In the November 2, 2017 edition of The Legal Intelligencer, Edward T. Kang, managing member of the firm, writes on the liability attorneys face in regards to nonclients.
In Pennsylvania, traditionally, if lawyers or other professionals, such as accountants, performed their professional duties negligently, they could only be held liable to those with whom they were in direct contractual privity—in other words, their clients. Others who may have suffered damage because of that negligence—for example, a party to a transaction relying on the other party’s lawyer’s faulty opinion letter, or a bank relying on an opinion letter prepared by a borrower’s lawyer while extending credit to the borrower—would be without a claim in tort.
In much of the country, however, courts will extend the liability of professionals to cover nonclient third parties injured by the negligence of professionals in certain situations. This liability is typically found under a theory of negligent misrepresentation, adopted from Section 522 of the Restatement (Second) of Torts. Section 522(1) provides: “One who, in the course of his business, profession or employment, or in any other transaction in which he has a pecuniary interest, supplies false information for the guidance of others in their business transactions, is subject to liability for pecuniary loss caused to them by their justifiable reliance upon the information, if he fails to exercise reasonable care or competence in obtaining or communicating the information.”
The liability of professionals under the Restatement is limited, however, by Section 522(2), which provides that a professional is only liable for loss suffered “by the person or one of a limited group of persons for whose benefit and guidance he intends to supply the information or knows that the recipient intends to supply it; and through reliance upon it in a transaction that he intends the information to influence or knows that the recipient so intends or in a substantially similar transaction.”
Under a negligent misrepresentation cause of action, an attorney or accountant could be held liable to a nonclient third party for false statements made as part of their professional engagement. But how extensive is that liability, especially here in Pennsylvania?
A Variety of Approaches to Professional Liability to Third Parties
States have taken varying approaches to causes of action for negligent misrepresentation and a professional’s liability to third parties. A majority of states follow the letter of Section 522 of the Restatement, requiring that the professional intended to supply the information to benefit the claiming third party, that the third party relied on the information in a transaction for which the professional intended the information be used, and that the reliance was justifiable. Although this approach allows a nonclient to bring a claim against a professional, this approach is still a high standard because of the justifiable reliance element, and limits that ability of a third party to bring a claim. Some states have an even higher standard—namely, that the professional actually intends that the third party rely on the information provided.
New York, which does not follow the restatement, for example, has developed a strict standard for liability. It follows a “near privity” standard. This near privity standard must be met before a professional can be held liable to a nonclient third party for negligence or negligent misrepresentation. To establish liability under this standard, the third party must demonstrate that “the accountant was aware that the reports were to be used for a particular purpose, whether in furtherance of such purpose a known party was intended to rely and, finally, whether there was some linking conduct which evinced the accountant’s understanding of that party’s reliance,” as in Securities Investor Protection. v. BDO Seidman, 746 N.E.2d 1042, 1048 (N.Y. 2001) (emphasis added). The “linking conduct” element requires that the accountant and nonclient third party had direct contact with each other.
New Jersey takes a broader approach to professional liability for negligent misrepresentation, and practitioners in New Jersey should exercise caution when performing services involving statements that may be relied on by nonclient third parties. Unlike the majority view discussed above, or the stricter New York near privity standard, New Jersey extends liability to all third parties who could reasonably be foreseen to rely on the information provided. Specifically, if a lawyer or accountant performs a service and it is foreseeable that a third party would rely on that service, the lawyer or accountant could be held liable to that third party for any false statements. This is a much lower standard and leaves professionals with greater potential exposure.
What Iis the Standard in Pennsylvania?
Pennsylvania has taken a slightly different approach from its neighboring states. In the seminal case of Bilt-Rite Contractors v. The Architectural Studio, 866 A.2d 270 (Pa. 2005), the Pennsylvania Supreme Court adopted Section 552 of the Restatement, but did so in a seemingly very narrow way. Bilt-Rite involved a school district contracting with an architectural firm for design plans for a new school, then soliciting bids from contractors for construction. When problems were discovered with the architectural plans, the contractor who was awarded the contract sued the architectural firm for negligent misrepresentation. The trial court held that the contractor lacked the requisite privity to bring a negligent misrepresentation claim against the architectural firm. This decision was affirmed by the Superior Court. On appeal to the Pennsylvania Supreme Court, the court found that the contractor could pursue its negligent misrepresentation claim, despite the lack of contractual privity between the contractor and architect, and despite the general applicability of the economic loss doctrine. The court adopted Section 552 of the Restatement, and held that it applied “in cases where information is negligently supplied by one in the business of supplying information, such as an architect or design professional, and where it is foreseeable that the information will be used and relied upon by third persons, even if the third parties have no direct contractual relationship with the supplier of information.” While Bilt-Rite adopted Section 552 and seemed to endorse the lower standard of foreseeability discussed above, the question of whether the doctrine would be expanded to other types of professionals such as lawyers or accountants remained unanswered.
Did the Superior Court Expand the Bilt-Rite Theory in Fulton Bank v. Sandquist?
While the Supreme Court has not addressed the full contours of Bilt-Rite, in late September 2017, the Pennsylvania Superior Court answered the open question of whether other professionals could be held liable by third parties for negligent misrepresentation. Fulton Bank sued an accounting firm that had provided audited financial statements for a bank customer, which the bank then used in extending several commercial loans. After the debtor defaulted and declared bankruptcy, Fulton Bank sued the accountants for, among other things, negligent misrepresentation under the Bilt-Rite theory. The trial court sustained preliminary objections and dismissed the negligent misrepresentation claim. Specifically, the court found that Bilt-Rite was limited to architects and other design professionals, and did not apply to services provided by an accountant.
The Superior Court reversed the trial court’s decision and held that:
The trial court applied a too narrow reading to Bilt-Rite in determining that the case only concerns disputes involving an architect/contractor scenario. Rather, we conclude Bilt-Rite can be applied to other factual scenarios where a party is providing professional information that is designed to be relied upon by a third party.
The court further concluded that the Supreme Court in Bilt-Rite did not intend to limit the ruling to solely architects and contractors, but instead intended to include all professionals.
Fulton Bank was issued as a nonprecedential decision, so it is possible that it will not have long-reaching effects. It is more likely, however, the Pennsylvania Supreme Court, when it addresses the question, will bring Pennsylvania’s law of negligent misrepresentation in line with its neighbor states. As a result, lawyers, accountants, and other professionals must know that they face potential liability to third parties when providing reports, opinions, or other services that may be relied on by parties other than the direct client, and take appropriate care.
Although the Fulton Bank decision is not the law of the commonwealth, it is in line with the position of most states that holds a lawyer accountable to a nonparty for negligence in certain situations. In keeping with this trend, practitioners are advised to exercise the same standard of care that they would in representing their clients when rendering legal services that they know will be relied on by nonclients. In other words, a lawyer should always render competent, diligent legal services, as required under the Rules of Professional Conduct, no matter who is relying on her services.
Edward T. Kang is the managing member of Kang Haggerty LLC. He devotes the majority of his practice to business litigation and other litigation involving business entities.