Auditor IndependenceAuditor Independence

Co.Co. Investor Investor

hireshires reportsreports

AuditorAuditor

Who’s Most Ethical?Who’s Most Ethical?(1988 Survey)(1988 Survey)

AccountantsAccountants

DentistsDentists

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PoliticiansPoliticians

T.V. EvangelistsT.V. Evangelists

Used Car SalesmenUsed Car Salesmen

Discussion TimeDiscussion Time

• Time pressure

• Leigh Ann Walker

Principles Ideal standardsIdeal standardsNot enforceableNot enforceable

Rules of Rules of Specific rules ofSpecific rules ofConductConduct minimum conduct minimum conduct

EnforceableEnforceable

InterpretationsInterpretations Interpret rulesInterpret rulesNot enforceableNot enforceable, but , but justifyjustify departuredeparture

Ethical RulingsEthical Rulings Published explanationsPublished explanationsNot enforceableNot enforceable, but , but justifyjustify departuredeparture

PrinciplesPrinciples Ideal standardsIdeal standardsNot enforceableNot enforceable

Rules of of Specific rules ofSpecific rules ofConductConduct minimum conduct minimum conduct

EnforceableEnforceable

Interpretations Interpret rulesInterpret rulesNot enforceableNot enforceable, but , but justifyjustify departuredeparture

Ethical RulingsEthical Rulings Published explanationsPublished explanationsNot enforceableNot enforceable, but , but justifyjustify departuredeparture

IndependenceIndependence

Auditors need to be independent Auditors need to be independent in factin fact and and appearanceappearance

• Whether consulting actually affected Whether consulting actually affected independence in fact, it did affect the independence in fact, it did affect the appearanceappearance of independence of independence

Changes in Independence RulesChanges in Independence Rules

• SEC issued revised rules in Fall 2000– Some limits placed on consulting,

outsourcing internal auditing– Consulting fees must be disclosed

• Sarbanes-Oxley added some additional restrictions

• AICPA revised rules similar to SEC and take “engagement team approach” rather than firm-wide approach to financial interests

Covered MembersCovered Members

Rules on financial interests apply to Rules on financial interests apply to individuals or partners:individuals or partners:– On engagementOn engagement– In position to influence the engagementIn position to influence the engagement– Providing non-attest services to the Providing non-attest services to the

clientclient– Partners in office of partner Partners in office of partner

responsible for the engagementresponsible for the engagement

Financial InterestsFinancial Interests

Covered Covered MembersMembers Others Others

DirectDirect Interest Interest Not AllowedNot Allowed Allowed Allowed

IndirectIndirect AllowedAllowed if Allowed if AllowedInterestInterest immaterialimmaterial

1. Materiality would be least important to an auditor when considering the:1. Adequacy of disclosure of a client’s 1. Adequacy of disclosure of a client’s

illegal act.illegal act.2. Discovery of a weakness in the client’s2. Discovery of a weakness in the client’s

internal control structure.internal control structure.3. Effects of a direct financial interest in3. Effects of a direct financial interest in

the client on a CPA’s independence.the client on a CPA’s independence.4. Decision whether to use positive or4. Decision whether to use positive or

negative confirmation of accounts negative confirmation of accounts receivablereceivable..

Sarbanes-Oxley ProvisionsSarbanes-Oxley Provisions

SEC principles governing services:

1. Auditor cannot function as management

2. Auditor cannot audit own work

3. Auditor cannot serve as an advocate for the client

Prohibited Non-audit ServicesProhibited Non-audit Services (for public companies)(for public companies)

Bookkeeping or other services related to the accounting records or financial statements

Financial information systems design and implementation

Appraisal or valuation services, fairness opinions, or contribution-in-kind reports

Actuarial services

Internal audit outsourcing services

Management or human resources functions

Broker or dealer, investment adviser, or investment banking services

Legal and expert services unrelated to the audit

Any other service that the Public Company Accounting Oversight Board (Board) determines, by regulation, is impermissible

See Problem 4-20

The Act prohibits the following services, most of which were previously prohibited by the SEC’s rule on auditor independence:

Disclosure of confidential Disclosure of confidential InformationInformation

• Subpoena or summonsSubpoena or summons

• AICPA peer reviewAICPA peer review

• AICPA ethics divisionAICPA ethics division

Contingent Fees, Commissions, Contingent Fees, Commissions, AdvertisingAdvertising

These activities are generally allowed, due to consent agreement with FTC

• Contingent fees and commissions normally not allowed for attest clients

• Advertising allowed as long as not false, misleading or deceptive

Form of PracticeForm of Practice

A relatively new issue is the existence of so-called “alternative practice structures” (ex., firms acquired by American Express, H&R Block)

– CPAs must own a majority of the firm and voting rights

– CPAs must be responsible for attest functions

Problem 4-21Problem 4-21

a.a. 101101 – – No ViolationNo Violation (not covered (not covered member)member)

b. 201- b. 201- Violation Violation (Lack of competence) (Lack of competence)

c.c. 102 - 102 - ViolationViolation (No support for (No support for tax deduction) tax deduction)

d.d. 203 - 203 - ViolationViolation (Standards not (Standards not followed)followed)

Problem 4-21Problem 4-21

e. 101 - e. 101 - ViolationViolation (lack of indep.) (lack of indep.) 102102 (conflict of interest) (conflict of interest)

f. 301- f. 301- Violation Violation (need permission - (need permission - notnot AICPA Peer review) AICPA Peer review)

g. 501 - g. 501 - No ViolationNo Violation (not criminal act) (not criminal act)

h .h . 101101 - - No Violation No Violation (bookkeeping and other (bookkeeping and other services allowed for non-SEC clients)services allowed for non-SEC clients)