Choosing Gatekeepers: The Financial Statement Insurance Alternative to Auditor Liability


Contributing to a lively debate concerning how to design auditor incentives to optimize financial statement auditing, this Article presents the more ambitious financial statement insurance alternative. This approach breaks from the existing securities regulation framework to draw directly on insurance markets and insurance law. The author prescribes a framework to permit companies, on an experimental basis and with investor approval, to use financial statement insurance as an alternative to financial statement auditing backed by auditor liability.

A chief challenge for the efficacy of such an alternative is the relation of state insurance law to federal securities regulation. One solution is to develop for financial statement insurance the functional equivalent of the U.S. Trust Indenture Act of 1939, which is applicable to contracts governing public debt securities. This would allow substantial freedom of contract in policy terms, governed by state law, while mandating certain specific terms and establishing minimum federal parameters for others. Most other hurdles arising from the interplay between state insurance law and federal securities regulation can be overcome using disclosure. A broader challenge is preserving insurer solvency if financial statement insurance is placed at the center of the public-company financial reporting system.

About the Author

Professor of Law and Business, and Libby Scholar, Boston College.

By uclalaw