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By Cathy Allen
Cathy Allen, CPA helps CPAs and others understand and apply auditor independence and professional ethics rules though consultation, training, litigation support and expert services. Ms. Allen was a Managing Director in PwC LLP and served as senior staff to the AICPA Professional Ethics Executive Committee (PEEC), where she was instrumental in developing standards and tools for the profession such as the AICPA Plain English Guide to Independenceand the Conceptual Framework for Independence. She authors several AICPA courses and other publications, including the Institute’s Ethics and Professional Conduct: Updates and Professional Ethics: The AICPA’s Comprehensive Course, and has written on professional ethics for various publications. Ms. Allen is a CPA in New York, New Jersey and Maryland and serves on the New York State Board for Public Accountancy and the National Association of State Boards of Accountancy (NASBA) Board of Directors as Northeast Regional Director. She also chairs the NASBA’s Ethics Committee and contributes to AICPA PEEC task forces.
The Public Company Accounting Oversight Board (PCAOB) was busy in 2017 enforcing its auditor independence rules, which the staff describes as a “high priority” area. A quick snapshot of the numbers shows:
Settled Disciplinary Orders: 12 cases included independence violations, involving 11 firms and ten associated persons (Total Settled Cases in 2017: 54).
Adjudicated Final Board Actions Imposing Sanctions in Disciplinary Proceedings: zero cases included independence violations (Total Adjudicated Cases in 2017: two).
Clearly, most of the PCAOB’s enforcement cases were resolved through settlement this past year. At approximately 22 percent, a significant portion of the total cases the Board settled involved one or more independence violations. In some cases, independence was the only charge, while in others the PCAOB also charged the firm and/or its members with violating auditing and quality control standards. Some cases cited violations relating to multiple clients and/or audit periods, including repeat violations. In one case, PCAOB inspectors called out a firm’s violation of independence due to prohibited bookkeeping services, which the firm nonetheless repeated the following year.
Independence issues related to:
In seven matters, the firms provided prohibited bookkeeping and financial statement preparation services to their broker-dealer audit clients. According to the Orders, firms engaged in various activities, including that they:
Interesting question and difficult to answer based on the information in most of the orders. In one Order, the PCAOB revoked the firm’s registration due to what the Board referred to as “intentional or knowing misconduct, including reckless conduct, or repeated instances of negligent conduct.” Some auditors were aware—and told their clients—that they weren’t permitted to prepare their clients’ financial statements, but ultimately did so anyway. Typically, the client made a first attempt, which the firm would revise significantly and then send to the client’s management for approval. While this approach might pass muster under American Institute of CPAs rules (assuming the auditor met the AICPA Code’s General Requirements for performing nonattest services and the revisions were not extensive), clearly this is unacceptable from the SEC’s point of view.
Certainly possible, but if so, that confusion is not new. The Orders note that while some practitioners thought the rules changed in 2014 when nonpublic broker-dealer audits became subject to PCAOB auditing standards, as registrants, broker-dealer audits have been subject to SEC independence rules (Rule 2-01 of Regulation S-X) for many years, even though they performed audits under GAAS. (See the SEC’s Release, Broker Dealer Reports, pp. 94-97, which among other things discusses changes to Rule 17a-5.)
Three cases involved prohibited business, employment or family relationships with clients. One involved a quality review partner whose son was employed in an accounting role at the audit client. The other two cases, which were related, involved an audit firm whose owners and directors were concurrently serving as directors and executives of the audit client. In one of those cases, the quality review partner who approved the audit was also found to have violated Auditing Standard 7, Engagement Quality Review, for failing to provide any evidence that the firm satisfied the independence requirements (a significant engagement deficiency). That reviewer also failed to observe the two-year cooling off period required by AS 7, having just served as the engagement partner.
Another case involved material, unpaid fees for previously performed services where the client made no payment commitment or other agreement to pay past due fees timely. The PCAOB also cited the firm for failing to provide written communication to the audit committee describing the past due fees as a possible independence concern. The violation occurred over two consecutive audits.
Finally, the PCAOB found one firm violated quality control and auditing standards and failed to provide a written communication about independence to the client’s audit committee.
The range of sanctions included:
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