Chapter 3

Judgmental and
Ethical Decision-
Making
Frameworks and
Associated
Professional
Standards

Copyright © 2012 South-Western/Cengage Learning

Audit Opinion Formulation Process
LO 1: Framework for Professional
Decision-Making
 LO 2: Accepting a Public Trust
• To maintain the public’s trust, public
accountants must act with professional
integrity
• Ethical problem occurs when an individual is
morally or ethically required to take an
action that may conflict with his or her
immediate self-interest
• Ethical dilemma occurs when there are
conflicting moral duties or obligations
 LO 3: Ethical Theories 道德理论
• Utilitarian theory—an action is ethical if it achieves
the greatest good for the greatest number of people.
Utilitarianism requires:
– Identify potential problem and courses of action
– Identify potential impact of actions on each affected party
– Assess the desirability of each action
– Perform overall assessment of the greatest good for the
greatest number
• Problems with utilitarianism include:
– Disagreement about the likely impact of actions
– Problems measuring the “greatest good"
– Assumption that the ends achieved justify the means
 Rights Theory
• Rights theory—evaluates actions based on the
fundamental rights of the parties involved. Uses a
hierarchy of rights where higher-order rights take
precedence over lower-order rights
• Rights theory requires the rights of affected parties be
examined as a constraint on ethical decision making.
• It is most effective in identifying outcomes that
should be eliminated or identifying situations in
which the utilitarian answer would be at odds with
most societal values
LO 4: An Ethical Framework (Using the
Utilitarian & Rights Theories)
• Identify the ethical issue(s)
• Determine the affected parties and identify their rights
• Determine the most important rights
• Develop alternative courses of action
• Determine the likely consequences of each proposed course of
action
• Assess possible consequences including estimation of the
greatest good for the greatest number
• Determine whether rights framework would cause any action
to be eliminated
• Decide on appropriate course of action
LO 5: The Sarbanes-Oxley Act of 2002
as a Reaction to Ethical Lapses
 International Ethics Standards
Board for Accountants
• The IESBA Code of Ethics require
accountants to adhere to five fundamental
principles:
– Integrity
– Objectivity
– Professional Competence and Due Care
– Confidentiality
– Professional Behavior
 LO 6: The AICPA Code of
Professional Conduct
• The AICPA Code of Professional Conduct
provide guidance and rules to all members
• Provide the basis for the rules of conduct
• Rules of Conduct are specific guidelines that
reflect the broad principles of the profession
• RULINGS are issued in response to member
questions about specific situations
 The AICPA Principles of
Professional Conduct (continued)
• Responsibilities—members should exercise sensitive
professional and moral judgment in all their activities
• Public interest—members should act in a way that
serves the public interest, maintains public trust, and
shows commitment to professionalism
• Objectivity and independence—members should be
objective and free of conflicts when performing
professional responsibilities. Members in public
practice must be independent in fact and appearance
when providing attestation services
 The AICPA Principles of
Professional Conduct (continued)
• Integrity—members should perform all professional
responsibilities with the highest sense of integrity
• Due care—members shall observe the profession’s
ethical and technical standards, strive to improve
competence and quality of services provided, and
discharge professional responsibilities to the best of
their ability
• Scope and nature of services—members in public
practice shall observe the principles of the Code of
Professional Conduct in determining the scope and
nature of services to be provided
 The AICPA Rules of Conduct
Rule 101: Independence 独立
Rule 102: Integrity and Objectivity 完整和客观
Rule 201: General Standards 通用标准
Rule 202: Compliance with Standards 符合标准
Rule 203: Accounting Principles 会计原则
Rule 301: Confidential Client Information 机密客户信息
Rule 302: Contingent Fees 因情况而定的费用
Rule 501: Acts Discreditable 行为不可信
Rule 502: Advertising and Other Forms of Solicitation 广告和其他形式的征
求
Rule 503: Commissions and Referral Fees 佣金和介绍费
Rule 505: Form of Organization and Name 组织形式和名称
 Independence – Rule 101
• Rule 101: “A member in public practice shall
be independent in the performance of
professional Services as required by standards
promulgated by bodies designated by the
Council”
– The auditor is required to be independent when providing
attestation services. The standards for providing consulting,
tax, or bookkeeping services do not require independence
– There are several interpretations that provide more detailed
guidance on the application of Rule 101
 Independence – Rule 101
• Independence would be considered impaired if during
the period of engagement, a covered member had, or
was committed to acquire, a direct or material indirect
financial interest in an attestation client
• Covered member is defined as
– An individual on the attest engagement team
– An individual in a position to influence the attest
engagement, or
– A partner in the office in which the lead attest engagement
partner primarily practices in connection with the attest
engagement
 Independence – Rule 101
• A covered member’s immediate family is also subject
to Rule 101 with some exceptions
• Independence would be considered impaired if a
member holds key positions with attest clients during
the period covered by the financial statements or the
period of engagement
• A covered member’s independence would be
considered impaired if a close relative is employed and
has a key position with the client or has a material
financial interest in the client of which CPA has
knowledge
Integrity and Objectivity - Rule 102
• Requires members to act with integrity and
objectivity, be free of conflicts of interest, and
not knowingly misrepresent facts or
subordinate their judgment to others
• Rule applies to performance of all professional
services by all members
 General Standards - Rule 201
• Members shall provide only those services that they
are able to perform with professional competence
• Members shall exercise due professional care in
performance of services
• Professional services shall be adequately planned and
supervised
• Members must gather sufficient relevant data to
provide a reasonable basis for any conclusions or
recommendations rendered in connection with
professional services
• Applies to all services provided by all members
 Confidential Client Information -
Rule 301
• In order for an auditor to develop a complete
understanding of the client, there must be a free flow
and sharing of information between client and
auditor. To ensure this happens, the client must be
assured that the auditor will not communicate
confidential information to outside parties
• Rule 301 prohibits members from disclosing
confidential client information obtained during an
engagement except with client consent
 Confidential Client Information -
Rule 301 - Exceptions
• Disclosures required by GAAP or GAAS
• Comply with subpoenas or summons or to comply
with applicable laws and government regulations
• Provide information for outside review of firm’s
practice under PCAOB, AICPA, or State Board of
Accountancy authorization
• Initiate a compliant with, or respond to inquiries
made by, recognized investigative and disciplinary
agencies (including the AICPA, state CPA societies,
State Board of Accountancy)
 Contingent Fees - Rule 302
• Contingent fee - fee for the performance of a service
where the collection or amount depends on whether a
specified finding or result is attained
• Contingent fees are prohibited for any service
provided to an attestation client. Why? Such
contingent fees would give the auditor a financial
interest in client results
 Commissions and Referral Fees -
Rule 503
• Members in public practice are prohibited from
receiving commissions for recommending products
and services to attest clients. Why? The commission
gives the auditor a financial interest in his/her client’s
decisions
• Commissions are allowed for recommending
products or services to non-attest clients, but must be
disclosed to the client
• Members may pay or receive fees for referral of any
professional services (including attest services) as
long as the client is notified of the fee
 Enforcement of the Code 执行守则
• Members who violate the AICPA code may have
their membership terminated
• Members who violate a State Board of
Accountancy’s code are subject to disciplinary action
including suspension or revocation of the member’s
certificate and license to practice
• If the State Board suspends the member’s certificate,
it can mandate conditions, such as additional
continuing education, that must be satisfied before the
member’s certificate is reinstated
 LO 7: Independence Rules of the
SEC and the PCAOB
• SEC and PCAOB have established
independence guidance and rules that
apply to auditors of publicly held
companies
• The SEC has taken a principles-based
approach in dealing with independence issues
Independence Rules of the SEC and
the PCAOB
• Auditor independence is impaired when
– mutual or conflicting interest between the
accountant and the audit client is created
– accountant is placed in the position of auditing his
or her own work
– accountant is acting as management or an
employee of the audit client
– An accountant is placed as an advocate for the
audit client
 Prohibited non audit services
• Bookkeeping or other services related to the
accounting records of audit client
• Financial information systems design and
implementation
• Appraisal and valuation services, fairness opinions, or
contribution-in-kind reports
• Actuarial services
• Internal audit outsourcing services
• Management functions, etc
 LO 8: Further Considerations
Regarding Auditor Independence
• Independence is the cornerstone of auditing
profession
• Auditors must be independent
– in fact—objective and unbiased in their actions
and
– in appearance—perceived by knowledgeable users
of financial statements as independent
 LO 9: Major Threats to
Independence
• Compensation schemes
• Who is the client?
• Familiarity with the client
• Time pressures
• Rationalizing behavior
• Providing nonaudit services
 LO 10: Managing Threats to
Independence
• Establishing and monitoring corporate codes of
conduct
• Developing appropriate compensation schemes
• Implementing high-level reviews of decisions to
accept or retain clients
• Separating consulting activities from audit activities
• Performing within-firm reviews of audit work and
audit documentation
• Performing reviews and inspections within the
profession
Important Role of Audit Committees
• Oversight of engagement of company’s
external auditor
• Overseeing auditors independence
• Preapprove permitted services provided by
auditor
• Require firms to communicate certain
information related to the firm’s independence
 LO 11: The Role of Professional
Skepticism in Auditors’ Judgments
• International Standard on Auditing 200 states
that “independence enhances the auditor’s
ability to act with integrity, to be objective and
to maintain an attitude of professional
skepticism”
• U.S. auditing standards define skepticism as
involving “an attitude that includes a
questioning mind and a critical assessment of
audit evidence”
The Role of Professional Skepticism
in Auditors’ Judgments
• According to international standards, professional
skepticism includes being alert to, for example:
– Audit evidence that contradicts other audit evidence
obtained
– Information that brings into question the reliability of
documents and responses to inquiries to be used as audit
evidence
– Conditions that may indicate possible fraud
– Circumstances that suggest the need for audit procedures in
addition to those required by the ISAs
The Role of Professional Skepticism
in Auditors’ Judgments
• Professional skepticism is important because without
it auditors are susceptible to accepting weak or
inaccurate audit evidence
• An auditor who is professionally skeptical will do the
following:
– Critically question contradictory audit evidence
– Carefully evaluate the reliability of audit evidence
– Reasonably question the authenticity of documentation.
– Reasonably question the honesty and integrity of
management
The Role of Professional Skepticism
in Auditors’ Judgments
• According to international standards, professional
skepticism includes being alert to, for example:
– Audit evidence that contradicts other audit evidence
obtained
– Information that brings into question the reliability of
documents and responses to inquiries to be used as audit
evidence
– Conditions that may indicate possible fraud
– Circumstances that suggest the need for audit procedures in
addition to those required by the ISAs