Syllabus A. Audit Framework And Regulation A4. Professional Ethics

A4b. Threats 3 / 7

Syllabus A4b)

Define and apply the conceptual framework, including the threats to the fundamental principles of self-interest, self-review, advocacy, familiarity, and intimidation.

An auditor must be independent and be seen to be independent

Categories of Threat

Auditors need to be fully aware of situations that may damage their independence.

  1. Self-interest 

    Here the auditor may have a financial (or other) interest in a matter.

    Therefore the auditor may not act with objectivity and independence.

  2. Self-review 

    Here the auditor reviews a judgement she has taken herself. 

    Or an audit firm prepared the financial statements and then acted as auditor.

    This is a threat to objectivity and independence.

  3. Advocacy

    Here the auditor is expected to defend or justify the position of the client, and act as an ‘advocate’.

    This is a threat to objectivity and independence.

  4. Intimidation

    Here the auditor can't act independently as she is scared due to intimidatory threats such as the threat to take away the work unless they do as the client wishes.

  5. Familiarity

    Here the auditor and client have a too close relationship, for example due to a long association over many years in carrying out the annual audit.

Examples of Threats

  • Financial Interest

    Here look for the nature of the interest and the degree of control the accountant has over it - obviously the more control the higher the risk.

    No member of the assurance team (or immediate family) should hold a financial interest in a client. 

    The interest should either be disposed of, or the team member removed from the engagement.

  • Loans and guarantees

    If the client is a bank (or similar) and the loan is on normal commercial terms then there is no  threat to independence. 

    All other loans or guarantees are a self- interest threat and should be avoided.

  • Close business relationships

    A material joint venture with a client is a self-interest threat, so should be avoided. 

    Buying things from a client is fine if on normal commercial terms and in the normal course of business.

  • Family and personal relationships

    Think here about the seniority of the assurance staff and the closeness of the relationship.

    If the family member is able to exert significant influence over the subject matter then the threat to independence can only be avoided by removing the individual from the assurance team.

  • Recent employment with client

    The threat can be reduced by getting an independent third party to review the audit file.

    If a member thinks they might soon be employed by the client (having applied for a job there) then this should be disclosed by the member immediately.

  • Serving on the board of assurance clients

    Auditors should not do this.

    Although if it's only routine administrative services, like a  company secretary, then it may be ok.

    What is vital is that they are not involved in making management decisions.

  • Long association of senior personnel with assurance clients

    This may cause a familiarity threat. 

    In the exam you need to look at the nature of the  role and the length of time that he has been doing it when deciding which staff members to involve in assurance work.

    An audit engagement partner and/or quality control reviewer shouldn't work on the same client for more than seven years (5 years in the UK) and should not be returned to the engagement for at least two years after being rotated off the team.

  • Fees

    If the client fees are a large proportion of a firm’s total fees, there is a significant self-interest threat. 

    ACCA rules state that recurring fees paid by one client or a related group of clients should not exceed 15% of the income of the audit practice (10% if the client is listed).

    In larger firms an individual office may exceed these limits as long as responsibility for signing off the audit file should be passed to a different office.

    Overdue fees should be avoided as they are practically a loan.

  • Gifts and hospitality

    Only accept if not significant to either party

    Consider the following:

    • Could the value affect objectivity?

    • Was the hospitality when the auditors should have been working?

    • Were remaining members of the team properly supervised?

    • Ensure the member checked with more senior people in the firm to check if it was allowed - otherwise it is a disciplinary offence also.

  • Actual and threatened litigation

    If actual litigation then resign from the engagement.