May accountants limit damages for malpractice to nothing more than the fees that were paid? Maybe yes, maybe no, according to Chief Bankruptcy Judge Michael B. Kaplan of Trenton, N.J.
Note: Judge Kaplan inherited the chapter 11 reorganization of Johnson & Johnson subsidiary LTL Management LLC when venue was transferred last month from North Carolina to New Jersey. To read ABI’s story, click here.
The dispute before Judge Kaplan did not involve J&J. Rather, it concerned an adversary proceeding brought against an accounting firm by a liquidating trustee under a trust created by a confirmed chapter 11 plan.
The liquidating trustee contended in the complaint that the debtor’s prepetition accountants had committed professional malpractice in auditing the company’s financial statements for the year before bankruptcy. The complaint alleged that the accountants failed to perform appropriate audit procedures, did not require management to make proper allowances for doubtful accounts, and did not address overstated assets.
The accountants filed a motion to dismiss the complaint in part by barring the liquidating trustee from recovering damages in excess of the $65,000 that the accountants were paid for auditing the year in question. The engagement agreement limited the accountants’ liability “for all claims and damages . . . to the amount of fees paid . . . .”
In response to the motion to dismiss, the liquidating trustee argued that the accountants’ malpractice had resulted in millions of dollars in damages. Enforcing the limitation of liability, the trustee contended, “is unconscionable and violates public policy.”
Notably, Judge Kaplan was ruling on a motion for partial dismissal, not a motion for summary judgment. The accountants wanted him to limit “recoverable damages,” but Judge Kaplan denied the motion without prejudice “on the present record.”
From the complaint, Judge Kaplan said he could not discern whether the accountants’ “actions rise to the level of mere negligence, gross negligence or even recklessness. Determining the degree of malpractice — to the extent there was malpractice at all — is a question of fact that cannot be decided on a motion to dismiss.”
Since the court could not “ascertain the severity of the actions based on the facts before it,” Judge Kaplan said he also could not “determine whether the limitation of liability provision should be upheld.” If the accountants’ actions rose to the level of gross negligence, he said that “the language within the limitation of liability provision, as written, is not specific enough to limit liability.”
Judge Kaplan said he was “unaware of any decision in which a party has been able to contract around liability for gross negligence, especially where the limitation of liability clause does not specifically so provide.” He added, “Parties may not limit liability for more egregious conduct than mere negligence.”
Judge Kaplan was constrained to deny the motion to dismiss without prejudice because he could not “determine — based on the facts as pleaded — where Defendant’s conduct falls on the negligence spectrum.”
May accountants limit damages for malpractice to nothing more than the fees that were paid? Maybe yes, maybe no, according to Chief Bankruptcy Judge Michael B. Kaplan of Trenton, N.J.
Note: Judge Kaplan inherited the chapter 11 reorganization of Johnson & Johnson subsidiary LTL Management LLC when venue was transferred last month from North Carolina to New Jersey.
The dispute before Judge Kaplan did not involve J&J. Rather, it concerned an adversary proceeding brought against an accounting firm by a liquidating trustee under a trust created by a confirmed chapter 11 plan.