Accounting and the law often intersect – whether you’re a public practitioner engaging a new client, or you need to understand the legal underpinnings of a business. Here Acuity looks into legal documents every CA should be familiar with, their role, what they tell you, and issues to watch out for.

1. Engagement letter

An engagement letter details the terms of your business relationship with a client. It includes information such as the scope of services, the period of engagement, fee structure and terms, responsibility and commitments, dispute resolution, and provisions on conflicts of interest.

Jehan-Philippe Wood – partner at Clyde & Co in Perth, specialising in regulatory matters and insurance litigation – says engagement letters must clearly state the scope of work.

“We’ve worked with accountants on disputes that have arisen from a perceived lack of clarity around the scope of work in an engagement letter, or around potential conflicts of interest,” he says. “This can give rise to difficulties where, for example, the accountant is providing services to multiple clients who have disagreements or competing interests.

“Take, for example, clients who are shareholders in the same company, where the accountant undertakes compliance work for each of them and is also asked to advise on the winding up of the company. There’s a potential for conflicts of interest to arise, which can escalate into legal proceedings if not properly resolved.

“It’s essential that engagement letters clarify the scope of work and who you are working for. If you are working for a client who ends up engaging you to advise on multiple transactions, think about having separate engagement letters for each transaction – and understand who the client is and what you have agreed to do for them.”

2. Deed of debt forgiveness

A deed of debt forgiveness confirms in writing that a debtor is no longer required to pay a debt and, if they have more than one debt, the document stipulates which one is forgiven.

It is generally used by businesses who have made a loan to an individual and no longer require it to be paid back due to financial hardship or health issues.

Igor Drinkovic, a partner at Auckland’s MinterEllisonRuddWatts, specialises in public mergers and acquisitions, and securities law, says that while these documents are generally straightforward, accountants should look for any conditions placed on the debt forgiveness and whether they have been fulfilled.

“Beyond that, because it is a deed, you’d need to make sure it has been executed properly, including whether it needs to be signed,” he says.

3. Will

A will is a legal document that sets out how an individual’s estate will be distributed after they die, and accountants are often appointed to advise on estate planning or to act as an executor of a client’s will.

Andrew Horne, partner and senior commercial litigation and dispute resolution lawyer at MinterEllisonRuddWatts, says wills may be more complex for accountants when dealing with family companies.

“The first question is obviously what happens on the death of the person who is the sole shareholder and director of the company,” he says. “Or, if they are a director and shareholder along with their husband or wife, problems can emerge if they don’t have appropriate arrangements in place for when they die.

“Getting probate of a will takes time, gaining access to bank accounts can be a drawn-out process, and the right to manage a company doesn’t automatically pass under a will to someone else until probate has been granted.”

4. Power of attorney

This document gives someone the authority to deal with a person’s financial or legal affairs on their behalf. Accountants are often appointed power of attorney, and Wood says it’s important to carefully check the wording of the document.

“If, for example, the wording requires or allows the accountant to make payments on account, then that implies that invoices, receipts and other documents need to be gathered before payments are made,” he says. “There have been cases in which accountants have been found to be in breach of their duties to the client because they haven’t followed those instructions.”

Power of attorney arrangements may also involve accountants receiving money to make payments on behalf of their client, says Wood.

“Typically, that leads to fiduciary duties being imposed on accountants, whereas normally their relationship with a client is based on contract and they have duties of care,” he says. “Those are the types of obligations which give rise to claims for damages when things go wrong, but fiduciary duties are a different animal. They sometimes impose much stricter obligations on accountants and can lead to exposure to claims for compensation and an account of profits.”

5. Shareholder agreements

These documents are a written contract between the shareholders of a company that outlines shareholder rights, obligations, and liabilities that may fall outside the governance of the company constitution. Along with a company’s constitution, the shareholder agreement serves as the foundation for its corporate governance.

“There are three main issues that accountants should bear in mind with these documents,” says Wood. “The first one is about who is going to control management. Who’s got control of the company? How do voting powers work? How is the company going to be managed and how are disagreements between shareholders going to be resolved?”

Wood says the second issue pertains to shareholders’ benefits from the company’s operations, for example, payment of cash and dividends. “How are they to be distributed among the shareholders? It’s important to scope out at the start what contribution each shareholder is expected to make and what benefits or rewards they will get back in return, such as remuneration if they are acting in an executive or employee role, voting powers, or veto rights etc.”

The third issue relates to exit strategies, says Wood.

“This is an area where template agreements may fall short for accountants because they may not set out clear enough mechanisms for valuing the company or for determining how the shareholders will agree on the valuation. For example, if the shareholder agreement says that an accountant should be appointed to determine fair value, then that’s going to leave lots of room for arguments, because different accountants could come to different views on the value of the company, depending on the methods that they use.”

6. Partnership agreements

Similar to shareholder agreements, the key difference with a partnership agreement is that partners are jointly and severally liable for the debts of a partnership, whereas shareholder liability for the company’s debts is usually limited. While accountants may deal with a client’s partnership agreements, they may also be signatories to their own.

“It is very important if you’re dealing with a partnership that there is a partnership agreement,” says Drinkovic. “Its terms may tell you who controls the partnership, how it’s funded and managed, the responsibilities of each partner and how disputes will be managed, which is an important element to include.”

7. Trust deed

A trust deed sets out the conditions, terms, and rules for creating and managing a trust. It includes details such as terms and objectives of the trust, the powers and responsibilities of the trustee, the trust’s beneficiaries, and their entitlements to receive relevant income and capital.

“The fundamental thing that all accountants must understand is that when assets are held in trust, they belong to the trust, not to the individual trustees,” says Horne. “Trustees should not be dealing with trust assets as though they own them, but very often they do.” Horne adds, when dealing with trusts, accountants require instructions from all of the trustees.

“Where I’ve seen accountants fall down in the past is there’s a trust with three trustees – say, a husband, wife and an independent trustee – but they’ve only ever taken their instructions from one of them, so they have not been complying with their duties to the trust. Accountants need to understand who the trustees are and make sure they have the authority of all the trustees when acting on behalf of the trust.”

8. Division 7A loan agreements

Part of Australia’s Income Tax Assessment Act 1936, this document is used to formalise loans, payments, and debts that are forgiven between a private company and a recipient, such as a shareholder or their associate. It is designed to prevent private companies from making tax-free distributions of profits and includes details such as the company and borrower details, loan term, repayments, and interest.

“There are various criteria that apply to these types of loans, including minimum interest rates and maximum terms, and they have to be recorded in a written agreement before the lodgement day for the company’s tax returns for the income tax year in which the loan was paid,” says Wood.

“In the past, we’ve seen accountants set up arrangements or advise clients that payments can be made from companies to shareholders with the intention that they should benefit from the Division 7A loan agreement framework but for one reason or another, such as a shareholder or their associate. It is designed to prevent private companies from making tax-free distributions of profits and includes details such as the company and borrower details, loan term, repayments and interest.

“There are various criteria that apply to these types of loans, including minimum interest rates and maximum terms, and they have to be recorded in a written agreement before the lodgement day for the company’s tax returns for the income tax year in which the loan was paid,” says Wood.

“In the past, we’ve seen accountants set up arrangements or advise clients that payments can be made from companies to shareholders with the intention that they should benefit from the Division 7A loan agreement framework but for one reason or another, such as the written agreements not being in place on time or missing essential terms, the criteria aren’t met and that gives rise to additional tax charges for the shareholders.”

9. Insurance policies

Horne says auditors in particular should consider whether a business has appropriate insurance policies, such as property insurance for its assets, liability insurance, which may protect a business if it’s liable for damages or injuries to another person or their property, and business interruption insurance, which covers the loss of income that a business suffers after a major event, such as natural disaster.

“If a company doesn’t have liability insurance, for instance, an auditor ought to be asking why not,” says Horne.

“Most companies will have insurance for their assets, and auditors should ask for evidence of that. They should also request to see liability insurance and business interruption insurance. What happens if your premises are destroyed? What will that do to the value of your business as an ongoing concern?

“Not all have business interruption insurance, but all prudent business operators have asset insurance and liability insurance.”