When should a report be qualified?

A long-time potential incendiary point between solicitors and reporting accountants is whether a report should be qualified.

Sometimes, worrying about the implications of receiving a qualified report for professional indemnity insurance premiums or wanting to preserve a previously untarnished history, solicitors have feared a qualified report like the plague.

The conscientious reporting accountant, on the other hand, feeling the need to be independent, may doggedly insist that a report should be qualified on a certain point. The issue has always been a difference of opinion.

SRA guidance

Progress has been made in recent years, with the Solicitors Regulation Authority (SRA) providing guidance on the areas that should be considered when assessing the triviality of a breach. Before the previous version of the Accounts Rules, it was suggested in guidance note 6 to rule 44 that the following be considered: 'the amount involved, the nature of the breach, whether the breach is deliberate or accidental, how often the same breach has occurred, and the time outstanding before correction'.

Parenthetically, this has now been removed from the guidance notes to the renumbered rule 40. But this issue is still open to a degree of subjectivity. For example, would ten small overdrawn client accounts a year, corrected on the following day, be too much for a small practice? Or would this be deemed a small amount, corrected promptly, which had occurred accidentally?

Although the SRA is unlikely to ever provide detailed, definitive direction to the extent required to remove any room for contention, it has recently produced useful guidance to illustrate its stance on a number of common breaches.

Serious factors

Section 2 of the 'Accountant's report (AR1) and guidance for firms and accountants' includes a list (which is 'illustrative only and not intended to be exhaustive') of items that are 'likely to lead towards a definite qualification'. This list of serious factors includes items that were obviously going to be included, such as fraud or a 'significant and/or unreplaced shortfall' on client account.

But some solicitors may be surprised to see point 7 as a serious factor: three-way reconciliations not being carried out. Although some solicitors may have assumed that the standard two-way reconciliation, or two separate documents checking the three aspects of the three-way reconciliation, was adequate, it is refreshing to see the SRA provide its unequivocal opinion on this breach.

In addition to the serious factors listed, which the SRA indicates should definitely lead to a qualification, a list outlining 'moderate factors' that could result in a 'potential' qualification is also provided. Three-way reconciliations appear twice on this list: erratic three-way reconciliation preparation or where the 'performance or review [is] not adequate' are highlighted as areas which are frowned on.

The moderate list also highlights 'significant' shortfalls arising from an overdrawn client account or from client funds not being held in a client account as a potential qualification, even when the funds have been fully replaced. The 'timely manner' referred to in this point would only appear to relate to shortfalls arising from a bank error, suggesting that the speed of correction is irrelevant where the solicitor is at fault.

Adequate compliance

Section 3 of the guidance provides a table of the points raised in section 2 and corresponding examples of above-average, average, and inadequate compliance. With respect to overdrawn client accounts and client money being held in an office account, it would be adequately compliant to review client ledgers 'at least weekly' to remove debit balances. Credit balances on office account could be reviewed monthly and this would still be deemed sufficient.

The underlying idea is that the SRA accepts errors can arise and doesn't require a report if an item is not corrected on the next working day. Until this table was produced, SRA opinion on many commonly occurring breaches was sparse at best, and accountant and solicitor alike will welcome having some new direction.

There will no doubt continue to be times when a panel of accountants would reach a different conclusion to solicitors on whether a report should be qualified, but this is, alas, implicit in human nature. The SRA specifically states in guidance note 1 to rule 38 that '[it does] not consider it appropriate to define when a report must be qualified' and that its intention is to rely on the professional judgement of the reporting accountant 'to enable a proportionate degree of oversight by the SRA'. SJ

Simon Sheppard is an accounts and outsourcing chartered accountant at Kreston Reeves