Question

Briefly list and discuss the primary threats to complying with the Independence Rule of the AICPA Code of Professional Conduct.

Answer 1

Independence

Independence is defined as

a. Independence of mind—The state of mind that permits the performance of an attest service without being affected by influences that compromise professional judgment, thereby allowing an individual to act with integrity and exercise objectivity and professional skepticism.

b. Independence in appearance—The avoidance of circumstances that would cause a reasonable and informed third party, having knowledge of all relevant information, including safeguards applied, to reasonably conclude that the integrity, objectivity, or professional skepticism of a firm or a member of the attest engagement team had been compromised.

Threats

Threats refer to certain sitiuation or circumstances which result in compromise of independence in fact or appearence by the auditor while conducting an audit of financial statements.Threats to independence are circumstances that could impair independence of auditor.

Primary threats with the independence Rule of AICPA code of Proffesional Conduct

Many different circumstances (or combinations of circumstances) can create threats to independence. It is impossible to identify every situation that creates a threat. However, seven broad categories of threats should always be evaluated when threats to independence are being identified and assessed. They are as follows:

1. Self-review threat—Members reviewing as part of an attest engagement evidence that results from their own, or their firm’s, nonattest work such as, preparing source documents used to generate the client’s financial statements

2. Advocacy threat—Actions promoting an attest client’s interests or position.

a. Promoting the client’s securities as part of an initial public offering

b. Representing a client in U.S. tax court .

3.Adverse interest threat—Actions or interests between the member and the client that are in opposition, such as, commencing, or the expressed intention to commence, litigation by either the client or the member against the other.

4. Familiarity threat—Members having a close or longstanding relationship with an attest client or knowing individuals or entities (including by reputation) who performed nonattest services for the client.

a. A member of the attest engagement team whose spouse is in a key position at the client, such as the client’s CEO.This threat does not arise from testifying as a fact witness or defending the results of a professional service that the member performed for the client.

b. A partner or partner equivalent of the firm who has provided the client with attest services for a prolonged period

c. A member who performs insufficient audit procedures when reviewing the results of a nonattest service because the service was performed by the member’s firm

d. A member of the firm having recently been a director or an officer of the client

e. A member of the attest engagement team whose close friend is in a key position at the client .

5. Undue influence threat—Attempts by an attest client’s management or other interested parties to coerce the member or exercise excessive influence over the member.

a. A threat to replace the member or the member’s firm over a disagreement with client management on the application of an accounting principle

b. Pressure from the client to reduce necessary audit procedures for the purpose of reducing audit fees

c. A gift from the client to the member that is other than clearly insignificant to the member .

6 Financial self-interest threat—Potential benefit to a member from a financial interest in, or from some other financial relationship with, an attest client.

a. Having a direct financial interest or material indirect financial interest in the client

b. Having a loan from the client, from an officer or director of the client, or from an individual who owns 10 percent or more of the client’s outstanding equity securities

c. Excessive reliance on revenue from a single attest client

d. Having a material joint venture or other material joint business arrangement with the client .

7.Management participation threat—Taking on the role of client management or otherwise performing management functions on behalf of an attest client.

a. Serving as an officer or director of the client

b. Establishing and maintaining internal controls for the client

c. Hiring, supervising, or terminating the client’s employees