Courts have long disagreed about whether deepening insolvency is a stand-alone tort claim or simply a basis for seeking damages related to fraud, professional malpractice or another claim. Indeed, there is some question about whether deepening insolvency should be a viable basis of
recovery at all.

One thing is clear — deepening insolvency generally increases the audit professional’s risk of exposure to legal action, particularly related to troubled businesses. In some cases, the theory may create additional scrutiny of the auditor’s consideration, required by Statement on Auditing Standards no. 59, of an entity’s ability to continue as a going concern.

In an ordinary negligence or fraud case, damages are limited to actual losses that the plaintiff suffers, often measured in lost profits, a decrease in asset values or increased costs. The deepening insolvency theory seeks recovery for the expansion of corporate debt and the prolonged life of the corporation. But there have been few cases that recognize deepening insolvency as a cause of action rather than as a damages theory.

Excerpted from Journal of Accountancy. Read full article here.