Question

You own your own CPA firm

You have a new client

Medium size business

You signed 5 year audit contract worth $500,000 annually

Have 3-4 other CPA’s to help with your audit and opinion. (Your classmates)

Contract has a completion date with penalties if not met.

Business is manufacturing with several subsidiaries

Audit goes well for first year and you issue unqualified opinion.

Bonuses to all 3-4 CPA’s on team

You just bought a new home and are expecting a new child soon. Spouse quits work as this client is a gold mine with extra services, etc.

Previous CPA firm lost contract for audit. No major issues with previous CPA firm.

New entity appears on bank records in 2nd year with substantial income. New entity appears to be the illegal activity we discussed in class.

Answer the following question in detail. And use some codes or sources to prove you opinion.

1. What steps are you required to take as a licensed CPA?

2. Do you continue with the audit if you are under contract?

3. Do you report the illegal activity?

4. What is your liability if you do not report the illegal activity to th proper authorities?

5. How do you personal ethics come into play here?

Answer 1

Ans-1) Firstly, the auditor needs to perform adequate audit procedures to confirm if illegal acts have been committed by the client or not. Generally, there are no specific audit procedures to identify illegal acts and hence, the auditor needs to use professional skepticism to identify the illegal activities. Once identified, the auditor needs to consult with the management and in case management itself is involved, then, it needs to consult with the audit committee.

2) If the auditor concludes that an illegal act has a material effect on the financial statements, and the act has not been properly accounted for or disclosed, the auditor should express a qualified opinion or an adverse opinion on the financial statements taken as a whole, depending on the materiality of the effect on the financial statements. If the auditor is precluded by the client from obtaining sufficient appropriate evidential matter to evaluate whether an illegal act that could be material to the financial statements has, or is likely to have, occurred, the auditor generally should disclaim an opinion on the financial statements. If the client refuses to accept the auditor's report as modified, then, the auditor should withdraw from the engagement and indicate the reasons for withdrawal in writing to the audit committee or board of directors.

3) The illegal activity should be first reported to either the management and in case even the manegement is involved, then it should be reported to the audit committee.

4) If you do not report the illegal activity to the proper authorities, and later, the authorities gets to know about it, then, you may have to pay a hefty fine, and your license might get revoked.

5) Personal ethics is very much important here. As a licensed CPA, you take an ethics exam every 2 years. Also, you take an oath as a licensed CPA that you will abide by the rules and regulations of the professional conduct and will always endeavor to uphold the honour and dignity of accounting profession.

You may refer to PCAOB auditing standards Section AU 317 for more information on detection of illegal activities.