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What is an engagement letter?

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Last editedNov 20202 min read

An engagement letter is a form of written agreement set out between two parties before entering into a business partnership. It’s an easy way to make sure both parties are clear on their respective responsibilities, terms, and costs. Furthermore, it can be referred back to in the event of any disputes. While it does not usually replace a written contract, it can still be legally binding in a court of law. Engagement letters can be used by companies working with individual clients as well as those partnering with large corporations.

How does an engagement letter work?

An engagement letter defines the scope of a company’s services and sets out the expectations to be met on both sides. It is typically drafted, or at least approved, by a legal advisor in case it needs to be referred back to in any future disputes. It can be proposed by either party but will often be produced jointly to ensure that the conditions set out are agreed upon, and all the information contained within is correct.

These types of letters are typically drawn up after an agreement has been reached in terms of both service and cost but before any work commences. This means that both parties already have an idea of what the letter should contain but there is a chance to clarify mutual understanding before any gains or losses are incurred. However, in some cases, it may not be practical to wait to start work until after the letter has been provided.

Engagement letters vs. contracts

Contracts in law are not solely defined as written documents titled as such. Verbal agreements can form legally binding contracts – and so can letters of agreement. However, engagement letters often go beyond a standard business contract by laying out terms agreed by the individual parties in a clear and straightforward manner. They can be used to set expectations and outline scope as well as to formalise both parties’ agreement to their rights and responsibilities.

What are the advantages of an engagement letter?

Engagement letters help make sure everyone is on the same page – and confirms in writing what everyone has agreed to. These letters are often used by lawyers and other such professionals to define the scope of the services they offer and to prevent what is known as “scope creep” – essentially, being asked to do more work than you initially agreed to.

An engagement letter can also serve as a great risk management tool as it provides evidence of the work you have agreed to, any costs, and liability limitations.

What should you include in an engagement letter?

Engagement letters must include some critical details, such as the identifying information of each party agreeing to them. It should also set out the scope of the work agreed upon and any limitations on services offered. Typically, these letters also detail the agreed costs for this work, as well as any penalties and liability. Many parties also choose to include liabilities and limitations as part of their engagement letters.

Engagement letters largely seek to confirm terms rather than create them. The information contained within should have already been agreed upon between the parties, and so the letter should merely act as a written record of this fact.

What should an accounting service engagement letter look like?

Engagement letters are frequently used by accountants and bookkeepers when working with companies or individual clients. In fact, many insurance companies will require these in order to limit an accountant’s professional liability.

An accounting engagement letter should include all the information referenced above and will also typically have a timeline within which the work should be carried out. There are also specific terms that are used in different types of contract, such as for tax filing or auditing.

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