One issue that has kept financial regulators sneakily busy in 2019 is auditor independence. Both the SEC and the Public Company Accounting Oversight Board (PCAOB) have taken steps to clear up a handful of lingering questions on the matter. Here’s a roundup of some of the key developments.
What is a company supposed to do when the rules governing auditor independence are so strict that it can’t find a single auditor qualified to look at its financial statements? Investment company Fidelity apparently found itself in that position in recent years, according to its request for relief to the SEC. Fidelity wasn’t the only financial services provider feeling boxed in by the rules. Relatedly, Ameriprise Financial Inc. included its relationship with accounting firm PwC as a potential risk factor in its latest annual report. Goldman Sachs made a similar disclosure in a filing this year for two of its investment funds.
These predicaments grow out of what was deemed to be an overly restrictive “loan provision” in the SEC’s auditor independence rules. Under the existing rules, auditors can’t maintain lending relationships with shareholders of audit clients. That makes fine sense, but the wording of the prohibition and the reality of the way large financial services firms do business effectively disqualified audit firms from handling their business. In June, the SEC announced a loosening of the rules: “The amendments will more effectively identify debtor-creditor relationships that could impair an auditor’s objectivity and impartiality, as opposed to certain more attenuated relationships that are unlikely to pose such threats, and thus will focus the analysis on those borrowing relationships that are important to investors.”
The changes to the rules will take effect in October.
New SEC FAQs
In June, the SEC’s Office of the Chief Accountant updated responses to frequently asked questions about its rules on auditor independence. Some of the topics covered in the new guidance include:
- Unpaid professional fees;
- Gifts or entertainment to and from clients;
- Prohibited services; and
- The partner rotation rule.
PCAOB Guidance on Communications with Audit Committees
The PCAOB published guidance earlier this year regarding Rule 3526, which addresses communication with audit committees concerning independence. The notice from the Board laid out the compliance obligations for public accounting firms when it comes to discussing relationships that “may reasonably be thought to bear on independence.” It also established guidelines for how accounting firms could “affirm their independence” when they discover that independence rules have been violated. Specifically, the PCAOB guidance detailed the information that firms should supply to clients so their audit committees can determine how violations might impact the independence of the auditors.
SEC Enforcement Action
On July 1, the SEC began enforcement proceedings against accountant Thomas Chang, a partner in California-based accounting firm KCCW Accountancy Corp. The Commission charged Chang with violations of auditor independence rules from 2016 to 2018, stemming from an arrangement in which KCCW paid an undisclosed company a share of the audit fees it collected from clients referred by the company.
Under the terms of his settlement with the SEC, Chang agreed to a cease-and-desist order, a one-year suspension from practicing, and a payment of nearly $28,000 in disgorgement, interest, and penalties.