News & Updates

N.C. Supreme Court: Independent Auditor Has No Fiduciary Duty to Company October 19, 2016

In a widely watched and long-awaited decision, the North Carolina Supreme Court definitively determined that an independent auditor has no fiduciary duty to the company, overturning a 2014 Court of Appeals decision finding that such a duty existed. The court, however, was evenly divided on the issue of whether the company’s claims were barred by the defenses of in pari delicto and contributory negligence, leaving undisturbed (albeit without precedential value) the Court of Appeals’ decision that the defenses did not bar the remaining claims. Certified public accountants live to fight another day the validity of the in pari delicto defense in North Carolina.

The facts in CommScope Credit Union v. Butler & Burke, LLP, 2016 N.C. LEXIS 812 (September 23, 2016) concern a routine audit engagement. From 2001 to 2010, CommScope Credit Union retained Butler & Burke to provide annual audit services. During that same period of time, CommScope’s general manager failed to file the appropriate tax returns, a fact that was never discovered by Butler & Burke. In April 2010, the IRS notified CommScope of its filing deficiency and assessed penalties against it of $374,200.

CommScope then brought a lawsuit against Butler & Burke, alleging breach of contract, breach of fiduciary duty, negligence, and professional malpractice. Butler & Burke immediately moved to dismiss all claims against it, which was granted by the trial court. The North Carolina Court of Appeals reversed the dismissal of the lawsuit, finding that (1) the public accounting firm owed a fiduciary duty to the company that hired it to perform its audit; and (2) the defenses of in pari delicto and contributory negligence did not bar the remaining claims asserted against the accounting firm.

The North Carolina Supreme Court allowed discretionary review to address two issues: (1) whether the accounting firm owed a fiduciary duty to the company that hired it; and (2) whether the company’s claims against the accounting firm are barred by the doctrines of in pari delicto and contributory negligence. After considering arguments of counsel in addition to amicus curiae briefs filed by leading accounting firms, national and local organizations for accountants, and national and local chambers of commerce, the North Carolina Supreme Court finally issued its decision more than two years after the Court of Appeals’ decision.

The North Carolina Supreme Court held there is no fiduciary relationship between an auditor and his or her client as a matter of law. In so doing, the court recognized the significant obligations that independent auditors have to third-parties. The court, however, indicated that the specific circumstances between the company and the accounting firm may give rise to a fiduciary relationship in fact. Therefore, the court reviewed the “generally accepted auditing standards” promulgated by the American Institute of Certified Public Accountants (AICPA), and found that the accounting firm’s commitment to audit the company’s financial statements in accordance with the AICPA standards neither created a fiduciary relationship nor elevated the relationship into a fiduciary one. The court therefore upheld the dismissal of the breach of fiduciary claims against the accounting firm.

Interestingly, the North Carolina Supreme Court was unable to come to a majority consensus regarding whether the accounting firm’s defenses of in pari delicto and contributory negligence barred the company’s remaining claims as a matter of law. One of the justices, Justice Beasley, did not participate in the decision, and the remaining justices were equally divided on this issue. Accordingly, the Court of Appeals’ decision, finding that these defenses were unavailing to the accounting firm at the motion to dismiss stage, was left undisturbed, but without precedential value.

North Carolina now joins the vast majority of states that have found that an accounting firms’ employment by a company to perform an audit of its financial statements does not create a fiduciary relationship between the parties. Therefore, the accounting firm cannot be held liable for breach of any fiduciary duty when wrongdoing by the company is discovered. Unfortunately, with a current 3–3 split, it is still unsettled whether North Carolina will adopt the in pari delicto and contributory negligence defenses.

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