The threat of an errors and omissions (E&O) lawsuit can be especially daunting for CPAs who work alone or with a small team.
Though staying lean and cutting expenses wherever possible is important for small businesses, and the median cost of E&O insurance is about $400, this is a policy you probably can't afford to skip. The fact is, no matter how diligent you may be while working on a client's books, mistakes do happen.
For example, if you fail to detect irregularities in a company’s financial records, the consequences can be daunting. An E&O lawsuit can result in significant legal defense fees and even higher damages – often up to $200,000, as reported by Philadelphia Insurance Companies, one of our carrier partners. You may also be called in front of NASBA and risk having your CPA license revoked. The financial strain could be enough to put you or your small firm out of business.
Protect your CPA firm from potential E&O litigation by following these three best practices:
1. Make sure you have enough coverage. Talk to your insurance agent to ensure that your policies adequately address the level of risk your business faces. I recommend that my clients purchase an E&O policy with a minimum of $1 million in liability protection. This is generally enough to cover legal fees and damages if you find yourself on the receiving end of an E&O lawsuit.
You should also ask your agent about riders to add for additional coverage. For example, regulatory defense coverage can be added as a rider to your E&O policy and can help cover fines and penalties in the event an E&O lawsuit is filed against your firm and you are called in front of a professional board.
Another rider to consider is cyber liability insurance. Industry regulations require that you keep a record of any company audits you perform for seven years. If you are like many accountants, there’s a good chance that you store those records digitally, which means you are vulnerable to a data hack.
Yet, according to a recent poll, three-quarters of small business owners said they don't have cyber liability insurance, which can pay for the legal costs associated with data breach lawsuits. Accountants can typically purchase cyber coverage either as a standalone policy or as an add-on to a business owner's policy (BOP).
2. Have a lawyer check your coverage and contracts. Hire a lawyer trained in accounting and financial law to review the E&O policy you plan on purchasing, as well as your client agreements. A well-written client agreement can protect your business from potential litigation, which is why you should never operate on handshake deals. Always rely on a contract reviewed by your lawyer to define the parameters of your work engagements.
A lawyer can tell you if a client agreement adequately protects you and avoids putting too much liability on your business if something goes wrong. You should include limited liability clauses in every client contract, and if you work with a client’s internal accounting team, make sure they share in the liability.
3. Stay up to date on GAAP. GAAP requirements are the foundation of your practice and every CPA knows the essentials. But GAAP standards can change from year to year. It’s important to stay up to date on those shifts to ensure compliance and avoid a costly E&O lawsuit.
Keep up with changes by brushing up on GAAP education components along with the state-required continued professional education (CPE) classes you take to maintain your active CPA status.
The need to stay lean when running a small operation is understandable, but if you're not properly insured, you risk losing your livelihood over a one-time error. E&O insurance is key to protecting your business from unnecessary financial risk.