EC issues recommendation on limiting auditor liability

Internal Auditor, August, 2008 by T. Mccollum

A EUROPEAN COMMISSION (EC) recommendation will allow individual European Union (EU) member states to determine their own method to limit civil liability for audit firms arising from a breach of professional duties. The guidance is in response to increased litigation in the audit sector in Europe and is intended to protect European capital markets by ensuring that audit firms are able to audit EU-listed companies.

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"Unlimited liability combined with insufficient insurance cover is no longer tenable," says EU Internal Market and Services Commissioner Charlie McCreevy. "The current conditions are not only preventing the entry of new players in the international audit market, but are also threatening existing firms."

The EC recommendation, which was mandated by the 2006 Directive on Statutory Audit, introduces principles that EU member states should follow to ensure their limitation method is fair to external auditors, audit clients, investors, and other stakeholders. Limitations should not apply in the case of intentional misconduct by the audit firm. They should also cover third parties and give damaged parties the right to fair compensation.

The EC recommendation also suggests three methods that member states could use to limit liability for auditors:

* Establish a maximum financial amount or a formula for calculating such an amount.

* Establish a set of principles in which a statutory auditor or audit firm is not liable beyond its actual contribution to the loss suffered by a claimant.

* Include a provision allowing any company and its external auditor to agree to a specified amount of limitation of liability.

The EC advises member states to take into account the impact that the method they choose may have on financial markets, investors, and audit market conditions. They also should consider the impact that the method may have on audit quality, insurability of risks, and the companies to be audited. The full recommendation is available from the Internal Market section of the European Commission's Web site, http://ec.europa.eu.