20 February 2015File Ref: OW/XGF/2-0004
AU/APS/6-0012
The International Ethics Standards Board for Accountants
545 Fifth Avenue, 14th Floor
New York, 10017
United States of America
Dear Members of theInternational Ethics Standards Board for Accountants
CONSULTATION PAPER – IMPROVING THE STRUCTURE OF THE CODE OF ETHICS FOR PROFESSIONAL ACCOUNTANTS
Thank you for the opportunity to provide comments on the International Ethics Standards Board for Accountants (IESBA)Consultation Paper –Improving the Structure of the Code of Ethics for Professional Accountants(the Consultation Paper).
The primary purpose of our submission is to reiterate our concern that the standard of independence over the provision of assurance engagements in the Code of Ethics for Professional Accountants (the Code) is too low. Furthermore we are concerned that the examples in the Code that illustrate the application of the fundamental principle of objectivity, as it applies to independence, are inconsistent with the fundamental principle itself.
We note that the purpose of the Consultation Paper is to seek comments on the proposal to review the presentation of the Code, rather than to address the content (and hence the meaning) of the Code.
Rather than repeat our concerns in full in this letter, we have attached a copy of an earlier submission (dated 3 May 2007) that sets out a number of fundamental issues we have with the Code.
We have also responded to the questions in the Consultation Paper in the Appendix to this letter.
If you have any questions about our submission, please contact me at .
Yours sincerely
Roy Glass
Director - Auditing Policy
Office of the Controller and Auditor-General of New Zealand
Appendix - Our Specific Responses to the IESBA Questions in the Consultation Paper
- Do you believe that the approach outlined in this Consultation Paper, as reflected in the Illustrative Examples, would be likely to achieve IESBA’s objective of making the Code more understandable? If not, why not and what other approaches might be taken?
As noted in our covering letter we have significant concerns with the standard of independence required by the Code.
We also consider the Code is too complicated. As a consequence there is a greater chance for the Code to be misapplied by professional accountants. Complexity is introduced through the identification of various situations (and accompanying guidance to assist in responding to those situations) that may lead to the dissipation of the fundamental principle, when the fundamental principle applies equally to every situation. Specifically, complexity is introduced by having separate independence requirements for:
- Audits and reviews of financial statements (section 290) and other assurance engagements (section 291);
- Assurance that is being provided to a specific party, and that party effectively waives the professional accountant’s obligation to comply with the independence requirements of the Code; and
- Public interest entities and other entities.
- Do you believe that the approach outlined in this Consultation Paper, as reflected in the Illustrative Examples would be likely to make the Code more capable of being adopted into laws and regulations, effectively implemented and consistently applied? If not, why not and what other approaches might be taken?
Effective legal enforcement typically relies on there being an obvious response to a situation, whereas it is often the presence of a robust process to develop an appropriate response that is the critical consideration to be taken into account when assessing compliance with the Code.
In summary, it is our view that the Code does not lend itself to legal enforceability when the proper application of the Code requires the application of professional judgement. The exception to this is when the professional accountant has obviously ignored the requirements of the Code.
- Do you have any comments on the suggestions as to the numbering and ordering of the content of the Code (including reversing the order of extant Part B and Part C), as set out in paragraph 20 of the Consultation Paper?
- Do you believe that issuing the provisions in the Code as separate standards or rebranding the Code, for example as International Standards on Ethics, would achieve benefits such as improving the visibility or enforceability of the Code?
- Do you believe that the suggestions as to use of language, as reflected in the Illustrative Examples, are helpful? If not, why not?
- Do you consider it is necessary to clarify responsibility in the Code? If so, do you consider that the illustrative approach to responsibility is an appropriate means to enhance the usability and enforceability of the Code? If not, what other approach would you recommend?
- Do you find the examples of responsible individuals illustrated in paragraph 33 useful?
- Do you have any comments on the suggestions for an electronic version of the Code, including which aspects might be particularly helpful in practice?
Enabling the Code to be adapted to particular situations is an implied acknowledgement of the complexity of the Code. As noted in our response to question 1, it is our opinion that the Code should be simplified.
Furthermore, a facility that would enable the Code to be adapted to particular situations may encourage an approach to resolving situations that ‘unless a matter is expressly prohibited, it is permitted’. The Code specifically requires professional accountants not to take this approach.
- Do you have any comments on the indicative timeline described in Section VIII of this Paper?
10. Do you have any other comments on the matters set out in the Consultation Paper?
Our primary concerns are set out in our covering letter, and are expanded in our earlier submission on the Code dated 3 May 2007 (copy attached).
3 May 2007File Ref: PS32-0001
Senior Technical Manager
International Ethics Standards Board for Accountants
International Federation of Accountants
545 Fifth Avenue, 14th Floor
New York, New York10017
USA
Dear Sir/Madam
1PROPOSED REVISED SECTION 290 OF THE CODE OF ETHICS AND PROPOSED NEW SECTION 291 OF THE CODE OF ETHICS (ISSUED DECEMBER 2006)
Thank you for providing the opportunity to comment on the proposed revision of Section 290 of the Code of Ethics and the new Section 291 of the Code of Ethics issued in December 2006 (the Exposure Draft).
Our submission is presented in 3 parts – as follows:
- Overall comments on the application of the approach to independence;
- Specific responses to the questions in the Explanatory Memorandum (in Attachment 1); and
- Detailed comments on the Exposure Draft (in Attachment 2).
Overall comments on the application of the approach to independence
We accept and support the conceptual framework underlying the approach to identify, evaluate and address threats to independence. In particular, we agree with the comment in paragraph 100.5 of the Code of Ethics which states:
“A conceptual framework that requires a professional accountant to identify, evaluate and address threats to compliance with the fundamental principles, rather than merely comply with a set of specific rules which may be arbitrary, is, therefore in the public interest.”
We strongly agree, as stated in paragraph 100.4 (b) of the Code of Ethics, that objectivity is a fundamental principle and that:
“A professional accountant should not allow bias, conflict of interest or undue influence of others to override professional or business judgments.”
However, we are also of the view that independence is so fundamental to the accountancy profession that it deserves recognition as a fundamental principle in its own right – rather than being subsumed into the fundamental principle of objectivity.
Paragraphs 290.3 and 291.3 of the Exposure Draft provide the link back to the fundamental principle of objectivity by stating that it is in the public interest and, therefore, required by this Code of Ethics that members of audit and assurance teams, firms and network firms be independent of audit and assurance clients.
The conceptual approach is weakened by the application guidance
Whilst we support the conceptual framework to independence, we consider that the application of the conceptual framework fails to ensure that auditors and the providers of assurance engagements are both independent and seen to be independent. In our opinion the existing guidance in Section 290 of the Code of Ethics does not establish sufficiently high standards of independence. The changes proposed in the Exposure Draft introduce some minor improvements but fail to tackle what we regard as core independence considerations. We have significant concerns about two fundamental aspects underlying the conceptual approach being:
- the definition and application of “independence in appearance”; and
- the application of safeguards.
Both of these matters are discussed under the respective headings below.
In addition, we have a number of significant concerns of a conceptual nature on the proposals in the Exposure Draft relating to:
- the failure to recognise that threats to independence can arise through events unrelated to relationships with, or interests in, the audit or assurance client;
- a trend towards a rules oriented approach;
- the proposal to provide separate guidance on other assurance engagements in new Section 291; and
- the proposal to provide further independence requirements to differentiate entities of significant public interest from other entities.
These matters are also discussed under the respective headings below.
Definition and application of “independence in appearance”
We are concerned that the definition of “independence in appearance” does not establish a sufficiently high standard for this important dimension of independence.
We note that the definition of “independence in appearance” in the Exposure Draft has been amended to read:
“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.”
Despite the changes, we are concerned that the definition is not sufficiently robust to ensure that independence in appearance is adequately considered.
The inclusion of the highly subjective term “so significant” does not establish a sufficiently high or rigorous threshold to ensure that independence in appearance is maintained. Those applying the “so significant” test are required to discount all facts or circumstances unless they meet a level of significance that exceeds “normal” significance. This interpretation can be taken from the term “so significant”. It is our opinion, apart from the subjectivity in applying the “so significant”test, that this test will mean that many significant facts or circumstances will be eliminated and hence not considered as impacting on independence in appearance.
The definition also requires that a reasonable and informed third party “would be likely to conclude” that integrity, objectivity or professional scepticism has been compromised. The “would be likely to conclude” test is a relatively low standard in that the facts and circumstances must be persuasive before those applying the test would conclude independence in appearance had been impaired. In our opinion, the “would be likely to conclude” test does not establish a sufficiently high standard to ensure appropriate consideration is given to independence in appearance.
We agree in principle that the “appearance of independence” needs to be assessed from the perspective of a reasonable and informed third party. In the case of some of the specific examples considered in the Exposure Draft and the safeguards outlined in paragraphs 200.10 to 200.15 of the Code of Ethics, the informed third party would not have access to information about the safeguards which had led a firm to conclude independence in appearance had been not been impaired. To properly reflect the “appearance” dimension, we believe the focus should be on a third party informed with publicly available information.
The question of audit independence was considered in an April 2003 report of a Royal Commission in Australia following the collapse of HIH, a large Australian based insurance company. The report challenges the definition of independence in appearance and recommends that the standard to be met is whether a reasonable and informed third party might conclude that the auditor might be impaired. In our opinion, this is a more appropriate standard and we would, therefore, commend the IESBA to take account of the findings in the report. A copy of the section of the report that discusses the audit function is included as Attachment 3.
The application of safeguards
We have a concern that some of the safeguards included in paragraphs 200.10 to 200.15 of the Code of Ethics may assist in mitigating threats to “independence of mind”, but do little to mitigate threats to “independence in appearance”. An often suggested safeguard is to use personnel not associated with the assurance engagement to provide non-assurance services to an assurance client. This “Chinese walls” safeguard would not enable an informed third party to conclude that independence had not been impaired as they would not have knowledge of all relevant information - hence the “appearance of independence” test would not be satisfied. In any event, the informed third party is unlikely to be persuaded that “Chinese walls” do achieve the desired level of independence given the tendency to focus on the firm as a whole.
We believe that the Code of Ethics would be more effective in its role of balancing the public interest and self-regulatory responsibilities of the profession with the interests of its members if it were to presume that any threats to independence should require the firm and the members of the assurance team to either eliminate the threat to independence or resign from the assurance engagement. If this approach is taken, the fundamental issue of preserving independence is given full prominence. The emphasis on safeguards, in our view, tends to encourage behaviour to circumvent or attempt to minimise any threats to independence. Such behaviour is inappropriate and should not be encouraged.
Furthermore, it appears that predominance has been given to the “state of mind” rather than the “appearance of independence” in the practical examples in Sections 290 and 291 of the Exposure Draft. For example, the examples in paragraphs 290.170 (valuation services) and 290.177 (preparation of tax calculations for financial reporting) of the Exposure Draft indicate that the provision of such services may be acceptable if performed by professionals who are not members of the audit team. This safeguard does not address the threat to “independence in appearance”.
Failure to recognise that threats to independence can arise through events unrelated to relationships with, or interests in, the audit or assurance client
We would observe that the examples are limited to relationships or interests between the audit or assurance client and the firm and its personnel. Threats to independence can also arise when, for example, the firm engages with an entity that is unrelated to the audit or assurance client when that entity is contemplating entering into a significant transaction with the audit or assurance client. A typical example is when an audit client is disposing of a significant business unit. A member of the network firm may be asked to act for an entity that is contemplating purchasing the business unit. If such an engagement is entered into, the network firm will be conflicted because of its requirement to audit the vendor entity on one hand and of its obligation to maximise the economic benefits to the purchasing entity on the other hand. In our opinion, this is a situation that threatens independence in appearance to the extent that no safeguards could mitigate the threat.
In our view the Exposure Draft should be enhanced to alert the professional accountant that threats to independence may arise from circumstances and events that do not directly flow from relationships with, or interests in, the audit or assurance client.
Trend towards a rules oriented approach
We are concerned that, when developing the Exposure Draft, insufficient recognition has been given to the intent expressed in paragraph 100.5 of the Code of Ethics that it is in the public interest that a professional accountant should identify, evaluate and address threats to compliance with the fundamental principles, rather than merely comply with a set of specific rules which may be arbitrary.
The guidance in the Exposure Draft is both voluminous and very detailed and there is a significant risk that this material may become a set of specific rules that may be inappropriately applied by professional accountants - without a proper appreciation of the fundamental principles. It is our opinion that the conceptual framework that is used to make judgements on independence matters is not sufficiently robust (for instance, in assessing threats to “independence in appearance” and in the application of safeguards) to ensure appropriate and consistent standards of independence are maintained. If the key matters that influence the application of the conceptual framework were clearer and unambiguous we believe that there would be less need for lengthy guidance material. This is because most facts and circumstances would be readily addressed by reference to matters of principle.
Provision of separate guidance on other assurance engagements in new section 291
Following on from our comments above on the possible trend towards a rules oriented approach, we are of the opinion that the provision of separate guidance on other assurance engagements is unnecessary. This is because it is not possible to anticipate every fact or circumstance that may threaten independence and the better approach to remove or mitigate threats to independence is by reference to principles. The principles do not vary with the nature of the engagement and, for this reason, it is preferable that the guidance on independence is contained within one section of the Code of Ethics.