September 1999

The CPA Journal Millennium Series

The Commission Commitment:

Is It Right For You?

By Ron Klein

The CPA Profession: Preparing for the
Year 2000 and Beyond

In Brief

Is it Time to Take the Plunge?

CPAs have long looked with envy at the sizable commissions that third-party vendors--securities brokers and insurance agents--are paid for executing a financial or estate plan that the CPA has masterminded. Exacerbating this envy, was the willingness of the vendor to share some of the commission. But licensing regulations and ethical restrictions have kept CPAs from participating.

But that is all changing. For some time now, the AICPA code of conduct has allowed its CPA members to accept commissions on behalf of clients for whom they perform nonattest services. The latest version of the Uniform Accountancy Act (UAA) follows the AICPA rule, and many states, including New York, have enacted or are considering legislation that follows the UAA. In the meantime, New York regulators have recently concluded that under the existing rules, commissions can be accepted where no financial statement (attest) services are provided to the client.

In this environment, CPAs and CPA firms are seriously considering whether to enter the commission-based world of financial planning services. Ron Klein, president of CAMICO Insurance Company's educational arm gives advice to those planning to take the plunge. He especially focuses on best practices in situations where the CPA decides to enter into alliances with third parties to help deliver services to clients.

Should CPAs accept commissions from third parties for the performance of professional services for their clients? Few issues seem more debatable--or more timely--within the accountancy profession. A commission-based practice can be a lucrative tool to provide additional and improved client services. But it can also open a Pandora's Box of legal and perceptual questions that many would prefer remain closed.

Traditional CPAs that oppose commissions fear the practice poses a threat to their professional reputation. CPAs, they argue, have earned the public's trust as independent advisors. This trust can easily be violated because the CPA places, or is perceived to place, the opportunity to obtain a profitable commission ahead of the clients' best interests.

Other CPAs support a commission-based practice. To compete in today's one-stop-shopping world, many firms are offering a broader array of services to their clients. They set up separate business entities for these commission-based services. Proponents maintain that clients are willing to accept commission-based practices in exchange for these services, provided their accountant's objectivity and ethics are not compromised.

The issue of commission-based practice has less to do with how CPAs are compensated and more to do with the kinds of new services they offer and how such services will be delivered. Many CPA firms simply aren't large and diverse enough to offer the wide range of services that clients typically demand. The services can range from tax and financial planning to technology consulting, organization development, and investment advice.

A viable option for those CPA firms is to build long-term alliances with other service providers. In other words, CPAs should only consider commissions after deciding which services they can and wish to offer. Those CPAs who simply regard commissions as a route to earn more money should be aware that poor planning could make them vulnerable to liability suits.

State Rules on Allowing CPA Commissions Gathers Momentum

Currently, more than 30 states allow CPAs to accept commissions in limited situations. In the context of the accountancy profession, a commission is a payment from a third party to a CPA for services the CPA renders to the CPA's client. A commission is not a referral fee. Most state laws expressly bar CPAs from accepting a commission solely for referring a client to a third party.

The issue of commissions is currently before New York State legislators. One bill under consideration is designed to adopt many of the provisions of the third edition of the Uniform Accountancy Act (UAA), jointly developed by the National Association of State Boards of Accountancy (NASBA) and the AICPA. It would allow licensed CPAs to accept commissions and contingent fees, with disclosure, on behalf of clients for whom no attest services are provided. A second bill, sponsored by the State Education Department (SED), the regulator of CPAs in New York, would have the effect of prohibiting commissions and contingent fees for all clients whom CPAs provide professional services, as very broadly defined in the bill. For more discussion on the differences between the two bills, please see Dan Goldwasser's sidebar, "Relaxation of Regulations Affecting the Accounting Profession," on page 27 of this issue.

The SED has historically barred CPAs who provided professional services to the public from accepting commissions and contingency fees. Last fall, the SED released an informal opinion stating that it lacked authority over the work done by CPAs for clients for whom no attest or financial statement-type services are being provided. This opinion essentially gives CPAs the option of receiving commissions for engagements involving clients for whom they perform no attest services.

Other states have enacted legislation relaxing the prohibition against commissions. In California, for example, Senate Bill 1289 went into effect on January 1, 1999, amending the state's business and professions code to allow CPAs to accept commissions in limited circumstances.

The growing acceptance of commission-based practices is forcing CPAs to reexamine how their firms conduct business and to consider how both CPAs and clients can benefit from the practice.

Maintaining Objectivity

Commission-based practices can undermine the perception of allegiance and objectivity that the CPA profession strives to maintain. Clients value CPAs' ability to be objective evaluators of business investment decisions. By accepting commissions, there is the risk that clients may no longer view CPAs as independent professionals who have their best interests at heart. Instead, clients might feel CPAs are more interested in working with financial planners, insurance brokers, or other vendors in exchange for fat commissions. This perception will create serious problems if a CPA refers even one client to an unethical third-party vendor. A client who has taken advice from an unscrupulous vendor and winds up being burned could file suit against the accountant, alleging a breach of fiduciary duty.

Before referring clients to third-party vendors, CPAs should consider the following suggestions:

* Avoid the temptation to recommend clients to vendors whose only value is their ability to pay large commissions.

* Carefully scrutinize the professional background of the vendors to whom you refer clients to make sure they are knowledgeable and reputable businesspeople.

* Before making a recommendation, ascertain that the vendor is appropriately licensed.

* Find out if the vendor has ever been disciplined by a professional licensing agency.

* Obtain references from others who have conducted business with the vendor.

* Ask the vendor for financial information and thoroughly examine these documents.

* Ensure that the vendor has adequate professional liability insurance coverage.

When a CPA recommends a client to a vendor, the client often assumes the CPA's allegiance is to the client and that the CPA has conducted due diligence.

Are Commission-Based Fees a Good Fit?

A commission-based fee is one of a variety of payment options available to CPAs and their clients. An evaluation of those options will help determine if the services required to generate commissions are best for the clients and the firm.

The first and foremost factor to consider is whether the commission-based transactions are in the client's best interest. Will they provide value-added products or services consistent with the client's objectives? Is the CPA firm equipped to provide the services and does it feel confident in the third-party vendors it has chosen to help obtain commission-based services and products? If the answer to these questions is "no," the CPA firm is not ready to offer such services.

In developing a business plan, the following questions must be answered to be able to decide whether a commission-based practice is right for the firm:

* What additional services and products should be provided?

* Does the firm have the appropriate education, licensure, and expertise to offer these services?

* Have the partners thoroughly examined the professional background and reputation of the recommended third parties, ensuring these vendors are ethical and reputable businesspeople?

* How can the firm protect its reputation for independence and objectivity while offering commission-based services and products?

* Is the firm prepared to make the requisite disclosure to clients whose transactions with third-party vendors would result in commissions?

* Is the firm properly structured to offer these commission-based services and products?

* Can the firm maintain its fiduciary obligations in accepting commission-based fees?

* Has the firm obtained sufficient legal advice to determine that all applicable laws and regulations are being

It is especially important to determine if the firm's liability coverage extends to commission-based activities. The firm should consult with its insurance carrier to make sure the partners and the firm have adequate coverage.

Similarly, third-party vendors should provide the firm with evidence that they have adequate liability insurance or a sufficient asset base to support their dealings with the firm. It is advisable to consult with the firm's insurance provider to get a firm grasp of the situation.

Structuring the Firm for Commission-Based Services

A few years ago, the partners at Braverman, Codron & Co., a firm in Beverly Hills, Calif., determined that switching to commission-based fees would be in their clients' best interest. The firm does estate planning work, and its partners noted that some of the more creative estate planning strategies involved the use of tax-advantaged insurance. The Braverman, Codron partners could have recommended that their clients obtain these products from insurance brokers. But as a CPA firm, the partners could not receive revenue from their recommendations.

The partners decided to form a separate entity to provide their clients with a variety of financial planning services--including tax, investment advisory, estate planning, and insurance--for which the entity would be able to accept commissions. The firm formed alliances with insurance and investment professionals. Some of the partners proceeded to obtain the required insurance and securities licenses necessary to offer these new products.

Braverman, Codron's strategy is typical of many CPA firms that create separate entities to offer particular commission-based services. Accountants who work for these subsidiaries receive the training and education needed to become licensed real estate brokers, insurance brokers, securities dealers, financial planners or other professionals. Or a CPA could obtain a license and join a large brokerage or commercial entity that specializes in a commission-based service.

But what about firms that lack the size, resources, or wherewithal to create subsidiaries or form alliances with large brokerages, real estate firms, or insurance agents? How can they reorganize their companies to be able to accept commissions? The best place to start is with legal advice from an attorney with expertise in commission-based operations and knowledge of the many disclosure requirements.

Preparing Third-Party Agreements

Legal counsel can help draft contracts between the firm and the third parties who will be conducting the accountancy-related business. The following should be considered when drafting third-party agreements:

* A description of the service or products for which the recommendation is made

* A statement that the vendor possesses the appropriate license

* A scope limitation provision, stating that the firm and its partners are only responsible for the professional accounting services being provided to the client (these services should also be spelled out in an engagement letter).

A scope limitation provision is important because the third-party vendors often give clients written materials describing their professional services. These are generic documents, listing all available services and products. In most cases, neither the firm nor the vendor will be performing all the services described. If the marketing materials are included as part of the vendor agreement, a litigious client could argue that the firm was obligated to offer all of the services listed in the materials and was negligent if it failed to do so.

The engagement letter should be carefully worded to spell out the specific services that will be delivered to the client. It is also wise to include a clause that states the exact nature of the services is controlled by the engagement letter and not by a third party's marketing documents.

The third-party vendor's agreement should also include:

* A compensation clause, detailing the mechanics of the commission and payment

* A confidentiality clause to safeguard how the client's data will be handled

* A licensing clause, stating that any specific condition that requires action, such as loss of license, requires immediate notification

* A clause requiring the vendor to have and maintain liability insurance

* A description of each party's training commitments

* A description of each party's resource commitments, such as marketing efforts or phone support.

The firm may want to include a hold harmless clause, stating that the vendor accepts his or her duty to defend and indemnify the firm for all claims, brought by any party, arising out of recommendations to the client. However, more often than not, a vendor will not agree to include this clause.

In fact, the reverse may happen. The vendor may ask the firm to indemnify it against claims resulting from the recommendation. This is not a good sign and may indicate an unscrupulous vendor.

Client Documentation and Disclosure

Even if the firm and its partners and staff may have little involvement in the commission-based relationship, there's a good chance the client will hold them responsible for any negative consequences. That perception could lead to a lawsuit claiming negligence.

Potential litigation can be minimized if the partners, clients and third-party vendors carefully record all aspects of the commission-based relationship. All of the parties must be clear about their expectations and document their roles in each engagement. This documentation can be contained in the client engagement letter or in a separate document.

Whatever its form, the document should spell out the specific accountancy services to be performed for the client, the services to be provided by the vendor, the reasons why the vendor's services will benefit the client, and the benefits realistically expected by the client. The client may want to deal directly with the vendor and exclude the CPA from the relationship. On the other hand, the client may want the CPA to monitor dealings with the vendor to make sure the vendor is operating in the client's best interest. The extent of the CPA firm's participation should be clearly explained in the engagement letter or another document.

It is important that the engagement letter be updated to reflect changes in the responsibilities of each of the parties. Relationships with clients, and vendors, can change over the years, and these changes need to be documented.

The firm should periodically issue a separate disclosure document to its commission-based clients, as required by state regulations and as a matter of good practice. The disclosure document is issued in addition to the other documentation recommended. Disclosure should be timely and comprehensive; it is better to err on the side of excess disclosure. If the firm or its partners have any doubts about revealing the details of a transaction, they are better off avoiding the relationship.

The written disclosure document should be presented to the client before, or at, the time the recommendation is made to use the services of a third-party vendor. The document should--

* be printed on firm letterhead and signed by the CPA

* be signed and dated by the client with acknowledgment that the client has read and understands the information contained in the disclosure

* state that the commission is to be paid for professional services -- and is not a referral fee

* state the specifics of the commission arrangement -- how much will be paid and how this payment will be calculated

* describe the products or services being recommended

* identity the third party or parties who will provide the product or service

* identify the business relationship between the CPA and the third-party vendor.

The client should be given a signed copy of the document before leaving the office.

Due Diligence is a Continual Process

Third-party alliances should be monitored on an ongoing basis. Litigation involving a commission-based service will not generally stem from incompetent work performed by the CPA for a client but rather from a client's dealings with an unscrupulous vendor.

Shortly after California enacted its commission-based fee law, CPAs were deluged by solicitations from all sorts of vendors who desired access to their client base. Unfortunately, many of these vendors were more interested in acquiring new clients than in delivering them quality services. CPAs should be wary of these vulturous vendors and their motives.

Peoples' lives--and financial circumstances--change over time. Someone who was honest and ran a thriving business three years ago may now be having financial problems and be more likely to resort to dishonest and unscrupulous practices. Therefore, it is important to maintain contact with vendors and keep abreast of how their businesses are faring. The CPA should be attentive to subtle, and not so subtle, changes in relationships with vendors that could indicate an inability to best serve clients. For example, if an insurance broker has always promptly returned telephone calls and is now ducking messages, it could be a sign of trouble.

It's also a good idea to survey clients to obtain their opinion of the service they've received from the firm and its third-party vendors. The information gathered in this survey can help both the firm and its vendors improve dealings with clients. Most ethical businesspeople will agree to conduct these surveys. Vendors who won't participate should be carefully scrutinized.

The objective of a commission-based practice using third-party vendors is to forge long-term alliances with trustworthy and reputable vendors. In commission-based relationships, as in all accountancy practices, a little extra effort up-front can save time and money later. *

Ron Klein, JD, CFE, is the president of CAMICO Services, Inc., the educational arm of CAMICO Mutual Insurance Company, which provides loss prevention and risk management resources to CPAs. More information on the processes discussed in this article can be found at commissions.htm.


By Harvey Siegel, CPA, W.S. Securities Inc.

What do you have when there is a [insert professional of choice] up to the neck in sand?--Not enough sand! Fortunately for our profession, "accountant" just doesn't fit. We are described as trustworthy, precise and objective. The prejoratives don't stick; slick is not our image. Up to now. Personal financial planning is a growing part of the CPA's practice. It is a sound and rational use of our skills. The association complements our positive image. The logical extension of financial planning is investment planning. The progression from financial planner to investment advisor is inevitable and occurring with greater speed than expected. This can be good news for the profession and our clients.

Although I'm convinced that our skills will serve us well as investment professionals, I'm concerned about the focus we've taken upon entering the business. Our reputation was earned by focusing on client needs--adding value to a business, defending income from unnecessary taxation, protecting wealth from waste and fraud and not pitching products.

But now, faced with an assault from prospective investment partners and product providers, we appear more concerned with whom to represent rather than what our clients need. Be assured that had the financial services industry been client-directed rather than product-directed, there would be little opportunity for CPAs to gain entry to the business. If the profession maintains its traditional client focus in providing investment service, its status as most trusted professional will be enhanced. Moreover, the profession will then be able to fulfill its promise of being the preeminent personal financial planner and investment advisor.

Adding investment advice to the CPA's menu of available services is not a new business. It does not necessarily require outsourcing, permanent partners, or a finite list of investment options. It does require a reaffirmation of service to client needs, particularly those not met by existing investment service providers. The void is large. The opportunity exists because we have conducted ourselves appropriately. We will capture the business only if we distinguish ourselves from, rather than adopt the practices of, the existing providers.

The Client as a Financial Entirety

CPAs have traditionally been client-directed. We have excelled at evaluating issues in the context of our clients as entireties. We have the tools, the client knowledge, and now, the resources to integrate appropriate solutions for all of a client's financial and investment needs. Implementation is not the issue; exclusive associations, alliances, or representation do not suit the CPA who wants to continue the successful tradition of client advocacy.

Cost. When discussing CPAs as advisors, the issue of cost seems entirely focused on whether commissions impair objectivity. Should the CPA's investment practice charge fees only? If the CPA elects to have a client-directed investment practice, commissions are unrealistic. For all those CPAs who have rationalized or are in the process of rationalizing a commission-based business, I suggest you reconsider. Spare the rest of us from the brunt of the merciless jokes. With few exceptions, traditional providers have reacted to the cost issue by promoting gross returns: Costs, taxes, and even risk are often ignored. Their failure is our opportunity. If we engage in the investment business only to increase margins, it will not be long before the investing public perceives little difference between stockbrokers and accountants.

Taxes and Investing. The investment management industry is primarily an institutional business. This means that taxes generally are not an issue. The premise is that an actively managed strategy, unencumbered by tax considerations, will produce after-tax returns that exceed a strategy managed specifically for after-tax returns. At best, this tenet requires the belief in the consistent superiority of a particular strategy and that taxes won't matter. This is an area in which the CPA's skill and knowledge can add value far beyond that of most existing advisors. Cynicism is in order. Remember, this is a business that annually sells billions of dollars of high-cost annuity product to retirement accounts that are, by nature, already tax deferred. Moreover, there are more than 10,000 mutual funds, virtually all of which are marketed to taxable, tax exempt, and tax-deferred investors alike.

Punditry and Jargon

* Predictive advice is corrosive, unfairly appealing to emotions of fear and greed. You don't have to know which way the market is headed to assist clients in meeting their investment goals. Our intellects are taxed trying to understand the past--the difficulty of predicting even the near future is unimaginable.

* Advisors' resources are best spent on those aspects of investing that are subject to some control. While markets can neither be controlled nor predicted, investments can be managed to minimize costs, including taxes.

* Investing is a process, not an event. It happens over time, not in an instant. Clients don't need heroes; their money belongs with those whose investment disciplines are simple, consistent, and explainable.

* Don't allow the market a personality. It may be good journalism, but it's rotten investing. Whether the market declines 20% (fierce and furry with paws) or goes higher (fierce and furry with horns)--it's just a new number. Whether it growls or snorts doesn't matter.

A traditional CPA practice and an investment management practice are similar in one respect: They ultimately serve the same clients. It would be folly to suggest that an investment professional could expand into a CPA practice while it seems natural for CPAs to enter the investment business. We've earned that trust. Because of that trust, our clients have extended us a great professional and business opportunity. Let's not squander it by focusing on the frivolous and the venal. *


By Ronald J. Huefner

The appropriateness of a CPA's accepting commissions or contingent fees has long been debated, and remains a contentious issue. The provision in the latest Uniform Accountancy Act to allow commissions and contingent fees for nonattest clients has again brought this issue to the forefront. Some argue that such forms of payment to a CPA are incompatible with the professionalism and independence that are the CPA's hallmarks. Others argue that contingent fees and, especially, commissions are competitively necessary and are appropriate means of compensation for certain CPA services.

Core Values of the Profession

The AICPA's recently developed Vision Statement states: "Combining insight with integrity, CPAs deliver value by communicating the total picture with clarity and objectivity." This idea is further reflected in two of the top five core values that accompany the mission statement: integrity (CPAs conduct themselves with honesty and professional ethics) and objectivity (CPAs are able to deal with information free of distortions, personal bias, or conflicts of interest).

Fee-Setting Methods for Professional Services

Fee setting is essential to all professions (except perhaps the ministry). All fee-setting methods have potential professional integrity problems, but only commissions and contingent fees appear to involve significant objectivity problems.

An hourly rate system gives little motivation to control the time spent on the job and can encourage padding hours or reassigning time from over-budget jobs to under-budget ones. Fixed fees, including competitive bids and standard fees for routine services, may encourage delivering a perfunctory service of minimal quality. There is also the well-known problem of low-balling on an initial bid in order to gain a client. Value-based pricing, where the fee is based on the nature and value of the service rather than the time involved, may be influenced by what the client is willing and able to pay. All of these approaches allow for integrity problems, but none involve objectivity problems.

Contingent fees depend upon an outcome that is not under the control of the CPA or the client. The client's interests and the CPA's interests are typically aligned, minimizing integrity problems. Both want the deal to be completed or the overcharge to be repaid. However, the practitioner may emphasize services where the potential fee is high and the risk of failure is low and de-emphasize needed services where the outcome (and hence the fee) is highly uncertain. Such behavior would present an objectivity problem.

Commissions are paid to a CPA by a third party, based on an action taken by a CPA's client. Usually the action is a purchase of securities, insurance, or software. The obvious objectivity problem is that the interests of the CPA and the client may no longer be aligned. There is a motivation to sell high-commission items and a potential conflict between the client's needs and the CPA's income.

The Harris Poll

A 1986 Louis Harris and Associates poll sponsored by the AICPA, while in need of updating, is still useful in examining attitudes concerning the CPA profession. One question asked was, "How would you rate the ethical and moral practices of people in the following [12] professions and occupational groups?" A group of 972 "leaders" (business owners, bank officers, key government officials, and security analysts) gave CPAs the highest rating: 90% positive. The four lowest ranked fields were personal financial planners (41% positive), stockbrokers (43%), insurance agents (43%), and lawyers (43%). Commissions are common among the first three, and contingent fees are common among lawyers. It seems highly unlikely that CPAs can remain among the "most trusted professionals" by adopting the business practices of the least trusted fields.

The Harris survey specifically addressed the appropriateness of CPAs accepting commissions or contingent fees. Among the respondents, 71% and 68% concluded that CPAs should not accept commissions or contingent fees from audit clients; 50% and 55% were opposed to commissions or contingent fees from nonaudit clients.

"Clearly, both the commission and contingency fee areas are viewed negatively by these key publics," the Harris survey stated. "The strong overtone is that the practices smack of nonprofessional behavior for public accounting firms, even if they are perfectly legal and common business practices for others."

CPAs enjoy high public regard for their trustworthiness, embodied in the core values of integrity and objectivity. Acceptance of commissions may bring the public perception of CPAs down to the level of other commission-paid fields. CPAs have long practiced restraint in their professional behavior and need to continue to do so. High public regard is not free; we need to forego the attraction of commissions in order to retain our public stature and our core values. *

Ronald J. Huefner, PhD, CPA, is Distinguished Teaching Professor of Accounting at the State University of New York at Buffalo and a member of the Board of Directors of the New York State Society of CPAs.

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