[Federal Register: May 10, 2005 (Volume 70, Number 89)]
[Notices]
[Page 24576-24581]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr10my05-83]
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FEDERAL FINANCIAL INSTITUTIONS EXAMINATION COUNCIL
Interagency Advisory on the Unsafe and Unsound Use of Limitation
of Liability Provisions and Certain Alternative Dispute Resolution
Provisions in External Audit Engagement Letters
AGENCY: Federal Financial Institutions Examination Council.
ACTION: Proposed interagency advisory; request for comment.
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SUMMARY: The Federal Financial Institutions Examination Council
(FFIEC), on behalf of the Office of Thrift Supervision (OTS), Treasury;
the Board of Governors of the Federal Reserve System (Board); the
Federal Deposit Insurance Corporation (FDIC); the National Credit Union
Administration (NCUA); and the Office of the Comptroller of the
Currency (OCC), Treasury (collectively, the Agencies), is seeking
public comment on a proposed Interagency Advisory on the Unsafe and
Unsound Use of Limitation of Liability Provisions and Certain
Alternative Dispute Resolution Provisions in External Audit Engagement
Letters. The proposal advises financial institutions' boards of
directors, audit committees, and management that they should ensure
that they do not enter any agreement that contains external auditor
limitation of liability provisions with respect to financial statement
audits.
DATES: Comments must be received on or before June 9, 2005.
ADDRESSES: Comments should be directed to: FFIEC, Program Coordinator,
3501Fairfax Drive, Room 3086, Arlington, VA 22226; by e-mail to
FFIEC-Comments@fdic.gov; or by fax to (703) 516-5487. Comments will be
available for public inspection during regular business hours at the
above address. Appointments to inspect comments are encouraged and can
be arranged by calling the FFIEC at (703) 516-5588.
FOR FURTHER INFORMATION CONTACT:
OTS: Jeffrey J. Geer, Chief Accountant, at
jeffrey.geer@ots.treas.gov or (202) 906-6363; or Patricia
[[Page 24577]]
Hildebrand, Senior Policy Accountant, at
patricia.hildebrand@ots.treas.gov or (202) 906-7048.
Board: Terrill Garrison, Supervisory Financial Analyst, at
terrill.garrison@frb.gov or (202) 452-2712.
FDIC: Harrison E. Greene, Jr., Senior Policy Analyst (Bank
Accounting), Division of Supervision and Consumer Protection, at
hgreene@fdic.gov or (202) 898-8905; or Michelle Borzillo, Counsel,
Supervision and Legislation Section, Legal Division, at
mborzillo@fdic.gov or (202) 898-7400.
NCUA: Karen Kelbly, Chief Accountant, at kelblyk@ncua.gov or (703)
518-6389.
OCC: Brent Kukla, Accounting Fellow, at brent.kukla@occ.treas.gov
or (202) 874-4978.
SUPPLEMENTARY INFORMATION:
I. Background
The Agencies have observed an increase in the types and frequency
of provisions in certain financial institutions' external audit
engagement letters that limit the auditors' liability. While these
provisions do not appear in a majority of financial institution
engagement letters, the provisions are becoming more prevalent. The
Agencies believe such provisions may weaken an external auditor's
objectivity, impartiality, and performance; therefore, inclusion of
these provisions in financial institution engagement letters raises
safety and soundness concerns.
While these provisions take many forms, they can be generally
categorized as an agreement by a financial institution that is a client
of an external auditor to:
Indemnify the external auditor against claims made by
third parties;
Hold harmless or release the external auditor from
liability for claims or potential claims that might be asserted by the
client financial institution; or
Limit the remedies available to the client financial
institution.
Collectively, these and similar types of provisions are referred to in
the proposed advisory as limitation of liability provisions.
II. Comments
The FFIEC has approved the publication of the proposed advisory on
behalf of the Agencies to seek public comment to fully understand the
effect of the proposed advisory on the inappropriate use of limitation
of liability provisions on external auditor engagements. While public
comments are welcome on all aspects of this advisory, the Agencies are
specifically seeking comments on the following questions. Please
provide information that supports your position.
1. The advisory, as written, indicates that limitation of liability
provisions are inappropriate for all financial institution external
audits.
a. Is the scope appropriate? If not, to which financial
institutions should the advisory apply and why?
b. Should the advisory apply to financial institution audits that
are not required by law, regulation, or order?
2. What effects would the issuance of this advisory have on
financial institutions' ability to negotiate the terms of audit
engagements?
3. Would the advisory on limitation of liability provisions result
in an increase in external audit fees?
a. If yes, would the increase be significant?
b. Would it discourage financial institutions that voluntarily
obtain audits from continuing to be audited?
c. Would it result in fewer audit firms being willing to provide
external audit services to financial institutions?
4. The advisory describes three general categories of limitation of
liability provisions.
a. Is the description complete and accurate?
b. Is there any aspect of the advisory or terminology that needs
clarification?
5. Appendix A of the advisory contains examples of limitation of
liability provisions.
a. Do the examples clearly and sufficiently illustrate the types of
provisions that are inappropriate?
b. Are there other inappropriate limitation of liability provisions
that should be included in the advisory? If so, please provide
examples.
6. Is there a valid business purpose for financial institutions to
agree to any limitation of liability provision? If so, please describe
the limitation of liability provision and its business purpose.
7. The advisory strongly recommends that financial institutions
take appropriate action to nullify limitation of liability provisions
in 2005 audit engagement letters that have already been accepted. Is
this recommendation appropriate? If not, please explain your rationale
(including burden and cost).
III. Paperwork Reduction Act
In accordance with the Paperwork Reduction Act of 1995 (44 U.S.C.
Chapter 35), the Agencies have reviewed the proposed advisory and
determined that it does not contain a collection of information
pursuant to the Act.
IV. Proposed Advisory
The text of the proposed advisory follows:
Interagency Advisory on the Unsafe and Unsound Use of Limitation of
Liability Provisions and Certain Alternative Dispute Resolution
Provisions in External Audit Engagement Letters
Purpose
This advisory, issued jointly by the Office of Thrift Supervision
(OTS), the Board of Governors of the Federal Reserve System (Board),
the Federal Deposit Insurance Corporation (FDIC), the National Credit
Union Administration (NCUA), and the Office of the Comptroller of the
Currency (OCC) (collectively, the Agencies), alerts financial
institutions' \1\ boards of directors, audit committees, management,
and external auditors to the safety and soundness implications of
provisions that limit the external auditor's liability in a financial
statement audit. While the Agencies have observed several types of
these provisions in external audit engagement letters, this advisory
applies to any agreement that a financial institution enters into with
its external auditor that limits the external auditor's liability with
respect to financial statement audits.
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\1\ As used in this document, the term financial institutions
includes banks, bank holding companies, savings associations,
savings and loan holding companies, and credit unions.
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Agreements by financial institutions to limit their external
auditors' liability or to submit to certain alternative dispute
resolution (ADR) provisions that also limit the external auditors'
liability may weaken the external auditors' objectivity, impartiality,
and performance and thus, reduce the Agencies' ability to rely on
external audits. Therefore, such agreements raise safety and soundness
concerns, and entering into such agreements is generally considered to
be an unsafe and unsound practice.
In addition, such provisions may not be consistent with the auditor
independence standards of the U.S. Securities and Exchange Commission
(SEC), the Public Company Accounting Oversight Board (PCAOB), and the
American Institute of Certified Public Accountants (AICPA).
Background
A properly conducted external audit provides an independent and
objective view of the reliability of a financial institution's
financial statements. The external auditor's objective in an audit
[[Page 24578]]
of financial statements is to form an opinion on the financial
statements taken as a whole. When planning and performing the audit,
the external auditor considers the financial institution's internal
control over financial reporting. Generally, the external auditor
communicates any identified deficiencies in internal control to
management, which enables management to take appropriate corrective
action. For these reasons, the Agencies encourage all financial
institutions to obtain external audits of their financial statements.
The Federal Financial Institutions Examination Council's (FFIEC)
Interagency Policy Statement on External Auditing Programs of Banks and
Savings Associations \2\ notes ``[a]n institution's internal and
external audit programs are critical to its safety and soundness.'' The
policy also states that an effective external auditing program ``can
improve the safety and soundness of an institution substantially and
lessen the risk the institution poses to the insurance funds
administered by'' the FDIC.
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\2\ Published in the Federal Register on September 28, 1999 (64
FR 52319-27). The NCUA, a member of the FFIEC, has not adopted the
policy statement.
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Typically, a written engagement letter is used to establish an
understanding between the external auditor and the financial
institution regarding the services to be performed in connection with
the external audit of the financial institution. The engagement letter
commonly describes the objective of the external audit, the reports to
be prepared, the responsibilities of management and the external
auditor, and other significant arrangements (e.g., fees and billing).
As with any important contract, the Agencies encourage boards of
directors, audit committees, and management to closely review all of
the provisions in the external audit engagement letter before agreeing
to sign. To assure that those charged with engaging the external
auditor make a fully informed decision, any agreement such as an
engagement letter that affects the financial institution's legal rights
should be carefully reviewed by the financial institution's legal
counsel.
While the Agencies have not observed provisions that limit an
external auditor's liability in the majority of external audit
engagement letters reviewed, the Agencies have observed a significant
increase in the types and frequency of these provisions. These
provisions take many forms,\3\ but they can be generally categorized as
an agreement by a financial institution that is a client of an external
auditor to:
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\3\ Examples of auditor limitation of liability provisions are
illustrated in Appendix A.
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Indemnify the external auditor against claims made by
third parties;
Hold harmless or release the external auditor from
liability for claims or potential claims that might be asserted by the
client financial institution; or
Limit the remedies available to the client financial
institution.
Collectively, these and similar types of provisions will be referred to
in this advisory as ``limitation of liability provisions.''
Financial institutions'' boards of directors, audit committees, and
management should also be aware that certain financial institution
insurance policies (such as error and omission policies and director
and officer liability policies) may not cover the financial
institutions' losses arising from claims that are precluded by the
limitation of liability provisions.
Limitation of Liability Provisions
Many financial institutions are required to have their financial
statements audited while others voluntarily choose to undergo such
audits. For example, banks, savings associations, and credit unions
with $500 million or more in total assets are required to have annual
independent audits.\4\ Certain savings associations (for example, those
with a CAMELS rating of 3, 4, or 5) and savings and loan holding
companies are also required by OTS regulations to have annual
independent audits.\5\ Furthermore, financial institutions that are
public companies \6\ must have annual independent audits. The Agencies
rely on the results of external audits as part of their assessment of
the safety and soundness of a financial institution's operations.
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\4\ For banks and savings associations, see Section 36 of the
Federal Deposit Insurance Act (FDI Act) (12 U.S.C. 1831m) and Part
363 of the FDIC's regulations (12 CFR part 363). For credit unions,
see Section 202(a)(6) of the Federal Credit Union Act (12 U.S.C.
1782(a)(6)) and Part 715 of the NCUA's regulations (12 CFR part
715).
\5\ See OTS regulation at 12 CFR 562.4.
\6\ Public companies are companies subject to the reporting
requirements of the Securities Exchange Act of 1934.
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In order for an external audit to be effective, the external
auditors must be independent in both fact and appearance, and they must
perform all necessary procedures to comply with generally accepted
auditing standards established by the AICPA and, if applicable, the
standards of the PCAOB. When a financial institution executes an
agreement that limits the external auditor's liability, the external
auditor's objectivity, impartiality, and performance may be weakened or
compromised and the usefulness of the external audit for safety and
soundness purposes may be diminished.
Since limitation of liability provisions can impair the external
auditor's independence and may adversely affect the external auditor's
performance, they present safety and soundness concerns for all
financial institution external audits. By their very nature, these
provisions can remove or greatly weaken an external auditor's objective
and unbiased consideration of problems encountered in the external
audit engagement and induce the external auditor to depart from the
standards of objectivity and impartiality required in the performance
of a financial statement audit. The existence of such provisions in an
external audit engagement letter may lead to the use of less extensive
or less thorough procedures than would otherwise be followed, thereby
reducing the benefits otherwise expected to be derived from the
external audit. Accordingly, financial institutions should not enter
into external audit arrangements that include any limitation of
liability provisions. This applies regardless of the size of the
financial institution, whether the financial institution is public or
not, and whether the external audit is required or voluntary.
Auditor Independence
Currently, auditor independence standard-setters include the AICPA,
the SEC, and the PCAOB. Depending upon the audit client, an external
auditor is subject to the independence standards of one or more of
these standard-setters. For all credit unions under NCUA's regulations,
and for other non-public financial institutions that are not required
to have annual independent audits pursuant to Part 363 of the FDIC's
regulations or pursuant to OTS's regulations, the Agencies' rules
require only that an external auditor meet the AICPA independence
standards; they do not require the financial institution's external
auditor to comply with the independence standards of the SEC and the
PCAOB.
In contrast, for financial institutions subject to the audit
requirements in Part 363 of the FDIC's regulations or subject to OTS's
regulations, the external auditor should be in compliance with the
AICPA's Code of Professional Conduct and meet the independence
requirements and interpretations of the SEC and its staff.\7\ In this
regard, in a
[[Page 24579]]
December 13, 2004, Frequently Asked Question (FAQ) on the application
of the SEC's auditor independence rules, the SEC reiterated its long-
standing position that when an accountant and his or her client enter
into an agreement which seeks to provide the accountant immunity from
liability for his or her own negligent acts, the accountant is not
independent. The FAQ also states that including in engagement letters a
clause that would release, indemnify, or hold the auditor harmless from
any liability and costs resulting from knowing misrepresentations by
management would impair the auditor's independence.\8\ The SEC's FAQ is
consistent with Section 602.02.f.i. (Indemnification by Client) of the
SEC's Codification of Financial Reporting Policies. (Section
602.02.f.i. and the FAQ are included in Appendix B.)
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\7\ See FDIC Regulation 12 CFR Part 363, Appendix A--Guidelines
and Interpretations; Guideline 14, Role of the Independent Public
Accountant--Independence; and OTS Regulation 12 CFR 562.4(d)(3)(i),
Qualifications for independent public accountant.
\8\ AICPA Ethics Ruling 94 (ET Sec. 191.188-189) currently
concludes that indemnification for ``knowing misrepresentations by
management'' does not impair independence. At this writing, the
AICPA's Professional Ethics Executive Committee has formed a task
force that is studying the use of indemnification clauses in
engagement letters and how such clauses may affect an auditor's
independence.
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Based on this SEC guidance and the Agencies' existing regulations,
limitation of liability provisions are already inappropriate in auditor
engagement letters entered into by:
Public financial institutions that file reports with the
SEC or with the Agencies;
Financial institutions subject to Part 363; and
Certain other financial institutions that OTS regulations
at 12 CFR 562.4 require to have annual independent audits.
In addition, many of these limitation of liability provisions may
violate the AICPA independence standards. Because limitation of
liability provisions may impair an auditor's independence and may
adversely affect the external auditor's objectivity, impartiality, and
performance, the provisions present safety and soundness concerns for
all financial institution external audits.
Alternative Dispute Resolution Agreements and Jury Trial Waivers
The Agencies have also observed that some financial institutions
are agreeing in their external audit engagement letters to submit
disputes over external auditor services to mandatory and binding
alternative dispute resolution, binding arbitration, or some other
binding non-judicial dispute resolution process (collectively referred
to as mandatory ADR) or to waive the right to a jury trial. By agreeing
in advance to submit disputes to mandatory ADR, the financial
institution is effectively agreeing to waive the right to full
discovery, limit appellate review, and limit or waive other rights and
protections available in ordinary litigation proceedings. While ADR may
expedite case resolution and reduce costs, financial institutions
should consider the value of the rights being waived. Similarly, by
waiving a jury trial, the financial institution may effectively limit
the amount it might receive in any settlement of its case. The loss of
these legal protections can reduce the value of the financial
institution's claim in an audit dispute.
The Agencies recognize that ADR procedures and jury trial waivers
may be efficient and cost-effective tools for resolving disputes in
some cases. However, financial institutions should take care to
understand the ramifications of agreeing to submit audit disputes to
mandatory ADR or to waive a jury trial before an audit dispute arises.
In particular, pre-dispute mandatory ADR agreements in external
audit engagement letters present safety and soundness concerns when
they incorporate additional limitations of liability, or when mandatory
ADR agreements operate under rules of procedure that may limit auditor
liability. Examples of such limitations on liability include
provisions:
Capping the amount of actual damages that may be claimed;
Prohibiting claims for punitive damages or other remedies;
or
Shortening the time in which the financial institution may
file a claim.
Thus, financial institutions should not enter into pre-dispute
mandatory ADR arrangements that incorporate limitation of liability
provisions, whether the limitations on liability form part of an audit
engagement letter or are set out separately.
The Agencies encourage all financial institutions to review each
proposed external audit engagement letter presented by an audit firm
and understand the limitations on the ability to recover effectively
from an audit firm in light of any mandatory ADR agreement or jury
trial waiver. Financial institutions should also review the rules of
procedure referenced in the ADR agreement to ensure that the potential
consequences of such procedures are acceptable to the institution. In
addition, financial institutions should recognize that ADR agreements
may themselves contain limitation of liability provisions as described
in this advisory.
Conclusion
Financial institutions' boards of directors, audit committees, and
management should ensure that they do not enter any agreement that
contains external auditor limitation of liability provisions with
respect to financial statement audits. In addition, financial
institutions should document their business rationale for agreeing to
any other provisions that alter their legal rights.
The inclusion of limitation of liability provisions in external
audit engagement letters and other agreements that are inconsistent
with this advisory will generally be considered an unsafe and unsound
practice. The Agencies may take appropriate supervisory action if such
provisions are included in external audit engagement letters or other
agreements related to financial statement audits that are executed
(accepted or agreed to by the financial institution) after the date of
this advisory. Furthermore, if boards of directors, audit committees,
or management have already accepted an external audit engagement letter
or related agreement for a fiscal 2005 or subsequent financial
statement audit (i.e., fiscal years ending on or after January 1,
2005), the Agencies strongly recommend that boards of directors, audit
committees, and management consult with legal counsel and the external
auditor and take appropriate action to have any limitation of liability
provision nullified.
Financial institutions' boards of directors, audit committees, and
management should also check with their insurers to determine the
effect, if any, on their ability to recover losses as a result of the
external auditors' actions that were not recovered because of the
limitation of liability provisions.
As indicated in the Interagency Policy Statement on External
Auditing Programs of Banks and Savings Associations, the Agencies'
examiners will consider the policies, processes, and personnel
surrounding a financial institution's external auditing program in
determining whether (1) the engagement letter covering external
auditing activities is adequate and does not raise any safety and
soundness concerns and (2) the external auditor maintains appropriate
independence regarding relationships with the financial institution
under relevant professional standards.
[[Page 24580]]
Appendix A
Examples of Limitation of Liability Provisions
Presented below are some of the types of limitation of liability
provisions (with an illustrative example of each type) that the
Agencies observed in financial institutions' external audit
engagement letters. The inclusion in external audit engagement
letters or agreements related to the financial statement audit of
any of the illustrative provisions (which do not represent an all-
inclusive list) or any other language that would produce similar
effects is generally considered an unsafe and unsound practice.
1. ``Release From Liability for Auditor Negligence'' Provision
In this type of provision, the financial institution agrees not
to hold the audit firm liable for any damages, except to the extent
determined to have resulted from the willful misconduct or
fraudulent behavior by the audit firm.
Example: In no event shall [the audit firm] be liable to the
Financial Institution, whether a claim be in tort, contract or
otherwise, for any consequential, indirect, lost profit, or similar
damages relating to [the audit firm's] services provided under this
engagement letter, except to the extent finally determined to have
resulted from the willful misconduct or fraudulent behavior of [the
audit firm] relating to such services.
2. ``No Damages'' Provision
In this type of provision, the financial institution agrees that
in no event will the external audit firm's liability include
responsibility for any claimed incidental, consequential, punitive,
or exemplary damages.
Example: In no event will [the audit firm's] liability under the
terms of this Agreement include responsibility for any claimed
incidental, consequential, or exemplary damages.
3. ``Limitation of Period To File Claim'' Provision
In this type of provision, the financial institution agrees that
no claim will be asserted after a fixed period of time that is
shorter than the applicable statute of limitations, effectively
agreeing to limit the financial institution's rights in filing a
claim.
Example: It is agreed by the Financial Institution and [the
audit firm] or any successors in interest that no claim arising out
of services rendered pursuant to this agreement by, or on behalf of,
the Financial Institution shall be asserted more than two years
after the date of the last audit report issued by [the audit firm].
4. ``Losses Occurring During Periods Audited'' Provision
In this type of provision, the financial institution agrees that
the external audit firm's liability will be limited to any losses
occurring during periods covered by the external audit, and will not
include any losses occurring in later periods for which the external
audit firm is not engaged. This provision may not only preclude the
collection of consequential damages for harm in later years, but
also may preclude any recovery at all. It appears that the external
audit firm would have no liability until the external audit report
is actually delivered and any liability thereafter might be limited
to the period covered by the external audit. In other words, it
might limit the external audit firm's liability to the period before
there is any liability. Read more broadly, the external audit firm
might be liable for losses that arise in subsequent years only if
the firm continues to be engaged to audit the client's financial
statements in those years.
Example: In the event the Financial Institution is dissatisfied
with [the audit firm's] services, it is understood that [the audit
firm's] liability, if any, arising from this engagement will be
limited to any losses occurring during the periods covered by [the
audit firm's] audit, and shall not include any losses occurring in
later periods for which [the audit firm] is not engaged as auditors.
5. ``No Assignment or Transfer'' Provision
In this type of provision, the financial institution agrees that
it will not assign or transfer any claim against the external audit
firm to another party. This provision could limit the ability of
another party to pursue a claim against the external auditor in a
sale or merger of the financial institution, in a sale of certain
assets or line of business of the financial institution, or in a
supervisory merger or receivership of the financial institution.
This provision may also prevent the financial institution from
subrogating a claim against its external auditor to the financial
institution's insurer under its directors' and officers' liability
or other insurance coverage.
Example: The Financial Institution agrees that it will not,
directly or indirectly, agree to assign or transfer any claim
against [the audit firm] arising out of this engagement to anyone.
6. ``Knowing Misrepresentations by Management'' Provision
In this type of provision, the financial institution releases
and indemnifies the external audit firm from any claims,
liabilities, and costs attributable to any knowing misrepresentation
by management.
Example: Because of the importance of oral and written
management representations to an effective audit, the Financial
Institution releases and indemnifies [the audit firm] and its
personnel from any and all claims, liabilities, costs, and expenses
attributable to any knowing misrepresentation by management.
7. ``Indemnification for Management Negligence'' Provision
In this type of provision, the financial institution agrees to
protect the external auditor from third party claims arising from
the external audit firm's failure to discover negligent conduct by
management. It would also reinforce the defense of contributory
negligence in cases in which the financial institution brings an
action against its external auditor. In either case, the contractual
defense would insulate the external audit firm from claims for
damages even if the reason the external auditor failed to discover
the negligent conduct was a failure to conduct the external audit in
accordance with generally accepted audited standards or other
applicable professional standards.
Example: The Financial Institution shall indemnify, hold
harmless and defend [the audit firm] and its authorized agents,
partners and employees from and against any and all claims, damages,
demands, actions, costs and charges arising out of, or by reason of,
the Financial Institution's negligent acts or failure to act
hereunder.
8. ``Damages Not To Exceed Fees Paid'' Provision
In this type of provision, the financial institution agrees to
limit the external auditor's liability to the amount of audit fees
the financial institution paid the external auditor, regardless of
the extent of damages. This may result in a substantial
unrecoverable loss or cost to the financial institution.
Example: [The audit firm] shall not be liable for any claim for
damages arising out of or in connection with any services provided
herein to the Financial Institution in an amount greater than the
amount of fees actually paid to [the audit firm] with respect to the
services directly relating to and forming the basis of such claim.
Note: The Agencies also observed a similar provision that
limited damages to a predetermined amount not related to fees paid.
Appendix B
SEC's Codification of Financial Reporting Policies, Section 602.02.f.i
and the SEC's December 13, 2004, FAQ on Auditor Independence
Section 602.02.f.i--Indemnification by Client, 3 Fed. Sec. L. (CCH)
] 38,335, at 38,603-17 (2003):
Inquiry was made as to whether an accountant who certifies
financial statements included in a registration statement or annual
report filed with the Commission under the Securities Act or the
Exchange Act would be considered independent if he had entered into
an indemnity agreement with the registrant. In the particular
illustration cited, the board of directors of the registrant
formally approved the filing of a registration statement with the
Commission and agreed to indemnify and save harmless each and every
accountant who certified any part of such statement, ``from any and
all losses, claims, damages or liabilities arising out of such act
or acts to which they or any of them may become subject under the
Securities Act, as amended, or at `common law,' other than for their
willful misstatements or omissions.''
When an accountant and his client, directly or through an
affiliate, have entered into an agreement of indemnity which seeks
to assure to the accountant immunity from liability for his own
negligent acts, whether of omission or commission, one of the major
stimuli to objective and unbiased consideration of the problems
encountered in a particular engagement is removed or greatly
weakened. Such condition must frequently induce a departure from the
standards of objectivity and impartiality which the
[[Page 24581]]
concept of independence implies. In such difficult matters, for
example, as the determination of the scope of audit necessary,
existence of such an agreement may easily lead to the use of less
extensive or thorough procedures than would otherwise be followed.
In other cases it may result in a failure to appraise with
professional acumen the information disclosed by the examination.
Consequently, the accountant cannot be recognized as independent for
the purpose of certifying the financial statements of the
corporation. (Emphasis added.)
U.S. Securities and Exchange Commission; Office of the Chief
Accountant: Application of the Commission's Rules on Auditor
Independence Frequently Asked Questions; Other Matters--Question 4
(Issued December 13, 2004):
Q: Has there been any change in the Commission's long standing
view (Financial Reporting Policies--Section 600--602.02.f.i.
``Indemnification by Client'') that when an accountant enters into
an indemnity agreement with the registrant, his or her independence
would come into question?
A: No. When an accountant and his or her client, directly or
through an affiliate, enter into an agreement of indemnity which
seeks to provide the accountant immunity from liability for his or
her own negligent acts, whether of omission or commission, the
accountant is not independent. Further, including in engagement
letters a clause that a registrant would release, indemnify or hold
harmless from any liability and costs resulting from knowing
misrepresentations by management would also impair the firm's
independence. (Emphasis added.)
Dated: May 4, 2005.
Tamara J. Wiseman,
Executive Secretary, Federal Financial Institutions Examination
Council.
[FR Doc. 05-9298 Filed 5-9-05; 8:45 am]
BILLING CODE 6720-01-P