Chapter Nineteen
Professional
Ethics,
Independence
and Quality
Control
© The McGraw-Hill Companies 2010
Ethics and Professional Behaviour
Ethics
Refers to a system or code of
conduct based on moral duties and
obligations that indicate how an
individual should behave in society.
Professionalism
Refers to the conduct, aims, or
qualities that characterize or mark a
profession or professional person.
© The McGraw-Hill Companies 2010
Theories of Ethical Behaviour
Utilitarianism
Recognizes that decision-making involves
trade-offs between the benefits and
burdens of alternative actions and
focuses on the consequences and
individuals affected.
Rights-Based
Approach
Assumes that individuals have certain
rights and other individuals have a duty to
respect those rights when making
decisions.
Justice-Based
Approach
Is concerned with issues such as equity,
fairness and impartiality.
© The McGraw-Hill Companies 2010
IFAC Code of Ethics for Professional
Accountants
© The McGraw-Hill Companies 2010
IFAC Code Part A: Fundamental Principles
and Conceptual Framework
Part A of the Code establishes the fundamental
principles for professional accountants’
behaviour and the conceptual framework for
applying those principles.
© The McGraw-Hill Companies 2010
IFAC Code of Ethics for Professional
Accountants
A professional accountant in public practice: A professional
accountant, irrespective of functional
classification (e.g. audit, tax or consulting) in a firm that provides
professional services.
Professional services: Services requiring accountancy or related skills
performed by a professional accountant including accounting, auditing,
taxation, management consulting and financial management
services.
A professional accountant in business: A professional accountant
employed or engaged in an executive or non-executive capacity in such
areas as commerce, industry, service, the public sector, education,
the not for profit sector, regulatory bodies or professional bodies, or a
professional accountant contracted by such entities.
© The McGraw-Hill Companies 2010
Fundamental Principles
Integrity
Objectivity
Professional
Competence
& Due Care
Confidentiality
© The McGraw-Hill Companies 2010
Professional
Behaviour
Fundamental Principles
© The McGraw-Hill Companies 2010
Conceptual Framework Approach
Threats are created by circumstances and relationships that
could compromise an accountant’s ability to comply with the
fundamental principles.
Safeguards are actions or other measures that may
eliminate threats or reduce them to an acceptable level.
Identify threats to compliance with the
fundamental principles.
Evaluate the significance of the threats identified.
Apply safeguards, when necessary, to eliminate the
threats or reduce them to an acceptable level.
© The McGraw-Hill Companies 2010
Conceptual Framework Approach
• Establishes fundamental principles.
• Requires active consideration of issues.
• Requires judgement rather than literal
interpretations encouraged by a pure rules
approach.
• Can be applied to differing circumstances.
• Responsive to change.
© The McGraw-Hill Companies 2010
Categories of Threats
© The McGraw-Hill Companies 2010
Safeguards
Safeguards created by the
profession, legislation or regulation
Safeguards in the work
environment
Prohibitions:
When safeguards are
not adequate
© The McGraw-Hill Companies 2010
Professional
accountants in
public practice
Professional
accountants in
business
Safeguards created by the profession,
legislation or regulation
• Educational, training and experience.
requirements for entry into the profession.
• Continuing professional development
requirements.
• Corporate governance regulations.
• Professional standards.
• Professional or regulatory monitoring and
disciplinary procedures.
• External review by a legally empowered third
party of the reports, returns, communications
or information produced by a professional
accountant.
© The McGraw-Hill Companies 2010
IFAC Code Part B: Professional Accountants
in Public Practice
Part B Professional Accountants in Public
Practice illustrates how the conceptual
framework contained in Part A is to be
applied in specific situations by
professional accountants in public
practice.
© The McGraw-Hill Companies 2010
Part B: Situations
Fees & Other Types
of Remuneration
Professional
Appointment
Second
Opinions
Conflicts of
Interest
Marketing
Professional
Services
Objectivity – All
Services
Independence – Audit and
Review Engagements
© The McGraw-Hill Companies 2010
Gifts &
Hospitality
Custody of Client’s
Assets
Independence – Other
Assurance Engagements
Part B: Examples of Circumstances and
Relationships That May Create Threats
© The McGraw-Hill Companies 2010
Part B: Examples of Circumstances and
Relationships That May Create Threats
© The McGraw-Hill Companies 2010
Part B: Examples of Safeguards in
Work Environment
© The McGraw-Hill Companies 2010
Part B: Examples of Safeguards in
Work Environment (continued)
© The McGraw-Hill Companies 2010
Part B: Independence –
Audit and Review Engagements
Independence
of Mind
Independence
in Appearance
The state of mind that permits the expression of a
conclusion without being affected by influences
that compromise professional judgement, thereby
allowing an individual to act with integrity and
exercise objectivity and professional scepticism.
The avoidance of facts and circumstances that are
so significant that a reasonable and informed third
party would be likely to conclude, weighing all the
specific facts and circumstances, that a firm’s, or a
member of the audit team’s, integrity, objectivity or
professional scepticism has been compromised.
© The McGraw-Hill Companies 2010
Part B: Independence and the Conceptual
Framework Approach
Identify threats to independence.
Evaluate the significance of the threats identified.
Apply safeguards, when necessary, to eliminate the
threats or reduce them to an acceptable level.
When the practitioner determines that appropriate
safeguards are not available or cannot be applied to
eliminate the threats or reduce them to an acceptable
level, he or she shall eliminate the circumstance or
relationship creating the threats, or decline or
terminate the audit engagement.
© The McGraw-Hill Companies 2010
Part B: Independence –
Audit and Review Engagements
• Firm includes network firm, except where otherwise stated.
• A network firm is a firm or entity that belongs to a network. A network is
a larger structure that is aimed at cooperation; and that is clearly aimed
at profit or cost sharing or shares common ownership, control or
management, common quality control policies and procedures,
common business strategy, the use of a common brand name, or a
significant part of professional resources.
• Public interest entities: Additional provisions for public interest
entities.
• A public interest entity is a listed entity, and an entity defined by
regulation or legislation as a public interest entity or for which the audit
is required by regulation or legislation to be conducted in compliance
with the same independence requirements that apply to the audit or
listed entities.
• Documentation: Conclusions regarding compliance with
independence requirements, and substance of any relevant
discussions that support those conclusions.
© The McGraw-Hill Companies 2010
Part B: Independence –
Audit and Review Engagements
• Financial interests.
• Loans and guarantees.
• Business relationships.
• Family and personal relationships.
• Employment with an audit client.
• Temporary staff assignments.
• Recent service with an audit client.
• Serving as a director or officer of an audit.
• Long association of senior personnel with an
audit client, including partner rotation.
• Provision of non-assurance services to audit
clients.
© The McGraw-Hill Companies 2010
Part B: Provisions of Non-Assurance Services –
Types of Services and Circumstances
• Preparing accounting records and financial statements.
• Valuation services.
• Taxation services.
• Internal audit services.
• IT systems services.
• Litigation support services.
• Legal services.
• Recruiting services.
• Corporate finance services.
• Fees: Relative size of fees, overdue fees and contingent
fees.
• Compensation and evaluation policies.
• Gifts and hospitality.
• Actual or threatened litigation.
© The McGraw-Hill Companies 2010
Part B: Examples of Safeguards Related to
Provision of Non-Assurance Services
© The McGraw-Hill Companies 2010
Preparing Accounting Records and Financial
Statements
Originating or changing
journal entries, or
determining the account
classifications of
transactions.
Activities considered a
normal part of the audit
process that generally do
not threaten
independence.
Technical assistance and
advice on accounting
issues that generally do not
threaten independence
Services related to the
preparation of accounting
records and financial
Preparing or changing source
statements of a routine or
documents or originating data, in
mechanical nature that
electronic or other form,
may create self-review
evidencing the occurrence of a
threats.
transaction.
© The McGraw-Hill Companies 2010
Valuation Services
A valuation comprises the making of assumptions with regard to future
developments, the application of appropriate methodologies and
techniques, and the combination of both to compute a certain value, or
range of values, for an asset, a liability or for a business as a whole.
A self-review threat may be created when a firm performs a valuation
that is to be incorporated into the client’s financial statements.
The firm shall not provide a valuation service (or withdraw
from the audit engagement) if the valuation service has a
material effect on the financial statements and the valuation
involves a significant degree of subjectivity.
For public interest entity audit clients the firm shall not
provide valuation services to an audit client if the
valuations would have a material effect, separately or in the
aggregate, on the financial statements.
© The McGraw-Hill Companies 2010
Taxation Services
1.
2.
3.
4.
Tax return preparation.
Tax calculations for the
purpose of preparing
the accounting entries.
Tax planning and other
tax advisory services.
Assistance in the
resolution of tax
disputes.
For public interest entity audit
clients the firm shall ordinary
not prepare such tax
calculations of entries that are
material to the financial
statements.
A firm is not permitted to provide tax advice when the tax advice depends on
a particular accounting treatment or presentation in the financial statements,
and (a) the audit team has reasonable doubt as to the appropriateness of
the related accounting treatment or presentation under the relevant financial
reporting framework; and
(b) the outcome or consequences of the tax advice will have a material
effect on the financial statements.
© The McGraw-Hill Companies 2010
Internal Audit Services
Internal audit services involve
assisting the audit client in the
performance of its internal
audit activities.
In providing such services the
firm shall not assume
management responsibility.
Provision of internal audit
services creates a selfreview threat to
independence if the firm
uses the internal audit work
in the course of a
subsequent external audit.
For public interest entity audit clients the firm shall not provide
internal audit services that relate to a significant part of the internal
controls over financial reporting; financial accounting systems that
generate information that is, separately or in the aggregate,
significant to the client’s accounting records or financial
statements; or amounts or disclosures that are, separately or in
the aggregate, material to the financial statements.
© The McGraw-Hill Companies 2010
IT System Services
IT system services
Provision of IT systems services
related to information may create a self-review threat to
technology (IT) systems independence when the system
include the design or
generate information that affects
implementation of
the accounting records or financial
hardware
statements.
or software systems.
For public interest entity audit clients the firm shall not
provide services involving the design or implementation of
IT systems that form a significant part of the internal control
over financial reporting or generate information that is
significant to the client’s accounting records or financial
statements.
© The McGraw-Hill Companies 2010
Litigation Support Services
Litigation support services
include activities such as
acting as an expert witness,
calculating estimated
damages or other amounts
that might become receivable
or payable as the result of
litigation or other legal dispute,
and assistance with document
management and retrieval.
Litigation support services to
an audit client may create
may create a self-review
or advocacy threat.
Where the result of a valuation for litigation support
will have a direct effect on the financial statements,
the requirements in the Code relating to valuation
services are applicable.
© The McGraw-Hill Companies 2010
Recruiting Services
Recruiting services include
services such as reviewing
the professional
qualifications of applicants,
interviewing candidates
and providing advice on
their suitability for the post.
Providing recruiting
services to an audit
client may create
self-interest, familiarity
or intimidation threats.
The significance of the threats will depend on factors
such as the nature of the requested assistance and
the role of the person to be recruited.
Safeguards shall be applied when necessary to
reduce the threats to an acceptable level.
© The McGraw-Hill Companies 2010
Corporate Finance Services
Corporate finance services
comprise a broad range of
services including assisting
in developing corporate
strategies, identifying
possible targets for the client
to acquire, advising on
disposal transactions,
assisting finance-raising
transactions and providing
structuring advice.
Providing corporate
finance services to an
audit client may create
services may create
advocacy or self-review
threats.
Certain corporate finance services are not permitted,
such as services involving promoting, dealing in or
underwriting an audit client’s shares.
© The McGraw-Hill Companies 2010
Independence for
Other Assurance Engagements
An assurance engagement is an engagement in which a
practitioner expresses a conclusion designed to enhance the
degree of confidence of the intended users other than the
responsible party about the outcome of the evaluation or
measurement of a subject matter against criteria.
Many of the same circumstances and relationships discussed
previously related to independence requirements for audits and
reviews are also relevant for other assurance engagements.
Threats to independence typically arise more frequently and are
of greater significance when a non-assurance service is provided
to an audit client. Thus, the provision of non-assurance services
to audit clients is more restricted than to non-audit assurance
clients.
© The McGraw-Hill Companies 2010
IFAC Code Part C:
Professional Accountants in Business
A professional accountant in
business is an accountant holding
membership in an IFAC body and is
employed or engaged in an
executive or non-executive capacity
in an organization other than an
audit firm.
Professional accountants in
business must comply with the
IFAC Code’s fundamental
principles and apply the
conceptual framework when
threats to the principles exist.
© The McGraw-Hill Companies 2010
Threats:
• Potential conflicts.
• Preparation and reporting of
information.
• Acting with sufficient expertise.
• Financial interests.
• Inducements.
Auditor Independence in the EU
From European Commission, Recommendation on Statutory
Auditors’ Independence in the EU: A Set of Fundamental Principles
(2002):
‘A principles-based approach to statutory auditors' independence is
preferable to one based on detailed rules because it creates a robust
structure within which statutory auditors have to justify their actions. It
also provides the audit profession and its regulators with the flexibility
to react promptly and effectively to new developments in business and
in the audit environment. At the same time, it avoids the highly
legalistic and rigid approach to what is and is not permitted which can
arise in a rules-based regime. A principles-based approach can cater
for the almost infinite variations in individual circumstances that arise
in practice and in the different legal environments throughout the EU.
Consequently, a principles-based approach will better serve the needs
of European capital markets, as well as those of SMEs (small and
medium sized enterprises).’
© The McGraw-Hill Companies 2010
Systems of Quality Control
ISQC 1 Quality Control for Firms That Perform Audits and
Reviews of Financial Statements, and Other Assurance and
Related Services Engagements
Elements of systems of quality control:
• Leadership responsibilities for quality
within the firm.
• Relevant ethical requirements.
• Acceptance and continuance of client
relationships and specific engagements.
• Human resources.
• Engagement performance.
• Monitoring.
© The McGraw-Hill Companies 2010
Elements of Systems of Quality Control
© The McGraw-Hill Companies 2010
Selected Quality Control Policies and
Procedures
© The McGraw-Hill Companies 2010
Quality Control Programmes
EU 8th Directive.
IFAC SMO 1
Quality Assurance
© The McGraw-Hill Companies 2010
European Commission,
Recommendation on
Quality Assurance for
the Statutory Audit in
the EU: Minimum
Requirements
Quality Control Programmes
The objective of a quality assurance review is to:
1. Determine whether the member is subject to an adequate
system of quality control.
2. The system of quality control is in compliance with such
system.
3. The system of quality control has adhered to professional
standards and applicable legal and regulatory requirements in
performing engagements.
A member body shall choose either a cycle or risk-based approach
for selecting members for review.
© The McGraw-Hill Companies 2010
End of Chapter 19
© The McGraw-Hill Companies 2010