When accountants assess risk in their practices, the focus is often on the quality of advice provided and the potential for professional negligence.

While this is critical, an equally important (and often overlooked) risk factor is who you act for.

Different clients carry different risk profiles. In many cases, it’s not poor advice that leads to claims, but the actions of a fraudulent or unscrupulous client.

Although engagement letters, declarations and contractual protections are essential, they don’t always provide complete protection, particularly when matters escalate to insolvency.

Case study: When a client’s fraud becomes your problem

We recently observed a case involving an accounting firm engaged by a building contractor to prepare financial statements for the purpose of a tender.

The contractor supplied their internally managed accounting file to the firm. Unbeknownst to the firm, the client had manipulated their data prior to submission, including deleting outstanding debts owed to creditors and the Australian Taxation Office.

The financial statements prepared by the firm were subsequently used for the purposes of the tender, but also used to obtain business loans. Due to the true financial position of the contractor, they couldn’t repay the loans and became insolvent.

During the insolvency process, on behalf of the creditors which included financiers, liquidators reviewed the preparation of the financial statements and retrospectively questioned the accountant’s role.

In an effort to recover funds for creditors, the liquidator filed a claim against the accountant and their professional indemnity insurance policy.

In what seemed like a fairly straightforward piece of work for the accountant, quickly became a serious problem for the business. In addition to the financial impact, the matter required the attention of and input from the directors, which was a drain on the accounting firm’s resources.

Identifying red flags early

Ultimately, if a matter ends up in the hands of a liquidator, they will try to circumvent any contracts you have in place to recoup funds for creditors.

Even where a claim is ultimately unsuccessful, the process can be time-consuming, stressful and costly for professional firms.

Identifying potential warning signs early is critical. Common red flags include:

• Unrealistic time pressure
  Is the client pushing for urgent or last-minute work without a reasonable explanation?
• Limited or new relationship
  Is the client new, or have you had minimal interaction with them historically?
• How did they find you?
  Were they referred by a trusted professional, or are they actively shopping for someone willing to “get the job done”?
• Advisor turnover
  Has the client recently changed advisors, or do they have a pattern of frequently changing advisors?
• Transactional mindset
  Are they solely focused on outcomes such as lowering tax, with little interest in broader advice or compliance?

‍Protecting your accounting practice

When accepting new clients or evaluating prospective work, it’s important to carefully balance risk against reward.

In the case above, the fees generated were relatively modest, yet the exposure was significant.

To minimise risk:

• Implement and follow robust onboarding processes
  In the earlier case, the firm had previously acted for the contractor years earlier, including during a period of ATO debt. That history wasn’t revisited when the client re-engaged. Ensure prior relationships and known issues are checked as part of onboarding.
• Conduct appropriate due diligence
  Where possible, speak with the client’s previous or existing advisors. Ask how long they acted for the client and whether any issues arose.
• Use clear contracts and engagement terms
  Ensure your engagement letters and terms and conditions clearly define scope, responsibilities and liability limitations. While not foolproof, they remain a critical line of defence.

‍Final thoughts

Fraudulent or high-risk clients can expose accounting firms, even where the advice provided is sound and reasonable.

The more you know about your clients, the better, and by identifying red flags early you can better protect your firm from avoidable risk.

‍