What is an Engagement Letter?

Are engagement letters part of your accounting workflow process? If not, they should be.

When your accounting firm enters into a new project or partnership with a client, you need to issue an engagement letter. This letter sets the tone for your collaboration. Without it, you’re starting on unsteady footing and are headed for inevitable misunderstandings ahead. There will be fuzzy expectations, plenty of miscommunications, and potential disputes that could impact your reputation and results.

All of these nasty consequences can be avoided with a simple document. In this guide, we’ll discuss what an engagement letter is, why you need one, and how to use one effectively. Let’s get started.

What is an Engagement Letter?

At its core, an engagement letter is a formal document used primarily by a variety of professionals, including accountants, lawyers, consultants, and other service providers. It outlines the scope of work and the terms and conditions of the services to be provided. Ultimately, the engagement letter serves as an agreement between the service provider and the client.

What is the Purpose of an Engagement Letter?

An engagement letter serves multiple purposes for an accounting firm. Let’s explore those purposes below:

Sets Expectations

An engagement letter spells out the nature and extent of the services that an accounting firm provides. It eliminates ambiguities so that both parties have a clear understanding of what to expect from each other.

Highlights Your Firm’s Professionalism

Providing an engagement letter to your clients signals a high level of professionalism. It shows that your accounting firm is thorough, experienced, and committed to transparency.

Provides Fees and Payment Terms

In addition to the scope of work that your firm provides, the engagement letter often outlines the fees for the services and the payment terms. This eliminates (or, at least, greatly reduces) the potential for disputes related to how much your services cost.

The best way to prevent misunderstandings is to simply explain what you’re offering and how in your engagement letter. Click To Tweet

What’s the Difference Between an Engagement Letter and a Contract?

While both engagement letters and contracts serve as agreements between two parties, there are a few important differences.

An engagement letter is generally specific to professional services, such as accounting, consulting, or legal services. A contract, on the other hand, is a broader term that can apply to any agreement involving two parties, irrespective of the nature of their engagement.

While engagement letters are detailed, they tend to be more straightforward and focused on the service’s specifics. In other words, they’re shorter and easier to read. Contracts can be more intricate, bogged down with legalese, and often encompass a wide range of terms and conditions, warranties, penalties, and other legal clauses.

This is precisely why contracts are rarely read in full by clients. Who is inclined to read a lengthy contract? At best, people skim their way to the signature page. Just think of the last time you read through an entire terms and conditions contract before signing up for a service. We’re all guilty of it.

Having all of the essential “need to know” stuff in one simple engagement letter is the way to go. It minimizes the inevitable confusion that happens when clients don’t read all of the fine details.

What Goes Into an Engagement Letter?

Let’s break down the typical sections found in a typical accounting firm engagement letter.

Introduction

The first part of your engagement letter is an introduction that states the purpose of the letter, identifies the parties involved (the accounting firm and the client), and gives a general description of the engagement. This sets the stage for the rest of the letter and clarifies the intent and parties involved.

Scope of Work

Your engagement letter should include a detailed description of the specific accounting services you will provide. This can range from tax preparation to audits or advisory services. The scope of work clearly defines what the client can expect from your firm. It also sets boundaries for the engagement.

Duration

Your engagement letter should include specific start and end dates for the engagement, as well as any critical milestones or deadlines. This sets a clear timeframe for rendering services.

Fees and Payment Terms

Your engagement letter should include details about your fee structure, payment schedule, accepted payment methods, late payment terms (if applicable), and potential additional charges. By being transparent about the financial aspects of your engagement, you can prevent misunderstandings later on.

Responsibilities of Each Party

Your engagement letter should outline specific tasks, deliverables, or obligations for both the client and your firm. This ensures that you’ll have a successful collaboration.

Confidentiality Clause

Your engagement letter should discuss how sensitive information will be treated, how long it’s to remain confidential, and under what conditions (if any) it can be disclosed. Including a confidentiality clause will establish a foundation of trust between you and your clients.

Termination Clause

Your engagement letter should include conditions under which the agreement can be ended by either party.

Signatures

Your engagement letter should include a space for both the accounting professional and the client to sign. This makes the engagement letter legally binding.

Engagement letters help prevent miscommunication and disputes down the road by clearly defining the relationship’s terms from the onset. For accounting firms, engagement letters aren’t just a best practice. They’re an absolute necessity to protect both the firm and its clients.

Best Practices to Follow When Sending Out Engagement Letters

Here are some best practices to follow when sending out engagement letters to accounting clients:

Keep It Simple

Using complicated language or accounting industry jargon can confuse your clients and lead to unnecessary misunderstandings.

To avoid this, draft the engagement letter in clear, straightforward language. If you must include industry-specific terms, be sure to provide definitions. Create a document that’s easy to understand even if the client isn’t familiar with accounting practices.

Customize Your Letters

Every client and engagement is unique. While it’s practical to have a base template, always tailor each engagement letter to the specifics of the client and the scope of work. Ensure the terms address the unique nuances of the particular engagement.

Have It Reviewed by Legal Counsel

Engagement letters are binding agreements and any ambiguity can have legal implications. Before sending out the letter, have it reviewed by your legal team, especially if there’s any uncertainty or if you’re venturing into new areas of service.

Be Transparent

Clearly outline any potential conflicts of interest, fees, payment schedules, and other crucial terms. When in doubt, lean towards over-communication to avoid any ambiguities.

Ask for Feedback

Encourage your clients to review the engagement letter thoroughly, ask questions, and suggest modifications, if necessary. This not only builds trust but can also prevent potential issues.

Send It Out at the Right Time

Send the engagement letter well in advance of the start date. This gives your clients time to review and ask questions.

Final Thoughts

The path to clear, transparent, and mutually beneficial professional relationships begins with the engagement letter. This document allows your firm to set expectations and confirm the goals between both you and your client. It provides clarity on roles, responsibilities, and timelines, and ensures that you’re on the same page. The best way to prevent misunderstandings is to simply explain what you’re offering and how.

Fortunately, it’s never been easier to create an engagement letter from scratch. Using Mango Practice Management software, you can draft a professional quality engagement letter in mere seconds. Schedule a free demo now to see this feature in action now.