1. ACCT 742: Advanced Auditing
Professional Ethics

2. What Are Ethics?
Ethics can be defined broadly as a set of moral principles or values.
Each of us has such a set of values.
We may or may not have considered them explicitly.

3. Need for Ethics
Ethical behavior is necessary for a society to function in an orderly manner.
The need for ethics in society is sufficiently important that many commonly held ethical values are incorporated into laws.

4. Why People Act Unethically
The person’s ethical standards are different from those of society as a whole.
The person chooses to act selfishly.
In many instances, both reasons exist.

5. Ethical Dilemmas
An ethical dilemma is a situation a person faces in which a decision must be made about appropriate behavior.

6. Rationalizing Unethical Behavior
Everybody does it.
If it’s legal, it’s ethical.
Likelihood of discovery and consequences

7. Resolving Ethical Dilemmas
Obtain the relevant facts.
Identify the ethical issues from the facts.
Determine who is affected.
Identify the alternatives available to the person who must resolve the dilemma.
Identify the likely consequence of each alternative.
Decide the appropriate action

8. Relevant Facts – An Example
A staff person has been informed that he will work hours without recording them as hours worked.
Firm policy prohibits this practice.
Another staff person has stated that this is common practice in the firm.

9. Ethical Issue
Is it ethical for the staff person to work hours and not record them as hours worked in this situation?
Who is affected?
How are they affected?
What alternatives does the staff person have?
Who: Bryan-staff being asked, Martha-another staff, Charles-Senior, Barton & Barton, Other
Staff assigned to Reyan Mfg in the future, Other staff in firm
How: Staff-Being asked to violate firm policy, Hours worked will be affected, Pay will be
affected, Performance evaluations may be effected
Senior-Success on engagement and firm may be affected, Hours worked will be affected
Firm: Stated firm policy is being violated,
May result in under-billing clients in the current and future engagements,
May affect firm’s ability to realistically budget engagements and bill clients
May affect the firm’s ability to motivate and retain employees.
Staff assigned to Reyon Mfg in the future:

10. Special Need for Ethical Conduct in Professions
Our society has attached a special meaning to the term professional.
A professional is expected to conduct himself or herself at a higher level than most other members of society.

11. CPAs Encouraged to Conduct Themselves at a High Level
Continuing
education
requirements
GAAS &
Interpretations
Legal
Liability
CPA
Examination
Conduct
of CPA firm
personnel
Division of
CPA firms
Quality
Control
Code of
Professional
Conduct
Peer
review
PCAOB
and
SEC

12. Code of Professional Conduct
Principles
Ideal standards of ethical conduct
stated in philosophical terms.
They are not enforceable.
Rules of
conduct
Minimum standards of ethical
conduct stated as specific rules.
They are enforceable.
Interpretations
of the rules
of conduct
Interpretation of the rules of conduct by
the AICPA Division of Professional Ethics.
They are not enforceable, but a
practitioner must justify departure.
Ethical
rulings
Published explanations and answers to questions
about the rules of conduct submitted to the AICPA by
practitioners and others interested in ethical
requirements. They are not enforceable, but a
practitioner must justify departure.

13. Ethical Principles
Responsibilities: Professionals should exercise sensitive and moral judgments in all their activities.
The public interest: Members should accept the obligation to act in a way that will serve and honor the public.
Integrity: Members should perform all responsibilities with integrity to maintain public confidence.
Objectivity and independence: Members should be objective, independent, and free of conflicts of interest.
Due care: Members should observe the profession’s standards and strive to improve competence.
Scope and nature of services: A member in public practice should observe the Code of Professional Conduct.

14. Standards of Conduct Substandard conduct Principles Rules of conduct
Ideal conduct
by practitioners
Minimum level
of conduct by
practitioners
Rules of
conduct
Substandard
conduct

15. Independence
The value of auditing depends heavily on the public’s perception of the independence of auditors.
Independence in fact
Independence in appearance

16. Sarbanes-Oxley Act and SEC Provisions Addressing Auditor Independence
The SEC adopted rules strengthening auditor independence in January 2003 consistent with the requirements of the Sarbanes-Oxley Act.
The Sarbanes-Oxley Act and the revised SEC rules further restrict, but do not completely eliminate the type of non-audit services that can be provided to the public.

17. Sarbanes-Oxley Act and SEC Provisions Addressing Auditor Independence: Services Prohibited
Bookkeeping and other accounting services
Financial information systems design and implementation
Appraisal or valuation services
Actuarial services
Internal audit outsourcing
Management of human resource functions
Broker or dealer or investment adviser or investment banker services
Legal and expert services unrelated to the audit
Any other service that the PCAOB determines by regulation is impermissible

18. Audit Committees
An audit committee is a selected number of members of a company’s board of directors whose responsibilities include helping auditors remain independent of management.
Most audit committees are made up of three to five or sometimes as many as seven directors who are not a part of company management.
The Sarbanes-Oxley Act requires that all members of the audit committee be independent.
Companies must disclose whether or not the audit committee includes at least one financial expert.

19. Conflicts Arising from Employment Relationships
The SEC has added a one year “cooling off” period before a member of the audit engagement team can work for the client in certain key management positions.

20. Partner Rotation The Sarbanes-Oxley Act requires that
the lead and concurring audit partner
rotate off the audit engagement
after a period of five years.

21. Ownership Interests
SEC rules adopted in 2000 on financial relationships narrow the restrictions on ownership in clients to those persons who can influence the audit (covered persons and their immediate family including:
Members of the audit engagement team
Those in a position to influence the audit engagement in the firm chain of command
Partners and managers who provide more than 10 hours of non-audit services to the client
Partners in the office of the partner primarily responsible for the audit engagement
Under previous rule: All firm partners and their immediate family were prohibited from having any ownership in the client, regardless of whether the partner was involved with the engagement.

22. Covered Members – Persons in a position to influence an attest engagement
Individual on the attest engagement team
An individual in a position to influence the attest engagement, such as individuals who supervise or evaluate the engagement partner
A partner or manager who provides non-attest services to the client
A partner in the office of the partner responsible for the attest engagement
The firm and its employee benefit plans
An entity that can be controlled by any of the covered members listed above or by two or more of the covered individuals or entities operating together

23. Independence Standards Board
It was dissolved in July 2001.
ISB pronouncements and interpretations
remain enforceable unless they conflict
with the independence rulings
issued by the SEC.

24. Apply the AICPA Code rules and interpretations on independence and explain their importance.

25. Rules of Conduct Rule 101 – Independence
A member in public practice shall be independent in the performance of professional services as required by standards promulgated by bodies designated by Council.

26. Financial Interests Direct versus indirect financial interest
Interpretations of Rule 101 prohibit covered members from owning any direct investments in audit clients.
Direct versus indirect financial interest
Material or immaterial
Covered members: An individual in a position to influence an attest engagement.

27. Interpretations of Rule 101: Related Financial Interests Issues
Former practitioners
Normal lending procedures
Financial interests and employment of immediate and close family members
Joint investor or investee relationship with client
Director, officer, management, or employee of a company
Immediate family members – spouse, spouse equivalent, dependent
Close family members – parents, sibling, nondependent children-only material interest
will impair independence

28. Litigation Between CPA Firm and Client
A lawsuit or intent to start a lawsuit
between a CPA firm and its client is a
violation of Rule 101 for the current audit.

29. Bookkeeping and Other Services
The AICPA Code permits a CPA firm
to do both bookkeeping and auditing
for the same non-public client.

30. Bookkeeping and Other Services (Non-public companies)
1. Client must accept full responsibility
for the financial statements.
2. The CPA must not assume the role
of employee or of management.
3. The audit must conform to GASS.

31. Bookkeeping and Other Services
The SEC does not allow audit firms
to provide bookkeeping services
to public company audit clients.
Consulting and other nonaudit services
Unpaid fees

32. Understand the requirements of other rules under the AICPA Code.

33. Other Rules of Conduct 102 – Integrity and objectivity
201 – General standards
202 – Compliance with standards
203 – Accounting principles
301 – Confidential client information
302 – Contingent fees
501 – Acts discreditable
502 – Advertising and other forms of solicitation
503 – Commissions and referral fees
505 – Form of organization and name

34. Describe the enforcement mechanisms for the rules of conduct.

35. Enforcement Action by AICPA Professional Ethics Division
Action by a state Board of Accountancy