How much chatting needs to take place between the CPA firm and its client, so that the CPA firm avoids being trapped by Interpretation 101-3?
How much training? How much documentation showing that the client actually understands, accepts, and assumes responsibility for each every transaction as recorded on the books the company and is reflected in the financial statements?
Although Interpretation 101-3 is being clarified by the AICPA, the exposure draft for the clarification doesn’t really address the real issue. The real issue is, how to find a balance between the necessity of having the CPA firm be involved in client accounting, while the same time maintaining independence. When the client does not necessarily have a high level of sophisticated accounting talent on board, somebody has to do the work. In order to make sure that the responsibility ultimately rests with the client, Interpretation 101-3 seems to require the CPA firm to spend time discussing detailed accounting transactions and protocols with non-accountant client personnel. Discussing, chatting, training.
Discussing, chatting and training doesn’t always work though. In my fall webinar on the subject of compilations and reviews, we look at three cases involving CPAs who insisted that they spent enough time making sure that their clients understood and assumed responsibility for the underlying accounting, so that they were independent despite the performance of some non-attest services.
In the first case, Baisden v. Cal. Bd. of Accountancy, the CPA actually incorporated the client, and set up its chart of accounts. The client provided him with bank statements, which he used to prepare books original entry and then develop them into financial statements. He provided a compilation letter which did not disclose a lack of independence.
When questioned about this by the state board of accountancy, the CPA insisted that he maintain his independence by discussing the substance of the check transactions with the client. Even though the CPA insisted that the client assumes full responsibility for the accounting and the financial statements, other evidence (including testimony by the client) indicated that the CPA seemed to have assumed responsibility for the nuts and bolts of the client’s financial accounting. The CPA license was revoked.
The other two cases involved creditors who relied upon financial statements reviewed by CPA firms. Am. Trust & Sav. Bank v. Phila. Indem. Ins. Co. involves a bank that made commercial loans to Wisconsin creamery after relying upon the creamery’s financial statements. Master-Halco, Inc. v. Scillia, Dowling & Natarelli, LLC involves a manufacturing of fencing materials that extended credit to one of its customers. In both cases, the debtors provided financial statements that were reviewed by CPA firms. And in both cases, after the debtors became insolvent, the CPA firms were sued. Among the allegations were charges that the CPA firms violated Interpretation 101-3.
The CPA firms in both of these cases made life easier for the creditors attorneys by having sent invoices that detailed their non-attest services. The bank’s customer for example was invoiced by the CPA firm for such services as, “beginning 2003 balances and accrual entries; cash and bank reconciliations and set up of the chart of accounts and general ledger.” Similarly, the fencing manufacturers customer was billed by its CPA firm for “work related to creation of work and process schedules” and “allocation in recalculation of work in process schedules, regrouping of accounts.”
Despite the detailed invoices and obvious performance of non-attest services, the CPA firms in both of these cases insisted that they work closely and carefully with personnel at each respective client to ensure that the client understood, accepted and assumed responsibility for the accounting and for the financial statements.
Given the practical necessity for CPA firm involvement in client accounting procedures and protocols, what can be done to navigate the narrow waters of Interpretation 101-3? More careful invoicing? More comprehensive documentation of the discussing and the chatting and the training? These are the questions that these three cases raise.
The Fall 2011 Compilations & Reviews:Cases, CONTROVERSIES, & Ethics takes a look at these three cases through both an accounting lens and an ethics lens. The original broadcast takes place on Tuesday October 25, 2011 at 9:30 am. For more information and to register, see https://www.michcpa.org/Aptify/Meetings/Meeting.aspx?ID=6417