Why accountants’ letters are risky business

Speaker 1:
Welcome to CPA Australia's With Interest Podcast, bringing you this week's need to know information for businesses and accounting professionals.

Dr Jane Rennie:
Welcome to CPA Australia's With Interest Podcast. I'm Dr. Jane Rennie, General Manager, Media and Content at CPA Australia. It's Wednesday, the 20th of July. This week, we are discussing the rise in accountants' letters and why they're causing problems for businesses and accountants alike. By way of background, accountants' letters, also known as capacity to repay certificates, are used by some lenders to assess a borrower's ability to service a loan. They require an accountant to confirm that they've assessed the client's financials and to sign off on the borrower's ability to make repayments.

Dr Jane Rennie:
Requests for accountants' letters have surged during COVID 19 and have been taking new and novel forms. For instance, I recently heard about a car loan application which requested an accountants' letter attesting how many kilometres the applicant would drive it each year. We're talking real crystal ball gazing stuff here. It's not only a problem for accountants who are being put on the spot with these requests, but it's also a problem for businesses who are being told they need one of these before they can get a loan.

Dr Jane Rennie:
Joining me now to discuss this issue is CPA Australia's Head of Public Practise and Small and Medium Enterprises, Keddie Waller. Welcome, Keddie.

Keddie Waller:
Thanks, Jane.

Dr Jane Rennie:
Keddie, accountants' letters have been a thorn in the side of the accounting profession for a long time, but during the pandemic the problem got worse. Can you paint a bit of a picture for us about what started to happen during this period?

Keddie Waller:
Yeah, absolutely. Look, these letters and these types of requests are not new. They've been around for well over 10 years. But what we have seen is the impact of COVID with the change in economic environment has really been a catalyst to see an increase in these requests and other associated requests. And to your point, Jane, a lot of these are asking professional accountants to really gaze into that crystal ball and try to certify something that's unknown at this point in time.

Dr Jane Rennie:
So can you give me some specific examples of the sorts of requests that our members have been receiving?

Keddie Waller:
Yeah, absolutely. So the most common one is, as you were outlining at the start, was the capacity to repay certificates. So this is really about the lender asking the professional accountant to make an assessment whether the client can afford the loan and make those repayments. And sometimes they even ask the accountant to talk about the terms and conditions of the loan, which is crazy when you think that the accountant is not actually associated with that product or the lender.

Keddie Waller:
But there's been lots of other things that have come in as well. So asking a accountant to testify that a loan for an asset, such as a car, might be used predominantly for business use. So again, that crystal ball gazing. During COVID we even saw landlords and real estate agents starting to ask for these certificates too, to assure that a client could afford the rent or lease on a property. And during COVID we saw a lot of State based Government support for COVID. We actually had State Governments looking to include a level of accountants certification around income and decline in income. And CPA Australia actually had to work really hard with those State Governments to modify those information requests so that we could avoid accountants being put on the hook to trying to, again, future guess some of these outcomes for clients to ensure they could receive that COVID support.

Dr Jane Rennie:
Not to put too fine a point on it, but banks have hundreds, if not thousands of people doing due diligence for them. Since they've got those resources and the ability to do these checks themselves, isn't this just a case of trying to put someone else on the hook for making that lending decision?

Keddie Waller:
It's exactly what these letters are asking, Jane. Essentially what the lender is doing is shifting the risk from themselves to a third party, and in this case it's the professional accountant. What they're looking for is recourse. So should a client default on a loan or miss a payment they then have a way of coming back and saying that there was an independent third party, being the accountant, who's actually said they could afford this loan or understood the terms and conditions of the product, and therefore can seek redress against that accountant.

Dr Jane Rennie:
Well, does it actually happen in practise then? Have there been cases of the banks coming after an accountant for signing off on these things?

Keddie Waller:
Yeah, there actually has. So a few years ago we actually had a CPA Australian member who was actually nearing retirement. Now they signed a capacity to repay certificate for a client and the client unfortunately had not disclosed all of the financial information to the accountant. The lender actually sought recourse against our member and it ended up being a claim for over $400,000 plus legal costs. And that essentially forced that member into an early retirement because they were unable to secure professional indebted insurance after that claim. So it's really important that accountants understand the implications of signing these letters and the risk that even if you have a long standing client, you may not have all the information at hand to understand what you're actually signing up to.

Dr Jane Rennie:
Talk about David and Goliath. You're talking a bank, and quite possibly the accountants letter has been provided by a public practitioner. Is that right? In many cases it will be a small possibly single person business providing this accountants' letter.

Keddie Waller:
That's exactly what it is, Jane. And in this case it was a sole practitioner, so I member working in public practise who had signed this letter, and it's had a significant impact on their future retirement.

Dr Jane Rennie:
And I understand there are other consequences of providing accountants' letters. Is it right they can also be a breach of the credit provisions?

Keddie Waller:
That's right. So back in 2009, the National Consumer Credit Protection Act was introduced, and that essentially regulates all consumer credit, so mortgages, leases, credit cards, et cetera. So if a loan is actually connected or predominantly for personal use, it is actually regulated under the National Consumer Credit Protection Act. Now, if a accountant signs one of these letters and it's deemed to help the client secure finance, so credit assistance is what it would be referred to under the Credit Act, it would actually then be deemed a licenced activity and an accountant would have to be a credit representative to actually sign that certificate. So exactly to your point, this can be a breach of a Federal piece of regulation if a member is not appropriately licenced to sign these certificates.

Dr Jane Rennie:
All right. So assume I do hold an Australian credit licence. If I provide one of these letters is that going to be covered under my professional indemnity insurance?

Keddie Waller:
Yeah. So if you're a credit representative then this would be deemed, like I said, credit assistance and it would normally form part of your professional indemnity insurance. In reality, if you are a mortgage broker or a credit representative you actually have additional obligations under the National Credit Act, looking at things like your responsible ending obligations. So you would be looking beyond the certificate, and hopefully looking to some of those normal things you'd be doing to do due diligence around the client to afford the loan. But as I said, it would normally be covered under their PI because they are doing this as part of their normal activities as a credit representative.

Dr Jane Rennie:
And are a majority of accountants licenced under... Do they have an Australian credit licence? Because I'm assuming that when a borrower comes to an accountant seeking one of these letters, they're not really going to have thought about those implications and whether the accountant is properly placed to provide the accountants letter.

Keddie Waller:
No, exactly. So if a person's coming to an accountant to sign this letter they're not looking to them as a credit representative. So the majority of professional accountants are not credit representatives. There are some who are actually in this space and providing these public accounting services as credit representatives, but the vast majority are not. And so when a client is sitting in front of their accountant and asking them to sign this letter it is normally in their course as public practitioner providing normal accounting services, not realising that this could actually be shifting to an area that is regulated.

Dr Jane Rennie:
Keddie, I think I'm starting to get an inkling, but could you just clarify for me and for our listeners what exactly is CPA Australia's position on providing accountants' letters?

Keddie Waller:
Yeah, absolutely. So our clear position is that CPA Australia members should not be signing these types of letters, or any associated requests. Essentially they are putting you in a place of risk and looking to shift that risk of the client defaulting back onto you and seeking recourse against you should something happen. You can absolutely support your client in the lending process by providing information you can factually verify, such as financial statements, business activity statements, completed tax returns, but we would strongly recommend that no member signs these certificates or any associated requests.

Dr Jane Rennie:
So you're not saying that they can't, there's no prohibition on doing this. You're just saying it's really, really ill advised. Is that right?

Keddie Waller:
Yeah, absolutely. We really don't want to see our members being placed in a position where they're being put at risk. As I said, we have had precedence where members have actually had claims against them in this space, where the lender has sought recourse where a client has defaulted. We're in a very challenging economic environment at the moment and things are very fluid so we don't want members to be, like I said, put on the hook. Members can absolutely support their clients through the lending process by providing other financial statements, but signing these letters and other associated requests are just too much risk to face for a practitioner.

Dr Jane Rennie:
And just to provide that perspective. You've mentioned that a bank came after an accountant for a figure of $400,000 for signing one of these letters, for providing these accountants' letters. We're not talking big bickies are we? This is not highly paid work. It might be a couple of hundred dollars or a thousand dollars to sign one these, but that's not much for the truckload of risk that you are describing here, is it?

Keddie Waller:
No, exactly right. And I know it's very challenging for a member when you're sitting in front of a client, especially if they have been a longer term client, that you're sitting there and actually saying that you cannot sign the certificate. And they'll be saying something like, "I've been advised if I don't do this the bank may not lend me the money." Which we know there's alternatives. You can provide other financial information and things to support their need for a loan. So like I said, we really don't want members to think about this in the short term. They need to think about the longer term implications, because five years down the track, if that client did default and you've had signed that in good faith at the time, there is still recourse against you at that time. So is it worth putting your practise and your other staff at risk for signing this letter for that one engagement?

Dr Jane Rennie:
And you mentioned just now how awkward it could feel for an accountant if a client comes to them requesting one of these letters. They've had this client for 10 years or even more, they don't want to damage that relationship by saying no, or for the client to then just shop around for another accountant who might be willing to provide this. So what is your advice to accountants in this situation? How can they respond tactfully?

Keddie Waller:
So if the loan is connected to personal lending, and that is quite often the case where it's a small business client, it might be finance against the personal home to support the small business, they can absolutely say that this is a regulated activity. If they're not a credit representative that they cannot sign this letter because it could be deemed to be credit assistance and therefore they recommend their client seek further information instructions from the lender or mortgage broker on other ways they can support the loan. And as I said, that would be financial statements and other information they can factually verify.

Keddie Waller:
If the client is seeking finance that is predominantly for business use it isn't under that same regulation, but again, it goes back to that risk. So I would be talking to your client about the other ways you can support them through that loan application, talking about the information you could potentially provide and see if that will actually satisfy the lender's needs. But as I said, signing that certificate transfers the risk of the client defaulting from the bank to yourself, and you need to think about the risk in the future to your practise.

Dr Jane Rennie:
And just on the other side of the equation. So a business has been asked for one of these letters. It must be pretty difficult. It's not as though they're driving the demand for these accountants' letters. What should businesses do in these circumstances, or an individual? Is there how much power? Do they actually go back to the lender to say no, I don't want to provide this letter.

Keddie Waller:
Yeah. And I know that's really challenging. As we said earlier, we're in very fluid economic times. We know there's a lot of pressures with inflation, increasing costs, and we know that some small businesses are finding it hard to secure finance. And quite often they're looking at other forms of finance that are coming through from different forms of lenders. CPA Australia is actually working with the other accounting bodies, so IPA and CA ANZ to actually engage lenders and other professional banking associations to talk about this issue and look to have this practise stopped. However, at the end of the day, we know that if the business is seeking finance they will often go through and do what they can to keep their business going.

Keddie Waller:
What I would say is seek professional advice. We know it's a tough environment for small businesses at the moment and accessing finance can be difficult, but it's important that you understand the terms and conditions of the finance you're seeking, and if that is actually going to be the right recourse for your business or the right support for your business. So your professional accountant can absolutely help you through this. They can provide you financial statements and look at cash flow and other options for you. They can help you in your loan application and understanding some of these risks. And so before you actually looking at that final finance contract really consider those options and seek professional advice before you are making that final decision.

Dr Jane Rennie:
Keddie, you touched on some of the advocacy work that CPA Australia has been doing to try and put a stop to accountants' letters. I know that sometimes this advocacy work is confidential, but I understand that you have met with a number of individual banks or written to them about this. You've got the floor now, Keddie. In no uncertain terms, what would you like to say to lenders or others who seek to put this sort of requirement into their terms and conditions?

Keddie Waller:
Yeah. Thanks, Jane. Look, my absolute clear message to lenders is that they have to stop the practise of outsourcing their lending risk to a third party, and in this case, our professional accountants. Accountants are not there to provide assessment assurance guarantees that a client will have the ability to make a repayment for their loan to be approved. The lender should be undertaking their own due diligence, as they are legally required to do, and use that instead of a fail safe around accountant certificates and other letters.

Keddie Waller:
As we said, CPA Australia is working with both CA ANZ and the IPA on this issue because it is an issue that is affecting the profession, and we are looking to stop this practise. We have actually been part of a number of things, including the banking code review in 2021, and we were really pleased to see there was a recommendation that has come through as part of that review that specifically says the code should clarify that a bank's approval of small business loan will not be dependent on a third party, such as the accountant, certifying the capacity of the small business to repay that loan. So this further strengthens our cause for this practise to be stopped and we'll be actually, like I said, pushing now that we've got this particular recommendation, to try and push for this practise to be basically prohibited.

Dr Jane Rennie:
That's all we've got time for today. Thanks very much to our guest expert, Keddie Waller. A link to CPA Australia's position on accountants' letters is available in our show notes. If you've got a question about any of the topics we've discussed today or any of CPA Australia's policy and advocacy work, please email us at [email protected]. From all of us here at CPA Australia, thanks for listening.

Speaker 1:
Thank you for listening to this week's episode of With Interest. So you don't miss an episode, please subscribe to the CPA Australia Podcast on Apple Podcasts, Spotify or Google Podcasts.