2. Introduction
• The definition of independence
• The Seven Threats to independence
• Safeguards
• Civil or regulatory concerns
3. What is Independence?
• Maintenance of objectivity
• Who must maintain independence?
– Serve on an attest engagement
– Position of influence
– Partners and senior staff
– Partners working with the engagement partner
– 5% or more ownership interest in the client
5. Familiarity
A “close relationship between an accountant
and client personnel makes the accountant too
sympathetic to the client's viewpoint or too
reluctant to objectively challenge the client's
views” (Klein, 2016, p. 204)
6. Adverse Interest
Actions or interests between the member and
the client that are diametrically opposed (AICPA,
2014)
7. Advocacy
Promoting an attest client’s interest or position
My client did
nothing
wrong.
I didn’t
look at the
evidence.
15. References
AICPA. (2014). Code of Professional Conduct.
Retrieved from
http://www.aicpa.org/research/standards/
codeofconduct/downloadabledocuments/
2014december14codeofprofessionalcondu
ct.pdf
Klein, G. (2016). Ethics in accounting: A decision
making approach. Hoboken, NJ: John
Wiley & Sons.
Editor's Notes
Accountants must contain many characteristics to fully and adequately serve their clients. One of these characteristics is the ability to maintain independent of the client. But what is independence and how can your independence be threatened? We will discuss the seven threats to independence, safeguards against these threats, and civil and regulatory concerns.
One of the most important aspects of performing an external audit is for the auditor to be independent. According to the Independence Rule, the rule states, “auditors must critically evaluate client financial statements and avoid circumstances that might lead an observer to doubt an auditor’s objectivity” (Klein, 2016, p. 198). In other words, independence is where the professional maintains objectivity.
Independence is not limited to external audits and auditors, but to several circumstances in the accounting profession. The Code of Conduct has categorized accounting professionals into two separate categories to determine who is required to follow the independence rule, covered members and non-covered members. Covered members are required to follow the independence rule to the fullest. The Code of Conduct considered five groups to be a part of the covered members, those accounting professionals:
Serve on an attest engagement team
Are in a position to influence an attest engagement
Partners and Senior Accounting Staff members who provide at least 10 hours annually of non-attest services
Partners who work in the same office as the lead attest engagement partner (Klein, 2016, p. 201)
In addition to the covered members, those who have 5% or greater ownership interest in the clients and other who concurrently serve in a managerial capacity for the client are also subject to following the Independence Rule (Klein, 2016, p. 202)
There are seven threats to independence. These seven threats are: familiarity, adverse interest, advocacy, undue influence, management participation, self-review, and self-interest. We will discuss each threat in greater detail.
Members having a close or longstanding relationship with a client or knowing individuals or entities who performed non-attest services for the client (AICPA, 2014).
A member of the engagement team whose spouse is in a key position at the client.
A partner of the firm who has provided the client with attest services for a prolonged period.
A member of the firm having recently been a director or an officer of the client.
A member of the engagement team whose close friend is in a key position at the client (AICPA, 2014).
Actions or interests between the member and the client that are diametrically opposed, for example, beginning, or the expressed intention to begin, litigation by either the client or the member against the other (AICPA, 2014).
Promoting an attest client’s interests or position.
Promoting the client’s securities as part of an initial public offering
Representing a client in U.S. tax court (AICPA, 2014).
Attempts by an attest client’s management or other interested parties to coerce the member or exercise excessive influence over the member (AICPA, 2014).
A threat to replace the member or the member’s firm over a disagreement with client management on the application of an accounting principle.
Pressure from the client to change audit procedures for the purpose of reducing audit fees.
A gift from the client to the member that is not insignificant to the member (AICPA, 2014).
Auditors cannot evaluate their own work while in the role of a manager or any decision making position. “Auditors are forbidden from serving as a director, overseeing a client's internal controls, signing client checks, disbursing client funds, and making client personnel decisions, among other acts” (Klein, 2017, pg. 211). This is also true for accountants or for any other individual with dual positions in management and any kind of financial process or procedure.
Accountants and auditors cannot evaluate any work that he or she worked on themselves such as financial statements, payroll, bookkeeping, purchase orders, etc. Accountants may give advice or suggestions regarding how to prepare documents, or which accounting policies to follow, but they may not do the work themselves. Other than the obvious conflict, this may create bias against the individuals own work, as they may believe their work superior and free of errors. Individuals that self-review may not give the same scrutiny to their work versus someone else.
An accountant my not have any direct financial or material indirect financial interest in a client. This includes circumstances that make others question their impartiality. The four main situations that may question ones self-interest are when an auditor has an ownership interest in a client, a creditor interest in a client, a shared business arrangement with a client, or excessive dependence on fees earned from a client (Klein, 2016).
In order to protect auditors and members of the accounting profession in general from the seven threats to independence, measures must be put in place to guarantee that professionals will be able to perform their duties to clients in the best conditions possible (Klein, 2016). Like Safeguard soap keeps you clean from germs, safeguards in accounting can help keep the accountant “clean” with independence.
Safeguards represent actions or other measures such as restrictions or conditions that eliminate or mitigate threats to independence in order to bring them to an acceptable level ("Code of Professional Conduct", 2014). Safeguards can be categorized into three main groups:
Safeguards created by the profession inclusive of any legislation and regulations that are implemented in order to ensure consistency and comparability among all professionals.
Safeguards implemented by the attest client that provide a framework of policies and procedures within which each accounting professional can perform his duties.
Safeguards implemented by the accounting or auditing firm such as policies and procedures dictating the appropriate approach and conduct towards client engagements.
Safeguards provided by the profession and that guarantee that each new accountant operates within the bounds of current legislations and regulations, can include education and training outlining how to obtain and maintain independence from clients ("Code of Professional Conduct", 2014). Initial education as well as continuing education can help instigate appropriate ethical rules that each accountant must possess in order to become an efficient accountant. Laws and regulations provide an external review of quality control system and govern independence requirements that must be followed by all auditors. Standard setting bodies monitor rules and guidelines and provide discipline protocol for potential offenders ("Code of Professional Conduct", 2014).
Each attest client also produces safeguards in order to protect its interests during the audit process. The organization will require from its auditors that they have an adequate skillset to perform the audit, inclusive of all the knowledge and experience necessary to perform for the firm ("Code of Professional Conduct", 2014). On an everyday basis, companies should set a tone at the top that trickles down to each individual employee and that conveys the policies and procedures that dictate fair financial reporting goals. In order to safeguard the integrity of the processes in place, companies must establish a corporate governance with an audit committee that will operate with an oversight goal to secure the proper decisions for the company ("Code of Professional Conduct", 2014).
Auditing firms must also put in place safety nets that protect the independence of their auditors during audit engagements. They can put in place a catalog of services that the firm can offer and be hired for without jeopardizing their auditors’ independence. Firms must attach great importance to a strong leadership that focusses on the primordial qualities of independence and sets the expectations for an independent attitude for all its accountants ("Code of Professional Conduct", 2014). Management must create a set of policies and procedures to implement and monitor quality control of the work performed by the staff and to ensure compliance. The elaboration of an employee workbook outlining identification, evaluation, and the implementation of safeguards against the threats to independence should be a focal point for auditing firms. Finally, firms should implement tests and procedures to identify interests and relationships between firms/partners and clients to avoid compromising any aspect of professional independence ("Code of Professional Conduct", 2014).
In conclusion, the threats to independence can ultimately change situations that result in conflicts of interest. It is important for the accountant to remain independent of your own work and the work of your client to maintain client objectivity. Failure to maintain independence can have dire consequences which could (in a worse case scenario) lead you to participate in fraud or other illegal behavior. The consequences of a lack of independence include loss of client, loss of employment and could even leave you stripped of your right to practice, litigation proceedings and possibly fines and jail time depending on the circumstances.
References
AICPA. (2014). Code of Professional Conduct. Retrieved from http://www.aicpa.org/research/standards/codeofconduct/downloadabledocuments/2014december14codeofprofessionalconduct.pdf
Klein, G. (2016). Ethics in accounting: A decision making approach. Hoboken, NJ: John Wiley & Sons.
