., J .

CHAPTER 1

THE DEMAND FOR AUDITING AND

ASSURANCE SERVICES

ECONOMIC DEMAND FOR AUDITING

Wl y do many o_f the large s! companies spend millions of pesos each year for
their annual audit? Is it worth asking why an entity would decide to spend so
much money on an audit? Is it because these audits are required by law? \Vhile
true in certain circumstances, this answer is far too simplis tic. Although audits
are often utilized in situation where they are not required by law, audits were
in
demand long before Securities Laws and the Bureau of Internal Revenue required
them. ·
,..
' '
The demand for auditing can be understood as the need for\accountabili ty when
business owners hire others to manage their businesses, as is typical in modern
corporations. Until the late I8th and early 19th centuries, most organizations were
relatively small and were owned and operated as sole· proprietorships or
partnerships. Because businesses were generally run by their owners and borrowing
was limited, accountability to outside parties often was minimal.

The birth of modern accounting and auditing occurred during the industrial
revolution, when companies became larger and needed to raise capital to finance
expansion. Over time, capital markets developed, enabling companies to raise the
investment capital necessary to expand new markets, finance expensive research
and development, and fund the buildings, technology, and equipment needed to
deliver products to market.

A capital market allows a public company to sell small pieces of ownership (i.e.,
stocks) or to borrow money in the form of thousands of small loans (i.e., bonds)
so that vast amounts of capital can be raised from a wide variety of investors and
creditors. A public company is a company that sells its stocks or bonds to the
. public, giving the public a valid interest in the proper· use of the company's
resources.

Thus, the growth of the modern corporation led to diverse groups of owners who
are not directly involved in running the business (shareholder ) and the use of
professional managers hired by the owners to run the corporation on a day-to-
day
4 -- Ch!!.ap =et:r. J - - - - - - - - - - - - - - - - - - - -
-
-----
basis. In th1s setting , the managers serve as ga etns 'for teh o ners (whoa
sometimes referred to as principals) and fulfill a stwardship function e
. l . y
managing t1e corporation's assets.

It is important to understand that the relationship between an owner and

manager often results in information asymmetry between that two parties:
Information asymmetry means that the manager generally has more
information about the "true" financial position and results of operations of the
entity than does the absentee owner.

What are Assurance Services?

The name assurance services is used to describe the broad range of information
enhancement services performed by a certified public accountant (CPA) that are
designed to enhance the degree of confidence in the information. In general,
assurance services consists of two types: ( a ) those that increase the reliability
of information and (b) those that involve putting information in a form or context
that facilitates decision making.

A significant portion of the assurance services provided by CPAs is referred to as

attestation services. To attest to information means to provide assurance as to its
reliability. In an attestation engagement, CPAs provide a report on subject matter
or an assertion about that subject matter. One of the most sought-after attestation
services is the examination or audit of historical financial statements.

In this book, we will focus on the Audit and Assurance Services that involve
reliability enhancement. ·

Philosophy of an Audit

As the amount of capital involved and the number of potential owners increase,
the potential impact of accountability also increases. The auditor's role is to
determine whether the reports prepared by the manager conform to the contract's
provisions. Thus, the auditor's verification of the financial information adds
credibility to the report and reduces information risk, or the risk that information
circulated by a company's management will be false misleading. Reducing
in formation risk potentially benefits both the owner and the manager.
Economic decisions are made under conditions of uncertainty there is always 8
risk that the decision maker will select the wrong alternative and in cur 8
significant loss. The credibility added to the information by auditors actually
 Dema11d fior A" d'111·11g mu1 Ass11ra11cc S ervices S

Reduces the decision maker’s risk. To be more precise, the auditors reduce information risk ,
which is the risk that the financial information used to make a decision is materially
misstated.

Businesses, institutions and • d . d. . .

st
condition and progress Thm ivi ualsmu. mamtam records of their financial
business operations to d.t e e records are necessary to evaluate and guide
to serve asa basis'c. e ed':111 e financial status, to meet legal requirements and
,or e 1t C reditors a d · .
may wish to stud the fi · . n investors, present and prospect ive,
extension and i y t manc1al statements of many enterpri ses for credit
reports to hel :: :ent purposes. G?ve mnent agencies will need financial
P arry out the dut1 s imposed upon them by law internal
ma ag emen t n eds financial reports for planning , directing and controlling
busmess operations. ·

These parties therefore, need reliable and credible financial information. The
process employed to establish the reliability or unreliability of the financial state.
ents and supporting records is referred to as an audit examination. ud1t1 g f
financial records has become an important factor in the d1ss mmatm of
financial information and the services of the independent cert1fi d publ c
accountant are considered indispensable. Increasingly, his written report 1s required
to add credibility to the financial statements.

A free-market economy can exist only if there is sharing of reliable information

among parties that have an interest in the financial performance of an
organization. The market is further strengthened if the information is trans parent
and unbiased - that is, the data is not presented in such a way that it favors one
party over another. An organizat ion ' s reported information must reflect the
economics of. its transactions and the current economic condition of both its
assets and any obligations owed.

Jn a fi nan cial statem ent audit,.the auditors undertake to gather evidence to obtain
hiol1 level of assurance that financial statements are free of material
m statements due to fraud or errors and that they are presented in accordance
with appro priate. accounting frame work. The external audit is intended to
enhance the confidence that users can place on management-pre pared financial
statements. When the auditor has no reservations about management ' s financial
statements or internal controls, the report is referred to as an unqualified audit
report.
6 Chapter I

Aud itors serve n number of parties , but the mos t important is th public, as
represented by in vestors, lende rs, workers, and others v o make _decisio_ns based
o n financial in formatio n about an organization. Auditing reqmres !11e
highest
le vel of technical competence, freedom from bias, and concren_ for mtegrity of
the financial reporting process. In essence, auditors should viewt hemse lves as
guardians of the capital markets.

J,he-mablic e ctsAUditqa:s to (a find fraud. (b) require a counting principles the

best portray the spirit of the concepts adopted by account mg s ta da r se tters, and
{c) be independent o-f management. When it comes to be1g m d ependent,
auditors must 11ot only be independent in fact. but they must act ma manner that
ensures that they are independent in appearance.

An independent audi or's opinion contain ed in the audit report provides both
internal and external users with input to making lo gical and informed decis ions
about financia,I position, managerial performance and economic vulnerability.
\Vithout auditors, decisions such as these are more likely to be made from biased
financi al information resulting from a business enti ty' s undisclosed errors,
irregularit ies or illegal acts.

IMPORTANCE OF AUDITED FINANCIAL STATEMENTS

Audited financial statements are the accepted means by which business

corporations report their operating results and financial position . The word
audited, when applied to financial statements, means that the balance sheet and
the.statem ents of income, retained earnings, and cash flows are accompanied by
an audit report prepared by independent public accoun tants, expressing their
professional opinion as to the fairness of the company's financial statements.

Of course, reporting in accordance with an agreed-upon set of accounting

principles does not _sol ve the problem by itself. Because the manager is
responsi ble for reporting on the results of his or her own action s which the
absentee owner cannot directly observe, the manager is in a 'position to
manipulate the reports. Again, the owner adjusts for this possibility by assuming
that the manager will manipulate the reports to his or her benefit and by reducing
the manager's compensation accordingly. It is at this point that the demand for
audi ing arise.s. 1r the m.anager is hon_est, it may very well be in the manag
to
er' s self-,_nterest to h1:e. n audi tor to mo 1tor an independently report the
owner on his or her act1v1t1es. The owner likely will be willing to invest more
in the business and to pay the manager more if the manager can be held
accountable for how he or she use s the 0wnP.r's investe d resou·rces.
\.
 Demand/ or Auditingand AssuranceServices 1

Financial statements prepared by management and transmitted to outsiders

without first being audited by independent accountants leave a credibility gap. In
reporting on its own administration of the business, management can hardly be
expected to be entirely impartial and unbiased. Independent auditors have no
material personal or financial interest in the business; their reports can be
expected to be impartial and free from bias.

Unaudited financial statements may have been l10nestly, but carelessly, prepared.
Liabilities may have been overlooked and omitted from the balance sheet. Assets
may have been overstated as a result of arithmetical errors or due to a lack of
knowledge of financial accounting and reporting standards. Net inco me may
have been exaggerated because expenses were capitalized or because sales
transac tions were recordedin advance of delivery dates.

Finally, there is the possibilit y that unaudited financial'statement s have been

deliberately falsified in order to conceal theft and fraud or as a means of inducin g
the reader to invest in the busine ss o r to extend credit. Although deliberate
falsi fication of financial statements is not common, it does occur and can eause
devastating losses to persons who make decisions based upon such misleadin g
statements.

For all . these reasons (accidental errors, lack of know led ge of accounting
princ iples, unintentional bias, and deliberate falsification), financ ial statements
may depart from financial accounting and reporting standards principles. Audits
provide use rs with assurance that the financial statements are presented in
accordance with the financial accounting principles and reporting standards.

Figure 1-1 presents an overview of the potential financial statement users and the
decisions they make based on the financial reports.
 8 Chopt r I

Figure 1-1: Users of Audited Finnncinl Statements

User Types of Decisions

Management Review perfonnance, make operaiot nal decisoi ns. Report
results
to capital markets
Stockholders Buy or sell stock
Bondholders Buy or sell bonds
Financial Institutions Evaluate loan decisions, considering interest rates, tenns,
and risk
Taxinq Authorities Determni e taxable income and tax due
Reaulatory Agencies Deveol p regulationsand monitor compliance
Labor Unions Make collective bargainingdecisions
Court System Assessthe financial positionof acomoanv in litigation
Vendors Assesscredit risk
Retired Employees Protect employee.sfrom surprises concerning pensions and other
post-retirement benefits

THE ASSURANCE ANALOGY AND THE PHILIPPINE STANDARDS

ON AUDITING (PSAs)

An audit provides reasonable assurance of detecting material misstatements of

the financial s tatement s (both errors and fraud) and noncompli ance with laws that
have a direct and mate rial· e ffect on the determination of financial statement
amounts. Although an audit does not obtain reasonable assurance of detecting
noncompliance with laws that have only an indirect effect on the financial
statement s, the auditors remain alert for such situations. . If instances of
noncompliance are disc >Ve red, regardless of _type, the auditors should·
carefully evaluate their effects on the financial s tatement s.

Currentl y, the Inte rnational Auditing and Ass urance Standards Board (IAASB)
iss ues pronouncements designed to foster the development of consistent
worldwid e auditing standard s while the Auditing and Standards Practice Council
of the Philippine s (AASC) revie ws and recommends for approval to the PRC
BOA their adoption as the Philippine Standards on Auditing (PSAs).

In the Philippine s, the law that regulates the Practice of Accountancy (RA 9298)
provides that the Profess ional Regulatory Board of Accountancy shall monitor
the co nditi ons affecting the practice of accountancy and adopt such mea s ures to
enhanc e and maintain the high professional, ethical and auditing standards
inc ludin g promulg ation of accounting and auditing standards, domestic and
 Demand/or Auditing and AssuranceServices 9

internat onal. International financial mark ets would be facilitated if au iting and
accounting standards were more uni form.

In s umma ry, auditing is in demand because it plays a valuable role in monitoring

the contractual relationship s bet\veen the entity and its stockholders, mana gers,
employees, and debt hold ers. Certified public accountants have been charged
with providi.ng audit services because of their traditional reputation of
competence, inde pendence, obj ectivi ty, and concern for the public interest. As a
result, they are able to add credibility to information produced and reported by
management to outside parties.

REVIEW QUESTIONS

Questions

J . What is the objective of financial statemen t audit? Describe the role of

external auditing in meeting society's demands for unbiased financial
and internal control information.

2. What is the "special function" that audi tors perform? Whom does the
external auditing profession serve in performing this special function?
•
3 . What factors create a demand for an independent external audit?
I

4. How does an audit enhance the quality of financial state ments and
manag em ent' s reports on internal control? Does an audit guarantee a fair
presentation of a company's financial statements?

s. What is the principal use and significance of an audit report to a large

corporation with sec urities listed on a stock exchange? To a small
family-owned enterprise?

6. Describe the several business s ituation s that would create a need for a
report by an independent public accountant concerning the fairness of a
company's financial statements.

7. Explain the following statement: One contribution of the independent

auditor is to lend credibility to financial statements .
JO Ch a p/er I

8. A corporation is contemplating issuing debenture bonds to a group of

investors.
.
a. Explain how independent audits of the corporation's financial
statements facilitate this transaction.
b. Describe the likely effects on the transaction if the corporation
decides not to obtain independent audits of its financial statements.

9. Discuss the major factors in today's society that have made the need for
independent audits much greater that it was 50 years ago.

I 0. It has been stated that auditors must be independent because audited

financial statements must serve the need s of a wide variety of users. If
the auditor were to favor one group, such as existing shareholders, there
might be a bias against another group, such as prospective investors. Do
you agree?

I J. Evaluate the following quotation: "Every business, large or small, sho,

uld have an annual audit by a CPA firm. To forgo an audit because of its
cost is false economy".

12. The self-interest of the provider of financial information (whether an

individual or a business entity) ofl n -r uns directly counter to the interest
of the user of the info rm atio n. ·

-
Chapt er
- PROFESSIONAL
PRACTICE OF
ACCOUNTANCY:
AN OVERVIEW

ectecf £earning Outcomes

After studytng the chapter, y u should be able to:

1. Explain the attributes of a profession.

2. Describe who a professional accountant is.
3. - Enumerate and explain the scope of .the practice of
professional accountants in the Philippines.
4. Describe the nature of assurance, attest, and auditing services
of accounting professionals. · •
5. Describe the relationship among assurance, attest and
auditing services.
,
6. Distinguish between external auditors, internal auditors,
government auditors and forensic auditors.
. . .
7. Explain the nature of other audit services such as inter al
audit, compliance audits, operational audits and forensic
audits.
• a. Describe the most sought-after non-assurance servfc es such
as
.- Agreed upon procedures
• Tax preparation and planning services
• Management advisory services
• Compilation, accounting and processing system services
 CHAPTER2

PROFESSIONAL PRACTICE OF ACCOUNTANCY:

AN OVERVIEW

ACCOUNTANCY AS A PROFESSION

In our society, professions are generally recognized as elite occupational

classifications. Ernest Greenwood in his article..AttrJbut es.of_a J'..r:,ofi!S_sio JL ( I 9S,7)
sets forth five major characteristics of an ideal ;profession. These are (I)
systematic body of theory, (2) professional authority, (3) .communi ty sanction,
(4) regulative code and (5) a culture. Profession al accountants satisfy these said
attributes of a profession.

Systematic Theory
The underlying theory of the public accounting profession consists of
accounting theory - financial accounting and reporting standards and
practices and auditing standards - a science of validation. Knowledge in
systematic theory can be achieved best through formal college-level
education in an academic environment.
• Professional Aulltority
Clients who use the service of a profession ! often do not really understand
their own needs. The professional thus determines what is good or bad for
the client and the client accedes to-this professional judgment.
The basis for the professional accountant's (CPA's) authority is his
expertise in the systemati c theory of ac ounting and auditing.
• Community Sanction
Admission to the public accounting profession is controlled. 1 o become a
professional accountant (CPA), a candidate must satisfy government
educational and experience requirements and pass the CPA Licensure
Board Examinations.

This licensing system is controlled by the Professional Regulation

Commission through the Board of Accountancy. Also, although
professional accountants (CPAs) are responsible to the community for their
actions, it is generally accepted that a professional's performance sbould be
judged by standards established by a profession itself.
 Professional Practiceof Acco1111ta11cy: An Overview 13

Reg11l11Jions Co<le
The powers and privileges granted to the public accounting profession by
the communit y effectively constitute a monopoly. To prevent abuse of this
monopoly and to disc ipline its mem bers, the Rules of Professional Conduct
or Code of Ethics have been promulgated and made legally binding
through the Acco untancy Law.
• A Culture.
The CPA is a membe r of a time-honored profession and the status of tJ1e
p rofession and the responsi bilities that accompany this status affect
his/her behavior in socie ty. Accounting ' has developed a professional culture
9S evidenced by such factors as the formal norms of the code of ethics the:
informal rules th.at guide relations hips among practitioners and·
the
traditionsand myths that have arisen concerning the CPA examinations.
The most recent revision in the Code of Ethics for Professional
Acco untants in the Philippines made effective on April 6, 2016 states

"A profession is distinguished by certain c haracteristics including:

• Mastery of a particular intellectual skill, acquiredby training and
education;
• Adherence by its members to a common code of values and
conduct established by its adminis tering body, including
maintaining an outlook which is essentially objective; and
• Acceptance of a·duty to society as a whole (usually in return for
restrictions in use of a title or in the granting of a qualification)."

WHO IS A PROFESSIONAL ACCOUNTANT?

'
A professiona!acco untant is an individual who holds a valid certificate issue d
by the Board of Accountancy (i.e., Certified Public Accountant), whether he/she
be in public practice, industry, commerce, the public sector or educatio n. This
professional accountant may belong to any.ofthe following sectors:
Professional Accountant in Public· . Prpplice.. A professional accountant,
irrespective of functional accountant in classification (for example, audit, tax
or consulting) in a firm that provides professio11al services. T his tenn is also
used to refr,- to a firm of professional accountants in public practice.
 14 Chapter 2
Prnfes.\'io11nl Acco1111tnnt in JJ u sineJ·s. A pr fcssional cc untant employed
or engaged in an executive or n_on-execut1ve capac!ty 111 such areas
as commerce, i ndust ry, service, the public sector, education, the not-for-profit
sector, regulatory bodies or professional bodies, or a pro_fessi.onal accountant
contracted by such entities. The professional accountant 111 this group may be
in any of the following sub-sectors:
(a) commerce and industry; 1
(b) education; and
(c) government.

The Philippine Accountancy Act- of 2004 (RA. 9298) Article 1, Section 4,

paragraphs (a) to (d) spell out the scope of the practice of accountancy as
follows:
a) Practice of Public Acco1111ta11cy. This shall constitute in a pe·rson, be it
• in his/her individu?I capacity, or as a partner or as a staff member in an
accounting or auditin g firm, holding out himse lf/herself as one skilled in _
the knowledge, science and practice of accounting, and as a qualified
person to render professional services as a certified public accountant; or
offering or rendering, or both, to more than one clien_t on a fee basis or
otherwise, services such as the audit or verification of financial
transaction and accounting records; or the preparation, signing, or
certification for clients of reports of audit, statement of financiF1l posit ion,
and other financial, accounting and related schedules, exhibits,
statements or reports which are to be used for publication or for credit
purposes, or to be filed with a court or government agency, or to be used
for any other purpose; or the design, installation, and revision of
accounting system; or the prep ration of income·tax returns when related
to accounting procedures; or when he /she represents clients before
government agencies on tax and other matters related to accounting or
renders professional assistance in matters relating to accounting
procedures and the recording and pres ntation of financial facts or data.

(p) !'ractice in Commerce and Industry. This shall constitute in a person

m olved in decisi n making· requiring professional knowledge in
the science of accountmg, or when such employment or position
requires that the holder thereof mus t be a certified pubIic accountant.
 Professional Practci e of Accountan cy: An Overview I5

(c) Practice i11 Ed11catio11/Ac(l(/eme. This shall constitute in a person in an

educational inst itution which involve s teaching of account ing, auditing ,
management advisory services finance, business law, taxation, and other
, techn ically related subjects. '

, a( ) Practice in the Governmen.tThis shall constitute in a person who holds,

or is appointed to, a position in the accounting professional group in
?ov en ment or in a government-owned and/or controlled corporation,
mcl dmg those performing proprietary functions, where decision making
requires professio nal knowledge in the scien ce of accounting, or where a
civil service eligibility as a certified public accountant is a prerequisite.

ASSURANCE, ATTEST, AND AUDITING SERVICES DEFINED

Accounting professionals can perform various services that provide assurance

about the reliability and relevance of information given by one party to another.
The broadest category of such servicesis simpl y called assuranceservices. Attest
se rvices are a subset of assurance services, and auditing is a type of attest
service. Many times these terrris are used interchangeably because theyare
related, and at a general level, they encompass the same process: the
evaluation of evidence to determine whether information has been r.ecorded and
presented in accordance with a predetermined set of criteria, together with the
issuance of a report that indicates the degree of correspondence.

Assurance Services

In the late 1990 s, the accounting profession expanded the potential breadth of
auditors' activities beyond auditing and attest services to include a broader set of
assurance services. Extending auditors' activiti es to assurance services allows
reporting not only on the reliability and credibility of information but also on the
relevance and timeliness of that information. Assurance services are defined
as
follows:
ssurance services are independent professional services that impr.ove the
quality of information. or its context, for decision makers.
The definition captures some important concepts. First, the definition focuses on
decision making. Making good decisions requires quality information, which,
in the context of the broad set of assurances services, can be financial or
nonfinancial. Second, it relates to improving the quality of information or its
context. An assurance service engagement can improve quality through
increasing confidence in the information ' s reliability and relevance. Context can
be improved by clarifying the format and background with hich the information
 16 Chapter 2

is presented. Third, the definition includes " i11d e p e 11d e n c ", which relates to the
objectivity of the application of profession al judgment and due care by the
provider. To summarize, assurance services can include almost any service
provided by accounting professionals that involves capturing infonnation,
improving its quality, or enhancing its usefulness for decision makers.

Attest Services

Auditors have a reputation for independence and objectivity. As a result, various

parties frequently request that auditors attest to infonnation beyond. historical
financial infonnation . However, professional standards did not allow for such
se rvices until the profession established a separate set of attestation standards in
I 986. These standards provide the following definition for attest services:

Allesl services occur when a praclitioner is engaged lo issue ... a report on

subject mailer, or an assertion about subject mailer, that is the responsibility of
another party.

Notice that this definition is broader than the one previously discussed for
auditing because it is not limit ed to economic events or actions. The subject
matter of attest services can take many forms, including prospective infonnation,
analyses, systems and processes, and even the specific actions of specified
parties. Note that financial statement auditing is a particular, specialized fonn of
an attest service.

Audit Scn •ices

-Auditing is a systematic process of objectivity obtaining and evaluating evidence

regarding assertions about economic actions and events to ascertain the
degree of correspondence between those assertions and established criteria
and communicating the results to interest users.

The phrase "systematic process" implies that there should be a well-planned and
thorough approach for conducting an audit. This approach involves "o bjectivity
in obtaining and evaluating evidence". In other words, the auditor mus t search
for audit evidence and objectively evaluate the relevance and validity of the
evidence he or she finds. The type, quantity, and reliability of evidence will vary
between audits, but the process of obtainirJg and evaluating evidence makes up
most of the auditor's activities on any audit.
 Professional Practice of Accountancy: An Overview 17

As our analogy of auditing illustrates, the evidence gathered by the aud itor must
relate to relevant assertions, which in auditing pertain to economic actions and
events. The auditor compares the evidence gathered to management's financial
staetmen t assertions in order to asses " the degree of correspondence between
thsoe assertions and establis hed criteria." While different types of "criteria"
mgi h t be available in various settings, financial accounting and reporting
standards .principles usually serve as the basis for evaluating management' s
assertions in the contextof a financial statement audi t.

RELATIONSHIP AMONG ASSURANCE, ATIEST, AND

AUDITING SERVICES

It is important to understand the relations hip among the range of services that are
offered by CPAs, because different professional standards apply to each type of
service. Figure 2-1 illustrates the universe of services that may be offered by
CPAs and the relationships among these services. As shown, CPAs provide both
assurance and non assurance services but a few, specially of the management
consulting type;overlap. Certain management consulting services have assurance
aspects. It also illustrates that attestation services are only a portion of the
assurance services that are offered by CPAs.

This textbook focuses primarily on financial statements auditing because it

represents the major type of assurance service offered by most public accounting
finns. In addition, in . many ins tances, the approach, concepts, methods, and
techniques used for financial statement audit also apply to other attest and
assurance service engagements.
18 C ha pter 2

Figure 2-1: The Relationship Assurance, Aud iting , Attest, and

'
among
Services
NONASSURANCE SERVICES
ASSURANCE SERVICES

Attestation Services • . Agreed-Upon Procedures

Engagements
• Audits of Financial Statements
• Examinaiton of Internal Control
• Trust Services, Other Assurance Services
e.g.,WebTrust and SysTrust • CPA ElderCarePrimePlus ervices
• Reviews of Financial • CPA Performance View Services
Statements or Other Information
• CPA Risk Advisory Services
• Others

Management Consulting
Services

• FraudInvestigations
• Information Technology
Consultino

Other Nonassurance Services

• Compilation, Accounting and Data
Processing System Services
• Others

fJ. External'J4udiJors
CPA firms have as their primary responsibili ty the performance of audits
of the publis hed historical financial state me nts of all public ly traded
companies, most other reasonably large companies and many smaller
companies and noncommercial organizations. Because of the widespread
use of audited financial statements, it is common to use the terms CPA
firms, independent auditor, or audito r, synonymo usly.

CPA firms ca·n perform op eratio nal auditing as well as compliance

auditing as part of the ir management consultancy services.
 Professional Practice of Accountancy: An Overview 19

2. Internal Au,litors
Internal auditors could be CPA firms hired by the entity as consultants or
employees of individual companies who perform independent appraisal
activity within the organization such as review of accounting , financial
and other operations as a basis for service to management. They provide
management with valuable information for making decisions concerning
effective operation of its bus iness.
The internal auditor is therefore concerned with all kinds of financial and
other data generated for both internal and external users. Likewise, the ·
internal audito r is also en gaged in evaluating the efficiency of resource
utilization (operational audit ing) , the effectiveness with which entity
objectives are attained (management or performance auditing and routine
compliance aud iting).
To be able to operate effectively, an internal auditor must be independent
of the line functions in an organization and may report directly to the
audit committee or board of directors.

3. Government Auditors
Several government agencies perform a significant number of audits .
These include the Commis sion on Audit (COA) and the Bureau of
Internal Revenu e.

COA Auditors
Government auditors from COA determine whether the government
age ciesand other entities that use public funds:
(I) present their financial statements fairly in accordance with Financial
Reporting Standards and applicable laws and regulations,
(2) conduct tJ1e programs with economyand effici ency,
(3) desired results are achieved.

Many of the COA's audit responsibilities are the same as those of a CPA
firm. But since the authority for expenditure s and receipts of
governmental agencies is defined by la\'(, there is considerable emphasis
on compliance in these audi ts. Also, an increasing effort of the COA's
audit efforts has been devoted to evaluating the• operational efficiency
and effectivene ss of various government programs. As a result of their
• g reat responsibility for auditing governmen t expenditures, their
eligibility to be CPAs, their opportunities for performing operational
20 Chapter
2
t · their use of advanced aud. iting concepts, COA auditors are highly
aud 1 ,
 regarded in the auditing profession.

BIR Examiners
BIR audits affect individuals as well as businesses . A _form of
compliance auditing, BI.R audits or exa inati ns are designed to
determine whether the taxpayers have comphed with the tax laws. These
audits can be regarded solely as compliance audits·.
An auditor involved in these areas must have considerable tax knowledge
and auditing skills to conduct an effective audit.

Regulatory Auditors
Other auditors include SEC, Bangko Sentral ng Pilipinas, Cooperative
Commission, Office of Ins urance Commission and other government
agency examiners who check on the solvency and compliance of the
various· institutions and business firms with appropriate laws and
regulations.

4,, Eorensic.AJ,d iJw ..

,
'.
Forensic auditors. are employed by corporations, government agencies,
p blic accounting firms, and specialized consulting and inv stigative
services firms. They are specially trained in detecting, investigating, and
deterring fraud and white-collar crime (see the discussion of forensic
auditing later in this chapter). Some examples of situations where
forensic auditors are often involved include.

• Reconstruct!ng incomplete or damaged accounting records to settle

an insurance claim over inventory valuation. .
•· Probing money-laundering activities by tracking and reconstructing
cash transactions. ·
• Identify and investigating transactions and assets in business or
. , marital disputes. Investigating- and documenting embezzlement
allegations and negotiating insurance settlements.
 Professional Practice of Accoumancy: An Overview 21

TYPES OF OTHER AUDIT SERVICES

In ddition to the financial statement audit, there are four (4) major types of
audits:
a) lntemal audits
b) Compliance audits
c) Operational audits
I
d) Forensic audits

a. Internal Audit

Nature .. ,

Internal auditing is an independent, objective assurance and consultinll

activity designed to add value and improve an organization's operation
It helps an organization accomplish· its objebtives by bringing a
systematic, disciplined approach to evaluate and improve the
effectiveness frisk management, control, and government processes.
Objective and Scope I
'

I
The objective of internal auditing is to assist all members of management
in the effective discharge of their responsibiilties, by furnishing them
with analyses, appraisals, recommendations, and pertinent comments
concerning the activities reviewed. The internal auditor is concerned with
any phase of business activity where he or she can be of service to
management. This involves going beyond the accounting and financial
records to obtain a full understanding of the operations under review.
The attainment of this overa)) objective involves such activities as:
o Reviewing and appraising the soundness, adequacy, and
application of accounting, financial, and other operational controls,
and promoting effective control at reasonable cost.
0 Ascertaining the extent of compliance with established policies,
plans, and procedures.
0 Ascertaining the extent to which company assets are accounted for
and safeguardedfrom lossesof all kinds.
0 Ascertaining the reliability of management data developed within
the organization.
0 Appraising the quality of perfom1ance in carrying out assigned
responsibilities.
o Recommending operating improvements.

= ··--
22 C Jwpr er 2

!>) € o mpliancc Auditing - which is the examination, audit and settlemetn

in accordnncc with law and regulation.

A compli ance audit determines the extent to which rules, policies, laws,
covenants, or government regulations are followed by the entity being
audited. for example, a univ ersity may be required to obtain an audit to
ensure that applicable rules and policies are being followed with respect
to the granting of student loans. Another example of compli ance auditing
is the examination of tax returns of individuals and companies by the
Internal Revenue Service for compliance with the tax laws.
I I

c) Operational audit

This is a future-oriented, independent and systematic evaluation

performed by the int ernal auditor for management of the operational
acti vities contro lled by top-, middle-, and lower-level management for
the purpose of improving organizational profitability and increasing the
at1ainment of the oth er organizational objectives.

An operational audit in volves a systematic review of part or all of an

o rganization's activities to evaluate whether resources are being used
effectively and efficiently. The purpose of an operational audit is to
provide assurance, assess performance, identify areas for improvement,
and develop recommendations with respect to operational effectiveness
and efficiency. Sometimes this type of audit is referred to as a
performance audit or management audit. Operational audits present
different challenges than financial statement audit or compliance audits
because operational audits often require the auditor to identify or create
objective, measurabl e criteria against which to assess effectiveness and
efficiency . Some operational audit s, such as information technology (In
or cybcrsecurity audits, require· specialized skills and expertise.
Operational auditing has increased in importance in recent years, and this
trend will lik e ly continue. An example of an operational audit is when an
entity audi tors to assess the efficiency nd effectiveness of its use of
information technology resources. ·
 Professional Practice of Accountancy: An Overview 23

d) Forensic Audits

The purpose of a forensic audit is to detect a deter fraudulent activities .

Forensic auditing hns increased sig nificantly in recent years. As we
mentioned above in discuss ing forensic auditors, some examples of
where a forensic audit mig ht be conducted include business or emplo yee
fraud, various other types of criminal investigations where money or
other assets are invo lved, and matrimonial disputes involving divisio n of
assets.

TYPES OF OTHER ATTEST SERVICES

Auditors can provide numerous types of attest services regarding almost any
subject matter. For example, an auditor mig.ht be asked to attest to the nature and
quantity of inventory stored in an entity's warehouse so that the entity can obtain
a bank loan with the inventory as collateral. A pron1ising new area of attestation
services relates to assertions companies make about sus tainability-claimed
reductions in carbon emissions or appropriate handling of hazardous waste.

OTHER NON-ASSURANCE SERVICES

In addition to audit, attest, and assurance services, many public accounting firms
perform other broad categories of non-assurance services.

Agreed-Upo11 Proced11res

An agreed-upon procedures engagement, in which the party engaging the

professional accountant or the inten?ed user determines the p?r cedures
and the professional accountant provides a report of factual findings as
a result of undertaking thoseprocedures. This is nor an assurance
engagement .

• TaxPreparatio11 a11d Pla1111i11g Services

Many public accounting firms have tax r fession?ls that assist clients in
preparing and filing t retur s, prov1dmg _a v1ce on tax and
estate
p al nnine , and representing clients on tax iss ues before the Internal
Revenue Service or tax courts.
-=2-4.: ._:....C: ha p(e::r...2:.-- - - - - - - - - -
- - - - :--- - - ----
• Manage111ent Advisory Services
Management advisory services (MAS) inv_olv provjding advice and
assistance concerning an entity's orgam7:-4 • n, human esources,
finances, operations, IT systems, or other act1v hes.. Another significant
MAS service area is helping public companies _unplement effective
internal control over financial reporting in preparation for an integrated
audit to be performed by a different public accounting finn. Due to
independence requirements, CPA firms perform MAS primarily for
private entities or for public companies for whom they do not provide a
financial statement audit. The large public accounting firms all have very
robust MAS consulting practices for nonaudit clients. .

Compilation, Accounting a11d Data Processing System Services

Public accounting finns perform a number of accounting-related services
for their nonpublic or nonaudit clients. These services include
bookkeeping, payroll processing, and preparing financial statements.
When a public accounting finn prepares the financial statements of
companies, the services are known as compilations. These fonns of
service provide less assurance than a financial statement audit. '

.,
 Professional Practjce of Accountancy: An Overview 25

REVIEW QUESTIONS
Questions

1. Why is the practice of accountancy considered practice ofa profession?

.2 De ri briefly the scope of practice of a professional accoi,ntant in the

Ph1hppmes.

3 • State the major types of services CPAs perfonn, and explain each.

4. Explain the relationships among audit se ices, attestation services,

and assurance services, and give examples of each.

5. Define assurance services.

6. Describe what attest services are. What is the most common type of
1ttest engagement?

7. What does an operational audit attempt to measure? Does an operational

audit involve more Of :fewer subjective judgments than a compliance
audit or an audit of financial statements? Explain. To whom is the report
usually directed after.completionof an operational audit?

8. Distinguish between a compliance audit and an operational audit.

9. Is an independent status possible or desirable for internal auditors as

compared with the independence of a public accounting fii:rn? Explain.

IO. Apart from auditing, what other professional services are offered by
public accounting firms? ·

J I. What are the differences and similarities in audits of financial statements,

compliance audits, and operational audits?

12. List five examples of specific operational audits that could be conducted
by an internal auditor in a manufacturing company.
 26 Chapter 2
1 3. In the conduc t of audits of financial stat ments, it would be a serious
breach of responsibiliry if the auditor did not thoroug hly understand
accountino Ho" ever, many competent accoun tants do not have an
u nderstanding of the auditing process. \Vhat causes this difference?

14 . D escribe the nature of the e\'idence the Bureau of Internal Revenue

( BI R)examiner will use in the audit of Mabuhay Company's tax return.

15 . What are the major differences in the scope of the audit

responsibilities for CPAs, COA auditors, BIR agen ts, and Internal
Audito rs?

Mu/Jiple Choice Questions

J. The practice of accounting includes the following expect

a. Practice in public accountancy.
b. Practice in education I academe.
c. Practice in the government.
d. Practice in commerce and industry, when the CPA is appointed as
marketing manager of the enterprise.

2. CPAs are considered professional persons because they:

a. hold a license from a government agency.
b. pass the CPA examination and have qualifying practical experience.
c. serve the interests of the public in general and clients in particular.
d. are members of the PICPA.

3. Society has attached a special meaning to the tenn "professional". A

professional is
a. so meone who has passed a quaJifying exam to enter the job market.
b. a person who is e pected to conduct himself or herself at a higher
level than the reqUJremenrs of society's laws or regulatio ns.
c. Any person who receives pay for the services performed.
.d Some ne wh_o has both an education in the trade and on-the-job
expenence received under an experienced supervisor.

4. Which of the follqwing is not an assurance engagement?

a. Compilation ·
b. Financial statements audit
c. Information reliability services
d . Reviews of prospective financial statements
 Profe.rsio n al Practice of Accountancy: An Overview 21

5. Non-ass uran ce engagements include all of the following except

a. agreed-upon procedures.
b. man agement cons ulting
c. preparing of tax returns where no conclusion is expressed.
d. compliance audit.

6. Independent auditing can best be described as

a. A branch of accounting
b. A dis cipline that attests to the results of account ing and oth er
functional operations and data.
c. A professional activity that measures and communi cates financial
and business data.
d. A regulatory function that prevents that iss uance of improper
financial infonnation.

7. Which of the following professional services would be consid ered an

attestation engagement? ·
a. A consulting service engagement to provide computer processing
advice to a client.
b. An engagement to report on statutory requirements .
c. An income tax engagemen t to prepare federal and state tax returns.
d. The compilation of financial statements from a clien t's financial
records.

8. In performing an attestation engagement, a CPA typically

a. S up plies litigation support services
b. Assesses control risk at a low level
c. Expresses a conclusion about an assertion
d. Provides management consulting advice

9. Operational audits generally have been conducted by internal auditors

and government audit agencies but may be performed by certified
public accountants. A primary purpose of an operational audit is to
provide
a. A means of assurance that internal accounting controls are
functioning as planned.
b. A measure of management performance in meeting organizational
goals. .
c. The results of internal examinations of financial and accounting
maners to a company's top-level.management.
d. Aid to the independent auditor, who is conducting the audit of the
financial statements.

. .
'-
 28 Chapter 2

J 0. In comparison to the external auditor, an internal auditor is more likely to

be concerned with
a. lntcmaJ administrative control
b. Cost .accounting procedures
c. Operational auditing
d. Internal control

J I. Which of the following best describes the operational audit?

a. It requires the constant review by internal auditors of the
administrative controls as they relate to the operations of the
company.
b. It concentrates on implementing fmancial and accounting control in a
newly organized company.
c. It attempts and is designed to verify the fair presentation of a
company's results of operation .
d. It concentrates on seeking aspects of operations in which waste could·
be reduced by the introduction of controls.

J2. Compliance auditing often extends beyond audits leading to the

expression of opinion on the fairness of financial presentation and
includes audits of efficiency, economy effectiveness, as well as
a. Accuracy
b. Evaluation
c. Adherence to specific rules of procedures
d. Internal control

13. A summary of findings rather than assurance 1s most likely to be

included in a(n):
a. Agreed-upon procedures report.
b. Compilation report.
c. Examination report.
d. Review report.

14. The attest function:

a. · Is an e sent.ial part of every engagement by the CPA, whether
performing aud1tmg, tax work, or other services.
.b lnclu?es the preparation of a report of the CPA's findings.
c. Requ res a consideration of internal control.
d. Reqmres a. co plete review of all transactions during the period
under examination.
 ProfessionalPracticeof Accountancy: An Overview 29

15. Attestation risk is limited to a low level in which of the

following engagcmen't(s)?'
a. 'Both examinations and reviews.
b. Examinations, but not reviews.
c. Reviews, but not examinations.
d. Neither examinations no r reviews.

1 .6 An operational audit differs in many ways from an audit of financial

s tatemen ts. Which of the following is the best example of one of these
differences? .
a . The usual audit of financial statements covers the four basic
statements, whereas the operational audit is us ually limited to either
the balance sheet or the income statement.
e. Operational audits are more subjective and often involve evaluating
efficiency and effectiveness of operations.
c. Operational audits do not ordinarily result in the preparation of a
report.
d. The operational audit deals with pre-tax income. ,

J 7. Which of the following terms best describes the audit of a taxpayer's tax
return by an BIR audit or?
a. Operational audit.
b. lnter€al aud it.
c. Compliance audit.
d. Government audit.

18. Inquiries and analytical procedures ordinarily fonn the basis for which
type of engagement?
a. Agreed-upon procedures.
b. Audit.
c. Examination.
d. Review.

I9. Operational auditing is primarily orie ted toward:

a. Future improvements to accomplish the goals of management.
b. The accuracy of data reflected in management's financial records..
c. The verification that a company's financial statements are fairly
presented.
d. Past protection provided by existing internal control.

' ) .. ' , \._

·.•· > • l n
 30 Chapter 2

20. A typical objective of an operational audit is for the auditor to:

a. Determine whether the financial statements fairly present the entity's
operations.
b. Evaluate the feasibility of attaining the entity's operational
o bjectives .
c. Make recommendations for improving performance.
d. Report on the entity's relative success in attaining profit
maximization .
.
v
Exercises

Exercise 1

Match the following definitions (or partial definitions) of the various types of
services to the appropriate service. Each service may be used once or not at
all.

Definition (or Partial Definition) Service

a. An attest engagement in which the 1. Agreed-upon procedures
CPAs agree to perform procedures -engagement
for a specified party and issue a 2. Assurance services
report that is restricted to use by that 3. Attest engagement
party 4. Audit of financial statements
b. An engagement designed to express 5. Compliance audit
limited assurance relating to subject 6. Examination
matter or an assertion. 7. Integrated audit
c. An engagement in which the CPAs 8. Operational audit
issue an examination, a review, or an 9. Review
agreed-upon procedures report on
subject matter or an assertion about
subject matter that is the
responsibility of another party (e.g.,
manaqemen.t)
d. An examination designed to provide
an opinion that is the CPA's highest
level of assurance that the financial
statements follow Philippine
Financial Reporting Standards, or
another acceptable basis of
accountin.g
 Pro/1:Hirmal / 1rm:tlceo/ Accot1nfll11c y: An Ovr·rvlcw 31

e. An audit that includes

providing assurance on both
the financial statements and
internal control over financial
reporting.
f· Professional services that
nhanc the quality of
information, or its context for
decsi ion makers. '
g. An atte t
engagemetndesigned
to provide the highest level of
assurancethat CPAs provide on
an assertion.

Exercise 2

Fo . r the purpos : of this problem, ass ume the exis tence of five types of
au dito rs: CPA, COA, DI R, bank examiner, and internal auditor. Also assume
that the work of these vario us auditors can be grouped into five
c lass ificatio ns: audits of financi al state ments, c ompliance audits, operational
audits, accounting se rvices, and co ns ulting se rvices.

. \

For each of the following topics , you are to state the type of auditor most
probably in volved. Also ident ify the topic with one of the above classes of
work.

You should organize yo ur answe r in a th ree-colum n format as follows:

Co lumn 1, th e number of the topic; C olu mn 2, the type of auditor involved;
an d Column 3, the class of work.

I. Financia l sta tem ents of a small business to be submitted to a bank in

s upport of a loan application.
2. Financial statements of a large bank listed on the Philippine Stock
Exchange to be distr ibuted to stockholders.
3. Re vie w of the manageme nt directive s tating the go als and
respons ibilities of c orpora ion' s mail-h andling department.
4. Re view of costs and accomplis hments of a military research program
carried on within the a ir force to determine whether the program was
cost-effective.
 32 chapler2
5. Examination on a surprise basis of General Union Bank. Emphasis
placed on verification of cash, marketable securities, and loans
receivable and on consistent observation of the banking code.
6. Analysis of the accounting system of a small business with the objective
of making recommendations concerning installation of a computer-based
system.
7. Determination of fairness of financial statements for public distribution
by a corporation that has professional-level internal auditing staff.
8. Review of the activities of the receiving department of a large
manufacturing company, with special attention to efficiency of materials
inspection and promptness of reports issued.
9. Review of the tax return of the corporate president to determine whether
charitable contributions are adequately substantiated.
I 0. Review of daily attendance during the first semester at Blue Ridge Public
School to ascertain whether payments received from the government
were substantiated by pupil-day data and whet er disbursements by the
school were within authorized limits.
J J. Review of transactions bf a government agency to determine whether
disbursements under the Cash Transfer program of the Department of
Social Welfare followed the intent of Congress .
J 2. Compilation of quarterly financial statements for a small business that
does not have any accounting personnel capable of preparing financial
statements.

Chapter
THE PUBLIC
ACCOUNTING
PROFESSION
ENVIRONMENT·

ected Learning Outconzes

After studying this chapter, you should be able to:

.1 Define the practice of public accountancy as provided for in RA

I
 9298. I
r
2. Know who is a Certified Public Accountant (CPA). f

3. Enumerate the requirements to enter the accountancy profession

in the Philippines.
4: Describe the characteristics, capabilities and competencies that a
BSA degre·e holder must possess as required by CHED.
5. Understand the CPA Licensure Examination requirements.
6. Know the need for the professional accountant to continuously
develop capabilities , and competence after admission to the
profession.. '
7. Describe the core values and competency requirement s for CPAs
· in public practicP..
8. Know the regulatory agencies, professional organizations and
standard-setting bodies that influence the accounting profession.
9. Understand the nature of legal concepts related to auditor's
liability that a CPA may be onfronted with.
1o. Know the auditor's defenses against client and third-party
lawsuits and how to minimize exposures to legal liability.
11. Understand the challenge and credibility crisis faced by the public
accounting profession and how to address them.
.Q:S.Q:S
 CHAPTER 3

THE PUBLIC ACCOUNTING PROFESSION

ENVIRONMENT

PRACTICE OF PUBLIC ACCOUNTANCY DEFINED

Article I, Sec_tio n 4 of the hilippi ne A·ccountancy Apt_([{A 9298) describes the

scope of the practice of public accountancy as follows: ·.....

"Practice of Public Accountancy sha ll constitute in a person, be it in his/her

individual capacity, or as a partner or as a staff member in an accounting or
auditing finn, holding out himself /herself as one skilled in the knowledge,
science and practice of accoun ting, and as a qualified person to render
professional services as a certified public accountant; or offering or rendering,
or both, to more than one clie nt on a fee basis or otherwise, service s s uch as the
audit or verification of financial transaction and accounting records; or the
preparation, signing, or certification for clients of reports of audit, balance
sheet, and other financial, accoun ting and related schedules, exhibits,
statements or reports NOM] are to be used for publication or for credit
purposes, or to be filed with a court or government agency, or to be used for
any other purpose; or the design, installation, and revisio n of accounting
system; or the preparation of income tax returns when related to' accounting
procedures; or when he/s he represents clients before government agencies on
tax and other matters related to accounting or renders professional assistance in
matters relating to accounting procedures and the recording and presentation of
financial facts or data."

.Article IV, Sectiorr26of the same law provides:

"No person shait practice ac ountancy in this country, or use the title "Certified
Public Accountant", or use the abbreviated title "CPA" or display or use any
title, sign, card, advertisement, or other device to indicate that such person
practices or offers to practice accountancy, or is a certified public accountant,
un less 'S4ch person shall have received from the Board a certificate of
regis tration/ professionallicense and be issued a professiona identification card
or a valid temporary/special permit duly issued to him /her1by the Board and the
Commission."
 The Public Accounting Profession Environment 35

CERT IFI ED PUBLIC ACCOUNTANT

A ce rti fied public accountant (<;PA) is a person who, after obtaining the required
education ,passes an extensive examination and is licensed by the country to
practice as a professional accountant.

Most young profes iona ls aspiring to become CPAs us ually \\Ould like start
their careers working for a CPA firm.. A·fter they become CPAs, many leave the
firm to work in industry, government or education. These people may continue to be
CPAs but often give up their-r ight to practice.as independen t auditors. CPAs who
practice as indepen cnt auditors must meet registration requirements to exercise
f
their right to prac ice. lt·is. common therefore, for accountants to be CPAs who do
not practice as indC:pendent auditors. l
REQUIREMENTS TO ENTER THE ACCOUNTANCY PROFESSION I
Meeting the expectations of diverse groups requires considerable expertise.
Because of the increasing comp le xity of the business environment, the demands
made on the professio nal accountants have certainly increased.

To be able to enter the professional accountancy professio n in the Philippines, nn

ind ividual s hould be able to satisfy all of the follow ing requisites: I
(a) Be a holder of a degree of Bachelor of Science in Accountancy (BSA) f
conferred by a schoo l, college or in stinite duly recognized and/or I
accredited by the Commission on Higher. Educatio n (CHED) or other
authorized governmen t offi ce;
(b) Qualify as a professional accountant by passing the CPA Licens ure
Board Examination administered by the Professional Regulatory Board
of Accountancy; and
(c) Satisfy all other legal and regulatory requirements before the individual
takes on the role of a professional accountant.

A. Pre-Qualification Education Requirements

An individual aspiring to be a professional accountant should meet the

pre-qualification education requirement that requires possession of a
.Bachelor of Science in Accountancy (BSA) degree.
36 Chapter 3

The BSA program should provide a fo ndation of prof ssional

knowledge, professional skills, and professional values, ethics and
attitudes that enable them to continue to learn an. dapt o change
throughout their professional lives. These capab1ltt1es ·will enable
professional accountants to identify problems, know where to find this
knowledge and know how to apply it in an ethical manner to achieve
appropriate solutions. The balance of these elements may vary but what
is required is to develop the knowledge base, strong skills and ethical
values in order to produce competent pro_fessional accountants with
appropriate values, ethics and attitudes.
The BSA Curriculum under the CHED Memo No. 27, Series of 2017
consists of the following components: · '
MinimumJ,Jn i ts
Courses Prescribed
1. General Education (GE) Courses 36
2. NationalService TraininQ Program (NSTP) 6
3. Physical Education (PE) courses 8
4. Common Business and ManaQement Education Courses 6
5. Core AccounitngEducationCourses 81
6. Cognates I Major I ProfessionaCl ourse 36
Total 173 units
A BSA degree holder under CHED Memo No. 27, Series of 2017, should
possess the following characteristics, capabilities and competencies with
specific measurable performance indicators:
CAPABILITIES AND COMPETENCIES PERFORMANCEINDICATOR
1. Resolve business issues and • Record financial transactions in
problems, with a global and compliance with generally accepted
strategic perspective using accounting and reporting standards
knowledge alK:f (both global and local) for sole
technical proprietorships, partnerships,
proficiency in the areas of corporations, government and not
financial accounting and profit organizations.
reporting, cost accounting and • Prepare Accountancy reports such
management, accounting and as budgets and business plans
control, taxation and accounting usin·g appropriateframework,
information systems. • Conduct financial and operational
audits of all types of business
enterprise and not-for-profit
organiztaion.
 The Public Accou111i11g Profession Environment 37

CAPABILITIES AND COMPETENCIES PERFORMANCE INDICATOR

• Prepare individual and corporate
income tax returns and conduct
basic tax planning in compliance
with relevant legislations and
regulations.
• Perform cost-benefit analysis for
management decisions.
• Design and implement a
management control and
performance system.
• Communicate effectively the
results of financial analysi.s
2. Conduct · accountancy research • Design an appropriate research
through independent studies of
relevant literature and
plan I
• Prepare a critical review of related
appropriate use of accounting literature
theory and methodologie.s· • Ana!yze results of study and
discuss implications and
contributions to body of
knowledge
• Present findings and
( conclusions of the study
• Communicate effectively the
recommendations.
3. Employ technology as a • Customize an accounting
business tool in capturing software to a particular
financial and non-financial businses entity
information, generating reports • Develop a financial model using a
and making decisions. spreadsheet software
· • Analyze the performance of a ·
particular business entity using
appropriate accounting software ,

tools and functions.

4. Apply knowledge and skills that • Perform accounting-related work
will successfully respond to in actual workplace based on
various types of assessments preset standards
(including professional licensure • Pass licensure examinations or
and certifications). qualify for professional
accreditation/csertifications.
38 Chapter 3

CAPABILITIES AND COMPETENCIES PERFORMANCE INDICATOR

5. Confidently maintain a • Promote adherence to legitimate
commitment to good corporate and acceptable ethical objectives
citizenship, social responsibility of an organization.
and ethical . practice in • Communicate limitations or other
performing functions as an constraints that would preclude
accountant. responsible judgment or activity
such as in the practicum or on-
the-iob training.

B. CPA Licensure Examination

The "Philippine Accountancy Act" (RA 9298) Article JI, Sections I 3 to

18 provide for the requirements for the Examin ation, Registration and
Licensure for the Practice of Accountancy as follows.

L Qualification of Applicants for tile Licens11re Examinations

Any person applying for examination shall establish the following
pre-requisites to the satisfaction of the Board that he/she:
(a) is a Filipino citizen;
(b) is of good moral character;
(c) .is a holder of the degree of Bachelor of Science in Accountancy
conferred by a school, college, academy or institute duly
recognized and/or accredited by the CHED other authorized
government offices; and
(d) has not been convicted of any criminal offense involving moral
turpitude. .

IL Scope of Exan1inatio11
As per PRC-BOA Resolution No. 262, Series of 2015, the
licensure examination for certified public accountants shall cover, but
are not limited to, the following six (6) subjects:
1) Financial Accounting and Reporting
2) Advance(! Financial Accounting and Reporting
3) Management Advisory Services
4) Auditing
) Taxation
6)· Regulatory Framework for Business Transaction
 The Pub lic Accounting Profession Em·ironmenr 39

Th e foregoing changes in th e exa mination subjects shall be applied

starting May 2016 sc hedule of the Board Lice ns-ure Examination for
Certified Public Accountant (BLEC P)
The resolut ion was published in the Official Gazette on February 22,
2016 with date of effectivity of March 9, 2016.

Ill . Rating in t!,e Licensure Examination

To be qua lified as having passed the licens ure examinati on for
accountants, a candidate mus t obtain a general average of seventy
five percent (75%), with no grades lower than s ixty-five percent
(65%) hi any given subject. In the event a candidate obtains the
rating of seventy-five percent (75%) and above in at least majority of
the subjects as provided for in this Ac he/she sha ll recei\'e a
co nditional credit for the subjectspassed: Provided, That a candidate
shall ta ke an examination in the remai,1ing subjects with in two (2)
years from the preceding exa mination: Provided, further, That if the
candidate fails to obta in at least a general average of seventy-five
percent (75%) and a rating of at least sixty-five percent (65%) in
each of the subjects reexamined, he/she sha ll be considered as failed
ill the entire examination.

C. Other Legal and Regulatory Requirements

I. Oath
All success ful candidates in the examination shall be required to take
an oath of profession before any memb er of the Board or before any
governme nt official authorized by the Commissio n or any person
authorized by law to admi niste r oat hs upon presentation of proof of
his/her quali fica tio n, prio r to entering upo n the practice of the
professio n.

Jl Jss11ance of Certificates of Registration and Professional

Identification Card
A certificate of regis tration s hall be issued to examinees who pnss
the lice nsure examinatio n subject to payment of fees prescribed by
the Commission. Th e Certificate of Registratio n shall bear the
sig natu re of the chairperson of the Commission and the chnimrnn
and members of the Board, sta mped wit h the official sea l of the
Commiss ion and of the Board, in dica ting that the person named
 40 Chapter3

therein 'i s ei:ttitled to the practice of the profession with all the
privileges appurtenant thereto. The said certificate shall remain in
full force and efTect until witl1drawn, suspended or revoked in
accordance with this Act.

A Professional Identification Card bearing the registration number,

date of issuance, expiry date, duly signed by the chairperson of
the Commi ss ion, shall likewi se be iss ued to every registrant renewable
every three (3) years.

lll.lndicatio11 of Certificate of Registration, Identification Card and

Professio11nl Tax Receipt
The certified public accountant shall be required to indicate his/her
certificate of registration number and date of issuance, the
duration of validity, includin g the Professional Tax Receipt
number on the documents he/s he s igns, uses or issues in connection
with the practice of his/her profession.

IV. For CPAs in Public Practice a11 accreditation from tlte Board of
Accountancy is required. Suclt accreditatiott slta/1 he renewed
every tltree (3) years.

DEVELOPING CAPABILITlES AND COMPETENCE AFTER

ADMISSION TO THE PROFESSION

The require ments of those entering the auditing profession are demandin g.
Aud its are perfonned in teams where each auditor is expected to complete tasks
requiring considerable technical knowledge and expertise, along with leadership,
teamwork and professional skills. In tenns of technical knowledge and expertise,
auditors mus t un derstand accounting and auditing authoritative literature,
develop indus try and client-spec ific knowledge, develop and apply computer
skills, evalu_ate internal controls, and assess and respond to fraud ris k.

In tenns of leadership, teamwork, and professional s kills, auditors make

presentation s to management and audit committee member s, exercise logical
reasoning, communicate decisions to use rs, manage and supervise others by
providing meaning ful feedback, act with integrity and ethics, interact in a team
environment, collaborate with others, and maintain a professional personal
· presence. While external auditors at all types of audit firms need tties'1 s kills, the
work environment at larger versus s maller audit firms differs.
 The PublicAccounting ProfessionEnvironmen.t Al

To acquire the capabiliti es and competence required of professional accountants,

ind ividu a ls may need further education and development beyond that needed to
qualify as profession al accountants.

Educati_on and development for acquiring and main ining the capabilities
of professional a ccountant s can include:

(a) Advanced profession al education purs ued at academic institutions or

through the programs o f professional bodies;
(b) On-the-job-training and experience programs;
(c) OfT-the-job training; and
(d) Continuin g professional development (CPD) courses and activities.

The sustaina bili ty of the accounting profession depends on the quality of services
provided by its members and the profession's capacity to respond effectively and
efficiently to the demands of economy and society. Recent developments in
technology, globalization, ethics and governance have dramatically altered the
bus ine ss environment and the nature of the professional activities of accountants.
The liberalization of services requires that the academic and professional
qual ifications of the accountant be at par with other countries to enable him/her
to perform competently in the workplace and at the same time to be recognized
internationally.

Profession a l accountants in public practice are bound by professional and

accounting standa rds and reporting requirements in so (ar as the public interest is
concerned. They are likew ise bound by the regulatory and professional ethics
framework as to their conduct of the work. Simila rly, professional accountants in
bus iness who use their accountin g background and their work in private practice
.· are responsible to management and must exert all efforts to provide exemplary
· accounting-ba sed busine ss, anal ysis, projections and interpretatio ns. Employ ers
are demanding a broad range of professional and general business skills which, if
developed, improves the versatility of the professional accountan t.

Al I professional accountants are obliged t, o e ngage in lifelong learning to keep

up-to-date on deyelopments influencin g the profession and the quality of the
services they provide.
42 ChapterJ REQUIREMENTS FOR CPAs IN
MJ>ETENCY
CORE VALUES AND CO
PUBLIC PRACTICE .
. CPA's to possess the followmg Core Values
The
r. •0 n requires .
Accounting_Proise • reflect the foundatio_n of the um ue trengths nd
and Competenices w iche to drive and distinguish the profession m the commg
• • that will continu
qua I1 u es
decades. ·
Core Values
► Core/ f the CPA profession are the essential and enduring beliefs
O
vau es bl CP . .
. I holds over t.ime. Core ues ena . e As to the ir um que
va retam
th . .
th a t 1t u p
c h a ra ct e r and value as race e ang d
mg ynam1 cs of the glo al
h
b c
they em economy.
• Integrity
CPAs conduct themselves with integrity and honesty, holding
themselves to rigorous standards of professional ethics.
• Competence
CPAs demonstrate superior technical proficiency by performing with
a high level of expertise and knowledge.
• Lifelong Learning
CPAs highly value education beyond certification and continually
pursue new and broad skills and knowledge.
• Objectivity
CPAs maintain impartiality and intellectual honesty by remaining
free of personal bias and conflicts of interest.
• .Cpmmitmento Excellence
CPi\s GQntinually deliver exemplary, high-quality services.
• Relevance in the Global Marketplace
CPAs enhance their yalue by meeting the ever.changing needs of the
world around them.
 · The Public AccountingProfession Environment 43 .

Core Competencies
► Core competencies are a unique combination of liuman skills, knowledge
and technology that provides value and results to the user. Enhancing the
profession's core competencies is a key to sustaining a competitive and
differential advantage in the marketplace. .
• Comm1111icatio11 Skills
CPAs are able to effectively exchar,ge reliable and meaningful
information, using appropriate context and interpersonal skills.
• Leadership Skills
CPAs are adept at influencing, inspiring and motivating others to
facilitate change and achieve excellence.
• Critical-Thinking and Problem-Solving Skills
CPAs are skillful in evaluating facts, challenging assumptions and
applyingjudgment to develop relevant solutions.
• Anticipating and Serving Evolving Needs
CPAs are adept in identifying strategic directions and opportunities
to meet the evolving need s of those they serve.
• Synthesizing Intelligence to Insight
CPAs are expert in connecting data, performing analysis and using
business acumen to provide astute guidance for better business
decisi n making.
• Integration and Collaboration
CPAs are effective at building strategic alliances and 'working
collaboratively to provide multidisciplinary solutions to complex
problems.
 44 Chapt er 3
REGULATORY AND PROFESSIONAL ORGANIZATIONS THAT
INFLUENCE THE PROFESSION

A. Regulatory Government Agencies

Professional Reg11/atio11 Commission (PRC)

PRC administers, implements and enforces the regulatory policies of the

· National Government with respect to the regulation and licensing of the
various professions under its jurisdiction including the maintenance of
professional standards and ethics and the enforcement of the rules and
regulations relative thereto.

This Commission has the overall jurisdiction over the regulatory.boards in

the Philippines among which is the Board of Accountancy. It derives its
authority from the PRC Modernization Act of 2000.

Professional Regulatory Board of Accountancy (BOA)

This board, consisting of a chairman and six members, is tbe agency that is
empowered to administer the Accountancy Law. As a licensing agency of the
government, the board is the only body that may issue and revoke CPA
certificates and grant licenses to practice. Its functions are provided for in the
Philippine Accountancy Act of 2004.

Securities and Exchange Conimission (SEC)

' .
This is the government agency that regulates the registration and operations
of ,corporations, partnership and other forms of associations in the
Phili ppines.

The overall objective of the Securities and Exchange Commission, an agency

of the national government, is to assist in providing investors with reliable
information upon which to make investment decisions. To this end,
companies planning to issue new securities to the public must submit a
registration statement to the SEC for approval. They are required to file
• detailed annual reports with the Commission. The Commission examines
these statements for completeness and adequacy before permitting the
company to sell its securities through the stock exchange.
 The Public Accounting Profession Environ rit 4'5
,
The SEC has considerable influence in setting financial reporting standards
and disclosure requirements for financial statements as a result of its
authority for specifying reporting requirements considered necessary for fair
disclosure to investors. It is represented in standard-setting bodies such as the
Philippine Financial Reporting Standards Council (PFRSC), Auditing
Standards and Auditing and Assurance Standards Council (AASC) and in the
Philippine Interpretatiors Committee (PIC). The SEC has power to establish
rules for any CPA associated with audited financial statements submitted to
the Commission.

Because large CPA finns usually have clients that must file accowiting
reports and the rules and regulations affecting filings with tht; 1SEC are
extremely complex, most CPA firms have specialists who spend a large
portion of their time ensuring that their clients satisfy all SEC requirements.

Commission on Audit (COA)

This is the agency that audits or detennines whether government units handle
their funds according to existing laws and whether their program are being
conducted efficiently and economically. '

Bureau of I11ternal Revenue (BIR)

The Bureau of .In ternal Revenue is responsible for enforcement of the tax
laws, rules and regulations. Its agents conduct compliance audits, examines
and reviews income tax returns of individuals and corporations to detennine
that income has been computed and taxes paid as required by the National
Internal Revenue Code.

B. P ofessional Organizations

Philippine Institute of Certified Public Acco1111tm1ts (PICPA)

PICPA is the accredited national professional organization of CPAs. It serves

all members in the different sectors of the accounting profession, namely,
public practice, education, government and commerce and industry, ilirough
a set of technical and social services. Year-round professional development
programs (seminars, technical sessions, symposium and dialogues) and
regular fellowship and sport activities are sponsored by the association for its
mem bers. PICPA publishes the Accountants Journal that contains technical
and formal papers, buJletins and pronouncements released by the Financial
46 Chapter 3

Reporting Standards Council (FRSC) and the Auditing and Assurance

Standards Council (AASC).

Sectoral Organizations
The other professional organizations that <:omplement PICPA's objectives
and provide the specific professional development and other requirements of
CPAs in the different sectors are:
1. Association ofCPAs in Public Practice (ACPAPP) . '
2. Association of CPAs in Education (ACPAE)
3. Association of_CPAs in Commerce and Industry (ACPACI)
4. Government Association of CPAs (GACPA)
. ..
C. Standard-Setting Bodies

International Federation of Accou11ta11ts (IFAC)

IFAC was formally <;1pproved in Munich in 1977 and ha·s as its mission the
development and enhancement of the profession to enable it to provide
services of consistently high quality in the public interest. lt is a non-profit,
non-governmental, non-political international organization of accountancy
·· bodies.

Membership in IFAC is open to acco ntancy bodies recognized by law or

general consensus within their countries as substantial national organizations
qf good standing within the accountancy profession (e. g., PICPA).
Membership in IFAC automatically includes membership in the International
Accounting tandards Board (IASB) .

The Assembly, consisting of o e representativ·e from each member

·accountancy body elects the members of Council. The work programs of
the Council are implemented primarily by smaller working groups, or
standing technical committees which include: ·
...
• Education;
• .Ethics;
• Financial and Management Accounting;
• Information Technology;
• International Auditing Practices;
• Membership; and
• Public Sector.
 The Public Accounting Profession Environment 41

International Accounting Standards Board (JASB)

The International Accounting Standards Board (JASS), based in London,

began operations in 200I. It is funded by contributions from the major
accounting firms, private financial institutio ns and indu strial companies
throughou t the world, central and develo pmentbanks, and other international
and profession al organizations. The 14 Board members (12 of whom are full
time) reside in nine countries and have a variety of functional . backgrounds.
The Board is committed to developing, in the publ ic inte rest, a sing le set of
high quality, global accounting standards that require transparent and

,
comparable informatio n in general purpose financial statements. In pursuit of
this objective, the Board cooperates with national accounting standard-setters
to achieve convergence in accountin g standards around the world.

Financial Reporting Standards Council

1
The Financial Reporting Standards Council (FRSC) is tasked to assist the
Board in carrying out its powers and functions particula rly the adoption of
International Financial Reporting Standards in the Philippin es.
.I
International Auditing Practices Committee (IAPC) r

The International Auditing Practices· Committee (IAPC) is a standing

committee of the Counc il of IFAC and is responsibl e for the develo pmen t
and issuance on behalf of the Council, standards and statements on a variety
of audit and attests functions in order to improve the degree of uniformity of
auditing practices and "related services throughout the world. IAP.C iss ues
the International Standards on Auditing (ISA'S) 1hat are to be applied in the
audit of financial statements, audit of other information and related services.

Auditing and Assurance Standards Council (MSC)

Auditing and Assurance Standards Co ncil (A SC) is the body tha_t

is assigned to assist the Board in carrying out its powers and fu cttons
particularly the adoption of auditing and assurance standards m the
Philippines .
48 Chapter 3

CPA'S LEGAL LIABILITY

. · oncern to auditors. Professionals have always had
Potential litig tion isa maJ ;eclevel of care while performing work for those they
a duty to pr?vide:.
rve Audit re so :have ·-a responsibility under .common
pro1ess1ona I h law
. to1· fulfill
c.
se · d . - 1 d contracts with clients. They are IJab e to t e,r c 1ents 1or
expre ssed an imp ie · ·d h
. d
negligence an or ./ br e ac,
. h of contracts should they fa ll to prov1 e t es
·
rv1 ces or not exercise due care m their perfonnance. .

Lawsuits against auditors typically involve alleged misstatements that the

auditors did not detect in the financial statements. These mis'st tements are
usually:
1) an improper or inadequate disclosure, or
2) an inappropriate valuation.

Other typical lawsuits brought by clients against CPA finns involve clain:is that
the auditor (1) did not discover an employee defalcation (theft of assets) as a
result of negligence in the conduct of the audit; (2) did not complete th·e audit on
the agreed on date; and (3) inappropriate withdrawa from an audit.

Public accounting firms have developed procedures that some characterize as

defensive auditing to minimize risk. Also, understanding how and when auditors
can be liable will be helpful.

LEGAL CONCEPTS RELATED TO AUDITOR'S LIABILITY-

Concepts basic to an understanding of auditor s' liability include

a. Due professional care
b. Sources of responsibility
,c. Degree of wrongdoing
d. Lack of privileged communication
e. Liability for acts of others

D11e Professional Care ...

There is agreement within the profession and the courts that the auditor is not
a guarantor of the statements' accuracy. Auditors are not infallible and can
make errors in judgment. But auditors are expected to exercise the same
r asonable care with which others in the profession would perfonn in similar
c rci um stances. This is frequently referred to as exercis ing du e proefss
iona l
 The Public Accounting Prv.fession Environment 49

car .-This standard of due care to which the auditor is expected to be held is
often referred to' as the prudent person concepl.

Sources of Respo11si hility

The auditor,s · legal rcspons ib'llities to others are establis hed by eithe r
common law or statutory law. •
I

e ommon laws are laws · that have been developed throug h court decisions
rather than through government statutes. An exampl e is an auditor's liabili ty
to a bank related to the aud itor's failure to discover material miss tatements in
financ ial statemen·tsthat were relied on in issu ing a loan.
.
Statutory laws refer to the body of laws passed by legislative bodies such as
Congress. For example, auditors for an entity selling sec urities under the
Securi ties Act owe a statutory duty to a purchaser of thosesecurities.

Degree of Wrongdoi11g
Figure 4.1 illustrates the degree of an auditor' s wrongdoing or failure to
fulfill their responsibi lities.
.
Figure 4.1 Degree of Wrongdoing
r
Deqree of Wrongdoinq
Gross negligence or
None Neolioence Constructive Fraud Fraud
Auditors perform Auditors issue
appropriate audit and report on financial
issue appropriate statements with the
report. . intent to deceive.

At one extreme, auditors perform· an appropriate audU and iss ue

an appropriate report. Hence, the auditors have no degree of wrongdoing.
Auditors who commit fraud are at the other extreme because they know the
financial state ment s are miss tated but do not take appropriate action to report
the misstatement s. Courts consider fraud as the maximum wrong that
auditors can do. Courts traditionally use the legal co ncept ofcsciemer o r the
knowledge of the falsity on the part of the person making the state ment, to
differentiate fraud from other degrees of wrongdoing.

so Chapter 3
d e grees of wrongdoing negligenc e
The courts have .idenufil
. dt
Ordinary negligence impl ie s absence of
:C
O
. ) d · ·
(ord1 11ary an g ross negb,eg e n cted of a person m a
x p e
 f ·
set o c ir cumstances.
th
reasonabl,e a_rc a 1cfan d . ne. ryneg ligence if they do not do what
reasonably
.d arc guilt y o ro in d' ·1 f
Au , , o rs . wl u l d do in the circumsta nces. Au, tors are g, u ty o
gross
5
pr11de11at u d_toi, rs s is ten t l y fail to follow the standa rds of the profession
ne gJige11ce ,ft icy cno
on an engageme nt.
•
Courts .b • s·,h te ween these two degrees of wrongdoi ng depending on
d ,st ingu .
the particular circumstances of the case or the pertinent legal precedent.

LEGAL LIABILITY OF TH£ INDEPENDENTAUDITOR

.,
Auditor's liability to clients

A C PA is obliged to exercise due professional care during the engagement

includin g adherence to professional standards and eth ics. Failure by the CPA to
exercise this degree of care may const itute negl ige nce and breach of contracts to
render professional service. An honest error does not constitu te neglige nce on
the part of a CPA so long as he has exercised due professional ca re.

While the basic purpose of an audit is to render an opinion on the fairness of"th e
financial statement s and not to detect frau_dule nt acts by employees, if
an undetected fraud is so widespread and of such magnitude as to cause the
financial s tatement to be materially misstated, the argument may be advanced
that the
· auditor's procedures were clearly inadequate and that·the aud itor was negligent.
In the event that the auditor is found negligent, a client is ent itled to recover any
losses to which the auditor's negligence was proximate cause. The client may
also recover the audit fee because of the auditor's breach of contract.

Auditor's liability to third parties

Creditors, investors and other third parties also rely upon the auditor's work when
they place confidence in audited financial statements. Independent auditors are
liable to alt foreseeable third parties for losses which are caused by the auditor's
fraud or gross negligence. Auditor's expression of an opinion on financial
s tatement when, in fact, he has no basis for an opinion is considered gross
negligence. Failure of the auditor to detect a widespread fraud also constitutes
negl ige nce.
 The Public Accounti11g Projl!ssio11 £11 l'iro11ment 51

LIMITATION ON AUDITOR'S RESPONSIBILITY

An independent auditor sat isfies his or her detection responsib ility by plannin g to
search for mate ria l errors or irregularities and exercising due skill and care. PSA
240 (Redrafted) states that:

If circumsta nces indicate the possible existence of fraud or errors, the auditor
should consider the potential efTect on the financial in formation. If the auditor
believes that the suspected fraud or error could have a material efTect on the
financial statements, he should perform such modified and additiona l
procedure as he determines appropriate to confirm or dispel such susp ic ion.

It is further provided that:

The auditor should communicate his findings to management on a timely basis if:
a) he belie ves fraud may exist eve11 if the pote11tial effect on theftna11cial
information would be immaterial, or
b) fraud or significant error is actually found to exist.

In the event the auditor fails to detect fraud and is found negligent, a client is
entitled to recover any losses occurring s ince the auditor's negligence was
proximate cause. Also the client may recover the audit fee because of the
auditor ' s breach of contract.

AUDITOR'S DEFENSES AGAINST CLi ENT.SUITS

Under common law, CPA firms can use one or a combination of five de'renses
when there are legal claims by clients. These are:

J) The CPA firm can claim there was no implied or expressed contact to
. perform the service. This is referred to as lack of 'duty-to P'!rform the_
service .
2) The audit was performed using reasonable care or the lack of reasonable
care did not cause damages.
3) The reliance on the financial statements did not cause the los,s. T his
is also referred to as absence of causal connection.
4) In cases in which a tort is involved, auditors in some jurisdiction can
claim contributory negligence (that the client's own actions contributed
to the loss).
S) The statute of limitat ions on the action has expired.
 52 ChJf'lt"r 3
•S AGAINST THIRD-PARTY LAWSUITS
AUDI T OR 'S DEF ENSl·
.
Aucf1 1ors have fcnscs in third-p arty lawsuits . T hese are:
c
, ourd
r

1) The preferred defense in t 1ird- a11y suits i 11o' nneglige11t

performance. If the audit was conducted m accordance with Sta
ndards of Auditing,t he other defenses are unnecessnry.
2) A lnck of dut)' defense can also be used. Thi s defense contends Jack of
privily of contract. Privily of contr_ac_t n1eans limi_t ati ns of liability to
the parties to n given contract. Under pnv1ty, the CPA 1s not liable tot
h ir d parties for ordinary negligence.
3) Absence of causal connection: This means that third party must bea b el
to prove that there is a close causal connection between the aud ito sr'
breach of the s tandard of due care and the damagessuffered by thet h ir
d party. This could afso be cons trued as no nreliance o n the
fiannc ia l s tatements by the user.
4) The statute of limitations on the action has expired.

Contributory neglige nce is ord inarily not available in third-party laws u it s

because a third-party is not in a position to contri bute to miss tated financial
statements.

i\IIN JMIZING EXPOSURE TO LEGAL LIABIL' ITY

In the ligh t of the auditor's extensi\'.e e xposure to obligation, public accounting

fim1s must take positi ve action to withstand the threat of legal liability. Among
these actions are:

I) Emphasize compliance with standards of audit ing, the Code of

Profession al Ethics and whe re appropriate Fin·anc ial Re porting
Standards.
2) T ho roughly inve stigate prospective cl.ients. Avoid taking on c lients when
the re are indications ·of deliberate management misr epresentat io n.
Evaluate whether a cl ie nt has-t he necessa ry integrity.

3) Avoid compa nies and indu st ries:in which the risk of lit igation is high.
.
4) Exercise extreme care in the audit of clie nts in fina nc ial difficult ies .
5) Establis hing and' following appropriate quality control procedures over
al_l audit work.
 The JJublic Acco1111ting Profess ion Enviro11111e11t 53

6) Use eng agement le tters which clearly point out to the c lien t the scope of
the auditor's services and res ponsibilit ies on a particular engagement.
7) Condu ct the audit with appropriate professional skepticis m.
8) Provide the opportunity for auditor to cons ul t with more experienced
auditors about difficult iss ues.
9) Maintain adequate professional liability ins urance cove rage. This is
however not a common practice in the Philippines.
I 0) Seek leg al counsel wheneve r serious problems occur.

SOCIETY'S EXPECTATIONS AND AUDITOR'S RESPONSIIlILIT JF.S

It is imp ortant to remember that while auditors have important responsibilities,

ma11a ge me111 is primaril y responsib le for maintaining effective interna l control
and for en'suring the fairness of the company's financial s tatem nts.

The audit or's responsibili ty to provide reasonable assurance with respect to

errors, fraud and illegal acts clearly shapes the aud itor's environment and the
work the he or she performs.

CHALLENGES FACED BY THE PUBLIC ACCOUNTING PROFESSION

As a profession, we are in a period of change in which auditors and accountants

are called upon to make professional judgments that .best reflect the economics
transaction s or current states of economic holdings. Furthe r, audit firms need
professional s taffs that make consistent judgm_ents across a wide variety
of comp an ie s, c ountries, and types of transactions. Thus, professional j udgment
and processes with which to make such j udgm ents cons is tentl y across both the
breadth of a finn, as well as time, are critical to the future success of each
auditing fim1. ,

Among the signi ficant challenges faced by the profession arc:

I. Accounting in highly complex often iii part because co mpanies are

entering into, increasingly complex transaction and organizational
s tandard.
2. Audit procedures must be designed to at_test material fraud and assure
use rs that the financial s tateme nt are free fro m fraud
S4 Chapt er 3

3. Computer systems are complex. When used properly, they provide

opportunities for effective contracts, but when not used properly, they
create additional risks.
4. Many companies are global. The audit firm must operate in multiple
countries that require consistent high quality audits wherever the audit
takes place.
5. There is time pressure to get the audit done and to report more quickly
than ever before.
6. There is a need to generate audit fees sufficient to both
(a) attract new people to the profession and
(b) retain managers and partners, who often operate under having stress
to fulfill this m'ost important obligation . This could meet resistance
from clients who may believe that price changes are not warranted.

The public accounting profession has been one of the most highly regarded
professions in the country. But the audits is only as good as the next engagement
which must be ex_ecuted well and within the rules of the profession. Tbe
new public practitioner must be more than a "rules person". He or she must be able
to meet the challenges of professional judgment and adhere to standards of
professional excellence and ethics.

THE ACCOUNTING PROFESSION'S CREDIBILITY CRISIS

A recent survey of users of financial statements particularly the investors,

provides evidence that a gap has existed between what auditors attempt to do in
an audit and the user's expectations of the audit. This phenomenon, referred to as
the expectation gap, has existed in some form since the inception of modem
auditing. Although CPAs have historically enjoyed a high degree of credibility,
users of audit reports expect auditors to detect both intentional and unintentional
material misstatements and to report when an entity is not likely to survive.
Although audits are not designed for these tasks, changes in audit standards and
practices have been made to better recognize auditor's responsibility for
detecting fraudulent financial reporting and to improve the communication of the
work done by the auditor.
 The Public Accounting Profession Environmenl 55

To address the current iss ues on the expectation gap of the CPA's performance,
public regulations and regulations within the firm have been adopted to includ e
the following:

• Setting requirements to ensure that only people are admitted to the,

accounting practice through the accreditation by the Board of
Accountancy.

• Establishing and complying with international s tandards for accounting,

reporting and auditing services.

• Adopting the Revised Code of Ethics for Professional Accountants.

• Developing a program for quality control of public accounting practice.

• Requiring practicing accountants to comply with continuing professional

development programs.
• Requir ing regular, periodic reviews of auditor's comp liance with
professional s tandards through the quality assurance review (QAR) by the I-

Board of Accountancy.
• Penalizing thosefound gui lty of unacceptable practices. f
I

• Monitoring adequale competition among CPA's

r
 56 Chapter 3
REVIEW QUESTIONS

Questions
I. Desc r i be briefly the practice of pubIic accountancy as providedfor in the
Philippine Accountancy Act of 2004. · .

2. Howdoes one become a CPA?

.3 \ Vha t are the qualification requirements that a prospe tive examinee
• •' ?
mus t sa tis fy before takin g the PA Licens ure exammatoin. -

4. \Vhat nrc the requirements that a CPA in public" practice m· us t

comply with before he -is issu ed a certificate of accreditation by the Board
of Accountancy?

5. \Vhat are the major components of th BSA Curriculum?

', .
·6. \.Vhat are the qualification requirements that an in dividual must meet to
be able to take,the CPA licensure examin ation?

7. How may a professional accountant develop and sustain the required

capabilities and competence afte·r admission to the profession?
• 8. Explain briefly the competency requirement s for professional
accounta nts in bus iness.

9. Name the core competencies required_ m the public accounting

profession.

I 0. Commen t up on each of the following statements you heard m a

conve rsation between two newly hired staff audi tors.
a) "Of course, 1 m qualified to be ss igned to this engagement. I have
an ac countin g degree from a top univer sity and was an honors
graduate. I know some of the accounting rules hav. e changed since I
grad uated, but I' ll be able to figure that out as we go through the
audit".
 The Public Acco1111ti11g Profession Environment 51

b) " It d oes n' t really matter what other think ... I'm comp letely
inde pendent of Chiva Indu stries and should be a member of the audit
team. While I own so me stoc k, it is s mall amount and I'm holding
it for a long term, anyway".

11. Describe the role of the various o rganizations that affect the practice of
the accoun ting professio nals in the Philippines.

12. Give and explain brie ny at least five (5) initiath es to address the
credibility crisis in the accountancy profession.
•
13. Under what conditions may a foreigner be allowed to prac tice
accountancy in the Philippines?

14. \Vhat facto rs have cause d litigations against audit ors to increase?

I 5. \Vhat is due care? How does it affect aud itors' liability?

I6. Under what circumstances can an auditor be criminally liable for the
results of an audit?

17. Identify specific actions an audi tor can und ertake to reduce the potential
. for litigation.

I8. How does the prudent person conceptaffect the liability of th auditor?
'
19 . What is the body that iss ues international pronouncement s providing
auditing procedural and reporting guidance?

20. Who has the primary responsibility for the ad quacy of dis clos ure in the
financ ial statements ofa publicly held company?
 58 Chap/er J

l',fu/tiple Choice Questions

.I In the auditing environment. failure to meet auditing s tandards is often

8· an accepted practice. ·
b . a suggestion of negligence.
c . conclusive evidence of negligence.
.d ta ntamo unt to criminal behavior.

2. The prudent person concept establishes in law that

a. the CPA firm is not expected to be infallible.
I
b. an audit in accordance with Standards on Auditing is subject to
limitations and cannot be relied upon for complete assurance that all
errors and irregularities will be found.
c. the courts do not require that the auditor become the insurer or
guarantor of the accuracy of the statemen ts.
d. all three of the above are true.

3. To succeed in an action against tl1e auditor, the client must be able to

show that
a. the auditor was grossly negligent
b. the auditor was fraudulent
c. there is a close causal connection between the auditor's breach of the
standard of due care and the damages suffered by the client.
d. there was a written contract.

4. The standard of dye care to which the auditor is expected to be held is

referred to as the
a. prudent person concept. c. due care concept.
b. common law doctrine. d. reckless regard doctrine.

5. The existence of extreme or unusual negligence, even though there

was no intent to deceive or do harm, is
a. fraud c. gross fraud
b. constructive fraud d. ordinary fraud

6. Most lawsuits against CPAs are filed by

a. client c. third party beneficiaries
b. third parties d. government agencies, suc h as SEC

',
 The Public Accounting Profession £ 11vironme111 5 9

7. The Commi ss io n on Audit (COA}:

a. is primarily concerned with rapid processing of all accounts payable
incurred by the natio nal governme nt.
b. Res ponsi bilities includ e; condu cting operational audits to ens ure
spending meets Cong ress's requirements.
c. is a mu ltinational organii.ation of profession al accountants.
d. is primarily concerned with budgets and forecasts approved by
the SEC.

8. The ris k associated with survivability and profitability is referred to as

a. In formation risk.
b. Inherent risk.
c. Re lative ris k.
d. Business ris k.

9. Which of the follow ing attributes is more essential for an aud itor than
of management?
a. In tegrity.
b. Competence.
c. Independence.
d. Keeping informedon c urrent professional developments.

I 0. Attestation risk is limited to a low level in which of the following

engagement(s)?
a. Both examinations and reviews.
b. Examinations, but not reviews.
c. Review s, but not examinations.
d. Neither examinations nor reviews.
60 Chapter 3

Cases

Case 1
You and a colleague are carrying on a heated disc ussion. The makes a
o"um er of statements about the public accounting profession that you believe
are in error. Welcoming an opportunityfor rebuttal, you are ready to reply.

equired:
(a) For each of the following colleague statements, develop a brief respof! e
indicating erroneous assumptions made by the colleague or your
agreement with the statements.
(b) Cite relevant evidence in support of your response.

Colleague's Statements .
1. "Auditing neither creates goods nor adds utility to existing goods
and therefore does not add value to business. Auditing exists only
because it has been legally mandated."
2. "Th·e failure of the public accounting profession to warn us of the
problems that existed in the economy is an .example of a profession
not adding utility to society."
3. "The only reason I would hire an auditor is with the expectation that
the auditor search for and find any fraud that might exist within my
company. Searching for fraud 'should be the primary focus of' an
audit."

\
4. "Auditors cannot legitimately serve the public when they are hired
and fired by the management of the company being audited."
5. "Aud,itors cannot add significant value to financial statements as long
as PFRS allow such diversicy in accounting principle s. How, for
example, can the same auditor iss ue unqualified opinions on
identical companies one that uses FIFO and the other weighted
average to account for the same set·of transactions recognizing tJ t
the reported income and statement of financial positions will f>e
materially different? How can both be fairly presented?"
6·. "Au d i ting is narrow - just nitpicking and challenging the
organization in an attempt to find mistakes. I would rather pursue a
career where 1 really understand a ompany's business and would be
ina position to make recommendations that would improve it."
 'tlie Public Accouniing ProfessionEh'vironment 61
7. "Auditing would add greater value if · it analyzed company
p rfonnan_ce and presented a report on company perfonnance along
with the audited financial statements."
8. :'If auditors make recommendations to clients based on weaknesses
m the company operations, the auditors ought to make those
recomme ations public. This would help increase the public trust
by prov1dmg more accountability by both management and
auditors.,,
9. "Adding reports on the quality of internal control will enhance
the value of the audit function to society."

Case2
In their review of the public accounting profession, Lou,Mar and Associates .
warn that an audit report too often is viewed as a "certificate of health" for a
company. The report states: ·- ·

The most serious consequences stemming from such a misunde rstandingare

that the independent auditor can quickly be portrayed as the force that
represents all good in financial accounting and the guarantor of anything
positive anyone wants to feel about a given company.

Requi red:
(a) Why is public accounting often \'.ie ed a uarantor of results or even
as a provider of assurance that one's inve stn:1ent is of high qu lity? •
(b) To what extent is it reasonable to view the auditor as a guaranto·r of an
organization's financial Quality? Explain.
(c) To what extent do you believe that user expectations 0£ the public
accounting professions appear to you to .be unwa rranted? Explain.

Case3
Various organizations develop standards for audits and regulate CPA finns.
Compare and contrast the roles of the PJCPA, the SEC and the Boa?ctt; of
Accountancy along the following dimensions: ··
a) Standard se tting.
b) Regulation of CPA firms.
c) Source of authority.
62 Chapter 3

Case4
Michael Diaz, owner of Diaz Company, applied for a bank loan and was
informed by the banker that audi ted financial statement s of the business had
to be subm itted before the bank could consider the loan application. Michael
then retained Arnold Benamer, CPA, to perform an audi t. Michael
infonned
Arnold that audited financial statemenst were required by the bank and that
the audit must be completed within three weeks. Michael also promised to
pay Arnold a fixed fee plus a bonus if the bank approved the loan. Arnold
agreed and accepted the engagement.
The first step taken by Arnold was to hire two accounti ng students to
conduct the audit. He spe nt several hours telling them exactly what to do.
Arnold told the students not to spend time reviewin g ont rols but instead to
concentrate on pfoving the mathematical accuracy of the ledger accounts
and summarizing the data in the accounting records that support Diaz Company'
s financial statements. The students followed Arnold's instructions and
after two weeks gave Arnold the financ ial s tatements, which did not
include any
. notes. Arnold reviewed the statement s and prepared an unqualified audit
report. The report, however, did not refer to Financial Reporting Standards.·

R equir ed :
Indicate how the actio s of Arnold res ulted in a failure to comply with the
Standards of Auditing.

Case5
Generic Corporation is a large multinational audit client of your CPA firm.
One of Generic's subsidi aries, Ultra Ltd., is a s ucce ss ful electronics.
assembly company that operates in a small Caribbean country. The country i-
n which Ultra operates has very strict laws governing the transferof funds to
other countries. Violatio ns of these laws may result in fines or the
expropriation of the assets of the company.
During the current year, you discover that $500,000 worth of foreign
currency was smuggled out of the Caribbean country by one of Ultrsa'
em ployees and deposited in one of Generic's bank accounts. Ult 's
management generated the funds by selling company automobiles, which
were fully depreciat ed on Ultra's books, to company employees.

You are c cemcd about this illegal act committed by Ultra's management
and decide to discuss the matter with Generic's management and boardo f
directors1scem to be unconcerne.d with the matter and express the opinoin
 The Public Accounting Profession Environment 63

that you are making far_ too much of a situation involving an immaterial peso
amo nt. They also believe that it s necessary to take any steps to prevent
Ultra ,management fr?m. engaging in illegal activities in the future.
?eneric s legal counsel md1cates that the probability is remote that such an
illegal act would not be material to the client's consolidated financial
statements.
Your PA firm is ready to issue the integrated audit report on Generic's
fin nc1al sta!ements and internal control for the current year, and you are
trymg to decide on the appropriate course of action regarding the illegal act.

Required:
a) Discuss the implications of this illegal act by Ultra's management.
b) . Describe the courses of action that are available to your CPA firm
regarding thi_s matter. ·
c) State your opinion as to the course pf action that is appropriate. Explain.

Case6
Alice Borromeo, a partner in the CPA firm of Jay and Dee, received the
following memorandum from Jenny Gomez, president of Gomez'
Manufacturing Corporation, an audit client of many years.

Dear Alice:
I ha e a new type of engagement for you. You are familiar with how much
time and money we have been spending in installing equipment to
eliminate the air and water poll!,Jtion caused by our manu_facturing
plant. w·e have changed our production process t.o reduce discharge of
gases; we have changed to more expensive fuel sources with less pollution
po ential; and we have discontinued some products because we couldn't
produce them without causing considerable pollution.

1 don't think the stockholders and the public are aware of the efforts we
have·made and I want to inform them of our accomplishments in avoiding
danger to ilie environment. We will dev_?te a ?1ajor part of our annual
report to this topic, stressing that our company 1s the leader of the entire
industry in combating pollution. To make this publicity more convincing, 1
would like to retain your finn to study what we have done and to attest as .
independent accountants that our operations are the best in the industry as
far as preventing pollution is concerned·. .
64 Chapter 3
....
To justify your statement, you are welcome to investigate every aspect of
our operations as fully as you wish. We will pay for your services at your
regular audit rates and will publish your "pollution opinion" in our annual
 report to stockholders immediately following some pictures and discuss ion
t,f ·o ur special equipment and processes for preventing indus tria l pollution.
We may put this section of the annual report in a se parate cover and
distribute it free to the public. Please let me know at once if this
engagement is acceptable to you.

Sincerely, '
Jenny Gomez

Required:
Put yourself in Alice's positio n and write a reply to this client's request.
lndi.cate clearly whether you are willing to accept the engagement and
explain your attitude toward this proposed extension of the auditor's attest
function. ·
..

..

'

..
 Chapt er
MANAGEMENT OF A
PUBLIC ACCOUNTING
PRACTICE

ectecf £earning Outcomes

After studying this chapter, you should be able to:

1. Understand the forms of organization of accounting firms.

2. Learn the specific duties and responsibilities of partners as
well as the professional staff in as audit firm.
3. Describe the acceptable means of marketing or advertising
an accounting practitioner's professional services.
4. Name the sources of audit clients.
5. Understand the basis of charging professional fe s and
methods of billing the client.
6. Understand the implication of auditing in a globalized
environment.
.7 Know the na'ture of a quality control system that audit firms
should adopt.
a. Enumerate and describe the elements, objectives and
corresponding policies and procedures of a quality control
system.

• J. r. . .
 •
CHAPTER4

MANAGEMENT OF A
PUBLIC ·ACCOUNTING PRACTICE
-.
ESTABLISHMENT AND ORGANIZATION OF PUBLIC
ACCOUNTANCY PRACTICE

. Public accounting firms are usually organized as sole proprietorships or ·

partnerships. Whateve-r the .leg al form of organization, the hierarchy in the public
accounting finn usually includes partners, managers or supervisors, in-charge
auditors (sometimes called senior and staff auditors). Although the titles of these
positions vary from firm to firm; the structure is stibstantiaIJy present in all 'rums.

A corporation is not allowed to e gage in the practice oJ public accounting in th

Philippines and therefore the Securities af)d Exchange Commission shall ·0;oi.
register any corporation organized for the practice of public accountancy.
However, a growing number of practit ione rs now seem to favor the adoption of
" professiona l corporations" which are allowed in the United States and other
parts of the world. This organizational structure of CPA firms is influenced by
the following factors:

(1) The need to be independent from clients to enable the auditor to remain
unbiased in drawing conclu sions about the financial statements;
(2) The need of a structure to encourage coi,,petence to enable the auditor to
conduct audits efficiently and effectively; and ·
(3) The increase d risk of litigation faced by audito s.

Many people think that public accounting financial statement auditing and
infonnation assura nce services in terms of the largest inten1ational accounting
finns. Notwithstanding this perception, the practice (?f public accounting is
conducted in thousa nds of practice units ranging in size from sole proprietorship
to the largest international finns with thousands bf professionals. Further, many
· public accounting firms no longer designate themselves as CPA firms. Many of
them describe their businesses and their organizations as professional services
firms or s me variat!on on these· terms. Figure 4-1 shows an organization
for a
al rg e public accountmg finn. However, some fjrms-difTer in their
organization. Some hav e other departments such as sm_all bus ine ss
advisory· and forensic
;
 Man agement of a Public Accomiting Practice
67 · ,

acconu int g._ Otl!er m:is may have organized by industry (e.g., oil and gas,
health care, financial mst,tut,ons) to take advantage of firm wide expertise. Some
firms have other names for their staff and management positfons.

Figure 4-1. Public Accounting Firm Organization

Executive Committee
Mana in Partner

Practice Offices Partners-in-Cha e

Tax Services Audit, Assurance and BusinessAdviseServices

Consulting Services

Partner Partner

Mana er Mana er

Senior {In-Charge} Jr.cc6untants Senior (In-Charge} Accountants

Staff Accountants {or Associates} Staff Accountants (or Associates)

Usually in a CPA firm, there are fewer partners than managers and senior
accountants and fewer senior accounta_'lts than staff. Assistants or staffs
spend two or three years in each classification before achieving partner
status. Promotions are made from within and direct entl)' into a firm at a
rank above staff rarely occurs.
., • 68 Chapter 4

The followin g describes the auditing positions and tasks in a pub lic accounting
firm:
Audit Partner
Audit partners are concerned about the overall quality of each audit. An audit
partner signs the audit report, accepting ultimate responsibility for each audit,
and is generally involved in maintaining client relationships, planning I audits,
and evaluating the audit findings. Audit partners have ultimate responsibility
for resolving technical matters, such as the application of accounting principles
or which auditing procedures are to be performed.
Among the duties of a partner are:
l. To plan and review all phasesof an audit engagement.
2. To sign the audit report.
3. To approve the firm' s billing to the client.
4. To obtain/es tablish contracts with clients:
S. To determine office operating policies.

Audit Manager I Supervisor

An audit manager administers important aspects of audit
engagements, scheduli_ng the audit work to be.done with client personnel,
assigning work,to audit staff, supervising staff, and reviewing staff work.
Audit managers are often res ponsible for controlling staff time and
overseeing billing 'and collections. They must keep the audit partner
apprised of significant developments during the audit.

Among the tasks of a manager or supervisor are:

.
1. To act as a liaison officer between partners and other members of the staff.
2. To discuss with the client problems that the audit.
3. To exercise direct supervision on seniors in charge of specific audit may
· arise in the course of engagements.
4. To review working papers and drafts of audit report.
5. To discuss reports and results' of audit with clients.
6. To take direct charge of training programs.

In-Cltarge (Senior) Auditor

In-charge auditors work under the direction of audit managers and assist them
in administering the audit. They generally participate in audit planning and
provide direct supe rvision to staff auditors. They also review work perf?rmed
by staff auditors and summarize audit findings for the audit partner to review.
 Management of a Public Accounting Practice 69

Among the duties of an in-charge (senior) auditor are:

I. To prepar th.e audit program for an engagement subject to review by the
partner, pnnc1pal or s1;1pervisor.
2. To ass g particular phases of the.audit work to staff and to exercise
direct superv1s1on over them.
3. To perf nn certain audit procedures requiring skill and experience such as:
(a) Review of articles of incorp ration, by-laws, and other nonfinancial
records. ·
(b) Verification of assets and liabilities and the basis of valuation.
(c) Comparison of the current period's operating results with that of the
preceding year_or years for the purpose of noting and investigating any
unusual variations.
(d) Examination of adequacy of allowances for depreciation, bad debts,
provision for income taxes, etc.
4. To take up with the client or with the partner or principal, problems or
questions that arise in the course of the audit.
5. To assemble the worki_ng papers in an audit, and prepare a draft of the
report and financial statements for review and approval by the partner or
supe rvisor .

Staff Auditor

Staff auditors perfonn various audit procedures and gather audit evidence to
use asa basis for the audit reports. They may perform procedures that relate to
a variety of aspects of a client's activities. For example, one staff auditor might
testp ayr o , ll the value of inventory, or whether all accounts payable are
recorded. Another staff auditor might test internal control procedures over cash
payments and test cash balances.

Among the tasks of a staff auditor are:

I. To prepare schedules and reports of findings.

2. To work on tax retums.
.3 To check the accuracy of footings and extensions on books of accounts and
other records.
.4 To check the postings of entries fro n the ournals to theel dger.
5 . To examine vouche.rs supporting mmor disbursements.
6. Generally, to serve as an assistant.
 70 Chapter4

MARKETING PR, OFESSIONAL SERVICES

Sections 250.1 and 250.2 of the Revised Code of Ethics for Professional
Accountants in the Philippines, provide the guidelines in marketing professional
services as follows: ·
1. When a professional accountant in public practice solicits new work
through advertising or other forms of marketing, there may be potential
threats to compliance with the fundamental principles. For example, a
self-interest threat to compliance with the principle of professional
behavior is created if services, achievements or products are marketed in
a way that is inconsistent with that principle .
2. A profession al accountant in public practice should not bring the
profession into disrepute when marketing professional services. The
professional accountant in public practice should be honest and
truthful an·d shouId not: . ,.·
• Make exaggerated claims for services offered, qualifications
possessed or experience gained; or ·
• Make disp ging references to unsubstantiatedcomparisons to the
work of another. ·

The practitioner should be guided by the provision s in the

PRCBOA· Resolution No. 126 , series of 2008.' on Rules on Advertising
and Promotion for the Practice of Accountancy i the Philippines.

If the professional accountant in public practice is in doubt whether a

proposed form of advertising or marketing is "'appropriate, the
professional accountant in public practice should cons ult with the
relevant professional body.

SOURCES OF CLIENTS

The CPA may count on the following as his possible sources of clients:
I) Referrals from businessmen through active participation in civic and
community affairs .
2) Referrals from clie nts by maintaining his integrity and rendering prompt
and efficient services to them .
3) Referrals from financial and government institutions by keeping
hsi standards high .
 M anageme nt of a P11b /ic Acco11n ting Practice 71

4) Refer als. from oth er CPAs by active involvement in profession al

orgamzations of CPAs, e.g., PICPA, ACPAE, ACPACI, ACPAPP,
GACPA, etc.
5) Referrals from legal and other professional firms.

PROFESSIONAL FEES

The CP in public p_ractice sh all comply with the provision s of Section

240 of theRev sie d Code of Ethics for Profession al Accountant s on professional
fees and other types of remuneration .
I. When entering into negotiation s regarding professional services, a
professional accountant in public practice may quote whatever fee
deemed to be appropriate. The fact that one professio nal accountant in
public practice may quote a fee lower than another is not in itself
unethical. Neverthele ss, there may be thre«ts to compliance with the
fundamental principles aris ing from the level of fees quoted. For
example, a self-interest threat to profession al competence and due care is
created if the fee quoted is so low that it may be difficult to perform the
engagement ·in accordance with applicable technical and professional
standards for that price.
2. The significance of such threats will depend on factors such as the
level of fee quoted and the services to which it applies. In view of these
potential threats, safeguards should be considered and applied as
necessary to eliminate them or reduce them to an acceptable level.
Safeguards which may be adopted includ e:
• Making the client aware of the terms of the engagement and, in
particular, tJ1e basis on which fees are charged and which
services are covered by the quoted fee.
• Assigning appropriate time and qualified staff to the task:

Fees charged for assurance engagements should be a fair reflection of the

value of the work involved and should take into account, among others:
(a) the skill and knowledge required for the type of work involved; .
(b) the level of training and experience of the persons necessanly
engaged on the work; _
(c) the time nece ssarily occupied by each person engaged on the work;
and
(d) the degree of responsib ili ty and urgency that the work en!ails.
 ...

72 Chapter ./

1\•JETHODSOF BILLING CLIENTS

The CPAcnn collect the professi nal fees using any of the following bases:
1. Actual time charges basis or Per Diem basis
Billing is done on the basis of actual time spent by the staff
multiplied by the hourly rates agreed upon.
2. . Flat or Fixed.fee basis ·
_ Client is billed a flat but all-inclusive pre-arranged amount for the
entire engagement.
3. Maximumjee basis
Client is charged on a per diem basis, with the agreement that the
total charges will not exceed a pertain agreed maximum amount.
4. Retainer basis
Th·e auditor is paid a fixed 'pre-determine d fee for_ all services
rendered during a designated period of time either on a monthly,
semi-annual or annual basis.

Out-of-pocket expenses such as traveling expenses, supplies, and the like,

attributable directly to the professional services performed for, a particular client
would normally be charged to that client in addition to the professional fees.

AUDITING IN A GLOBALIZED ENVIRONMENT

All kinds of businesses have for the last forty ye.ars expan ed their operations in
foreign countries. Some companies invest in foreign firms while others establish
foreign production facilities to service their companies in a particular region.
Sometimes companies buy or sell only in foreign markets. When companies
engaged in foreign business require funds in a foreign market, they seek the
services C?f auditors in the foreign coun to audit their financial statements and
report on them. In the United States and many European coun ries, big number
of businesses have foreign business activities and auditors should therefore be
familiar with accounting and auditing practices throughout the world.

While differing traditions and experiences led to the development of alternative

financial r porting models, the pr ssures for intensified d velopment in the
global envrronment have been evrdent as the needs for the ever-changing
economy demand international harmonization.
-
Managemenl of a Public Accounting Practice 13

Fro teh acco nting perspective, the complexity of conductin g international

business operatio ns acr oss national borders each with a different set of business
regulations, tax rules, and often different aC::ounting methods presents a daunting
challenge for account ants and professional bodies that establish accounting and
auditing rules. The globa lization of capital markets has also contributed to the
need to address harmonization of financia l reporting requirement. Th is presently
is what the International Accounting Standards Board (IASB ) is tasked to
accomplish and to date, the standard-setting program of the IASB has
gained worldwide recognition and acceptance.

Public accounting finns have foµnd that to retain their multinational clients they
have had to develop the capacity to provide services worldwide. The largest
finns have organized worldwide partnerships to achieve a greater unifonnity of
quality, to facilitate management of personnel and to coordinate research and
professional development of personnel. Figure 4-2 presents the tie-up between
some loca l firms in the Phil ippines and international a ccountin g firms in the
United States and other countries in the world.

Figure 4-2. Tie-Up Among Local and International Accounting Firms

Philippines United States / Other Countries

Sycip, Gorres, Velayo & Co. Ernst& Young
Isla,Lipana & Associates PriceWaterhouseCoopers
Manaba;tSanagustin & Co. KPMG
Punonabavna, Araullo & Co. Grant Thornot n
Navarro, Amoer & Co. Deloitte ToucheTohmatsu Ltd.

Other public accounting finns establish a correspondent relations hip with a finn
in a foreign location to accomplis h the audits of their multinationalclient firms.

REGULATION WITHIN THE FIRM

SYSTEM OF QUALITY CONTROL

To ensure that a public accounting fim1 adheres to the standards of the

accounting profess ion. it shall establish and implement a system of quality
control. Regulation within the fi m is g ne ally tl e most effectiv f?rm o,f
regulation because problems can be dealt with 11nmed1ately and authoritatively
at the level at which they occur.
 14 Chapter4

The firm shall establish a system of quality control designed to provide it with
reasonable assurance that the fimt and its personnel comply with professional
standards on every engagement, regulatory and legal requirements, and that
reports issued by the firm or engagement partners are appropriate in the
circumstances.
The Philippine Standard on Quality Control (PSQC) I was promulgated to deal
with the responsibilities of a firm for each system of quality control for audits of
financial statements and other services engagements.

A quality control system is a set of policies and procedures designed to provide

reasonable assurance that the public accounting firm complies with profess·ional
standards and regulatory / legal requirements. The system should be designed to
achieve the objective and the procedures necessary to implement and monitor
compliance with those policies.

The nature and extent of a particular firm' s quality control policies and
procedures depend on such factors as:
I. Its size and nature of its policies;
2. Degree of operating autonomy allowed to its personnel;
3. The nature of its practice;
4. ]ts organization;
5. Its geographic dispersion; and
6. Appropriate cost / benefit consideration

According ly, the policies and procedures adopted by individual audit firms will
vary, as will the extent of their documentation.

The quality control policies and procedures shall be documented and

communicated to the firm's personnel. The firm should encourage its person el
to communicate their views or concerns on quality control matters.

ELEMENTS OF A SYSTEM OF QUALITY CONTROL

. ,
The firm' s system of quality control shall include policies and procedures
addressing each of the following elements:
a) Leadership responsibilities for quality within the firm·
b) Ethical requirements; '
c) Acceptance and continuance of client relationship and specific
engagements;
d) Human resources;
Management of a Public AccountingPractice 75
e) Engagement performance; and
f) Monitoring

A. Leaders/tip Respo11sibilities for Quality Within the Firm

The firm shall establish polici s and procedures designed to promote

an internal culture based on the recognitior, that quality is essential in
performing engagements. Such policies and procedures should require
the firm's chief executive officer (or equivalent) or, if appropriate, the
firm's managing board of partners (or equivalent), to assume ultimate
responsibility for the firm's system of quality control.

The firm's leadership and the examples it sets signi fican tly influence the
internal culture of the firm. The promotion of a quality-oriented internal
culture depends on clear, cons is tent and freque nt actions and messages
from all levels of the firm' s management emphasizing the firm' s quality
control policies and procedures, and the requirement to:
(a) Perform work that complies with professional standards and
regulatory and legal requirement s; and
(b) Issue reports that are appropriate in the circumstances.

Such action s and messages encourage a culture that recognizes and rewards
high quality work. They may be communicated by training semina rs,
meetings, formal or informal dialogue, miss ion statements. newsle tters, or
briefing mem oranda. They are incorporated in the firm' s internal
documentation and training materials, and in partner and staff appraisal
procedures such that they will sup port and rein force the firm ' s vie w on the
importance of quality and how , practically, it is to be achieved.

Of particular importance is the need for the firm' s leadership to recognize

that the firm's bus iness strategy is subj ect to the overriding requirement
for the firm to achieve quality in all the engagements that the firm
performs.
Accordingly: ·
(a) The firm assigns its management responsibil ities so that commercial
considerations do not override the quality of work performed;
(b) The firm' s policie s and procedures addressing performance evaluation ,
compen sa tion, and promotion (including incentive systems) with
regard to its personnel, are designed to demonstrate the firm ' 3
overriding commitment to quality; and
16 Chapterf

(c) The firm devotes sufficient resources for the development,

documentation and support of its quality control policies and
procedures.

Any person or person's assigned operational responsibility for the firm's

quality control system by the firm's chief executive officer or managing
board of partners shall have sufficient and appropriate experience and
ability, and the necessary authority, to assume that responsibility.

Sufficient and appropriate experience and ability enables the responsible

person or persons to identify and understand quality control issue and to
develop appropriate policies and procedures. Necessary authority enables
the person or persons to implement those policies and procedures.

B. Ethical Requirements

The firm shalf esta'11ish policies and procedures designed to provide it

with reasonable assurance tha the firm and its personnel comply with
relevant ethical requirements.

Ethical requirements relating to audits and reviews of historical financial

infonnation, and other assurance and related services engagements
ordinarily comprise Parts A and B of the Revised Code of Ethics. for
Professional Accountants in the Philippines. The Revised Code of Ethics
for Professional Accountants in the Philippines establishes the fundamentai
principles of professional ethics, which include:
(a) Integrity;
(b) Objectivity;
(c) Professional competence an-d due care;
(d) -Confidentia lity; and
(e) Professional behavior.

Part B of the Revised Cpde of Ethics for Professional Accountants in the

Philippines includes a conceptual approach to indep ndem e for assurance
engagements that takes into account threats to independence, accepted.
safeguards and the public interest.
'

The finn's policies and procedures emphasize the fundamental principles, .

which are reinforced in particular by (a) the leadership of the firm, ( b).
education and training, (c) monitoring and (d) a process for dealing with
non-compliance. Independence for assurance engagements is so sigIJjficant
 Management of a Public Accounting Practice 77
tahi it is addressed _separately in paragraph. s 18- 27 below. These
paragraphs need to be read m conjunction with· the Revised Code of
Ethics for Professional Accountants in the Philippines. .

Independence

T e firm shall establish policies and procedures designed to provide it

with reasonable assurance that the firm its personnel and where
applicable, others subject to independen e require'1)ents (i cluding
xperts contracted by the firm and network firm p rsonnel), maintain
mdependence where required b)I the Philippine Code. Such policies
and procedures shall enable the firm to:
(a) Communicate its independence requirements to its personnel and,
where applicable, others subject to them; and
(b) Identify and evaluate circumstances and relationships that create
threats to independence, and to take appropriate action to
eliminate those threats or rt:duce them to an acceptable level by
applying safeguards, or, if considered appropriate, to withdraw
from the engagement. .

Such policies and procedures shall require: '

(a) Engagement · partners to provide the firm with relevant
information about client engagements, including the scope of
services, to enable the firm to evaluate the overall impact, if any,
on indepe' ndence requirements;
(b) Personnel to pro ptly notify the firm of circumstances and
relationships that create a threat to independence so that
appropriate action can be taken; and
(c) The accumulation and communication of relevant information to
appropriate personnel so that:
(i) The firm and its personnel can readily determine .whether
they satisfy independence requirements;
(ii) The firm can maintain and update its records relating to
independence;and
(iii) The firm can take appropriat action regarding identified
threats to independence•

...
78 Chaprer4
The firm shall establish policies and procedures designed to !)rovide it
with reasonable assurance that it · is notified of breaches of
independence requirements, and to enable it to take appropriate
actions to rcsol\'e such situations. The policies and procedur:-es should
include requirements for:
(a) All who arc subject to independence requireme_nts to promptly
notify the firm of independence breaches of which they become
aware;
(b) The firm to· promptly communicate identified breaches of these
policies and procedures.to:
(i) The engag <'ment partner who, with the firm, needs to address
the breach; ai1d
(ii) Other relevant personnel in the firm and those subject to the
independence requirements who need to take appropriate
action; and
(iii) Prompt communication to the firm, if necessary, by the
engagement partner and "the other individuals referred to in
subparagraph (b)(ii) of the actions taken to resolve the
matter, so that the firm can determine whether it should take
further action.
Comprehensive guidance on threats to independence and safeguards,
including application to specific situations, is set out in Section 200 of the
Revised Code of Ethics for Professional Accountants in the Philippines.
A firm receiving notice of a breach of independence policies and
procedures promptly communicates relevant information to engagement
partners, others in the firm as appropriat_e and, where appiicable, exper.ts
contracted by the firm and network firm personnel, for appropriate action.
Appropriate action by the firm and the relevant engagement partner
includes applying appropriate safeguards to eliminate the threats to
independence or to reduce them to an acceptable level, or withdrawing
from the engagement. In addition, the firm provides independence
education to personnel who are required to be independent.

At least nnually, the firm shall obtain written confirmation of

compliance with its policies and procedures on independence from all
firm personnel required to be independent by the Revised Code of
Ethics for Professional Accountants in the Ph Jippines.

--
 Management of a Public Accounting Practice 79
Writtiten b • • · ·
may m paper or electroni c fonn. By ta m mg
c.onfirmation b
e o
1
con rma t .0n and taking appropriate action on information indicating
n oncom p11anc the fin • · f
•e d d n emonstrates the importance that 1 t attac 1es to
' d
m epen ence and makes the issue current for, and visible to, its personnel.

TPhTe Code of Etl1·1cs pro,ee: ss1•onal Accountants •

m It1e
1e:or
R.evised.
1
ippm s discusses the familiarity threat that may be created°by using the
s me senior personnel on an assurance engagement over a long period of
time an? the safeguards that might be appropriate to address such a threat.
Accordmgly, tbe firm should establish policies and procedures:
(a) Setting out criteria for determining the need for safe uards to'
reduce the familiarity threat to an acceptable level when using the
same senior personnel on an assurance engagement over a long
period of time; and
(b) Requiring, for audits of financial statements of listed entities, the
rotation of the engagement partner and the individuals responsible
fQr engagement quality control review, and where applicable,
others subject to rotation requirements, after a specified period in
compliance with the Revised Code of Ethics for Professional
Accountants in the Philippines.

Using the same senior personnel on assurance engagements over a

prolonged period may create a familiarity threat or otherwise impair the
quality of performance of the engagement. Therefore, the Firm establishes
criteria for determining the need for safeguards to address this threat. In
determining' appr9priate criteria, the firm considers 'such matters as (a)
the nature of the engagement, including the extent to which it involves a
matter of public interest, and (b) the length of service of the senior
personnel on the engagement. Examples of safeguards include_rotating the
senior personnel or requiring an engagement quality control review.

The Philippine Ethics Code recognizes that the familiarity threat is

particularly relevant in the context of financial statement audits of listed
entities. For these audits, the Philippine Ethics Code requires the rotation
of the key audit partner1 after a pre-defined period, normally 'no more than
five years, and provides related standards and guidance. ·
80 Chapter4

C. Acceptance and Continuance of Client Relntions/1/ps and Specific

Engagements
;

The firm shall establish policies and procedures for the acceptance and·
continuance of client relationships and specific engagements, designed
to provide it with reasonable assurance that.it will only undertake or
continue relations jps and engagements where Jt:
(a) Is competent to perform the engagement and has the capabilities, time
and resources to do so; and
(b) Can comply with ethical requirements.
(c) Has considered the integrity of the client and does not have
information that would lead it to conclude that the client lacks
integrity.

The firm shall obtain such information as it considers necessary in the

circumstances before accepting an engagement with a new clien t, when
deciding whether to continue an existing engagement, and when
considering acceptance of a new engagement with an exi sting client. If a
potential conflict of interest is identified in accepting an engagement from
a new or an existing client, the firm should determine whether it is
appropriate to accept the engagement. Where iss ues have been identified,
and the firm decides to accept or continue the client relationship or a
specific engagement, it should document how the iss ues were resolved.

With regard to the integrity of a client, matters·tltat the finn considers

include, for example:
• The identity and business reputation of the client's principal
owners, key management, related, parties andJhose charged with
its governance .
•The nature of the client's operations, including its busine ss
practices.
• Information concerning the attitude of the client's principal
owners, key management and those charged with its governance
towards such ma ers as aggressive interpretation of accounting
standards and the internal control environment.
• Whether the client is aggressively concerned with maintaining the
finn's fees as low as possible. .
• Indications of an inappropriate limitation in the scOpe of wo.rk
 Management of a Public AccountingPractice 81

• 1ndci atio ns that the client might be in volved in money laundering

o rother criminal activities.
• The re ons for the proposed appointment of the finn and non-
reappomtment of the previous firm.

e extent of knowledge a firm will have regarding the integrity of a client

w!IJ generally grow within the contex t of an ongoing relationship with that
client.In formation on such matters that the firm obtains may come
from, for example:

• C ommun ications with exis ting or previous providers of

professio nal accountancy services to the client in accordance with
the Philippine Code, and discuss ions with o the r third parties.
• Inquiry of other firm personnel or third parties such as bank ers,
legal co unsel and industry peers. .
• Background searches of relev ant databases.

Jn co ns idering whether the firm has the capabilities,competence, time and '
reso urces to underta ke a new engagement from a new or an exis ting client,
the firm reviews the specific requirements of the engagement and existing
partner and staff profiles at all relevant levels. Matters the firm considers
include whether:
• Firm personnel have knowledge of relevant indus tries or subj ect
matters;
• Firm personnel have experience with relevant regulatory or
reporting requirements, or the ability to gain the necessary skills
and knowledge effectively;
• The firm has sufficien t personnel with the necessary capab ilities
and competence;
• Experts are available, if need ed;
• Individu als meeting the criteria and eligibility requirements to
perform engagement quality control review are available, where
applicable; and . ·
.• The firm is able to complete the engagement within the reporting
• deadline.

The firm also considers whether accepting an engagement from a new or

an existing client may give rise to an actual or perceived conflict of
interest. Where a potential conflict is identified, the firm considers whether
it is appropriate to accept the engagement.
82 Chapt er 4
Deciding whether to continue 8 client relationship incul des considera ion
· · dur1· ng the current or pr evious
of s1g n1ficant matters that ave . . . .
h ·
ari sen
engagements, and their implications for contmumg the relat1 nsh1_p. For
exarnpIe, a c
. t may. have started to expand its busines s operations
mto an.
I ten
area where the firmd oes not possess the necessary knowledge or expertise.

Where the firm obtains information that would h ve caues i to d.e line an
engagement ift information had been available earh,er poltc1es nd
ha·t
pr ocedurse on t11e co ntinuance of the engagement and the cltent
relationship shall include considera tion of:
(a) The professional and legal respon ibilit that apply to the
ie.·s
c i rcumts ances, including whether there 1s a requirement for th. e firm to
report to the personor persons who made the appointment or, m
some
cases, to regulatory authorities; and
(b) The possibility of withdrawing from the engagement or from both the
engagement and the client relat ions hip.

Policies and procedures on withdrawal from an engagement or from both

the engagement and the client relat ionship address issues that include the.
following:
• Discuss ing with the appropriate level of the client' s management and
those charged with its governance regarding the appropriate action that
the firm might take based on the relevant facts ancj circumstances.
• If the firm determines that it is appropriate to withdraw, discussing
With the appropriate level of the client' s management and those
charged with its governance withdrawal from the engagement'or from
both the engagement and the client relationship, and the reasons for the
withdra"'.al.
• Considering whether there is a professio nal, regulatory or legal
requirement for the firm to remain in place, or for the firm to report the
w thdrawal.fro.m the engagement, or from both the engagement and the
client relat1o nsh1p, together with the reasons for the withdrawal to
regulatory autho rities . · '
• Do umenting ignificant issues, ' co nsultatio ns, conclusions and the
basis for the conclusions.
 Management of a Public Act;ounting Practice 83
D. H11111a11 Resources
The firm shall estabr15h ..
with reasonable pohcaes and procedures designed to provide it
8
capabilities com ssurance that it has sufficient personnel with the
necessary ' petence, and commitment t ethical principles

(a) to perform its engage .

and regulato d m en ts 1.n accordance with professional standards
ry an Iegal requirements, and
(b) to enable the firm ·
appropriate in ti . rO engagement partners to issue reports that are
1e circumstances.

Such policies and pro d

ce ures dress th following personnel issues:
d
a
• Recruitm ent·,
• Performance evaluation·,
• Capabil ities;
• Competence;
• Career development ;
• Promotion ;
• Compensation; and
• The estimation of personnel needs.

Addressing these issues enables the firm to ascertain the number and
Jharacteristics of the individuals required for the firm's engagements. The ·
firm's recruitment processes include procedures that help the firm select
individuals of integrity with the capacity to develop the capabliities·and
competence necessary to perfon,1 the firm' s work.
Capabilities and ompetence are'developed through a variety of methods,
including the followin g:
• Professional education.
• Continuing professional development, including train ing.
Work ex perience.
• Coaching by more experienced staff, for examp le, other members of .
the engagement team.

The continuing competence of the firm's personnel depends to a significant

extent on an appropriate level of continuing professional development so
that personnel maintain their knowledge and capabilities. The firm
therefore' emphasizes in its policies and procedures the need for continuing
training for all levels of firm personnel, and provides the necessary training
 resources nnd 11 s is11111c to cnnblc personnel to develop "!d1 mnintnin the
required cnpabilitics 1111d comp etence. \Vherc int ernnl tcchncin l nnd training
resources nr\! unnvn ilnh h!, o r for nny oth er rcoson, th e firm mny use n
s11 itnh ly qualified cxicrnnl person for th nt purpose.

The firm' s pcrformnncc cvnluntio n, compensn tio n nnd p romotion

procedures give due recognit io n nnd rcwnrd to dcv m nt nnd
th.e col
maintennncc of competence nnd commit ment to e tl11cnl principles In
pnrticulnr, the firm:
(n) Mnkes personnel nwnrc of th e firm' s cxp ectntio ns regarding
performnncc nnd et hical principles;
(b) Provides personnel with evaluatio n of, ond co uns ling on,
performan ce, progress nnd career develo pment; nnd
(c) Helps person nel understnnd thnt ndvanccment to positions of greater
responsib ility depends, among other things, upon perfo rman ce quality
and adherence to ethi cal princip les, and th at failure to comply with the
finn's policies and procedures may result in disc iplin ary action.

The size and circumstan ces of the finn will innuence the stru cture of the
finn's performance evaluat ion process. Smnlle r firms in particular, may
employ less formal method s of evaluating the performance of their
personnel.

Assig11111e 11t of E11gnge111e11t

Team The firm sha ll assign res ponsibility for each engagement to an
engagement parh1er. The firm should esta blish policies and
procedures requiring that:
(a) Tbe identity and role of the engagement partner are
communicated to key member s of client managen1ent nnd those
cha rged with governance;
(b) The engage ment partner has the appropriate capabilities,
competence, authority and time to perform the role; and
(c) The responsibilities of the engagement partner are clearly declined
and communicated to that partner.

Policies and procedures include systems to monitor the worklo ad and

availability of engagement partners so as to enable these individuals to
have sufficient time to adequately discharge their respons ibili tie s. .
 Ma no>{ ement of a Puhlle Accmmting Practice 85

The • 1
ha ll ttlso os, lgn npproprlntc 1,wff with the ncces,a ry
cnpnb1htics, competence nndt im e
(n) to perform engagements Jn a c cordnncc with p rof csc;ion1. 1s ta nda
rds nntl rcgulntory nnd lcgnl requirement s , nnd
( b) to cnnbl the firm or cngagcmc111 part ne rs to lc;c;ue reports that
are npproprmtc in the circ um s f nnccs.

The firme stablis hes procedures to assess its staff's capabilities and
com p e tence. The capabiliti es and competence considered when
assigning eng ag emen t teams, and in determinin g the leve l of supervision
required,
include the following:
I

• A_ nu n_desr tanding of, and practical ex perience with, engagements of

a s 1 .'_lar nature and complexity through appropriate training and
part1c1pat1on.
• .Anu nder stand ing of professional sta ndards and regulatory and legal
requireme nts.
• Appropriate technical know led ge, inclu ding knowledge of relevant ·
informatio n technology.
• Knowled geof relevant indust ries in which the clients operate.
• Ability to apply professional judgment.
• · An und erstanding of the firm' s quality control policies and
procedures.

E. Engagement Performn11ce

The firm shall establish policies and proced ur es desig ned to provide it
with reasonable assurance that engagements arc perfor med in
accordance with p rofessiona l sta nd a rds and regulatory and legal
requiremen ts, and that the firm or the enga gement pa r tner iss ue
r e port s that arc appropriate In the circumstances.

The firm promotes cons istency in the quality of engagement performance

through its policies and procedures. This is often accomp lis hed through
written o r elect ronic manu als, software tools or other forms of sta ndardized
docu entation , and indu st ry or subj ect matter-specific guidance material s.
Matters addressed may include:
• How engagement teams are briefed on the engagement to obtain an
und erstand ing of the objectives of their work.
• Processes for complying with applicab le engagement standards.
86 Chapter4

• Processes of engagement supervision, staff training and coaching.

• Methods of reviewing the work performed, the significant judgments
made and the form of report being issue d. .
• Appropriate documentation of the work performed and of the timing
and extent of the review.
• Processes to keep all polici s and procedures current.

Appropriate teamwork and training assist less experienced members of the

engagement team to clearly understand the objectives of the assigned
work.

Engagement supervision includes the following:

• Tracking the progress of the engagement.
• Considering the competence and capabilities of individual members
of the engagement team, whether they have sufficient time to carry
• out their work whether they understand their instructions and whether
the work is being carried out in accordance with the planned approach
to the en gagement;
• Addressing significant matters arising during the engagement.
considering their significance and modifying the plan·ned approach
appropriately; and ·
• Identifying matters for consultation or consideration by more
experienced engagement team members during the engagement.

A review consists of consideration of whether:

(a) The work has been performed fn accordance with professional
standards and regulatory and legal requirements;
(b) Significant matters have been raised for further consideration;
(c) Appropriate consultations have taken place and the resulting
conclusions have been documented and implemented;
(d) There is a need to revise the nature, timin.g
perfonned; and extent of work

(e) The work performed supports the conclusions reached and is

appropriately documented;
(f) The evidence obtained is s ufficie nt and appropriate to support the
report; and
(g) The objectives of the engagement procedures have been achieved.
►

Management of a Public Accounting Practice 81

Consultation

T e finn shall establish policies and procedures designed to provide it

with reasonable assurance that:
(a) Appropriate consultation takes place on difficult or contentious
matters;
(b) Sufficient resources are available to enable appropriate consuliation to
take place; ·
(c) The nature and scope of such consultations are documented; and
(d) Conclusions resulting from consultations are documented and
implemented.

C?nsu tat o includes' discussion, at the appropriate professional level,

with md1v1duals within or outside the firm who have specialized
expertise, to resolve a difficult or contentious matter.

Consultation uses appropriate research resource: as well as the collective

experience and technical expertise of the firm. Consultation helps to
promote quality and improves the application of professional judgment.
The firm seeks to establish a culture in which consultation is recognized
as strength and encourages personnel to consult on difficult or
contentious matters.

Effective consultation with other professionals requires that those

consulted be given all the relevant facts that will enable them to provide
informed advice on technical , ethical or other matters. Consultation
procedures require consultation with those having appropriate knowledge,
seniority and experience within the firm (or, where applicable outside the
firm) on significant technical, ethical and other matters and appropriate
documentation and implementation of conclusions resulting from
cons ultations .

A firm needing to consult externally, for example, a firm without

appropriate internal resources may take advantage of advisory services
p· rovi ded by (a) other firms, (b) professional and regulatory bodies , or (c)
commercial organizations that provide relevant quality control servi.ces.
Before contracting for such services, the firm considers whether the
external provider is suitably qualified for that purpose.
88 Chapter -I

The documentati on of consultations with other professionals that involve

difficult or contentious matters is agreed by both the individual seeking
cons ultation and the individual consulted. The documentation is
sufficiently complete and detailed to enable an understanding of:
(a) The issue on which consultation was sought; and
(b) The results of the consultation, including any decisions taken, the
basis for those decisions and how they were implemented.

Differences of Opi11io11

The firm shall establish policies and procedures for dealing with and
resolving differences of opinion within tbc engagement team, with
those consulted and, where . applicable, between the engagement
partner and the engagement quality control reviewer.

Such policies and procedures shall require that:

(a) Conclu sions reached be documented and implemented; and
(b) The report not be dated until the matter is resolved.

The firm shall establish policies and procedures for engagement'teams to

complete the assembly of final engagement tiles on a timely basis after the
engagement reports have been finalized.

The firm shall establish policies and procedures designed to maintain

the confidentiality, safe custody, integrity, accessibility a11d retrievability
of engagement document ation. ·

The firm shall establish policies and procedures for the retention of
engagement documentation for a period sufficient to meet the needs of the
firm or as required by law or regulation.

E11gagement Quality Control Review

The firm shall establish policies and procedures requ1nng, for

appropriate engagements, an engagement quality control review that
provides an objective evaluation of the significant judgments made by
the engagement·team and the conclusions reached in formulating the
report. Such policies and procedures should:
 Management of a Public Accounting Practice 89

(a·) Itqeu i e an engagement quality control review for II audits of

financial statements orlisted entities;
(b) Set out criteria against which all other audits and reviews of
historical financial information and other assurance and related
. engagements should be' evaluated to determine whether
services
an engagement qmility contro-l review should be performed; a d
(c) Require an engagement quality control review for all
· engagements meeting the criteria established ifl compliance with
subparagraph (b).

Criteria for determining which engagements other than audits of financial

statements of listed entities are to be subject to an engagement qu lity
control review may include, for example:
• The nature of the engagement, including the extent to which it
involves a matter of public interest.
• The identification
I
of unusual
•
circumstances or risks in an
engagement
I
or class of engagements. -
• Whethe \ laws or regulations require an engagement quality
control review.

The firm shall establish policies and procedures setting out the nature,
timing and extent of an engagement quality control review. Such policies ·
and procedures shall require that the engagement report not be dated until
the completion of the engagement quality control review.
. .
The firm shalf establish policies and procedures to require the eng gement
quality control review to include:
(a) Discussion of significant matters with the engagement partne r;·.
(b) Review Of the financial statements or other subject matter
information and the proposed report;
(c) Review of selected engagement documentation relating to significant ·
judgments the engagement team made and the· conclusions it
reached;and _
(d) Evaluation of the conclusions reached in formulating the report and
consideration of whether the proposed report is appropriate.
90· Chapter 4

For audits. of financial statements of listed entities , the firm sh II

establish polici s and procedures to require the enga ement quality
contro] review to also 'include consideration of the followmg:
(a) The engagement team' s evaluation of the firm' s independence in
relation to the specific engagement;
(b) Whether appropriate consultation has tak n place on ma ers
involving differences of opinion or other difficult or_ contentious
matters, and the conclusions arising from those consultat1ons;

The firm shall establish policies and procedures setting out:

(a) The nature, timing and extent of an engagement quality control
review;
(b) Criteria for the eligibility of engagement quality control
reviewen; and
(c) Documentation requirements for an engagement quality control
review.

Nature, Timing and Extent of tl,e Engagement Quality Control Review

An engagement quality control review ordinarily involves discussion with

the engageme,:it pa ner, a review of the financial statements or other
subject matter information and the report, and, in particular, consideration
of whether the report is appropriate. It also involves a review of selected
working papers relating to the significant judgments the engagement team
made and the conclus ions they reached. The extent of the review depends
on tlie complexity of the engagement and the risk that the report might not
be appropriate in the circumstances. The review does not reduce the
responsibilities of the engagement partner.

An engagement quality control revi w f r audits of financial statements of

listed entities includes considering the following:
• The engagement team' s evaluation of the firm's independence in
re lation to the specific engagement. .
• Significant risks identified during the engagement and the
responses to those risks.
• Judgments made, particularly with respect to materiality and
significant risks.
 Management of a Public Accounting Practice 91

• he:h r appropriate consultation ' has taken place on matters

mvo vmg differences of opinion or other difficult or
contentious matters, and the conclusions arising from those
consultations.
• T e significance and disposition of corrected and uncorrected
m iss t8tements identified during the engagement.
• The matters to be communicated to management and those
charged with governance and, where applicable, other parties
such as regulatory bodies.
• Whether working papers selected for review reflect the work
perform_ed in relation to the significant judgments and support the
conclus,ons reached.
• The appropriateness of the report to be issued.

Engagement quality control reviews for. engagements other than audits of

finan ial statements of listed entities may, depending on the circumstances,
include some or all of these considerations.

The engagemet)t quality control re iewer conducts the review in a timely

manner at appropriate stages during the engagement so that significant
matters may be promptly resolved to the reviewer's satisfaction before the
report is issued.

Where the engagement quality control reviewer makes recommendations

that the engagement partner does not accept and the matter is not resolved
to the reviewer's satisfaction, the report is not issued until the matter is
resolved by following the firm's procedures for dealing with differences of
opinion.

Criteria/or tl,e Eligibility of E11gageme11t Quality Control Reviewers

The firm's policies and procedtlres should address the appointment of

e gagemcnt quality control reviewers and establish their eligibility
through:
(a) The technical qualifications .required to perform the role,
including the necessary experience and_authority; and
(b) The degree to which an engagement quality control reviewer can
be consulted on the engagement without compromising the
reviewer's objectivity.
· 92 Chapter 4

The finn's policies and procedures on the technical qu lifications of

engagement quality control reviewers address the technical exp rtise,
experience and authority necessary to perform the ro!e. What constitutes
sufficient and appropriate technical expertise, experience and. uthority
depends on the circumstances of the engagemen!· In addition, the
engagement quality control reviewer for _an aud1! of the finan ial
statements of a listed entity is an individual with sufficient and appropriate
experience and authority to act as an audit engagement partner on audits of
financial statements of listed entities.

The firm's policies and procedures are designed to maintain the objectivity
of the engagement quality control reviewer. For example, the engagement
quality control reviewer:
(a) is not selected by the engagement partner;
(b) Does not otherwise participate in the engagemen during the period of
review;
(c) Does not mak·e decisions for the engagement team; and
(d) ls not subject to other considerations that would threaten the reviewer's
objectivity. ·

The engagement partner may consult the engagement quality control

reviewer during the engagement. Such consultation need not comP,romise
the engagement quality control reviewer's eligibility to perfonn the role.
Where the nature and extent of the consultations become significant,
however, care is taken by both the engagement team and the reviewer to
maintain the reviewer's objectivity. Where this is not possible-, another
individual within the firm or a suitably qualified external person is
appointed to take on the role of either the engagement quality control
reviewer or the person to be consulted on the engagement. The firm's
policies provide for the replacement of the engagement quality control
reviewer where the ability to perform an objective review may be impaired.
i,

It may not be. practicable, in the case of firms with few partners, for the
engagement partner not to be involved in selecting the engagement quality
control reviewer. Suitably qualified external persons may be contracted
where sole practitioners or small firms identify engagements requiring
engagement quality control reviews. Alternatively; some sole
practitioners or small firms may wish to use other firms to facilitate
ngagement quality control reviews. Where the firm contracts suitably
qualified external persons, the requirements in paragraphs 39-41 and
guidance in paragraphs A47-A48 of PSQC I (Redrafted) apply.
 Afanagemtnl of a Public Accountmg Prac11ct 9J

Docum ntatlon of the EngagetMnt QuaJJJy Control Re,,Jew

Policie s an. d proced ur·es

d ocumentat1.on of the engagement quality
on
control review shou ld require documentation that:
(a) Thepr oc e ures required by the firm' s policies on engagement qunlity
control review have been performed·
· (b) The en_ga_gement quality control review has been completed 'before the
report as issued; and
(c) The rc iewer is not aware of any unresolved m:itters that would cause
the reviewer to believe that the significant judgments the engagement
team made and the conclusions they reached \\-ere not npproprintc.

F. Monitoring

The firm should establish policies and procedurrs designed to

provide it with reasonable assurance that the policiH ana
procedures relating to the system of quality control are tt lt\ ·a nt,
adequate, oper.1ting efTtt th·t ly and complied with in practict'. Such
policies and procedures should include an ongoing considtnuioo and
evaluation of the firm's system of quality control, including a
periodic inspection of a selection of completed engagement s.

The purpose of monitoring complinnce with quality control policic-s and

procedures !S to provide nn C\'aluntion of: '
(a) Adherence to professional stnndl rds nnd rcgul=itory and Jeg.31
req uirements;
(b) Whether the quality control system has been nppropriotely designed
and effectively implemented; and
(c) Whether the finn's quality control policies nnd procedures have been
appropriately applied, so that reports tJut are issued by the finn or
engagement partners arc appropriate in the circumstances.

The firm entrusts responsibility for the monitoring process to a partner or

partners or other persons with sufficient and ap priatc e icncc and
aut hority in the finn io assume that rcspons1b1hty. 1omtonng of
the firm's system of quality control is perfonned by competent individ
ls and covers both the appropriateness of the design and the
efTectiveness of the peration of the system of quality control.
94 Chapter 4

Ongoing consideration and evaluation of the system of control

quali_ty includes matters such as the following:
• Analysis of: '
- New developments in professional standards and re_gulatory
and legal requirements, and how they ar.e reflected m the
firm' s policies and procedures where appro riate; . .
Written confirmation of compliance with pohc1e s and
procedures on ind ependence; . . . .
Continu ing professional development, mclu mg trammg; nd
:- Decisions related to acceptance and continuance of chent
relationships and specific engagements.
• Determination of corrective actions to be taken and im provements
to be made in the system, inc luding the provis ion of feedb'ack into
the firm's policies and procedure relating to education and
training.
• Communication to appropriate firm personnel of weaknesses
identified in the system, in the level of understanding of the
system, or compliance with it.
• Follow-up by appropriate firm personnel so that necessary
modifications are promptly made to the quality control policies·and
procedures.

The inspection of a sele ction of completed engagements is ordinarily

performed on a cyclical basis. Engagements se le c ted for in spection
include at least one engagement for each engagement partner over an
inspection cycle, which ordinarily spans no more than three years. The
manner in which the inspec tion cycle is organized, including the timing
of selection of indivipual engagements, depends on many· factors,
including the following:
• The size of the Firm.
• The number and geographical location of offices.
• The results of previous monitoring procedures.
• The degree of a th ri_ty both personnel and offices have (for
example, whether md1v1dual offices are authorized to conduct their
• •
own mspect,ons or whether only the head office may conduct
I

them).
• The nature and complexity of the firm's practice and organizati n.
 Management of a Public Accounting Practice 95
• The r si k s associated with the firm' s c lie nts and specific
engageme nts.

The ins pectio n process 1·11c1udes the selec ti•o

of ·md' 1v1'duaI
n·
eng ag eme n t s, some of which may be seiccted without prior noti ficatio n
! 0 t h en ag e ment team. Thos e inspecting the engagements are no t
e
mvolved 11 1 perfi .. ·
. o rm m g t11e engagement or the engagement
•
qua11 ty con t rol rev, _e w. In determi nin g the scope of the
inspectio ns, the firm may ta ke . mto account the scope or conclusio
ns of a,\ independent
xte _ran l inspectio n program. Howev er, an ind ependent external
nsp ec t ion program does not act as a substitute for the firm's ow n
mterna l mon itorin g program.

Small firms and sole practitio ners may wis h to use a suitably qualified
external persorr or another firm to carry o ut engagement inspectio ns
and othe r mo nitoring procedures. Alternatively, they may wis h to
establish arrangements to share resources with othe r appropriate
organizatio ns to facili tate monitoring activities.

The firm should evaluate the effect of deficiencies noted as a result

of the monitoring process and should determine whether they are
either:
(a) Instances that do not necessarily indicate that the firm's '
syst em of quality control is insufficient to provide it with
reasona 61e a s s urance that it complies with professional
standards and regulatory and legal requirements, and that the
reports issued by the firm or engagement partners are
.appropriate in the circumstances; or
(b) Systemic, repetitive or other significant deficiencies that
require prompt corrective action.

The firm should communicate to relevant engagement partners

and other appropriate personnel deficiencies noted as a result f
the monitoring process and recommendations for appropriate
remedial action.
96 Chapter4

The firm's·evaluation of each type of deficiency should result in

recommendations for one or more of the following:
(a) Taking appropriate remedial action in relation to an individual
engagement or member of personnel;
(b) The communication of the findings to those responsible for
training and professional development;
(c) Changes to the quality control policies and procedures; and
(d) Disciplinary action against those who fail to comply with the
policies and procedures of the firm, especially those who do so
repeatedly.

Where the results of the monitoring procedures indicate that a

report may be inappropriate o·r that procedures were omitted
during the performance of the engagement, the firm should
determine what further action is appropriate to comply with
relevant professional standards and regulatory and legal
requirements. It should also consider obtaining legal advice.

At least annually, the firm should communicate the results of the

monitoring .of its quality control system to engagement partners
and other appropriate individuals within the firm, including the
firm's chief executive officer or, if appropriate, its managing board
of partners. Such communication should enable the firm and these
individuals to take prompt and appropriate· action. where
necessary in accordance with their defined roles and
responsibilities. Information communicated should include the
following:
(a) A description of the monitoring procedures performed.
(b) The conclusions drawn from the monitoring procedures.
(c) Where relevant, a description of systemic, repetitive or other
·significa nt deficiencies and of the actions taken to resolve or
amend those deficiencies.

The reporting of identified deficiencies to individuals other than the

relevant engagement partners ordinarily does not include an
identification of the specific engagements concerned, unless such
identification is necessary for the proper . discharge, of the
responsibilities of the individuals other than the engagement partners.
 Ma agementof a Public Accounting Practice 91

ome Firms operate as part of a network and, for consis tency , may
tm lement some or all of their monitoring procedures on a network
bast . ere firms within a network operate under common
moni ormg policies and procedures designed to comply with PSQC I
(Clarified) and these firms place reliance on such a monitoring system:
(a) At least annually, the network communicates the overall scope,
· extent and results of the monitoring process to appropriate
individuals within the network firms·
'
(b) The network communicates promptly any identified deficiencies in
the quality control system to appropriate individuals within the
relevant network firm or firms so that the necessary action can be
taken; and
(c) Engagement partners in the network firms are entitled to rely on
the results of the monitoring proces_s implemented within the
netwo k, unless the firms or the network advises otherwise.

Appropriate documentation relati.ng to monitoring:

(a) Sets out monitoring procedures, including the procedure for
selecting completed engagements to be ins pected;
{b) Records the evaluation of:
(i) Adherenc to professional standards and regulatory and legal
requi rement.s; ,
(ii) Whether the- quality control system has been appropriately
· designed and effectively implemented; and
(iii) \Vhether the firm's quality control policies and procedures
have been'appropriately applied, so that reports that are issued
by the firm or engagement partners are ·appropriate in the
circumstan es; and
(iv) Identifies the deficiencies noted, evaluates their effect, and sets
out the basis for determining whether and what further action
is necessary. .
98 Chapter 4

Complaints and Allegalions

The finn should establish policies and procedures designed to provide

it with reasonable assurance that it deals appropriately with:
(a) Comp laints nnd allegations that the work perfonned by the finn
fails to comply with professional standards and regulatory and
legal requirements; and
(b) Allegations of non-compliance with the firm' s system of quality
control.

Complaints and allegations (which do not includ e those that are clearly
frivolous) may originate from within or outside the firm. They may be
made by finn personnel, clien ts or other third parties. They may be
received by engagement team members or other firm personnel.

As part of this process, the firm establishes clearly defined channels for
finn personnel to raise any concerns in a manner that enable s them to
come forward without fear of reprisals.

The firm investigates such complaints and allegations· in accordance

with established policies and procedures. The investigation is
supervised by a partner with sufficient and appropriate experience and
authority within the firm but who is not otherwise involved in the
engagement, and includes involving legal counsel as necessary. Small
firms and sole practitioners may use the services of a suitably qualified
external person or another finn to carry out the investigation.
Complaints, allegations and the responses to them are documented.

\\/here the results of the investigations indicate deficien c ies in the

design or operation of the firm' s quality control polici es and
procedures, or noncompliance with the firm' s system of quality control
by an individual or individuals, the firm take s appropriate action as
discussed in paragrap h 83.

Docun1entalion

The firm should establish policies and procedures

rcqmr_mg appropriate document ation to provide evidence of the
operation of each element ofits system of quality contro l.
 Management of a Public Accounting P(actice 99

Howsuc h m a tters are documented is the firm' s decision. F<l>r

example, large fram s may use electronic databases to document matters
such as indepen?ence confirmations, perfonnance evaluations and tAe
results ofmon toi r in g in spections. Smaller firms may use more
n1fonnal
me t ho ds such as manual notes, checklis ts and forms.

Factors to. consider when determining the form and content of

documentation evidencing the operation of each of the elemen ts of the
system of quality control in lude the following:
• The size of the firm and the number of offices.
• The degree of authority both personnel and offices have.
• The nature and complexity of the firm' s practice and
organization.

The Firm retain s this documentation for a period of time sufficient to

permit those performing monitoring procedures to evaluate the firm's
compliance with its system of quality control, or for a longer period if
required by law or regulation.

Figure 4-3 shows an excerpt of the six areas in which the IAASB / AASC has
indicated that quality control procedures are appropriate. The table also indicates
the basic o bjective(s) to be achieved in each area with corresponding policies and
examples of procedures that may be adopted. ·
 _l O: O C:h!;_ape!le_'=r!_'.:.4_'.!...

Fig ure 4-3: E leme n ts, Objectives, Policies and Procedur es of QualityCon trol

Elements of Basic Objective Is The Firm Should Sample -

to Provide Establish Policies Procedures
Quality Control
Reasonable and Procedures to
Assurance That: Provide Reasonable
Assurance That
1. Leadership Firm's internal 1. It promoet s an • Assign
Responsibilities culture recognizes internal culture management
for Quality that quality is based on the responsibilttie
within the essential in recognition that s so that
, Firm (ione at performing quallty is commercial
the top·) engagements and essential in consideration
recognizes theneed performing s do not
to engagemnets. override
(a) perform 2. It provides the quality of
' work performed.
work that reasonable
complies assurancethat • Address
.with those assigned performance
professional operational evaluating
standradsan responsibility for compensation
d regulatory the firm's quality and promotion
and legal control have of personnel.
requirmeen sufficient and .
ts and appropriate
(b) issue reports experience, ability,
. · ttiat are and authority.
appropriate in
. the
circumstance
s.
2. Relevant Firmsand its Firms and its • At least
Ethical personnel comply personnel comply annually, the
Requireme with relevant with firm shoudl
nts ethical obtain written
requirements. relevant confrimationof
ethicalrequirements. compliancewith
(Policiesrelating to its
. independence are independence
particularly policiesand
emphasized). proced•
uresfrom
'
all firm
. personne_lwho
►

Elements of Basic Objective Is The Firm Should Sample

Quality Control toProvide Establlsh Policies Procedures
Reasonable . andProcedures to
AssuranceThat: Provide Reasonable
Assurance That
3. Acceptance Firm wm undertake It will undertakeand • Background
and tocontinue continue relationships infonnation is
Continuance relationshipsand and engagements gathered on a!I
of Client prospective audit
engagementso only where the firm:
dients,
Relationships ly where the firm: 1. Has considered induding the
and Specific 1. Has client integrity. attitude of
Engagements considere 2. Is competent to principal owners,
d client perform the key
l tegrity. engagement. management
2.. I scompetent 3. Can comply and those
to with legal and charg with
ethical governance on
rfonnthe requirements. matterssuch as
engagement aggressive
. accountingand l
internalcontrol
3. Cancomply over financial
withlegal- reporting.
and ethical
• Decide whether
requirements
to continue a
. . dient
.. . relationship by
. . · considering
, significant issues
that have arisen
during the
. current and
previous
. enQaQements.
 102 Chapter 4

Basic Objective Is The Firm Should Sample

Elements of Procedures
'I.
Quality Control to Provide Establish Policies .
Reasonable and Procedures to
.. Assurance That: Provide Reasonable
Assurance That
4·, Human Ithas sufficient Firm has personnel • Design
pecsonnel with with the capabilities, effective
Resources
needed competence, and recruitment
competence, commitment to ethical processes and
capa ilities and principles to: procedures to
.. 1. Perform help the firm
commitment.
engagements in · select
accordance with individuals
professional meeting
standards and minimum
regulatory and academic
legal quirements
requirements. established by
.. '
. 2. Enable the firm to the firm,. and
issue reports that maturity,
I are appropriate in integrity, and
.' . the leadership
circumstances. traits.
5. Engagement · Firm's The firm's · •.Design
Performance engagements are engagements are policies·
consistently consistently performed and
performed in in accordance with procedures
accordance with professional standards that address
professional (PSA 220) and the tracking f
standards (PSA regulatory and legal pr essof
220) and regulatory requirements, with eac · .
and legal policies and enga'gement.
requirements, with proce ures
policies and . addressing:
procedures -1. Engagement perfo
addressing: 2. Supervision
., ' 1. Engagement
.,. responsibilities
performance 3. Review
2. Supervision responsibilities
responsibilities
3. Review
res onsibilities
---
Managementof a Public Accounting Practice 103
Elements of Basic Objective The Firm Should Sample
Quality Control Is to Provide Establish Policies Procedures
Reasonable and Procedures to
Assurance That: Provide Reasonable
' Assurance That
6. Monitoring Firm's policies • The policies and • Working
and• procedures procedures relating papers,
established for to quality control reports, and
each of the are relevant, client financial
elements are adequate, and statements are
suitably designed operating reviewed to
and effectively effectivel.y assess
'•
'
applei d. . compliance
. with the firm's
. quality control
.. poficies and
. procedures.
. • Communicate,
at least
' annually, the
' results of the
• .. monitoring to
I
. engagement
• f partners
., . and other
.. .. . appropriate
. '
. . individuals
within the firm.

..

• I•
 l 04 Chapter ./

REVIEW QUESTIONS
Questions

I. What is the "special function" that auditors perform? Whom does the
public accounting profession serve in performing this special function?
2. How does complexity affect (a) the demand for auditing services and (b)
the performance of auditing services?

3. Many public accounting finns are legalJy formed as networks of

accounting firms. Exprain what the phrase "network of accounting firms"
means and articulate the services provided by the network to its
members.
4. Comment upon ea h of the following statements you heard in a
conversation between two newly hired staff auditors.
(a) "You really have to question everything the client tells you. That's
what professional skepticism is all about. It's a shame you can't
believe a word they say."
(b) "While the evidence is lower in quality, we typically use internal
evidence when we audit property, plant and equipment. It-just takes
too much time and costs too much to get more reliable evidenc:e "
I

(c) "On that last job, we really planned the audit well. We were able to
finish everything by November I and didn't need to do any work
after year-end." .
.,,
(d) "We're not too worried about internal control. We alwa.9 P the
same substantive procedures anyway, so why take the time to look at
the client's controls?" ·
(e) "Because the client isn't accounting for its leases properly, we need
to issue either a qualified opinion or a disclaimer of opinion. Just
•how .large of a peso impact does this have on the financial
statements?"

(f) "Wh e n_ we evaluate items for materiality, the oniy thing we need
to worry about is the absolute peso amount. There really isn't
anything else we need to consider." ··

5. What does a
syste
ratcice
P Management of a Public Accounting Practice 105
m
 if . . . . quality control m the context of public accountmg
encompass?O
6. Describe the ele f . . . .
Jirm l ments o qualtty control pohc1es and procedures at audit
eveI .
7
· Describe the elements of quality contr61 policies and procedures at
individua audit level.

S. Each of the following quality control policies and procedures is ty- ical
of ones that c?n be fou·nd in public accounting firms systems of quality
control. Identify each of them with one of the six elements of quality
control identified by PSQC.
(a) Assign management responsibilities in such a manner that
ommercial considerations do not override the quality of work
performed.
(b) Establish policies and procedures for resolving differences of
opinion among firm personnel that arise profession )
durin.g engagements.
(c) Develop policies and procedures to ensure that professionals are
provided with appropriate professional development opportunities.
(d) . Review engagement documentation, reports and the client's financial
statements.
(e) Developing effective performance evaluation, compensation and
advancement procedures.
(f) Identify circumstances and relationships that create threats to
independence and take appropriate action to eliminate those threats
or reduce them to an acceptable level. ·
" (g) Identify whether the firm possesses the competenc):;, capability and
resources to serve a specific client.
(h) Devote sufficient resources to develop, communicate and support the
firm's·quality control procedures. ·
(i) Retain engagement documentation for a sufficient period of time to
satisfy ,the needs of the firm, professional standards, laws and
regulations. 1
 106 Chapter 4

Mu/tiple Choice Questions

I. In connection with the element of professional development, a CPA

firm's system of quality control should ordinarily provide that all
personnel .
a. 'havethe knowledge required to enable them to fulfill responsibilities
assigned.
b. possess judgment, motivation, and adequate experience.
c. seek assistance whom persons having appropriate levels of
knowledge, judgment, and authority.
d. demonstrate compliance with peer review directives.

2. Quality control for a. CPA firm, as referred to in auditing-

standards, applies to
a. auditing services only.
b. auditing and management advisory services.
c. auditing and tax services :
d. auditing and accounting and review services.

3. The least important element in the evaluation of a CPA finn's system of

quality controls would concern its policies and procedures with respect to
a: employment (hiring).
b. confidentiality of audit engagements.
c. assigning personnel to audit engagements.
d. detennination of audit fees.

4. A basic objective of a GPA firm is to provide professional services that

confonn with professional standards. Reasonable assurance of achieving
this basic objective is provided through
a. compliance with generally accepted accounting standards.
b. a system of quality control.
c. a system of peer review.·
d. . continuing professional education.

5. The primary purpose of establishing quality control ' policies

procedures for deciding whether to accept a new client is to
and
a. enable the CPA finn to attest to the reliability of the client.
b. satisfy the CPA firm's duty to the public concerning the acceptance
1

of new clients.
 Management of a Public Accounting Practice 107

c. minimize the likelihood of association with clients whose

ma gement lacks integrity. · .
1
d. an !c p_aa te before perfonning any field work whether an
unqualified opmion can be expressed.

6. Which of the following are elements of a CPA firm's quality control that
should be considered in establishing its quality control policies and
procedures? •
Advancement Inspection Consultation
a. Yes Yes No
b. Yes Yes Yes ;
c. No Yes Yes
d. · Yes No Yes

" , The nature and extent of a CPA firm's quality control policies and
7. procedures depend on
The Nature
The CPA of the CPA Cost-Benefit
Firm's Size Firm-'s Practice Considerations
a. Yes Yes Yes
b. Yes Yes No
C. Yes No Yes
d. No Yes Yes

8. The primary reason why a CPA finn establishes quality control policies
and procedures for human resources is to
a. comply with the continuing educational requirements imposed for all
staff accountants in CPA firms.
b. establish in fact as well as in appearance that staff accountants are
increasing their knowledge of accounting and auditing matters.
c. provide a forum for staff accountants to e change their experiences
and views concerning firm policies and procedures.
· d. provide reasonable assurance that staff personnel will have the
capability, competence and commitment to ethical principles
required to enable them to fulfill their responsibilities in accorda ce
with professional standards and regulatory and legal requirements.
I08 Chapter 4

9. In pursuing its quality control objectives with respect to assigning

personnel to engagements, a CPA firm may use policies and procedures
such as the following
a. rotating employees from assignment to assignment on a random
bas-is to aid in the staff training effor.t.
b. requiring timely identification of the staff requirements of s ific
engagements so that enough qualified personnel can be made
available. .
c. allowing staff to select t e assignments of their choice to promote
better client relations hips.
d. assigning a number of employees to each engagement in excess of
the numb r required so as not to overburden the staff and interfere
with the quality of the audit work performed. ·

Jo: the accounting firm should establish·policies and procedures assigned to

promote an internal culture based on the recognition that quality is
essential in performing engagements. This may be communicated
through the following means except
a. Training seminars.
b. Formal and informal dialogue.
c. Publication in PICPA newsletter .
d. Mission statements.

11 . In pursuing its quality control objectives with respect to acceptance of a

clien a CPA firm is not likely to
a. make inquiries of the proposed client's legal counsel.
b. review financial statements of the proposed client.
c. make inquiries of previous auditors.
d. review the personnel practices of the proposed client.

I2. In pursuing its qua lity:c? ntro l objectives with respect to independence, a
CPA firm a?' use_pohc1es and pr?cedures such as the follow ng except
a. emphas1zmg _mdepend ce m mental attitude in firm· training
programs and m superv1s1on and review of work.
b. prohibiting employees from owning shares of the stock of p blicly
traded companies.
c. sugg sting that emp!oy es conduct thei banking transactio s
with ba ks hat do not mamtam accounts with client firms .
d. ass,_g mg employees who may lack independence to research
positions that do not require participation in field audit work.
......---

Managementof a Public Accounting Practice 109

l .J
Which ?f the following is not an element of quality control. that should
becon_ aSd e e d by fim1 of independent auditors?
a. AsSignm pers nnel to.engagements ·
b. Cons ltahon with appropriate persons
c. Keep_m recordsof quality control policies and procedures
d. Superv1s1on

l 4. .A finn. of CPAs may use policies and procedures such as

notifying profess1on I. personnel as to the names of audit clients having
publicly held. s cuntaes an.d confirming periodically with such personnel
that. proh,1b1ted relations do not exist. This is done to achieve effective
quality control in which of the following areas?
a. Acceptance and continuance of clients
b. Human resources
c. Ethical requirements .
d. Leadership respons!bilities for quality ithin the firm

15. A CPA establishes quality control policies and procedures for deciding
whether to accept new client or to continue to perform services for a
current client. The primary purpose for establishing such policies and
procedures is to
a. comply with financial reporting standards.
b. comply with the quality control standards established by the
regulatory bodies.
c. comply with standards of auditing.
d. minimize the · likelihood of association with clients -whso e
11 1anagemen,t lacks integrity.

16. . In pursuing its quality control objectives, a CPA firm may

.maintain. records indicating which of its partners or employees were
previously employed by its. clients. Which quality ontrol element
would this be most likely to satisfy? ,
a . Leadership responsibilities for quality withi the firm
b. Human resources ·
c. Ethical requirements
d. Engagement performance
.,
. '
. ·,

.,.
,
. '.
 Chap/er 4
17. A process g.a n ongoing consideration a.nd. ev•alua tio·n' off the
· ·
compr1 sm
finn 's system of quality control including a period• inspection o.a
selection of completed engagements designed o provide t e firm "'.t1
h reasonable assurance that its system of quality control is
operatmg
effectively.
a. Quality assurance review c. Documenting
b. Monitoring d. Auditing

J 8. Which of the following does a frnn need not establish and maintain a
system of quality control for?
a. Leadership responsibilities for quality within the firm
b. Relevant ethical requirements
c. Maximizing revenue
d. Engagement performance

19. This refers to an approximation of the amount of an item in the absence

of a precise means of measurement.
a. Projection c. Probable amount
I
b. Forecast d. Accounting estimate

20. A requirement that working papers be reviewed by the supervisor,

and any deficiencies be discussed with the preparer is an example of a
quality control procedure in the area of:
a. Acceptance and continuance of client relationships and specific
engagements.
b. Engagement performance.
c. Human resources.
d. Relevant ethical requirements.

2I. A requirement to design recruitment processes and procedures to help the

firm _select individual meeting minimum academic requirements
e tablished by the . s an example of a quality control procedure in
firm, the area of:
a. Acceptance and continuance of cJient relationships and specific
engagements.
b. Engagement performance.
c. Human resources.
d. Relevant ethical requirements.
 Management ofa Public Accounting Practice III

22. An a dit performed in accordance with Philippine Standards on Auditing

should:
a. Be expected to provide absolute assurance that noncompliance with
all laws will be detected where internal control is effective.
b. Be relied upon to disclose violations of truth in lending laws.
c. Enco pass a plan to actively search for all illeg,ali ties which relate to .,
operatmg aspects.
d. Not be relied upon to provide absolute assurance that all
noncompliance with laws will be detected.

23. When the auditors express an opinion on financial statements, their

responsibilities extend to: ·
a. The underlying wisdom of their client's management decisions.
b. Wh ther the results of their client's operating decisions are fairly
·presented in the financial statements.
c. Active participation in the implementation of the advice given
to· their client.
d. An ongoing·responsibliity for their client's solvency.

24. A nonpublic company auditors' report is most likely to be addressed to

the company whose financial statements are being examined or to that
company's: '
a. Chief operating officer. c. Audit Committee.
b. President. d. Chief financial officer.

25. Within the context of quality control, the primary purpose of continuing
. professional education and training activities is to enable a CPA firm to
provide personnel within the finn with: ,
a. Technical training that assures proficiency as an auditor. .
b. Professional education that is required in order to perfonn with due
professional care.
c. Knowledge required to fulfill assigned responsibilities and to
progress within the' firm.
d. Knowledge required in order to perform a peer review.

26. In pursuing a CPA firm's quality control objectives, a CPA firm may
maintain records indicating which partners or employees of the CPA firm
were previously employed by the CPA firm's clients. Which quality
control objective would this be most lik ely to satisfy?
a. Acceptance and continuance of clients and engagements. .,
b. Engagement performance. .
.,.
 112 Chapter 4

c. Personnel manageme t.
d. Relevant ethical requiremetsn.
h ·ch of the following is not an element of quaIi_con tro l ?
27• W 1 • c. Momtormg.
a. Documenttaoin. d Relevant ethical
b. Engagement performance. ·
requiremenst.
.
2 8 Which of the following is most tik ly to be included in a public company
financial statement audit report?,
a. Adverse·opinion.
b. The name of the engagement partner. II d
c. The audit was performed in accordance with genera Y accepte
auditing standards . ·
d. The year the auditor began erving the company.

Cases
Case l
The following policies were taken from the quality control manna] of
Morales, Cabrera & Co., Certified ublic Accountants.
(I) Staff accountants' working papers are revi wed_ within one week of
being completed.·
(2) The partner in charge annually selects at random five engagements and
evaluates whether quality control procedures were followed.
(3) No uncertainty must exist as to whether a new client is a going concern.
(4) To be an in-charge auditor on audits involving more "than four hundred
work hours, staff must have previous_ly worked on an engagement in the
industry.
(5) New staff accountants must be eligible to sit for the CPA exam.
(6) In-charge accountants must have passed the CPA exam.
(7) As they are issue d, new PASs are discussed with staff.
(8) A technical assistance staff is available to answer accounting and
auditing questions.
(9) Staff must sign a statement annually that indicates their stock ownership.
Management of a Public Accounting Practice 113

Required:
(a) State the quality control element to which each policy relates..
(b) State the objective or purpose of each policy.
(c) Suggest another policy that relates to the element.

Case2

-Prior to 11aming Salcedo and Company as its auditors, Kristoffer dela Cruz of
Galore, Inc., met with Gwen Salcedo and inquired about the auditors who
would work on Galore's audit. Mercado wants Salcedo to agree to assign
only persons who graduated from his alma mater.

Required: How should Gwen Salcedo respond?

 Chapte-r ·
PROFESSIONAL
ETHICS

ected£earning Outco1nes
After studying this chapter, you sh0uld be able to:
.
1. Describe the nature of ethics and ethical dilemmas.
. ,
2. Explain the professi9n's reasons for establishing
professional ethics.
3. Explain the fundamental principles in the Revised Code of
Ethics for Professional Accountants in the Philippines.
4. Describe the five (5) kind of threats to compliance with the
rules in the Code of Ethics.

5. Explain briefly the safeguards to mitigate or eliminate the

threats to compliance with the rules in the Code of Ethics.
6. Describe the salient Code of Ethics Rules that can prevent
violations to the fundamental principles.

7. Explain the concep.t of independence and identify

circumstances in which independence is impaired and how
to mitigate or eliminate the threat.
►

CHAPTER 5

PROFESSIONAL ETHICS
INTRODUCTION

Hsi to rically a d ti_nguis hing characteristic of any profession is the existence of

si
code of_ c!l 1cs for its me mb ers. This signi fies the profession's acceptance of its
re s p ons 1b 1ltyt ot those it se rve s. /\. code of condu ct is particularly important for
CPAs because of the reliance that investors, the public, government and business
manag emen t place on the accounting profession. The public' s knO\vledge i°hat
mem ber s of the accounting profession mus t adhe re to such a code provid es a set
of expectations about the quality of service CPAs provide. Furthermore, a·code
benefits individual member s and the profession as a whole by providing
minimum standards all memb ers are expected to follow.

Ethics consist of moral principles and standards of conduct. It is a branch of

philoso phy that deals with the study of the rightness or wrongness of human
actions. Ethics can f9cus either on socie ty as a whole or on a particular group
within a society.

Professional groups, such as physicians and accountants, have codes of behavior

known as professional ethics.Such codes attempt: ·
I) to ensure hig h s tandards of competence among a group's members,
2) to regulate and strengthen their relationships, and
3) to promote and protect the imag of the profession and the welfare of the
community.

Professional ethics extend beyond moral principles..They include standard s of

behavior for a professional person that are designed for both practical and
idealistic purposes. While ethics may be designed in part to encourage ideal
behavior, they must be both practical and enforceable. To be meaningful, ethics
should be above the law but below the ide_al. In s umm ary, professional
ethics may be regarded as
"a mixture ·of moral and practical concepts, with a sprinklin g of exhortation to
ideal conduct designed to invoke "right action" on the part of the members of t,1e
profession concerned - all reduced to rules which are intended to be
enforceable, to some extent at least, by disciplin aryaction." .
(Carey, Doherty, "Ethical Standards oftl,e Accounting Profession' A/C PA. /966)
.....
 l 16 Chapter 5

Professionalethics are imposed by a profession o n its members, who vol ntarily

accept standards of professional behavior more rigorous than thoseeq u ired by
law. A code of ethics significantly afTects the reputation of a profession.and the
confidence in whic h it is held. Professional ethi cs have evolved over time and
co ntinu e to be in the process of cfiange as the practice of public accountin g
changes.

WHY PEOPLE ACT UN ETIUCALLY

Most people define 1111ethicalbehavior as conduct that differs from what they
believe would have been appropriate given the circumstances. Each of us decides
for ourselves what we consider unethical behavior, both for ourselves and othe rs.
It is important to understand what causes people to act in a manner that we
decide is unethical. ·

There are two primary reasons wlJY people act une thically:
l . the person's eth ical standards are different from those of soC:iety as a
whole, or
2. the person cho.oses to act selfishly.

In many insta nces, both reasons exist.

Person's Ethical Stn11dnrds Differ fr0111 General Society

Extreme examples of people whos e behavior vio lates almos t everyone's ethical
standards are drug, dealers, bank robbers, and larcenis ts. Most people who
commit such acts feel no remorse when they are apprehended, because their
eth ical standards differ from those of society as a whole .

T here are also many far less·extreme ex amples when others violate our ethical
values. When people cheat on their tax returns, treat other people with hostility,
lie on employment applications, or perform below their competence level as
employees, most of us regard that as unethical behavior. If the other person has
decided that this behavior is e thical and acceptable, there is a conflict of ethical
values that is unlikely to be resolved.

Tl,e Person Chooses to Act Seljis/1/y

following example illustrates the differerice between ethical standards that

differ from general society's and acting selfishly. Person A finds a briefcase in an
airport containing important papers and PI0,000. He to ses the briefcase and
 Professional Ethics 117
th
keeps money. He brags to his family and friends about his good fortune.
P_erso As values proba?ly differ from most of society's. Person B faces the same
s
itua tm but responds differently. He keeps the money but leaves the briefcase in
a on picuous place. He tells nobody and spends the money ona new wardrobe.
It is hkely that Person B has violated his own ethical standards but he decided
that the money was too important to pass up. He has chosen to ac selfishly.

A considerable portion of unethical behavior results from selfish behavior.

Watergate a d other political scandals resulted ·from the desire for political
power; cheatm? on tax returns and expense reports is motivated by financial
greed; pe formmg below one's competence and cheating on tests are typically
due to lazmess. In each case, the person knows that the behavior is inappropriate,
but chooses to do it anyway because of the personal sacrifice needed to act
ethically. . ·

Rationalizing Unethical Behavior

There are alternative ways to resolve ethical dilemmas, but care must be taken·to
avoid methods that are rationalizations of unethical behavior. The following are
rationalization methods commonly employed that can easily result in unethical
conduct:

Everybody Does It
I

The argument that it is acceptable behavior to falsify tax returns, cheat on

exams, or sell defective products is commonly based on the rationalization that
everyone else is doing it and therefore it is acceptable.

If It's Legal, It's Ethical

.Using the argument that all lega behavior is ethical relies heavi y n the •
perfection of laws. Under this phtlosophy, one would ha e no o.bhgat1011 to
return a lost object unless the other person could prove that 1t was ht or hers.

Likeliltood of Discovery a11d Consequences

This philosophy relies on evaluating tl1e likelihood that someone,else will
discover the behavior. Typically, the person also assesses the seventy of
the penalty (consequences) ;f there is iscovery. An example is deciding
whether to correct an unintentional overbtllmg to a ·customer when the
customer has already paid the full billing. If the seller believes that the
customer will _detect
I18 Chapter 5

the error and respond by not buying in the future, the sellre will. inform the
customer now; otherwise he will wait to see if the c_ustomer complains.

THE NEED FOR PROFESSIONAL ETHICS

To have an appreciation of the importance of a code of ethics to public

accountants and other professionals, one must understand the nature of a
profession as opposed to other vocations. There is no. universall
accepted definition of what constitutes a profession; yet, for generations,
certam- types of activities have been recognized as professions while others
have _no!. edicine, law, engineering, architec ture, and theology are examples of
d1sc1plmes long accorded professional status. Public accounting. is a relative ne
om r to the ranks of the professions, but it has achieved widespread
recogmtton m recent decades.

All of the recognized professions have several common characterist ics. The most
important of these characteristics are (a) a responsibi lity to serve the public, (b) a
complex body of knowledge , (c) standards of admission to the professio n, and
(d) a need for public confidence. Let us briefly discuss these charac terist ics as they
apply to public accounting .

Respo11sibility to Serve rite Public. The certified public accountant is a

representative of the public - creditors, stockholde rs, consumers, employees,
and others in the financial reporting process. The role of the independent attester
is to ensure that information is fair to all parties and not biased to benefit one
group at the expense of another. This responsibil ity to serve the public inte rest
must be a basic motivat ion for the professional. Public accountants must maintain
a hig h degree of independence from their clients if they are to be of service to the
larger community. Independence is perhaps the most important concept
embodied in public accounting's Code of Ethics for Professional Accountants.

Co111plex Body of K11owletlge. Any practitioner or stude nt of accounting has only

to look at the abundance of authoritat ive pronouncements governin g financial
reports to realize that accounting is a complex body of knowle dge. One reason
why such prono unceme nts continue to pro!iferate is that accounting must reflect
what is taking place in an increasingly complex environment.

Standards of A<fn,ission to t/,e Profession. Attaining a lice nse to practice as a

certified public accountant requires an indiv idual to meet minimum standards for
education and experien e. The indi vidual must also pass the CPA Licensure
Examina tio n show ing mastery of the body of knowledge desc ribed above.
Once
 Professional Ethics 119

li cese ,d c. :rt i .fied public accountants must adhere to the ethics of the profession
or nsk d1sc 1pl111ary action.

Neetl for PublicCo .nfi<ien ce. Physicians, lawyers, certified public accountants,
and all ot,herp rofessiona ls mus t have the confidence of the public to be
successful. To the PA, however, public confidence is of special significance.
The -CPA's. product rs credibility. Without public confidence in the attestor, the
at1est function serves no usefu I purpose.

CHARA TERIS'flCS AND VALUES ASSOCIATED WITH ETHICAL

BEHAVIOR

The following list of ethical principles incorporatse the characteristi s and

values that most people associate with ethical behavior. .

J,zteg,:ity
Be principled, honorable, upright, courageous and act on convictions; do not be
two-faced, or unscrupul ous, or adopt an end-justifies-ti1e-means philosophy that
ignores principle. ·

Honesty
Be truthful, sincere, forthright, straightforward, frank, candid; do not cheat, steal,
lie, deceive, or act deviously.

Promise Keeping
Be worthy of trust, keep promises , full commitments, abide by the spirit .as well
as the letter of an agreement; do not interpret agreements in an unreasonably
·technical or legalistic manner in order to rationalize noncompliance or create
excuses and justifications for breaking commitments.

Loyalty (Fidelity) •I

Be faithful and loyal to family, friends, employers, clients and country; do not I

use or disclose information learned in confidence; in a professional context,

safeguard the influences and conflicts of interest.

Fairness •
Be fair and open-minded, be willing to admit error and, where appropriate,
change positions and beliefs, demonstrate a commitment to ju tic. e, the
equal treatment of individuals, and tolerance for and acceptance of d1vers 1ty; do
not overreach or take undue advantage of another's mistakes or adversities.

.,.
,1
 120 Chapter 5
.

Becar .
ing, kind, and compassionate; share, be giving, be of service to others; help
those in need and avoid harming others. ·
Respect for Others .
Demons tr at e respect for human dignity, privacy, and . the ng t to self-
de te rminat ion of all people; be courteous, prompt, and d ent; pro 1de oth rs ,
\Vith the information they need to make informed decisions about their own hves;
do not patronize, embarrass, or demean.
Responsible Citizenship . . .
Obey just laws; if all law is unj ust, openly protest 1t; exercise all democratic
rights and privileges responsibly by partici ation. (voting n?
exp_r ssing
informed views), social consciousness, and public service; when m a pos1t1on of
leadership or authority, openly respect and honor democrat_1c proc sses of
decision making, avoid unnece ssary secrecy or concealment of mformat1on, and
assure that others have all the information they need to make inte ll jge nt choices
and exercise their rights.
Pursuit of Excellence
Pursue excellence in all matte rs; in meeting your personal and professional
responsibilities,- be diligent, reliable ,' industrious, and committed; perform all
tasks to the best of your ability, develop and maintain a high degree of
competence, be well informed and well prepared; do not be content with
mediocrity; do not "win at any cost."

Accountability
Be accountable, accept responsibility for decisions, for The foreseeable
consequences of actions and inactions, and for setting an example of others.
,, Pa ents, teachers, employers, many professionals, and public officials have a
_ special obligation to lead by example, to safeguard and advance the integrity and
reputat ion of their families, companies, professions, and the gov_e mment itself;
n ethically sensitive individual avoids even the appearance of impropriety,
and
' takes whatever actions are necessary to correct or prevent inappropriate con uct
of others. ·

The r.eputation of the accounting professoi n continues to be tarnished by

the scandals over the last two decades and continuing into the new millennium.-
To regain our status as one of the most highly respected prof·essions,we must
take the extra step to show both the pub_lic andourselves that we are indeed
ethicaf - and that our ethi s are based upon a strict set of moral principles
rather than just a long list of rules to which we only adhere incertain situations.
 ProfessionalEthics 121

THE CODE OF ETHICS FOR PROFESSIONAL ACCOUNTANTS IN

THE PHILif PINES

The Professional Regulation Commission and the Board of· Accountancy

approved on February 20, 2018 Resolutiott No. 18 Series of 2018. This
resolution provided for the Adoption of the 2016 Code f Ethics. Code of Ethics
for Professional Accountants of the IESBA as "The Code of Ethics for
Professional Accountants in the and Prescribing Amendments
Philippine"s
Therefore".

The 2018 Code of Ethics for Professional Accountants in the Philippines consists
. of three parts, namely:

Part A - General Application of the Code

Part B - Professional Accountants in Public Practice
Part C- Professional Accountan.ts in Business

This book will present salient provisions in Part A and Part B that h ve direct
applicability to a CPA in Public Practice.

The entire Code can be accessed in the Board of Accountancy website

(www.pr .gov. ph) and IFAC website (www.ifac.org)

Fundamental Principles

The Code of Ethics requires auditors to adhere to the following fundamental

principles.
.'
(a) Integrity
(b)· o bjectivity. . ·
(c) Professional c·ompetence and Due Care
(d) Confidentiality
(e) P ofessional Behavior
 122 Chapter 5

(a) In tegr i ty. · To be straight forward and honest in all rofessional and
business relationships. ·
Example:A professional accountant hould n t be associated with re orts,
retums communications or other information where the professional
accoun'tant believes that the information:
i. Contains a materially false or misleading statement;
ii. Contains statements or information furnished recklessly; or
iii. Omits obscures information required to be included where such
omission or obscurity would be misleading.
(b) Objectivity. Not to allow bias, conflict of interest or undue influence of
others to override professional or business judgments.
(c) Professional Competence and Due Care. To maintain
profe.ssional knowledge and skill at the level required to ensure that a
client or employer
receives competent professional service based on current development-s in
practice, legislation and techn iques· and act diligently and in ccordance
with applicable technical and professional standards.
(d) Confidentiality. To respect the confidentiality of information acquired as a
result of professional and business relationships and should· not disclose
any such information to third parties without proper and specific authority
unless there is a legal or professional right or uty to disclose, nor use the
information for the personal advantage of the professional accountant or
third parties.
Example: The foJlowing are circumstances where professional accountants
are or may be required to oisclose confidential infonnation or when such
disclosure may be appropriate:
i. Disclosure is permitted by law and is authorized by the client·or the
employer; ·
ii. Disclosure is required by law, for example:
• · Production of documents or other provision of evidence in the
course of legal proceedings; or
• Disclosure to the appropri te public authorities of infringements of
the law that come to light; and
ProfessionalEthics 123
11 1
• There isa profession al duty or right to disclose when not prohibited
by law: '
• To coi ply with the quality review of a member body or
professional body;
• To respond to an inquiry or investigation by a member body or
reg y; ·
ulat
ory • To protect the professiona l interests of a professional account in
bod legal proceedings; or .
• To comply with technical standards and ethics requirements
(e) P rofessio11" / b el,"vior. To comply with relevan laws and regulations and
avoid any action that disc redits the profession.

THREATS TO COMPLIANCE WITH RULES

When a professional accountant identifies threats to compliance with the

fundamenta l principles and based on an evaluation of those threats, determines
that they are not at an acceptable leve l, the professional accountant shall
determine whether appropriate safeguards are available and can be applied to
eliminate the threats to reduce them to acceptable level. In making that
determination , the professional accountant shall exercise professional judgment
and take into account whether a reasonable and informed third party, weighing
all the specific facts and circumstances available to the professional accountant at
the time, would be likely to conclude that threats would be eliminated or reduced
to an acceptable level by application of the safeguards, such as that compliance .
with the fundamental principles is not compromised.

Threat SummarizedDefinitio PublicPractice Exampel s

n
. Self-interest A potential benefit to the 1. Having a direct financial
accountant, financially interest or a material
or otherwise, from a indirect financial interest in
financial interest in / or the client.
some other financial 2. Having a loanfrom a client.
relationship with an attest 3. Excessive reliance on
- client. · revenue from a single
client.
4. Having a material joint
venture with a client.
124 C h a pt er 5

·2. Self-review Accountant will · not 1. Accountant performs

appropriately evaluate resu bookkeeping services for a
of a previous judgment made client.
or service performed or 2. ·A partner in the member's
supervised by the accountant office was associated with
or the accountant's firm. the client· as an
employee, officer,
director, or contractor.
3. CPA firm providing non
audit se,:vices relating to the
information system and the
accountant is now
considering results obtained
from · that information
s em in the audit.
3. Advocacy Accountant will promote a . 1. Promoting cli nt's securities
. client's interests ·or position as part of an·initial public
and compromise objectivity or offering;
independence. 2. Endorsing · · a client's
services or products.
3. Representing an audit client
in the court of tax a als.
4. Familiarity Accountant will become too 1. Accountant's immediate
sympathetic to the client's family close relative or
I

work or product due to a long friend is employed by client

or close r lationship or or director / officer of the
accountant has a close or client.
· · long-standing relationship 2. A former partner or
with client personne.l professional employee join
the client in a key position
and has knowledge of CPA
· firm's policies and
practices. ·
. 3. A partner or has provided
attest services for a
prolonged period.

,,
 Professional Ethics 125
5. Intimidation / 1· Accountant will not act 1. Threatened or actual
Adverse I with objectivity because lffigation between
Undue · of interests opposed to accountant and aclient.
influence the client's interests. 2. CPA firm is threatened with
2. Accountant will dismissal.
subordinate judgment to 3. An individual associated
that of an individual with a client threatens to
associated with a client withdraw or terminate a
due to client's reputation, professional service unless
expertise, dominant the. accountant reaches
personality, or attempts certain judgments or
.to coerce or excessively conclusions. ·
influence the accountant. 4. Accountant assumes a
3. Accountant will take on client's role while
the role of client performing . non-audit
,. management or services.
• otherwise assume 5. A gift from the client that is
management other than· clearly
responsibilities. insignificant.

Safeguards to Mi igate or _Eliminate Threats

Safeguards are actions or other measures that may eliminate.threats or reduce

them to an acceptable level. They fall into two broad categoires:
a) Safeguards created by the professiQn, legislation or regulation; and
b) Safeguards in the work environ ent. -

a) Safeguards created by the.profession, legislation or regulation inc!ude:

' . .
• Educational, training and experience requirement for entry into the
profession.
., Continuing professional development requirements.
• Corporate.governance regulation's.
• 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.
126 Chapter 5

• Effective, well publicized complaints system operate by the

employing organization, the profession or a regulator, which nable
·colleagues, employers and member of the public to draw attention
to unprofessional or unethical behavior.. ·
• An explicitly stated duty to report breaches of ethical requirements.

b) Safeguards in the work environment:

1. Firm-wide safeguards includ , but not limited, to the following:
• Leadership of the firm that stresses the importance of compliance
with the fundamental principles.
• Policies and procedures to implement quality control of
engagements.
• Documented internal policies and procedures requiring compliance
with the fundamental principles.
• PoUcies and procedures to monitor, and, if necessary, manage the
relianc_e on r venue received from a single client.

2. Engagement-specific safeguards
include., foJlowing: but not limited, to the

• Rotating senior assurance team personnel.

• Having a·professional ·accountant who was . \

assurance team review the assurance work not a member of the

advise as necess ary. perform or otherwise

• p scussing ethical issues with those charged withg overnan. ce of

the client. . . · . . .
 ProfessionalEthics 127

CODE OF ETIDCS: APPLICABILITY TO CPAS IN PUBLIC PRACTICE

In the following sections, we discuss the various Code of Ethics Rules as they
apply to accountants in public pr ctice.

Conflicts of Interests (Section° 220)

A conflict of• interest creates a threat to objectivity and may create threats to the
other fundamental pr inciples . ·

Ex mples of situations in whic·h conflicts of interest may arise include:

• Providing a transaction advisory service to a client seeking to acquire an
audit client of the firm, where the firm has obtained confidential
information during the course of the audit that may be rele van.t to the
transaction.
• Providing services to both a vendor and ·a purchaserin relation to the same
transaction.
• two
Preparing valuations of assets for parties who are in adversarial
position with respect to the assets.
• Advising a client to invest in a business in which, for example, the spouse
of the professional accountant in public practice has a financial interest.
• Advising a client on the acquisition of a business which the firm is also
interested in acquiring.

If a conflict of interest is identified, the professional accountant in public practice

shall evaluate
• The significance of relevant interests or relationships;
• The significance if the threats created by performing ·the professional
service(s),

and shall apply safeguards, when necessary, to eliminate or reduce the threats to
an acceptable level.
 11& Chapter·S

Marketing and Professional Services (2S0)

Sections 250.1 and 250.2 of the Revised Cod·e of Ethics for Professional
Accountants in the Philippines, provide the guidelines in marketin·g profession al
services as fallows:
1. When a _profession al accountant in public practice solicits new
work through advertising or other forms of marketing, there may be
potential threats to compliance with the fundamental principles. For
example, a self interest threat to compliance with the principle of
professional behavior is create<! if services, achievements or products are
marketed in a way that is inconsistent with.that principle.
2. A professional ' accountant in public practice should not bring the
profession into disrepute when .marketing professional services. The
professional accountant in public practice should be honest and truthful and
should not:
• Make exaggerated claims for services offered, qualifications
possessed or experience gain(?d; or
• Make disparaging references t6 unsubstantiated comparisons to.the
work of another. ··

The practitioner should be guided by the prov1s1ons in lh, e PRCBOA

Resolution No. 126, series of 20_08 on Rules on Advertising and Promotion
for thC? Practice of Accountancy in the Philippines.
.. ' If the professional accountant in public practic is in doubt whether a
proposed form of advertising or marketing is apprppriate, th professional
accountant in public ractice should consult with tpe relevant professional
body.

Gifts and Hospitality (260)

A professional accountant in public practice, or an immediate or close fam!IY

member, may be offered gifts and hospitality from a client which might give r,1se
to threats to compliance with the fundamental principles. For example, s lf•
interest threats to objectivit·y may be created if a gift from a client is accepted:
intimidation threats to objectivity may result from the possibility of such,offers
being made public.
Professional Ethics 129
Where the gifts or hos ' t r1
without the specific• offered is made in the normal course of business
 it may be conclude t;r1 ent to mfluence dec is ion making or to obtain information,
is at an acceptable 1 1ati8i trhea t to comp li ance with the fundamental principles
acce p ta b le level t t;h hen teh t ul ea t: cannot be elim inaet d or reduced to an
acco untant inp u b li g_ teh ap plicatio n of safeg ua rds, the professional
c practice should not accept such an offer.

Custody of Client Assets (270)

A p r o f ession al a ccount t ·111 bl ' . ·
m o n · ,e s ti · an pu i c practi c e sho uld not assume cus tody of client
't t d d b
withany r aodd1e'fr asset.s_ unl e lo o so Y law and, if so, inco mp li ance.
O
ess p. en i
. h I d ' 1 tona1 1egal duties imp osed on professional accountant in public
practice o mg such assets• He/ s I1e accountant s11all make appropriate inquiries
a bout t h.e so urce of such asset s and con, s 'der 1egal and regulatory o bli•ga ti•ons.
For exampl7 if the assets were derived from illegal activities such as money
laund ering, a tlu e t to_compliance with the fundamental principles would be
created. n such s1tuat1o ns, the professional accountant may conside r seeking
legal advice.

A professional accountant in public practice entrusted with money or other assets

sha ll
a) Keep such assets separately from personal or firm assets;
b) Use such assets only for the purpose for which they are inte nded;
c) At all times , be ready to account for those assets, and ·any income ,
dividends or gains generated, to any persons entitle d to such account ing;
d) Co mply with all rele vant laws and regulatio ns releva nt to the holding of·
and accounting for such assets. .

Independence (290)

C P A firm independence from a cl ien t is required when providing audit and other
attestat io n and assurance services.

The public accoun ti ng professio _n acknowledges the critical importance

of in depen dence of acco untants who perform attestation services , independence of
both mind and appearance. Independence of mind is a state of mind that permits
theC P A to perform an at1est service without being affected by influe nc.es that
might compromise professional j udgment , thereby all o wing that individual to act
with integrity and to exercise o bjectivity and profses oi na lskepticism.
In depen denc e in appearance requires the avoidance of circumstances that mi ht
causea re aso na b le a nd in formed third party, aware of all relevant in froma t
ion,
 130 Chapter5

including . safeguards applied, to reasonably condude that the. integrity,

· objectivity, or professional skepticism of an audit firm or member f the attest
engagement team has been compromised.

Issues on Independence Requirement for CPAs in Pub ic Practice

Fa,nily and Perso11al Relationsllips (290.126)

Relative Effect on Accountant and Firm's Independence
Immediate Family (spouse, General Rule: CPAs must, in general, comply with
spousal equivalent or the Independence rule. Accordingl,ywhen an
dependent) .. immediate family member violates the Independence
rule or one of its interpretations, independence of
the external auditor and the finn is impaired.

Exemptions to the General Rule: The accountant and

finn are independent •
1. . When a family member is employed by a client
in other than a key positio.n ·
2. In certaincircumstances in which the immediate
family member participates in a benefit plan
related to a client.
Close relatives (parent, Accountant and firm independence are impaired if an
sibling, or individual on the audit team, an individual in a
nondependent child) position to influence the attest engagem·enotr, any
partner in the engagement office has a close relative
who has
' . 1. ·A key position with the client or
2. A material financial interest · of which . the
accountant has knowledge. ;
Other R8lativ8s Independence is only impaired when a rea.sonable

and
Friends person·, aware of all relevant facts relating to
a
,
situation, would conclude that there is an
·.
. ..
.. . unacceptable threat to independence. This evaluatlo,n ,
. (. - ' (at both the accountant and the firm levels) is mad· e
. ·' , .
. . based on the Conceptual Frameworlr on
. .
· I n d e pendenc..,; e -------,
...a. ... ;; :..: .::. :; - - _;_.- -
•., '•

., •
..
.. ·. .
 ,
' •, •, , .
•
. ·-
. . . " ...
• f • I

Professional Ethics 131 .-

•.
Financial Relationships .
he f_o dere srt ci ts the financial interests that an auditing may have either in
!e c ien_t itself or with client personnel. A financial interest is an ownership·
st
mtere m _an equ_ity or a debt security issued by an entity; such an
interest
ay be eit er direct or indirect. A direct financial interest includes an
mves mentm !he_ client, such as owning capital stock or providing loans to
the client. An md1rec1 financial interest generally involves an intermediary of
some sort; for example, assume that a CPA invest in a mutual fund which in
!urn owns _stock in a client of that CPA. . The CPA's portio of that
• vestment. '". the attest client is the indirect financial interest. Concerning
direct and mdtrect financial relationships of external auditors:
1) All direct financial interests are prohibited, regardless of amount.
2) Material indirect financial interests are prohi ited.

The above restrictions begin with the period ·of the professional engagement.
Accordingly, when a public accounting firm acquires a new attest clien t,'
those who will become external auditors must dispose of any prohibited
financial or other interest on a timely basis. By disposing of such interests,
the CPAs avoid a challenge to their independence in dealing with t,he new
client.

..
(
Loans and guarantees (290.117)

A loan, or a guarantee of a loan, from·an audit client that is a bank or a

similar institution to a member of the audit team, or a member of that
individual's immediate famil)', does not create a threat to independence
if the loan or guarantee is made under normal lending procedures,
terms and conditions. Examples of such loans include home mortgages,
bank overdrafts, car loans and credit card balances.

If a loan to a firm from an audit client that is a barik or similar institution

is made under normal lending procedures, terms and conditions and it is
material to the audit clien· t or firm receiving the loan, it may be
possible to apply safeguards to reduce the self-interest threat to an
acceptable level. An example of such a safeguard is. havi g the work
reviewed by a professional accountant from a network firm that is neither
involv_ed with the audit nor received the loan. ..
.. 132 Chapter 5

B11si11ess Relatio11sl,ip (29_ 0.123)

A close business relationship between a firm, or a member of the audit team,

or a member of that individual's immediate family, and the audit client or its
management, arises from a commercial relationship of common financial
interest and may create self-interest or intimidation threats (e.g., Distribution
or marketing arrangements under which·t_he firm distributes or markets
the client's products or s rvices).

Unless the financial interest is immaterial and the business relationship is

significant, the business relationship shall not be entered into, or it shall be
reduced to an insignificant level or terminated:

In the case of a member of the audit team, unless any such financial interest
is immaterial 'and ' the relationship is insignificant to that member,. the
individual shall be removed from the audit team.

A busine s relationship between the exten1al auditor and the client or a

member of the auditor's immediate family, in a closely-held entity when the
audit client or a director or officer of the client, or any group thereof,
also holds an interest in that entity does not create threats to independence if:

• The business relationship is in ignificant to the firm, he member of the

audit team and the immediate family member, and the client;_
• The financial interest is immaterial to the investor or groups of investors;
and ·
• The financial interest does not give the investoi-, or group of investprs,
the ability to control the closely-held entity. , .

Employment with an Audit Client (290.133) , .

' ..
If a former member of the audit 'team or partner of the firm h?s joined 'the udit
client in such a position and sign ficant connection remain between the firm and
. the individu al, the threat would be so significant that no safeguards could reduce
the threat to an acceptable level. Therefore, independence would be deemed to be
compromised if a former. member of the audit team or partners joins the audit,
client as a director or officer, or an mployee in a position to exert significant
influence over the preparation of the_client' s accounting records or the financial
statements on which the firm will ,expressan op\nion; unles :

.. . . ..
 ..
. -. .
 ProfessionalEthics 133
a) The individua l is not any enefits or payments from the finn
entitled t . b
o
unless madem accordance with fixed pre-detennined arrangements
and any amount owed to the individual is not material to tl1e finn; and '
b) The indi.v.idua.l does not cont·1nue to part'1c·1pate or appear to part1· c1·
pate ·m the finn business or professional activities.

Ifa fonner.partner of the firm has previously joined an entity in such a position
and the entity su sequently bec mes an audit client of the finn, the significance
of any threat t? •_ndependence s hall be evaluated and safeguards applied when
necessary to ehmmate the th eat or reduce it to an acceptable level. Examples of
such safeguards include: •

• Removing individual from the audit team; or

• A review of any significant judgments made by that individual while on the
team
,.
Temporary Staff Assignments (290.140)

Generally, the lending of staff by a firm to an audit client may create a self
review threat. However, such assistance may be given for only a short period of
time and the firm's personnel shall not be involved in:
(a) Providing non-assurance services that would not be pennitted under this
code, or
(b) Assuming management responsi bilities.
..
The sig nificanc·e of any threat shall be evaluated and safeguards applied when
necessary to eliminate or reduce the threat to an acceptable level. Examples of
such safeguards include:
1.) Conducting additional review of the wor)< performed by the loaned staff;
2) Not focluding the loaned staff as the member of auditing;
;) Not giving the loaned staff audit respons_ibil ity for any function that the
staff performed during the temporary staff assignment; .

.. •,
· 134 Chaptu 5

Providing Non-attest Services (290.154)

While the CPAs should not perfonn management functions or make management
decisions for the attest client, they may provide advice, research materials, and
recommendations to assist the client. In such circumstances, the client must
agree
to
I) Assume all management responsibilities
2) Oversee the servi by designing an individual, preferably within senior
management, who possesses suitable skill, knowledge, and/or experience.
3) Evaluate the adequacy and results of the services performed.
4) Accept responsibility for the results of the services.
5) Establish and maintain internal control, including monitoring ongoing
activities.
. .
Given the rules, there are certain activities that CPA firm personnel cannot
perfonn for the firm to retain independence with respect to the client. Examples
of these prohibited activities include ·
1) Setting policy or strategic direction for the client.
2) Directing or accepting responsibility for the actions of the client's
employees, expect as allowable for using internal auditors to provide
assistance. ·
3) Authorizing, executing, or consummatir:ig a transaction.
4) Preparing source documents (e.g., purchase order·s,payroll time records,
and customer orders·). ·
5) Having custody of client assets.
6) Supervising client employees in their normal recurring activities.
7) Performing ongoing evaluations of the client's internal contro as part of
jt moni oring activities................................................,
\
. .

Preparing Accounting Records and Financial Statements(290.164)

Providing an audit client with accounting and bookkeeping services ·such as

preparing accounting records and financial statements creates a self-review threat
when-t he firm subsequently audits the financial statements.
. ,

The fif!ll· m_ay p_rovide services related to the preparation 9f accounting records'_,
and financial statement·s to an audit client that is not a public interest entity
where the services are of a routine or mechanical creature, so long as any self
review threat created is reduced to an acceptable level. Examples of such se_rvice .
include: ·. . ··- .-· · .• · ·
- .. ,·
 .
Professional Ethics 135

I) Payroll services based on client-originated data·

2) Recording transactions for which the client ,;as determined or approved 1

the appropriate account classification· ·

3) Post ng tr nsactions coded by the clie'nt to the general ledger;
4) Postmg client-approved entries to the trial balance· and
5) Preparing financial statements based on informati n in the trial balance.

Except in emergency situations, a firm shall provide to an audit clientthat is a

puh ic inter st entity accounting and bookkeeping services, including payroll
services, or prepare financial statements on which the firm will express an
opinion or financial information which forms the basis of the financial
statements. This may be the case when

a) Only the firm has the resources and necessary knowledge of th client's
sy tems and procedures to assist the client in the timely·preparation of its
accounting records and financial statements, and
b) A restriction on the firm ' s ability to provide the services would res':1lt in
significant difficulties for the client (for example, as might result from a'
failure to meet regulatory reporting requirements).

In such· sit ations,the following conditions shall be met:

1) Those who provide the services are not members of the audit team;.
2) The services are provides for only a short period of time and are not
expected to recur; and
3) The situation is discussed with those charged with governance.

Valuation Services (290.171)

Performing valuation services for an audit client may create a self-r,eview thr at.
The significance of any threat created shall be evaluated a safeguards applied
when necessary to eliminate or reduc the threat to an acceptable level.
Safegu rds may include: ·

a) Review of the audit or valuation work performed by another professiona

not involved i11 providing the service. . . . ..
b) Making arrangements that the personnel prov1dmg the serv• does not
participate in the audit
 ·136 Chapter 5

Tax Return Preparation (290.177)

Providing tax return preparation serv ic .d?es not g nera lly cre te a !hreat to
independence if client takes respons1b1ltty or th.e returns mcludm g any
significant judgment made. Tax. re urn pr parat,on se,rv c s are general.ly based
on historical information and principally mvo lved analysis and presentation of
such historical information under existing law, inc luding precedents and
established practice. Furthe rmore, the tax returns re subject to review or
approval processthat the tax authority deems appropriate.

Internal Audit Services (290.190)

The provision of the internal audit services to an audit clie nt creates a self-review
threat to independence if the firm uses the internal audit work in the course of a
subseque nt external audit. The significance of the threat shall be evaluated and
safeguards applied when necessary to elimin te or reduce the threat to an
acceptable level. An example of such a safeguard is using professionals who are
not member of the audit team to perform the internal audit service.

If the external auditor's personnel assumed a management respc;msibili ty when

providing internal aud it services to an audit clie nt, the threat created would be so
significant that no safeguards could reduce the threat to an acceptable level.

IT System Services (290.196)

Providing system se rvices may create a self-review threat or threat to

independence depending on the nature of services and the IT systems. The
significance of any threat shall be evaluated and safeguards applied when
necessary to eliminate or reduce the threat to an acceptable level. An examp le of
such a safeguard is having a professional accountant review the audit or non
assurance work.

Litigation Support Services (290. 02)

Litigation supp or·t services may inclu de activities s1:1ch as acting as an ·expert
witness, calcu lating estimated damages that might become receiva ble or payable
as the result of the litigation or other legal dispute and assistance with
document management and retrieval. These services may create a self-review or
advocacy threat. The significance of any threat created shall be evaluated and
safeguards applied when necessary to eliminate or reduce the threat to an
acceptable level.
 1 Professional Ethics 137

itigationinvo h· ing the public accounting finn and the client also may affect the
independence of CPAs. The relationship between··the CPAs an·d client
man gem nt ust be ch3J"8ctcrized by complete candor and full disclosure. A
relationship v,th these charact ristics may not exist when litigation places the
CPAs _and _ hc t m ageme t m an adversarial position. CPAs in litigation,
or potcnttal ht,gatton. with a chent must evaluate the situation to determine
whether
the significance of the litigation nfTect the client's confidence in the CPAs or the
CPAs obje_ct_i v ity.

Legal Se n 1ices (290.204)

Legal services that support an audit client in executing legal action (e.g., •legal
advice , legal due diligence' a nd restructuring) may create self-review threats.
The significance of any threat created shall be evaluated and safeguards applied
when necessary to eliminate or reduce the threat to an acceptable level.

Recruiting Senices (290.209)

Providing recruiting services to an audit client may create self-interest,.

familiarity or intimidation threats'. The existence and significance of any threat
will depend on factors such as: · ·
• the natu ofthe requested assistance; and
• the role of the person to be recruited

The significance of any threat created shall be evaluated and safeguards applied
when necessary to eliminate or reduce the threat to an acceptable level. •
,
The finn may generally provide such services a·s reviewing the professional
qualification of a number of applicants and providing the advice on their
suitability for the post. The finn may al .o inte,:view and advise _o_n candidate's
competence for financial accounting , admm1strat1ve or control pos1t1ons.

Fees and Other Types of Rem.' uneration

Fees -.Relative Size (290.215). ·

A professional accountant in public practice may quote w atever fee deemed to

be appropriate. Howeve r, a self- in_terest threat to profess1ona competence
and due care is created if the fee quoted 1s so low that 1t may be difficult to
perfonn the engagement in accordance with appli abl technical and professiona
l
. standards for that price.. I •
•,. ·.
 138 Chapter 5
. . "'essional accountant in public practice may receive
In certain circumstances, a pro•• . . h.
a referral fee or commission relating to a chent._ Acceptmsue_ a. reerrfa 1. ee or
comnu•ss,•on 1&-o. f goods or services to a client may gave rise to s el - mterest
I eo . .
r sa
ra tet s o. ti·vity
o e andc professional competence and due care. • d The significance
o f th e thh reah t shall be evaluated and safeguards app11 e to
1 · ·
e 1 m mate t e t reat or
reduce it to an acceptable level. Examples of such safeguards are:
• Disclosing to the client any arrangements to pay a referral fee to another
professional accountant for the work preferred.
• Disclosing to the client. any arrangements to_receive a referral fee for
referring the client to another professional accountant in public practice.
• Obtaining advance agreement from the client f.orcommission arrangeme_nts
in connection with sale by a third party of goods or services to the client.

Fees - Overdue (290.218)

If fees owed by a client to a public accounting firm are long overdue, it may
appear that the firm's prospects for collection depend upon the nature of the
CPA's report on the current financial statements. Thus, the public accounting
firm' s independence i·s considered impaired if fees for professional services
rendered more than one year prior to the audit report date for the current
year's audit have not been collected before issuance of the CPA's report for th
current year.

C ntingent Fees (290.219)

Contingent fees are fees calculated on a predetermined basis relating to the ;.
outcome of a transaction or the result of the services performed by the firm. A fee
is not regarded as being contingent if established by a court or other public
authority.
.
Compensation and Evaluation Services (290.223) • ·
A self-interest threat is created when a member of an audit team is evaluated on
or compensated for selling non-assurance services to that udit client. The
significance of the threat shall be evaluated and if the threat is not. at an
acceptable level, the firm shall either revise the compensation plan or evaluation
process for that individual or apply safeguards to eliminate or reduce the threat to
an acceptable level. Examples of safeguards are: _ ' . ':
·1. Removing such members from the audit team; or
2. Having .a professional accountant review the work of the member of the
audit team
 Professional Elh/cs 139
RESOLVING ETHICAL CONFLICT

The professional accountant may be required to resolve a conflict in complying

with the fundamental principles.

\Vhen initiating either a fonnal or infonnal conflict resolution process, the

following factors, either individually or together with other factors, may be
relevant to the resolution process:
a) Relevant facts;
• b) Ethical issues involved;
c) Fundamental principles related to the matter in question;
d) Established int.emal procedures; and
e) Alternative courses of action.
. .

Having considered the relevant factors, a professional accountant shall

determine the appropriate course of action, weighing the consequences of each
possible course of action. If the matter remains unresolved, the professional
accountant may wish to consult with other appropriate persons within the firm
or employing organization for help in obtaining resolution.