D1- basics and code of ethics 2.0

Question 1

Types of ethical threats :

Answer 1

1. self-interest
2. intimidation
3. familiarity
4. advocacy
5. mgmt.
6. self-review

Question 2

mgmt. threat

Answer 2

• this is when auditors assumes mgmt. responsibility and act as mgmt.
• they perform tasks and duties which mgmt. does in reality

Question 3

Intimidation threat

Answer 3

• this threat arises when auditor feels perceived or actual pressure from the client and overlooks audit issues to not upset client and lose them.

Question 4

Self-interest threat

Answer 4

• When auditors holds a financial or personal interest in the client and utilizes that to keep client satisfied by overlooking audit issues. Thus, compromises on his objectivity and independence due to conflict of interest and undue influence by others

Question 5

Fee dependency gives rise to

Answer 5

self interest and intimidation threat
- coz firm relies too much on particular client becoz they contribute majorly to revenue of firm so they have financial interest and they don’t want to lose them - intimidation threat

Question 6

Actions for fee dependency

Answer 6

• As per code, audit fee cannot be more than 15% of firm’s total income for 2 consecutive years
• threat also arises if fee is high in 1st year
• Disclose to TCWG about it and have arrangements confirmed with them to reduce it
• have a professional accountant who is not from firm to express opinion on 2nd year’s F.S or review engagement or have it done by professional body [ before issuing 2nd year’s audit opinion]
  OR
  -have a professional accountant who is not from firm to express opinion on 2nd year’s F.S or review engagement or have it done by professional body to review 2nd year’s audit , similar to post-issuance review [ after issuing 2nd year’s audit opinion and before issuing 3rd year’s audit opinion]

Question 7

Gifts and hospitality gives rise to

Answer 7

• self-interest threat, familiarity threat
  and intimidation threat
• Auditors has self-interest in client after accepting gift and feels indebted to return favor back

Question 8

actions for Gifts and hospitality

Answer 8

• As per code, accept only gifts and hospitality that is trivial and inconsequential in value
• disclose details of offer to TCWG and whether firm accepted it or not and reasons for it
• Document details of offer [whether firm accepted it or not] and reasons for accepting or not accepting offer

Question 9

Loans with the client gives rise to

Answer 9

self-interest and intimidation threat

Question 10

actions for Loans with the client

Answer 10

• As per code, no firm or network firm or audit TM or their immediate family member shall not accept loan or guarantee loan if at biased and preferential terms and conditions
• Loan should not be accepted if given under normal terms but is MATERIAL
• Disclose matter to TCWG
• review loan arrangements to understand whether loan was given at preferential rates and if objectivity has been compromised.
  -Ask members to withdraw from loan agreement if amt material becoz its prohibited by code
• have independent partner review audit work to ensure quality

Question 11

Purchases of goods and services gives rise to :

Answer 11

self-interest and intimidation threat
- If purchase is at arm’s length basis then poses no threat
- but if value of purchase is substantial then it affect’s auditor’s independence

Question 12

Actions for Purchases of goods and services

Answer 12

• Review purchase agreement to understand purchase value
• disclose matter to TCWG
• Ask member to withdraw from potential purchase agreement if amt. is material
• remove individual from team
• have independent partner review individual’s work to ensure no biasness

Question 12

Potential employment with audit client gives rise to

Answer 12

intimidation, self-interest threat and familiarity

Question 13

Positions at client that cause threat

Answer 13

• director or senior officer position
• position which allows individual to exert significant influence over client’s accounting records or F.S

Question 14

Factors to assess the level of risk from threat from potential employment offered by audit client

Answer 14

• individual’s involvement within audit team
• potential job position to be taken at client’s by individual
• length of duration spent by individual as member or partner of firm or network firm
• former audit team member’s position within team ,firm or network firm to assess closeness of individual with client’s senior mgmt. or TCWG

Question 15

Actions for Potential employment with audit client

Answer 15

• If individual plans to join client then must inform audit partner so the team can fully review individual’s work
• Have an independent partner review individual’s work to ensure objectivity was not compromised
• Review and revise audit strategy and plan
• rotate audit team members in way that individual is unfamiliar with any member
• Assign individuals with sufficient competence and experience relative to individual joining the client

Question 16

Over due fees gives rise to

Answer 16

self -interest and intimidation threat
- auditors have financial interest in client if amt. of overdue fees is significant and not paid before issuance of assurance report

Question 17

Actions for Over due fees

Answer 17

• disclose matter to tcwg and come up with settlement of outstanding fees arrangement
• Don’t provide any service for the current year until over due fees has been received from client
• have an independent partner review the audit work and ensure team is not providing services to client until overdue fees has been settled.

Question 18

Referral fees gives rise to

Answer 18

self interest threat
- audit firm has financial incentive to earn additional fee of referral along with audit fee and may recommend a random and unprofessional firm without considering its competence to the audit client
- This is where audit firm recommends other firms to the client if they need other services

Question 19

actions for Referral fees

Answer 19

• disclose to 3rd party / referred company about the referral fee arrangement
• disclose to client about the referral fee or commission arrangement to be received or to be paid to professional accountant or referred company for recommending goods and services to them.
  -Disclose to TCWG about the referral fee arrangement and work done to assess competence of 3rd party
• have an EQCR review work done on 3rd party

Question 20

Long association with client : non-listed

Answer 20

• Same code will apply to non-listed client
• rotate audit team members and partner at regular intervals which is at min. after every 7 years

Question 21

Long association with client : listed client

Answer 21

Engagement partner can work with client for max. of 7 years and take cooling off period of 5 years
EQCR can work with client for max. of 7 years and takes gap of 3 years
During cooling off period:
EQCR and partner not allowed to participate or be part of audit team, not allowed to communicate with audit team or client, not allowed to be audit partner or give quality review or consultations to client on industry or technical issue
- Cumulative years taken into account when considering long-term association for both audit partner and EQCR.

Question 22

Exceptions to the rule

Answer 22

• Applies only to engagement partner
• If req. rotation is not possible then existing partner can stay for 1 more year on audit of the client
• again obtain TCWG’s consent first
• If client is getting listed and req. rotation is not possible then existing partner can stay for 2 more years on audit of client.
• these exceptions exist to ensure quality of the audit

Question 23

If laws and regulations in client’s framework state that cooling off period will be lower than 5 years then ?

Answer 23

Then cooling off-period will be the higher of the years mentioned in code and the years mentioned in client’s L&Rs

Question 24

Family or close business relation with member at client who is in position to exert significant influence over F.S gives rise to

Answer 24

self-interest
intimidation
familiarity threat
- factors to consider in assessing level of risk :
a) Position of family member at client
b) Role of audit team member

Question 25

actions for Family or close business relation with member at client

Answer 25

• if threat is very high then remove individual from audit team and replace with new independent team member
• if threat is not so high then structure partner’s or audit member’s responsibilities in a way that reduces potential influence over audit engagement
• Disclose to TCWG
• have independent partner review the audit work

Question 25

Secondments give rise to

Answer 25

self-review
mgmt. threat
familiarity threat
-mgmt. threat could arise if audit team member is seconded to senior position at client’s.
- familiarity threat can arise as seconded member will interact a lot with client’s members and begin trusting them.
-Evaluate threat based upon seconded member’s position at client
- No self-review threat if personnel is seconded to production or sales dept. as these activities will have less and indirect impact on the F.S

Question 26

When does audit firm loans personnel to client?

Answer 26

• only in 3 situations:
  a. Secondment is for a short-term
  b. loaned personnel does not assume mgmt. responsibility and client is responsible for directing and supervising seconded member’s work
  c. Loaned personnel is not providing non-assurance services

Question 27

Actions for Secondments

Answer 27

• disclose matter to TCWG and obtain their consent
• conduct an additional review of the seconded member’s work to address self-review
• Remove individual from team to address familiarity and mgmt. threat.
  -ensure seconded member is not given audit responsibility for functions and activities they did during their secondment to address self-review.

Question 28

recruitment services

Answer 28

• involves firm providing recruitment services to client in return for recruitment fee
• self-interest threat as firm holds financial interest to maximize recruitment fee and will not work well to select a suitable candidate as per company’s req.s
• familiarity threat and mgmt. threat

Question 29

types of recruitment services:

Answer 29

-developing job descriptions, identifying and selecting candidates.
-interviewing candidates and negotiating with them T&C of employment like salaries
-undertaking reference checks for prospective candidates

Question 30

Actions for recruitment services

Answer 30

• As per code, provision of recruitment services to listed clients is prohibited (maybe non-assurance)
• As per code, recruitment for director or senior position for both listed and non-listed clients is prohibited— familiarity threat
• As per code, provision of recruitment services to non-listed is allowed
• Have 2 separate team for provision of audit and recruitment service
  -disclose to TCWG and obtain consent
• have an independent partner review audit work

Question 31

Cross-selling of non-assurance services to client gives rise to:

Answer 31

-self-interest threat
- where an audit member for a particular audit client is evaluated on or compensated for selling non-assurance services to that audit client.
-Audit TM has self-interest to sell non-assurance services to client to secure promotion or bonus and may promise favors in return to client if they buy non-assurance services from the firm.
-so audit team can no longer trust this individual and we remove them from the team

Question 32

actions for Cross-selling of non-assurance services to client

Answer 32

-As per code, partners are not allowed to sell non-assurance services to client as they can sell it easily due to their seniority and affects their independence
- As per code, engagement partner cannot be evaluated on or compensated for sale of non-assurance services
-as per code, other team members can cross sell as long as they are approp. safeguards
- remove individual from team after they sold non-assurance services and before that too
- have an independent partner review the individual’s work to ensure no biasness

Question 33

Cross-selling of non-assurance services to client: factors to consider self-interest threat

Answer 33

• role of audit team member
• whether sale of non-assurance services influences promotion decision
• what proportion of evaluation or compensation is based upon sale of non-audit services

Question 34

Custodial services gives rise to:

Answer 34

self-interest threat
-audit firm is earning custodial fee in addition to audit and will do their best to optimizing it and may compromise on their integrity and objectivity
- Where audit client requests firm to safeguard their assets for a period of time in return for a fee

Question 35

What is custodial fee based on ?

Answer 35

• value of the asset to be safeguarded and the duration of time to be safeguarded.

Question 36

actions for Custodial services

Answer 36

• ensure client’s assets are kept separately from personal or firm’s assets
• ensure compliance with L&R in safeguarding client’s assets and accounting for it
  -professional accountant in public practice should use client’s assets for the intended purpose and not for generating other means of revenue from it
  -discuss with TCWG
  -Firm should be ready to be answerable for holding the assets and any income, gains or dividends earnt by anyone entitled to this accounting.

Question 37

Examples of conflict of interest

Answer 37

• representing two clients who are involved in a legal dispute with each other
  -providing services to a vendor and purchaser relating to the same transaction
• Using information gained during the audit and giving it to another client(3rd party) to acquire the audit client
• Advising 2 clients at the same time who are competing with each other to acquire same company

Question 38

2 kinds of conflict of interest

Answer 38

• between audit team members and client
• between 2 different clients

Question 39

Actions for conflict of interest

Answer 39

ALWAYS WRITE THESE 2 FIRST:
a. Disclose nature of conflict of interest arising to both clients who will be affected and obtain their consent for professional accountant in performing the services

b. Disclose nature of conflict of interest arising to the TCWG of both clients and obtain their consent for professional accountant in performing the services
c. have safeguards reviewed on a regular basis by a senior independent partner who is not part of the firm
d. have separate areas of practice for specialty functions within the firm.

Question 40

Why do laws , regulations and standards exist for audit, assurance and other services?

Answer 40

• to regain public’s trust in the services provided
  -to re-establish firm’s reputation after facing multiple high profile audit failures
• due to increase in provision of services becoz of globalization - led to re-examination of laws and standards nationally and internationally
• code of ethics plays regulatory role in governing quality of services due to lower fees being charged by firms to undercut competition in the market.

Question 40

provision of non-audit services to listed client

Answer 40

• As per new code, non-assurance and non-audit services are prohibited from being provided to listed clients

Question 41

provision of non-audit services to non- listed client

Answer 41

Code allows provision of non -audit services to unlisted clients as long as it does not have direct and material impact on the F.S
-Otherwise, code prohibits provision of non-audit services to unlisted client if it has material and direct effect on F.S

Question 42

types of non-audit serivices

Answer 42

-accounting and bookkeeping
-internal audit services
-admin
-valuation
-tax planning
- tax service
-gives rise to self-review and mgmt. threat and advocacy and self-interest threat.

Question 43

tax planning gives rise to

Answer 43

-advocacy threat
- where firm gives advice on how to apply new tax law
- firm advises client to structure money affairs in tax efficient manner

Question 44

actions for tax planning

Answer 44

• as tax authority does not find firm independent of behavior and firm appears to be promoting client’s interest.
  -> so obtain pre-clearance from tax authorities to give tax advice
  -> have professionals who are not part of audit team to give tax advice
  -> have independent partner review audit work
  -> disclose to TCWG

Question 45

accounting and bookkeeping gives rise to

Answer 45

• self-review and mgmt. threat
• includes preparing accounting records and F.S
• recording payroll transactions and accounting transaction
• since its core financial activity and has direct and material effect on F.S - thus not to be provided by firm
• can only provide if its routine and mechanical in nature and does not include auditor’s expertise and judgement

Question 46

actions for accounting and bookkeeping services :

Answer 46

• discuss with TCWG
• Have an independent partner review
• have two separate teams
  for providing audit and non-audit services

Question 46

Internal audit service

Answer 46

• as work deals with I.C over financial reporting so it will have direct and material impact on F.S
• So cannot provide to unlisted clients

Question 47

Admin service

Answer 47

-involves filing in statutory forms
- involves submitting statutory forms on client’s instructions
- monitoring statutory filing date and advising client about it
- does not really create a threat so can provide it

Question 48

valuation services

Answer 48

• it can’t be provided to unlisted clients if following exist:-
  a. involves significant degree of subjectivity
  b. valuations can have a material impact on the F.S

Question 49

actions for valuation services

Answer 49

• use professionals who are not part of audit team to provide service
• have an independent partner review audit work to ensure quality

Question 50

Tax service includes :

Answer 50

• tax return prep service
• tax calculation
• resolving tax related issues