Reliability Project Aims to Change the Performance and Reporting of Review Engagements
Since issuance of Statement on Standards for Accounting and Review Services No. 1 in December 1978, independence has been a performance requirement for review engagements and a reporting requirement for compilation engagements. However, many users of compiled and reviewed financial statements have asserted that the accountant’s integrity, expertise and objectivity are more important than whether the accountant has maintained his or her independence with respect to a client for whom the accountant performs certain accounting services.
This point of view was buoyed by an influential article in Accounting Horizons (“A Proposed Framework Emphasizing Auditor Reliability over Auditor Independence” by Mark H. Taylor, F. Todd DeZoort, Edward Munn, and Martha Wetterhall Thomas, Accounting Horizons, September 2003), contending that independence is a means to an end. The ultimate goal, the authors point out, is reliability. In their view, reliability comes from objectivity, which in turn comes not only from independence, but also from integrity and expertise.
For more than three decades, the Accounting and Review Services Committee’s (ARSC) compilation and review standards have treated the impairment of independence in the same way. If independence has been impaired for any reason, a CPA may perform a compilation but is required to report his or her lack of independence in the report. A CPA is prohibited from performing a review if independence is impaired.
Recently, financial statement users and other stakeholder groups have suggested that the AICPA’s independence rules are, in some cases, an obstacle to helping smaller entities provide reliable financial statements. This situation happens because CPAs engaged in certain control activities for a company are precluded from performing limited assurance engagements, meaning reviews, for that company. Yet the CPA serves as a trusted adviser to many small businesses. CPAs compiling or reviewing the financial statements of small- and medium-size businesses often also perform other services, such as bookkeeping, payroll or internal control projects. To reconcile the marketplace’s expanded needs for CPAs’ involvement in small companies’ financial reporting with the high ethical standards that embody the CPA profession, the ARSC has begun the Reliability Project.
This project is not about eliminating the need for independence in a compilation or a review. It is about repositioning the independence requirement with respect to a review engagement. The concept is simple: Reliable financial statements should be the end game, not independence.
“Control activities, an element of the COSO framework of internal control, are procedures performed by management or by CPAs on behalf of management, to prevent, detect and correct misstatements in the financials,” said Chuck Landes, AICPA Vice President, Professional Standards Team. “The need for this involvement has become more prevalent because of all the complex accounting standards.”
Because of these accounting complexities, some smaller entities can no longer prepare reliable financial statements without their CPA playing an important role in certain internal control activities. However, CPAs cannot establish or maintain their clients’ system of internal control without it affecting their independence. Once they cross that threshold of control activities, CPAs cannot provide reviews on their clients’ financial statements. Some smaller entities that need a review of their financial statements for bank financing or for other reasons need to hire a second CPA to review their financial statements, even though their long-time CPA is better suited for the job.
On April 28, 2009, the ARSC issued an exposure draft that would revise the standards for compilation and review engagements. The changes would affect the interplay between the standards and independence rules, permitting an accountant to issue a review report on financial statements when the accountant’s independence is impaired by performing nonattest services that were designed to improve the reliability of the client’s financial information.
The draft includes a trio of proposed standards: Framework and Objectives for Performing and Reporting on Compilation and Review Engagements; Compilation of Financial Statements; and Review of Financial Statements. In drafting the proposed standards, the ARSC considered recommendations from the Private Company Practice Section (PCPS) Reliability Task Force. ARSC and PCPS believe the proposed standards will respond to many concerns of smaller business owners, users of small business financial statements and CPAs that serve smaller entities.
The PCPS task force recommended ARSC consider revising its standards for situations in which an accountant’s independence is impaired in connection with the performance of a nonattest service relating to the design or operation of an aspect of internal control over financial reporting. These nonattest services help management prepare higher quality or more reliable financial statements.
The proposed standards would also harmonize the AICPA’s review standard with the International Auditing and Assurance Standards Board’s (IAASB) review standard ISRE No. 2400Significant proposed changes to the Statements on Standards for Accounting and Review Services (SSARSs) include:
The comment deadline was July 31, 2009. The proposed effective date is for compilations and reviews of financial statements for periods beginning on or after Dec. 15, 2010. Early application would be permitted.
For more information: Chuck Landes, AICPA Vice President Professional Standards, clandes@aicpa.org; Mike Glynn, AICPA Technical Manager, mglynn@aicpa.org.
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