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This paper examines auditor liability rules under imperfect information, costly litigation and risk averse auditors. A negligence rule fails in such a setting, because in equilibrium auditors will deviate with positive probability from any given standard. It is shown that strict liability outperforms negligence with respect to risk allocation, and the probability that a desired level of care is met by the audi tor if competitive liability insurance markets exist. Furthermore, our model explains the existence of insurance contracts containing obligations - a type of contract often observed in liability insurance markets.