, in the case of false claims, the policy is only void as against the insured that brings the false claim.
• Clause C13 provides that the participating insurer must provide cover where the premium has not been paid and cannot set that off against any monies owed by the insured.
2. Pinning down the present participating insurer
• Clause C5 is new and applies where fraud is suspected. It provides that the participating insurer must continue to defend a Claim and advance Defence Costs until the insured has admitted the fraud or it has been established by the Court. Even in this situation, the participating insurer must still defend the Claim for the insured(s) not associated with the fraud. Participating insurers’ remedy is to seek repayment of Defence Costs from any insured(s) who committed or condoned the fraud.
• Clause C10.2 applies where there is a dispute between participating insurers as to which of them should cover a Claim. The participating insurer for the present policy period must advance Defence Costs and provide indemnity until the dispute has been resolved.
• Clause C15 provides that the present participating insurer must meet the Claim in full and then seek a recovery from any other insurance that could also deal with the same matter (unlike under the old clause E6).
3. Removing redundant and/or duplicated clauses
• The old clause A2, which dealt with Claims resulting from documents being lost or destroyed, has been deleted. The ICAEW considers that clause A1 deals with this adequately. • The old clause B15 (concerning the transfer of the insured’s rights
under the policy to the ICAEW if there was a claim under the ICAEW’s Compensation Fund) has been deleted as the ICAEW is unaware of it ever having being used.
• The existing USA and Canada exclusion at clause E1 has been clarified.
• The old exclusion E9 (which dealt with situations where the insured was an agent of an insurance company) and the Y2K exclusion have been removed.
The Big Picture
We have not yet seen a corresponding change in the ICAEW PII regulations to reflect the changes to the minimum wording. Such changes may be in the works, but for the moment the regulations from
1 January 2008 still apply, meaning that an ICAEW member’s minimum cover for any one claim and in total must be either £1.5m; or, where the gross fee income is less than £600,000, £100,000 or 2.5 times its gross fee income (albeit in different ways the old and new minimum wordings recognise that the total Limit of Indemnity in any period of insurance generally has to be exclusive of Defence Costs). The maximum excess remains £30,000 for sole practitioners and companies (unless the company’s principals personally agree to pay more); and £30,000 per principal for partnerships.
CASE REPORTS
LIMITATION IN THE SPOTLIGHT
In the recent decision of Pegasus Management Holdings SCA and Ivan Harold Bradbury v Ernst & Young [2010] EWCA Civ 181, the Court of Appeal has helpfully clarified that, for the purposes of limitation in the tort of negligence, “actual damage” does not occur (and the six year limitation period does not start to run) when a claimant suffers quantifiable financial loss, but rather when he suffers a mere disadvantage in his commercial position. The judgment therefore consolidates a very useful weapon in insurers’ armoury in swiftly disposing of claims with a lengthy history, especially where, as is the case with some claims involving negligent tax advice, the suffering of measurable financial loss is dependent upon the occurrence of some further contingency. Interestingly also for insurers, the Court of Appeal was willing to uphold the early disposal of a preliminary issue, namely that the accountant did not owe a duty of care to one of the claimants. Facts
By way of background, Mr Bradbury sold an electronics business in 1997 and received consideration for the sale in loan notes. Pursuant to advice that had been given to him by Ernst & Young (E&Y), he had created a company, Pegasus, registered in Luxembourg, in which he intended to reinvest his gains and obtain tax relief on his reinvestment. On 2 April 1998, Mr Bradbury subscribed to shares in Pegasus. However, when Pegasus later sold its businesses, it incurred a significant tax liability. It transpired that E&Y had wrongly advised Mr Bradbury as to the way in which his corporate model should have been structured in order to avoid such liability. Accordingly, Mr Bradbury (along with Pegasus) sued E&Y for negligence, but did not do so until as late as November 2005.
Judgment
By this stage, a claim in contract was statute-barred since the breach (the incorrect advice) was more than six years before the proceedings were commenced. The more difficult question for the Court was whether, for the purposes of a claim in the tort of negligence, time started running at the point of Mr Bradbury’s share transaction, in April 1998, or at the point at which the actual tax liability accrued. If the latter, the claim in negligence would not have been statute-barred. The Court, at first instance, reasoned that it was the former, April 1998. The Court also struck out the claim by Pegasus, as E&Y could not be shown to owe any duty of care to that company. On appeal, the Court of Appeal agreed on both points.
In agreement with the first instance judge on limitation, the Court of Appeal focused on the effect that E&Y’s advice had on Mr Bradbury, in that it left him in a commercially disadvantaged position (referred to as a “disadvantageous straitjacket”) at the point of the share transaction, and incurable thereafter, rendering inflexible any future dealings with his business. Although this preceded the point of actual loss (the tax liability itself) upon the sale of the business by a few years, the disadvantage itself
(the unwanted prospect of such a tax liability) was nonetheless sufficient to constitute “actual damage” and to trigger the six year limitation period. In respect of the duty of care strike out, the Court of Appeal drew attention to the lack of any direct retainer of E&Y by Pegasus, and also to the fact that no advice was in fact needed by Pegasus, but only by Mr Bradbury. The Court of Appeal was prepared to deal with the duty of care issue at this stage rather than it being dealt with at any later trial. Comment
The judgment is a welcoming development for insurers, accountants and other professionals, in that it consolidates what has been a steady departure from the application by claimants of the House of Lords’ decision in Law Society v Sephton as a point of widespread principle regarding limitation in claims where loss is contingent. It also shows a judicial willingness to use the strike out/summary judgment mechanism to dispose of preliminary issues ahead of trial and thereby to save further time and costs. Although, in certain cases, claimants may be able to take advantage of the alternative limitation period under s.14A Limitation Act 1980 (essentially 3 years from the claimant’s date of knowledge of relevant facts), in other cases, including those in which the date of knowledge in effect coincides with the earlier date upon which a commercial disadvantage arises, this decision may be of particular use. RELYING ON THE DEFENCE OF EX TURPI CAUSA
A claimant convicted of a criminal offence may seek to claim against his advisers for negligently failing to ensure compliance with the law. It is well-established that if the offence is one of strict liability some degree of personal fault on the part of the claimant must be shown to run the ‘ex turpi causa’ defence (i.e. a claim cannot be founded on one’s own wrongdoing).Yet how should a contention that the claimant did, indeed, display such personal fault be dealt with on an application to strike out the claim? And where the claimed losses can be said to flow from the claimant’s criminal conviction, does the policy of the law bar recovery? The decision of Vos J in Griffin v UHY Hacker Young [2010] EWHC 146 (Ch) provides some guidance on these issues.
Facts
The claimant was a director of a company which went into insolvent liquidation. He was then involved in the incorporation of a company that continued to market a particular soft drinks brand that had been marketed by the liquidated company. As a result, he was convicted of the strict liability offence under Section 216(3) of the Insolvency Act – prohibiting a director from becoming involved with another company using a trade name of the liquidated company without leave of the court – and was fined £1,000. The claimant brought proceedings against his accountants for negligence in allegedly failing to advise that his conduct might contravene Section 216. The claimant sought recovery of alleged losses, including loss of earnings, costs, and personal liability for the new company’s debts.
The accountants applied to strike out the claim on the ground that it was barred by ex turpi causa. They contended, firstly, that the claimed losses flowed from the claimant’s criminal conviction, and so were irrecoverable under the ‘narrow rule’ of public policy that one cannot recover for damage flowing “… from loss of liberty, a fine or other punishment lawfully imposed” in consequence of the offence. They argued, secondly, that the undisputed facts disclosed “moral culpability” on the part of the claimant, so the claim was also barred under the ‘wider rule’ that an action cannot be founded on the consequences of one’s criminal act. The defendants pointed, here, to the claimant’s admission, in his witness statement, that he had made an untruthful
statement to the company’s creditors during the winding up process (namely, that he did not intend to carry on in the soft drinks business). Judgment
Vos J refused the application to strike out. On the first issue of whether public policy bars recovery of losses causally flowing from a criminal conviction, he determined that the rule did not have such a wide effect. It, instead, barred a claimant from obtaining compensation for a penalty (loss of liberty, or a fine) lawfully imposed for his or her personal fault. As to whether the undisputed facts disclosed that the claimant had been sufficiently morally culpable for the defence to succeed, it was held that it was impossible to determine this question without a trial. Although the claimant had conceded that he had lied to the company’s creditors, the severity of this conduct, and its degree of connection with the offence, would depend on the nuances of the evidence, particularly as to whether the claimant could prove that he was unaware that it was wrong to continue to trade using the same name. It was therefore unnecessary to state what “level” of culpability would be required on the facts of the case. However, Vos J did review the authorities, concluding that these appeared to require some “… ill-defined element of culpability beyond negligence”.
Comment
The case highlights the difficulties likely to be faced by accountants in seeking to strike out a claim in light of a claimant’s conviction for ‘no fault’ company, tax or regulatory offences. In many such cases, it will be clear that the claimant committed the offence innocently; it may then not make sense to run the defence in the first place. Yet here the accountants evidently saw, in the claimant’s admission to lying to the creditors, an opportunity not only to run the defence but to achieve an early dismissal of the claim. However, the case demonstrates that a court may be unwilling, even then, to deny the claimant the opportunity to explain the context of his or her actions at trial.
FRAUD – THE RISKS OF PARTNERSHIP
The recent decision of Beverley Goldberg & Others v (1) Milton Miltiadous (2) Evdokimous Christou (3) Simon Brougham (t/a Foster Squires (a Firm)) [2010] EWHC 450 (QB) serves as a sharp reminder of the principle that partners can be held liable for the wrongful acts or omissions of their fellow partners, even where those acts were unknown to the partnership or were fraudulent.
Background
This case concerns the liability of an accountancy partnership for losses suffered by claimants as a result of investment advice given by a fellow partner. The claimants in this case were seeking damages from three defendants (“the Defendants”) who were all chartered certified accountants.
The claimants alleged that, inter alia, the second Defendant provided investment advice in breach of his duty of care to them and that he made false and dishonest representations of fact with the intention of inducing them to make investments.
The second Defendant went missing and the claimants lost their money. The first and third Defendants argued that the partnership was not liable for the wrongful acts of the second Defendant which fell outside
the scope of his authority and the ordinary business of an accountant. Furthermore, they argued that the claimants could not reasonably believe that the second Defendant was acting on behalf of the firm or giving advice as an accountant given the nature of the investments which had been suggested to them.
Judgment
The Court held that there was nothing in the original partnership agreement that amounted to any limitation to the effect that the second Defendant was not authorised to carry on any part of the firm's business, including investment and financial advice.The second Defendant’s advice and misrepresentations were held to have been given in the ordinary course of the firm’s business and the firm and the first Defendant had held out the second Defendant as having the authority to give the advice he gave. In any event, the advice and misrepresentations given were so closely connected with acts that the second Defendant was authorised to do, that his acts could be regarded as done by him whilst acting in the ordinary course of the firm’s business.
The Court upheld the claimants’ claims in deceit and negligence, but held that they were limited against the first Defendant and third Defendant to such liabilities arising in the periods during which they were the second Defendant’s partners.
Comment
This case highlights the Court’s willingness to compensate claimants even where, in doing so, this will expose the innocent partners of a fraudster.
This decision serves as a warning, both to accountants and other professionals, of the inherent risks associated with entering into partnerships. Insurers will also be reminded to act with caution particularly where policies entitle innocent partners to seek indemnity for the fraudulent acts of other partners.
R (on the application of Prudential Plc & Another) v Special
Commissioner of Income Tax & Another [2009] – UPDATE
In our December 2009 Accountants’ Liability Update, we reported on the case of Prudential, in which it was unsuccessfully argued that legal professional privilege should be extended to accountants in certain circumstances. Prudential appealed to the Court of Appeal, which heard the case in the week of 12 July 2010. Judgement is expected later in the year. The Law Society joined the action as an interested party in favour of leaving the boundaries of legal professional privilege where they are.
We will report further on this case and its impact on legal professional privilege for accountants in a future Update.
ACCOUNTANCY NEWS
Could Ireland’s National Asset Management Agency pose a threat for British accountants?
Ireland’s National Asset Management Agency (“NAMA”) is part of an innovative solution to banking difficulties caused by toxic debt, which were more severe in Ireland than in the UK. Rather than simply bail out the banks, the Irish government set up NAMA to acquire loans from participating banks and building societies at a substantial discount. NAMA’s brief is to manage these loans to achieve the best possible return for the tax payer over a 7 to 10 year time frame. This will mean liquidating some loans and allowing
others to be repaid. Loans have been bought for the value of the underlying assets, rather than the amount outstanding: nevertheless, borrowers will continue to owe the full amount borrowed. If the security provided is compromised or non-existent, NAMA may pursue the professionals involved.
This is not solely an Irish problem. A substantial proportion of the toxic loans were secured against landmark and high value property in the UK and there are strong indications that UK solicitors and valuers could be in the firing line where the security is not what it should be. There is a risk that because the borrowers were a consortium rather than individuals, usually a mix of developers and investors, auditors and accountants may also be drawn in if there are issues with borrowers' ability to repay. Given the international nature of the transactions, some of these auditors and accountants may be British rather than Irish.
FSA and FRC publish audit work discussion paper
At the end of last month the FSA and the Financial Reporting Council (FRC) issued a discussion paper entitled “Enhancing the auditor's contribution to prudential regulation”.
The paper:
• Questions aspects of the quality of audit work relevant to prudential regulation - in particular, whether the auditor has always been sufficiently sceptical and has paid sufficient attention to indicators of management bias when examining key areas of financial accounting and disclosure which depend critically on management judgment;
• Outlines the FSA's concerns about auditors' work on client assets and how auditors fulfill their legal obligation to report to the FSA; • Explores a variety of ways in which changes are being made and further changes could be made by the FSA, the FRC and auditors to increase the effectiveness with which auditors undertake their work; and
• Examines the regulatory environment in which auditors operate more widely and suggests measures to enhance how auditors contribute to prudential supervision.
Audit Inspection Unit's Annual Report Published
On 21 July 2010 the Professional Oversight Board, part of the FRC, published the Audit Inspection Unit’s (AIU) Annual Report for 2009/10. The report provides an overview of the activities and findings of AIU and is available on the website at http://www.frc.org.uk/pob/ audit/reports.cfm.
The report emphasises that despite the quality of firms’ policies and procedures, the number of audits assessed by the AIU as requiring significant improvements remains too high. The findings again suggest that firms are not always applying their procedures consistently on all aspects of individual audits or applying sufficient professional scepticism in relation to key audit judgments. The report also found some cases where partners signed audit reports before the audit was complete and, in one instance, an auditor tried to alter an internal file after the AIU requested it. The report also found auditors had changed their internal materiality thresholds, reducing their workload, and had not applied enough scepticism to internal asset valuations.
Paul George, director of the Professional Oversight Board which carried out the inspections, said auditors needed to change their behaviour, and show m ore scepticism when inspecting management judgments.
Simon Mason [email protected] DDI: 020 7280 8806 Alex Rozycki [email protected] DDI: 020 7280 8819 Dan Ward [email protected] DDI: 020 7280 8936 Harriet Quiney [email protected] DDI: 020 7280 8872 Jonathan Hyde [email protected] DDI: 020 7280 8927 Helen Matson [email protected] DDI: 020 7280 8870
Professional advice should always be sought where you require assistance in specific areas of law. No responsibility can be accepted for any actions based on this bulletin. © Fishburns solicitors 6 0 F e n c h u r c h S t r e e t L o n d o n E C 3 M 4 A D Te l 0 2 0 7 2 8 0 8 8 8 8 F a x 0 2 0 7 2 8 0 8 8 9 9 D X 5 8 4 L o n d o n a n d 5 G e o r g e ’ s D o c k I F S C D u b l i n 1 I r e l a n d Te l + 3 5 3 ( 0 1 ) 7 9 0 9 4 0 0 F a x + 3 5 3 ( 0 1 ) 7 9 0 9 4 0 1 w w w. f i s h b u r n s l a w. c o m
