Saturday, February 16, 2008

Subprime Liability, Accountants (Part 1)

Subprime Liability, Accountants (Part 1)

The subprime crisis is generating an increasing number of lawsuits, many of which allege huge liability exposure. However, it is difficult to estimate true defendant liability exposure. To do so you have to understand the involvement that the defendant had in the transaction, and the legal claims that are being made, including the degree of culpable (wrongful) conduct that must be established for liability to apply, the burden of proof, the evidence both in support of and contrary to the allegations, and whether or not the plaintiff has standing to even bring his or her claims.

The following are two excellent papers by NERA Economic Consulting discussing the elements of a subprime transaction and potential parties and issues relating to liability exposure.

http://www.nera.com/image/SEC_SubprimeSeries_Part1_June2007_FINAL.pdf

http://www.nera.com/image/SEC_SubprimeSeries_Part_II_FINAL_2-08.pdf

Although accountants definitely will be sued for alleged wrongful conduct relating to the subprime crisis, such as with respect to auditing services, I tend to believe that accountant liability will be difficult to show unless, perhaps, the accountant was in some manner in privity of contract with or had a direct, as opposed to third party, relationship with the plaintiff claiming the loss. The typical third party claim that might be made against an accountant would be for securities liability. However, most securities causes of action require the plaintiff to show intentional or reckless wrongdoing (even on a claim of recklessness the degree of culpability must approach at least gross recklessness or conduct so reckless that it approaches intentional wrongdoing).

On the other hand, if a plaintiff can state a claim against the accountant arising from a direct relationship or a relationship where the plaintiff and the accountant were in privity of contract, and if as a result of that relationship the plaintiff can make a claim of negligence against the accountant, then the plaintiff will stand in a less difficult position. However, even in that circumstance, the plaintiff would have to show that the accountant was negligence (i.e., did not follow the standard in the industry). The accountant also would still have defenses available, such as wrongful conduct by other persons or entities, or perhaps even by the plaintiff.

In any event, in light of the complicated and sometimes ambiguous nature of a subprime transaction and the related accounting rules (including, for example, how and when to calculate and record the loan loss reserve , or a loss in value of the asset), it is perhaps speculative to evaluate whether it would be more difficult or less difficult for a plaintiff to prove that an accountant’s conduct was below the standard in the industry. How is an accountant’s conduct below the standard in the industry when deciding loan loss reserve or loss in asset value is to a certain extent an art that is by nature imprecise and at least partially based on estimates?

Your thoughts?

Dave Tate, CPA, Esq.
http://davidtate.us
tateatty@yahoo.com

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1 comment:

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