1. OBJECTIVE 4-5
Apply the AICPA Code rules and interpretations on independence and explain their importance.
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2. Independence rule
The value of auditing is dependent on the public’s perception of the independence of auditors.
Independence consists of two components:
Independence of mind (also referred to as independence in fact)
Independence in appearance
Independence is sometimes called the cornerstone of auditing. If the auditor is not independent, in mind or in appearance, the public will not view the audit report as a reduction of information risk.
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3. Independence rule (cont.)
The most significant interpretations involving independence include:
Financial interests
Related financial interest issues
Consulting, bookkeeping, and other nonattest services
Litigation between CPA firm and client
Unpaid fees
Network of firms
Any of these circumstances could affect the appearance of independence. The interpretations provide guidelines for auditors to avoid these circumstances.
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4. Independence rule (cont.)
Financial Interests—The Code prohibits covered members from owning any stock or other direct investment in audit clients.
Covered Members—Any person who is in a position to influence an attest engagement.
The prohibition of direct ownership also applies to the covered member’s immediate family, which includes spouse, spousal equivalent, and dependents.
A Direct versus Indirect Financial Interest—Ownership of stock by a covered member or immediate family is direct financial interest. A close, but not direct, ownership interest is an indirect financial interest.
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5. Independence rule (cont.)
Financial Interests (Cont.)
Material or Immaterial—Any direct ownership interest is prohibited, regardless of materiality. Materiality affects only whether ownership is a violation of independence for indirect ownership.
Financial Interests of Close Relatives—Close relatives are defined as parent, sibling, or nondependent child. Ownership by a close relative is usually not a violation of independence unless the ownership is material to the relative, or enables the relative to exericise significant influence over the attest client.
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6. Independence rule (cont.)
Related Financial Interest Issues
Any of these relationships between a CPA and the client could affect independence:
Loans, other than normal lending procedures
Employment of immediate and close family members
Joint closely held investments with clients
Director, officer, management, or employee of a company
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7. OBJECTIVE 4-6
Understand Sarbanes-Oxley Act and other SEC and PCAOB independence requirements and additional factors that influence auditor independence.
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8. Sarbanes-oxley and related independence requirements
Auditors of public companies must also comply with the independence requirements of the Sarbanes-Oxley Act, the PCAOB, and the SEC.
Sarbanes-Oxley and the SEC restrict the nonaudit services that can be provided to publicly held companies.
Sarbanes-Oxley also requires that an audit committee of the public company be responsible for the appointment, compensation, and oversight of the auditor.
Sarbanes-Oxley, the PCAOB, and the SEC have more stringent rules concerning independence than the Code. This is in response to the scandals that preceded the passing of Sarbanes-Oxley.
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9. Sarbanes-oxley and related independence requirements
There are also rules concerning the following issues:
Conflicts arising from employment relationships
Partner rotation
Ownership interests
Shopping for accounting principles (“opinion shopping”)
Engagement and payment of audit fees by management
All of the Sarbanes-Oxley independence rules are intended to improve the appearance of independence as well as independence in fact.
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