CHAPTER 19
INDEPENDENCE, PROFESSIONAL CONDUCT,
AND QUALITY CONTROL
Answers to Review Questions
19-1 The three theories of ethical behavior are (1) utilitarianism, (2) rights-based
approach, and (3) justice-based approach. Utilitarian theory recognizes that decisionmaking involves trade-offs among the benefits and burdens of alternative actions, and it
focuses on the consequences of an action on the individuals affected. The theory
proposes that the interests of all parties affected, not just one's self-interest, should be
considered. The theory of rights assumes that individuals have certain rights and other
individuals have a duty to respect those rights. Thus, a decision maker who follows a
theory of rights should undertake an action only if it does not violate the rights of any
individual. The theory of justice is concerned with issues such as equity, fairness, and
impartiality. Decisions made within this theory should lead to a fair and equitable
distribution of resources among those individuals or groups affected.
19-2
The six stages of ethical development are:
Stage I: The individual's actions are judged in terms of their physical
consequences, such as avoidance of punishment.
Stage II: The individual is aware of others' needs, but satisfaction of the
individual’s own needs is the basic motivation for action.
Stage III: The individual attempts to conform to group norms. The other's view
of the situation is considered, and conflicts are resolved through the
use of these norms.
Stage IV: The individual is concerned about order in society and its rules. The
individual uses the laws and rules for guidance in conflict situations.
Stage V: The individual views social contracts and mutual obligations as
important. Differences in conflict situations are resolved impartially
and with consideration of everyone's interests.
Stage VI: The individual bases actions on universal moral and ethical principles
(such as justice, equality, and dignity) that apply to all individuals and
groups.
19-3 The motivation behind the SEC’s new rules related to independence was to ensure
that they remain relevant, effective, and fair given the current business environment. The
mergers of the major public accounting firms increased their size and expanded their
geographical presence. Additionally, these firms have entered into various types of
business relationships with their audit clients and technology has allowed employees to
be more mobile and as a result the geographical location of the employee is less
important. Finally, audit clients are increasingly hiring firm partners and professional
staff, and more dual-career families create instances of spouses holding high-level
management positions with audit clients.
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19-4 The AICPA Code of Professional Conduct consists of two major sections:
 Principles of Professional Conduct.
 Rules of Conduct.
Additional guidance for applying the Rules of Conduct is provided by
 Interpretations of Rules of Conduct.
 Ethics Rulings by the Professional Ethics Executive Committee.
19-5
The six Principles of Professional Conduct are:
Responsibilities: In carrying out their responsibilities as professionals, members should
exercise sensitive professional and moral judgments in all their activities.
The public interest: Members should accept the obligation to act in a way that will serve
the public interest, honor the public trust, and demonstrate commitment to
professionalism.
Integrity: To maintain and broaden public confidence, members should perform all
professional responsibilities with the highest sense of integrity.
Objectivity and independence: A member should maintain objectivity and be free of
conflicts of interest in discharging professional responsibilities. A member in
public practice should be independent in fact and appearance when providing
auditing and other attestation services.
Due care: A member should observe the profession's technical and ethical standards,
strive continually to improve competence and the quality of services, and
discharge professional responsibility to the best of the member's ability.
Scope and nature of services: A member in public practice should observe the Principles
of the Code of Professional Conduct in determining the scope and nature of
services to be provided.
19-6 The Rules of Conduct are organized into five sections:
 Independence, Integrity, and Objectivity.
 General Standards and Accounting Principles.
 Responsibilities to Clients.
 Responsibilities to Colleagues.
 Other Responsibilities and Practices.
The practice of public accounting consists of the performance for a client, by a
member or a member's firm, while holding out as CPA(s), of the professional services of
accounting, tax, personal financial planning, litigation support services, and those
professional services for which standards are promulgated by bodies designated by the
Council of the AICPA.
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19-7 Interpretation 101-5 permits the following types of personal loans from a financial
institution:
 Automobile loans and leases collateralized by the automobile.
 Loans fully collateralized by the cash surrender value of an insurance policy.
 Loans fully collateralized by cash deposits at the same financial institution.
 Credit cards and cash advances on checking accounts with an aggregate balance not
currently paid of $5,000 or less.
Normal lending procedures, terms, and requirements are defined as lending
procedures, terms, and requirements that are reasonably comparable to those relating to
loans of a similar character given to other borrowers during the period in which the loan
to the member is given, including (1) the amount of the loan in relationship to the value
of the collateral pledged as security and the credit of the member or member's firm, (2)
repayment terms, (3) the interest rate, including points, (4) closing costs, and (5) the
general availability of such loans to the public.
19-8 Rule 301 specifies four situations when a CPA can disclose confidential
information without the client's consent: (1) to meet disclosure requirements for GAAP
and GAAS, (2) to comply with a valid and enforceable subpoena, (3) as required by an
authorized peer review board or body, and (4) as part of an investigative or disciplinary
proceeding.
19-9 The following acts are considered discreditable under Rule 501:
 Retention of client records.
 Discrimination and harassment in employment practices.
 Failure to follow standards and/or procedures or other requirements in governmental
audits.
 Negligence in the preparation of financial statements or records.
 Failure to follow requirements of governmental bodies, commissions, or other
regulatory agencies in performing attest or similar services. Solicitation or disclosure
of CPA examination questions and answers.
 Failure to file tax return or pay tax liability.
19-10 The following are examples of advertising activities that are prohibited by the
Rules of Conduct:
 Creating false or unjustifiable expectations of favorable results.
 Implying an ability to influence any court, tribunal, regulatory agency, or similar
body or official.
 Claiming that specific professional services in current or future periods will be
performed for a stated fee, estimated fee, or fee range when it is likely at the time of
representation that such fees will be substantially increased and the prospective client
was not advised of that likelihood.
 Making any other representations that would be likely to cause a reasonable person to
misunderstand or be deceived.
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19-11 A firm's system of quality control encompasses its organizational structure and
the policies adopted to provide the firm with reasonable assurance of conforming with
professional standards (QC 10.03).
The five elements of quality control and examples of policies or procedures that
can be used to fulfill each element are:
Independence, integrity, and objective:
 Inform personnel of the firm's independence policies and procedures and advise them
that they are expected to be familiar with these policies and procedures.
 Obtain from personnel annual, written representations stating that they are familiar
with the policies and procedures and that prohibited investments are not held and were
not held during the period.
Personnel management:
 Plan for the firm's personnel needs at all levels and establishment quantified hiring
objectives based on current clientele, anticipated growth, personnel turnover,
individual advancement, and retirement.
 Identify the attributes to be sought in hirees, such as intelligence, integrity, honesty,
motivation, and aptitude for the profession.
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Acceptance and continuance of clients:
Establish procedures for evaluation of prospective clients, such as (1) obtaining and
review of available financial information regarding the prospective clients and (2)
inquiry of third parties about any information regarding the prospective client and its
management.
Designate an individual or group, at appropriate management levels, to evaluate the
information obtained and to make the acceptance decision.
Engagement of performance:
Provide adequate supervision at all organizational levels, considering the training,
ability, and experience of the personnel assigned.
Develop guidelines for review of working papers and for documentation of the review
process inspection.
Monitoring:
Determine of the inspection procedures necessary to provide reasonable assurance
that the firm's other quality control policies and procedures are operating effectively.
Inspect practice units, functions, or departments.
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Answers to Multiple-Choice Questions
19-12
19-13
19-14
19-15
19-16
19-17
19-18
C
D
C
B
B
C
C
19-19
19-20
19-21
19-22
19-23
19-24
A
B
D
B
A
A
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