Test Your Knowledge of Professional Ethics

eriodically, the JofA publishes questions on ethics topics that have been raised by AICPA members. This set deals with interpretations under Rule 101—Independence and other provisions of the Code of Professional Conduct.*

QUESTIONS

Independence

1. On October 31, 2000, a member made a loan with a five-year term to a tax client. The loan was secured by a mortgage on the client’s personal residence. For the year ended December 31, 2000, the client requested the member prepare personal and corporate tax returns, and perform a compilation engagement for a closely held corporation of which the client was the president and a 25% shareholder. In providing these services, was the member in violation of the independence rules of the Code of Professional Conduct?

Yes No

2. A small nonpublic entity with only a part-time bookkeeper engages a member to perform accounting services. On a monthly basis, the member classifies, codes and enters cash receipts and disbursements into the client’s computerized general ledger. The client has asked the member to provide a review report on the financial statements for the period for which the member provided accounting services. Is the member’s independence considered to be impaired?

Yes No

3. An audit client asks a member to perform bookkeeping services that include accepting responsibility for signing client checks in some emergency situations. Would the performance of these services impair the member’s independence?

Yes No

Other Code Provisions

4. Members who own CPA firm X establish a joint venture with a group of financial planners in which they own 60% of Company Y, a financial advisory firm. The financial planners who own the other 40% of the entity provide all the services to Company Y clients. If Company Y receives commissions for referring financial products to audit and attest clients of CPA firm X, may the members accept their portion of such commissions without violating Rule 503—Commissions and Referral Fees—of the Code of Professional Conduct?

Yes No

5. Members X and Y, each a sole proprietor, will jointly perform an engagement but have not legally formed a partnership to do so. They intend to use a joint letterhead (“X&Y CPAs”) for this engagement. Will this be permissible under the Code of Professional Conduct?

Yes No

6. A member’s audit client sponsors an employee benefit plan. The member provides no attest services to the plan. May the member provide investment advisory services to the plan under a contingent fee arrangement?

Yes No

7. A member in industry disagrees with management over how to record a particular transaction that has a material impact on his or her employer’s financial statements. Are there any actions that the member should take in this situation?

Yes No

ANSWERS

1. No. Although the member impaired his or her independence by lending money to the client during the period of the professional engagement, he or she is not required to be independent when performing an engagement to issue a compilation report. However, AR section 100.22 requires the member to disclose his or her lack of independence in the report without giving the reason for the impairment. Tax preparation services do not require independence; however, the member should maintain objectivity and avoid conflicts of interest in the performance of any service. (See Rule 102—Integrity and Objectivity; interpretation 101-1.A.4 of Rule 101—Independence; and ruling 74, ET section 191.148–49.)

2. Yes. By classifying and coding transactions, the member is considered to be performing management functions; therefore, independence would be considered to be impaired. If, however, the client determines or approves the account classifications and transaction coding, independence would generally not be considered to be impaired. (See interpretation 101-3 of rule 101.)

3. Yes. By accepting responsibility for signing checks on behalf of the client —even if only in emergency situations—the member would be accepting responsibility for performing a management function that impairs independence. (See interpretation 101-3 of rule 101.)

4. No. Since members of CPA firm X control Company Y, they cannot accept any commissions for referral of financial products to audit and attest clients since such action would violate rule 503 of the Code. According to interpretation 505-2 of Rule 505—Form of Organization and Name, all the owners and employees of firm X must comply with all the provisions of the code.

5. No. The use of a joint letterhead would be considered misleading because a true partnership does not exist. (See ruling 134, ET section 591.267–268.)

6. Yes. The member may provide investment advisory services to the plan for a contingent fee and not be in violation of Rule 302—Contingent Fees. The member should consider Interpretation 102-2, Conflicts of Interest, of rule 102 and his or her professional responsibility under Rule 301—Confidential Client Information.

7. Yes. The member should consider whether the transaction was properly recorded under an acceptable alternative. If after thorough consideration he or she concludes that the transaction was not properly recorded and that the financial statements may be materially misstated, the member should bring these concerns to the attention of one or more levels of senior management and document the matter accordingly. If management subsequently does not take suitable action, the member may wish to consider his or her continuing relationship with the employer and any responsibility he or she may have to communicate such information to other parties, such as regulators or the employer’s external auditor. The member is specifically cautioned to consider consulting with legal counsel in connection with such communications. (See interpretation 102-4 of rule 102.)

Edited by William L. Keenan, technical manager and Catherine Allen, senior manager, independence and special projects, in the AICPA professional ethics division.

*This quiz is based on responses of the AICPA professional ethics division staff to members’ inquiries. It is not a pronouncement of the professional ethics executive committee nor does it purport to set forth an official position of the AICPA. In addition, the questions and answers do not address the requirements of other regulatory bodies, such as the state boards of accountancy, the Department of Labor and the Securities and Exchange Commission, whose positions may differ from those of the AICPA. (Text references to ET and AR sections are from Professional Standards, AICPA.)