Harmonizing the Rules of Professional Conduct: Proposed Changes to the Independence Rules

By Donna Kline / CPABC; published in CPABC in Focus
Published: June/Summer 2014

Note to readers: The original version of this article, written by Donna Kline, appeared in the fall/winter 2013 issue of Spotlight magazine, published by the Chartered Accountants of Alberta. It has been repurposed for a BC audience with permission.

While national harmonization of the professional conduct rules for the three legacy bodies remains a work in progress, some important changes have been proposed for the independence rules that would bring us one step closer. The ICABC membership is being asked to confirm these proposed amendments at its upcoming AGM; if approved, the changes would generally take effect December 15, 2014. CMABC would follow suit thereafter. CGA-BC’s independence rules largely reflect the proposed changes already, and, therefore, no further amendments are being proposed at this time; however, the following outline will serve as a reminder for all.

Rationale

As members of the International Federation of Accountants, Canada’s provincial accounting bodies have agreed that their rules of professional conduct will not be less stringent than those set out in the Code of Ethics for Professional Accountants issued by the International Ethics Standards Board for Accountants, unless it is determined that a particular provision is not in the public interest. The proposed changes to the independence rules would effectively align provincial bodies in Canada with the international code.

A bit of background

The Canadian CA profession’s Public Trust Committee formed an Independence Task Force (ITF) to review the independence provisions. The ITF issued an exposure draft in February 2013, and received comments from various respondents, including regulators, audit oversight bodies, and firms. The most contentious issue in the exposure draft related to the proposed removal of the $10-million “Reporting Issuer Threshold” for fiscal years commencing after December 15, 2018. After considering the feedback on this issue, the ITF determined that the exclusion of smaller reporting issuers from compliance with these rules would be in the public interest.

The ITF stated: “It enables these reporting issuers to receive more accounting and tax assistance from their auditors, who have a detailed knowledge of the business, without the additional expense of retaining others to provide the services. In addition, a large number of small firms audit companies that fall below the threshold; these firms may be unable to comply with the partner rotation requirements because they do not have enough partners with the necessary knowledge and experience to serve as a key audit partner. Subjecting these firms to the partner rotation requirements would have the effect of firm rotation and would, therefore, reduce the market choice for smaller reporting issuers.”

A look at the amendments

Here’s a quick snapshot of the proposed changes.

Clarification

A number of the proposed changes have been made to provide clarification. As well, where there are exceptions or relieving provisions—including those that relate to the financial interests of an immediate family member where the interest is received as a result of employment—these would be moved to the applicable rule from the guidelines.

Listed entities and network firms

The more restrictive independence provisions would apply not only to reporting issuers and public interest entities, but also to “listed entities” that are not reporting issuers. A new definition for listed entities has been proposed: They may be listed inside or outside of Canada but must have assets or market capitalization above the $10-million threshold.

A new definition for “network firms” has also been proposed. Certain independence requirements would extend past the public accounting firm to the network firm. Currently, there is a requirement for being under common control, ownership, or management. Under the proposed amendments, this would be replaced with a test as to whether a reasonable observer would conclude that the firm is part of a larger structure of co-operating entities that shares:

  • Common quality control systems;
  • Common business strategy;
  • A common brand name; and
  • Significant professional resources, including the ability to exchange client data, billing or time records, partners and staff, departments that consult on technical or industry-specific issues, audit methodology or audit manuals, or training.

Tax services provided to audit or review clients

A significant proposed change for practitioners relates to the provision of tax services to audit or review clients. Providing tax planning or other advice would be prohibited where:

  • The effectiveness of the advice depends on a particular accounting treatment or presentation in the financial statements;
  • The outcome is material; and
  • The engagement team has reasonable doubt as to the appropriateness of the treatment or disclosure.

For reporting issuers and listed entities, practitioners would be prohibited from providing or preparing tax calculations of current and future tax liabilities or assets for the purpose of preparing material accounting entries. There would be an exemption for emergency situations; however, the following restrictions would apply:

  • Members of the audit engagement team would not be permitted to provide the service;
  • Practitioners would be prohibited from making management decisions ;
  • The audit committee would have to pre-approve the service;
  • The “emergency” situation could not be expected to recur; and
  • Additional documentation would be required.

In a situation where total revenue from a reporting issuer or listed entity represents more than 15% of a firm’s total revenue for two consecutive years, the firm would not be permitted to perform the audit engagement unless: a) this fact is disclosed to the client’s audit committee, and b) another professional accountant, who is not a member of the firm, performs a review that is substantially equivalent to an engagement quality control review. Also, timing options would be prescribed.

Other proposed changes:

  • The ability for an engagement team member to hold qualifying shares in a social club, co-operative, or similar organization where the shareholding is a prerequisite to membership and certain criteria are met would be extended to credit unions.
     
  • Certain independence requirements would be extended to relationships with the client’s related entities. These prohibitions include close business relationships with related entities (unless limited to an immaterial financial interest), and situations where an immediate family member is an officer or director of a related entity or where a member of the firm served as an officer or director of a related entity. There would be new definitions for related entities—one for reporting issuers and listed entities, a second for engagements to audit or review financial statements, and a third for other assurance engagements.
     
  • The temporary loan of staff to audit or review clients would be permitted for only a short period of time, and could not be made on a recurring basis.
     
  • Partner rotation requirements would apply to “key audit partners.” These comprise the lead engagement partner, the engagement quality control review partner, and other partners who make key decisions/judgments with respect to the audit. The latter would replace partners with more than 10 hours of audit services.
     
  • Practitioners would be prohibited from:
     
    • Providing valuation services that involve a significant degree of subjectivity or relate to amounts that are material to the financial statements unless the valuation is performed for tax purposes only and relates to amounts that will affect the financial statements only through accounting entries related to taxation.
    • Providing internal audit services and information technology systems services to an audit or review client unless specific conditions are met.
    • Providing litigation support services that advance a civil, criminal, regulatory, administrative, or legislative proceeding or investigation with respect to amounts that are material to the financial statements to an audit or review client.
    • Advising clients on corporate finance matters where:
      • The effectiveness of the advice depends on a particular accounting treatment or presentation in the financial statements;
      • The outcome of the advice will materially affect the financial statements; and
      • The engagement team has reasonable doubt as to the appropriateness of the accounting treatment or presentation.
         
  • Emergency provisions for accounting and bookkeeping services, similar to those for tax services, would be set out, and additional documentation would be required.
     
  • It would not be permissible for key audit partners to be evaluated or compensated based on their solicitation or sales of non-assurance services to a particular client or a related entity.

Additional guidance

Two new rules have been proposed that would provide welcome guidance. The first relates to a firm providing non-assurance services to an audit or review client, which would be prohibited by Rule 204 if the client is a reporting issuer or has become a reporting issuer or listed entity. Under the new rule, the firm would be prohibited from performing an audit engagement unless:

  • The provision of the services is discussed with the audit committee;
  • The client reviews and accepts responsibility for the services provided; and
  • Personnel who provide the services do not participate in the audit engagement. Additional documentation would be required.

The second rule deals with client mergers and acquisitions where the firm has a current activity, interest, or relationship, which would be prohibited by Rule 204 after the merger or acquisition. The new rule would provide a way for the engagement to be completed in most situations.

More information online

To familiarize yourself with the independence rules, visit one of the following websites: www.ica.bc.ca, www.cga-bc.org, or www.cmabc.com. Stay tuned for guidance materials, which are currently being developed.