Announcement: SOA releases March 2022 Exam P passing candidate numbers.

Engagement Letters to Help Run Your Practice Well

The Independent Consultant

Engagement Letters to Help Run Your Practice Well

Anna Rappaport and Lauren Bloom

An important part of a successful consulting practice is having a clear understanding between the consultant and client about what is expected by both parties. Often, using an engagement letter is an excellent way to document that understanding. This article will provide some information about what might be included in an engagement letter and suggestions on how to negotiate them with your clients.

The Basics

The Code of Professional Conduct (Code) sets forth requirements with regard to Actuarial Services performed by an actuary and governs the relationship between the Actuary and Principal (the client or employer). The core of a typical engagement letter is a clear definition of what it is that the actuary plans to do for the client, how the compensation will be determined and what the responsibilities of each party are. The description of the scope of the engagement is important so that both parties are clear on what they have agreed on. The Code sets forth some guidance as to how the actuary shall conduct the assignment. While the guidance in the Code need not be repeated here, the actuary should comply with the Code whenever the actuary provides professional services to a client.

Compensation and scope are usually related. Compensation may use an hourly rate, a retainer, a fixed fee for a specific project or some other basis. Where the compensation is based on a retainer basis or a fixed fee, it is normally very important to state in the letter what is included in that fixed fee, so that the client will understand exactly what the actuary will and will not do. It's also a good idea to specify any additional fees that will be associated with the engagement, for example, reimbursement of travel expenses, copying costs or the cost of outside peer review.

In addition to the type of work and additional fees involved, the actuary might wish to include items such as how many drafts of the work will be provided within the fixed fee or retainer for review and comments. Anna usually provides for one or two drafts with revisions when writing something that the client will give input to, and then makes additional drafts available for an added charge. This can be particularly important if you are working on something that may get public distribution, especially if the client tends to provide many comments. In some cases clients give multiple comments, sometimes asking first to include material and then asking later why it was there. Providing drafts with tracked, dated changes identified by their author can help manage the editing process. The actuary also may want to specify how many meetings (either in person or by conference call) are included for the fee provided, so that additional meetings beyond those anticipated when the project began would then involve an added charge.

The Nature of the Work - Actuarial or Non-Actuarial?

An assignment may or may not require the actuary to issue a formal actuarial opinion. Standards apply to actuarial opinions that do not apply to other types of advice the actuary may provide. If the actuary is writing a report or doing research for publication, the client may be providing editorial services. Anna's approach is to make clear that she expects that kind of editorial support. Lauren agrees that it's often a good idea to have editorial services available to support actuarial work, especially if it is anticipated that the work will be published. The actuary can ask the client to provide editorial support, retain an editor and pay for the editorial services or build them into the price of the engagement. Where something is going to published with the actuary's name on it, it is important for the actuary to retain final sign-off of the version to be published. Where something is published, is not an actuarial opinion and does not have her name on it, Anna provides input but the client may decide what they want to publish. Lauren would caution, however, that if the actuary is concerned about the accuracy or completeness of the client's version, the actuary may want to reserve the right to withdraw from the engagement prior to publication.

Timing and Communication

The engagement letter also usually includes a schedule for when the work is to be done. If the work requires exchange of information between the parties, the actuary may wish to specify the completion date in terms of elapsed time after the actuary gets information rather than a fixed date. It's also often a good idea to include some idea about milestones within a project plan so that both parties can see how things are going along. If a project involves asking for information or asking questions along the way, the actuary may want to provide a normal response time (one day vs. three days, etc.)

Another critical part of the scope is how the actuary and the client expect to communicate with one another. Anna recommends that if work is mostly going to be transmitted by e-mail and there will not be in-person meetings, this approach be specified up-front. It is nice to meet people face-to-face, but often they may be far away and in-person meetings can be time-consuming and expensive. Lauren thinks it is usually wise for the engagement letter to specifically describe the level of reliance on the client that the actuary expects and to require the client to identify a contact person to whom the actuary can go with questions and requests for information. It may also be advisable to state in the letter that the actuary may not be able to complete the engagement without the client's full support.

If the actuary is working cooperatively with the client and the client's attorney, or with the client and another actuary, the engagement letter usually should address the cooperative relationship and explain how the actuary expects to proceed. If the actuary expects to be able to contact the prior actuary, the engagement letter is a good place to state that expectation. It is also prudent to identify who will receive the work product on the client's behalf. If the actuary wishes to reserve the right to meet or speak with a specific individual or entity (for example, the President or Board of Governors of a client company), the engagement letter is a good place to make that desire clear.

Are You an Expert or a Vendor?

Larger organizations hire a variety of outside people, some of whom are considered experts and others who are considered vendors. They often have purchasing departments who deal with vendors and have standard contracts that apply very poorly to actuarial consultants. At times they may have provisions that you cannot or are unwilling to meet in these standard vendor contracts, including broad indemnification, requirements for large amounts and various types of insurance, etc. While the adverse consequences that are possible under these indemnification clauses are often very remote, they create risk for the actuary if he or she accepts them.

For the individual practicing on their own, these conditions may be unacceptable. It is important in such situations to be viewed as an expert, or it may be very difficult to reach an agreement.

Matching the Letter to the Assignment

It would be nice to have a standard letter that could be used regardless of the situation. However, there are very different situations including the following:

  • Working for an individual vs. a plan sponsor vs. an insurance company vs. a professional association, or working as a subcontractor.
  • Providing a statement of actuarial opinion.
  • Doing calculations where the client supplies the data.
  • Doing research/calculations where all information comes from public or third party sources.
  • Giving a speech.
  • Writing an article for publication.
  • Providing peer review of someone else's work.
  • Serving as an expert witness.
  • Providing advice on a research project where you are not the primary researcher.

The description of work in the engagement letter usually should be tailored to the specific nature of the engagement and expected work product. Lauren observes, however, that the actuary may choose to keep the more general provisions of the actuary's engagement letters essentially identical.

Other Things to Think About

To keep life simple, it would be easy to stop with the core of the engagement letter. However there are other issues that the actuary is usually wise to consider. Some of the issues to think about are:

  • How professional liability is managed in the actuary's practice.
  • Whether there are any possible issues with regard to ownership of copyrights and/or intellectual property - who will own what at the end of the assignment? Have you protected what you owned at the beginning of the assignment if the issues covered will be touched in some way?
  • If speech material being written can be posted on the actuary's Web site.
  • Whether there are any restrictions with regard to working for competitors.
  • Who will do the work and whether the actuary might be partnering with someone.
  • Who, other than the client, will see the actuary's work? To what extent will third parties foreseeably rely on the actuary's work product? Is the client willing to indemnify the actuary against third-party claims?
  • Is the actuary's work such that it can only be relied upon in its entirety? If not, to what extent is the actuary comfortable with having the work excerpted?
  • Will outside peer review be necessary? If so, who will pay for it?
  • What happens if the client decides to switch to another actuary? Will the actuary want to refuse to cooperate with the successor actuary until outstanding fees are paid? (Under the Code, an actuary can only refuse to cooperate with a successor actuary based on the client's non-payment of fees if the actuary has an agreement in effect with the client before the client switches to the new actuary.)
  • If the actuary has to rely upon another expert who also serves the client (e.g., an auditor, attorney, accountant), will the client agree to indemnify the actuary against any error on the part of the other expert?

Management of Professional Liability

Some small actuarial firms have chosen not to buy liability insurance, often basing the decision on a perception that clients may be less likely to sue if the actuary has no insurance to offer a "deep pocket." Most consultants, however, have such insurance, although the level of coverage may or may not be sufficient to make a client whole if the actuary makes a mistake. Regardless of whether the actuary has errors and omissions insurance, there are various strategies that the actuary may wish to use to limit liability:

  • Only accept assignments that are low risk, and do not have potential for significant harm. Anna has chosen not to accept assignments requiring calculations. This is, of course, an individual decision that depends tremendously on the individual actuary's tolerance for risk.
  • Get indemnified by the party you are working with (see above). This strategy may be appropriate where, for example, you are hired as an expert witness.
  • Agree to limits of liability so as to define your maximum liability.
  • Obtain client signoff on key methods and assumptions or even final signoff on the work.
  • Add extra layers of quality control.

Each of these points will usually need to be individually negotiated with the client. Once decided, the actuary will normally wish to include these points in the engagement letter.

Intellectual Property Issues and Ownership

If the actuary is developing material for another party who is paying the actuary to develop it, normally that party will own it. However, if the actuary is using material that the actuary already has and expects to use for others as well, the actuary usually will wish to be clear that the actuary is not transferring ownership. If the actuary is giving a speech they want to post on their Web site, the actuary may wish to reserve that right in the speaking agreement.

One sensible way to address intellectual property issues is to provide that there is no transfer of the intellectual property that was owned by either party prior to undertaking the assignment.

Working for Others and/or Hiring People the Actuary Worked With

The client may not want the actuary to work for the client's competitors. For example, if the actuary is assisting a software company in the development of software for a particular function, the may wish to limit the actuary's ability to work for competing software companies. This is a part of the business deal, and the actuary will need to think through whether to agree to such a condition.

If the actuary is providing added help to a larger actuarial firm, the firm may want to limit the actuary's ability to work with the firm's clients except through them.

The client may also wish to limit the actuary's ability to hire people the actuary previously worked with. Again this is a part of the business deal to which the actuary will have to decide whether to agree. Ordinarily, if agreed to, the limitations described above would be reflected in the actuary's engagement letter.

Who Will Do the Work

If the actuary is going to do the work personally, they may wish to say that in the letter. Some engagement letters specify that the actuary will not transfer responsibility for the work to any third party. Some letters also specify that the actuary is an independent contractor, not an employee, and specifically state that the actuary is not entitled to participate in the client's employee benefit programs.

Small Assignments

For the individual actuary and actuaries practicing in small firms, much of the work may be small assignments. Neither the actuary nor the client can usually afford to spend huge amounts of time coming to agreements about what the actuary will do, so it's usually preferable for the actuary to keep the engagement letters reasonably simple. This can be challenging. Lauren suggests that it may be beneficial to start from a "standard" engagement letter that is then adapted to the circumstances of a particular assignment. Even if a fair bit of editing is required to conform the letter to the assignment at hand, it is still usually simpler to edit an existing letter than to prepare one from scratch.

Pitfalls to be Avoided

Each actuarial assignment is different, but some pitfalls appear more frequently than others. For example:

  • If a lawsuit is filed based on the actuary's work, the client may claim that the actuary promised results upon which the client relied, and then failed to deliver them. A clear statement in the engagement letter to the effect that the actuary will produce projections but that actual events will likely unfold differently from those projections can make it more difficult for the client to succeed with this argument.
  • The client may claim that the actuary made promises outside the scope of the assignment. A clear description of the scope in the engagement letter, accompanied by a statement that the engagement letter represents the actuary's entire understanding with respect to the engagement can help defeat this claim.
  • The client may not understand exactly what the actuary expects to do. Again, a clear statement of the scope of work and description of expected deliverables can resolve any misunderstandings.
  • The client may not be willing to let the actuary contact the predecessor actuary because the client is trying to conceal facts from the actuary. If the actuary reserves the right to contact the predecessor actuary in the engagement letter that will quickly bring the client's intent to the surface.
  • If the actuary does not reserve the right to refuse to cooperate with a successor actuary in the engagement letter or other agreement with the client, Precept 10 will require the actuary to cooperate with any successor even if the actuary's fees have not been paid.

What Others Say

Other professionals have similar issues. For example, a review of the standards for Chartered Financial Planners certification provides guidance on the standards that apply to CFPs. For the CFP professional, a written letter is required in advance of the engagement setting forth the following:

"Specific parties to the engagement, including details of any legal and agency relationships which may exist; Assurance of protection of client confidentiality; Specific personal financial planning services to be provided; Attestation that any assumptions used in the planning will be disclosed in writing; Duration of the engagement including frequency of contact, which may include subsequent reviews; The CFPs compensation arrangements with respect to this engagement; Existing conflicts of interest and agreement to disclose subsequent conflicts of interest if or when they do occur; An explanation of qualifications, licenses and experience of individuals who will work with the client; Client's responsibilities, including the full and timely disclosure of information; The CFP professional's responsibilities; and Procedures for resolution of client claims and complaints with the firm." (Source, page 31, CFP Certification Standards, 2006, Financial Standards Planning Board)

The legal profession also requires its members to use engagement letters. The required content of such letters varies from state to state, but generally includes a clear description of the services to be provided, the fees to be charged, the schedule for completion of services and disclosure of any real or apparent conflicts of interest.

Within the actuarial profession, the Code speaks to some of the issues referenced by the CFP, including conflict of interest, confidentiality, actuarial communications and disclosure of assumptions.

The engagement letter is a valuable tool, both to define the terms of an engagement and to provide a vehicle for resolving outstanding issues with the client. Consulting actuaries are wise to use them.

  • Check List - Remember to think about:
  • What will be done
  • What you will deliver
  • When it will be done
  • How and with whom you will communicate
  • What and when you will be paid
  • Managing liability
  • Intellectual property issues
  • Confidentiality
  • Any agreements about rights to work for others
  • Where you will get data
  • What you and the client are each responsible for

Lauren M. Bloom is the founder and CEO of Elegant Solutions Consulting; she is also a speaker, writer and consultant on professional ethics, governance and litigation risk management.

Anna M. Rappaport, FSA, MAAA, is the founder of Anna Rappaport Consulting. She is an internationally known expert on the aging workforce, retirement policy and strategy, and women and retirement. She is a Past-President of the Society of Actuaries and chairs the Committee on Post-Retirement Needs and Risks.