CHAPTER-04 ETHICS AND ACCEPTANCE

Need for professional ethics –

➢ Professional accountants have responsibility to act in public interest.
➢ Increase the confidence of the intended users, therefore users need
to trust the professional who is providing the assurance.
➢ In order to be trusted the assurance provider needs to be independent
of their client.
➢ Practitioners need to behave and seen in an ethical and professional
manner.
The IFAC and ACCA codes and the conceptual framework –

Both follow a conceptual framework which identifies –

➢ Fundamental principles of ethical behaviour
➢ Potential threats to compliance with these fundamental principles
➢ Possible safeguards which can be implemented to eliminate the
threats identified or reduce them to an acceptable level.
a) Ethical guidance can take either a principle-based approach or rules-
based approach.
b) A conceptual framework relies on a principles-based approach.
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c) Both IFAC and the ACCA adopt a principles-based approach.

Consequences –
a) Practitioners should apply the spirit of the code to everyday practice.
b) Professional bodies such as ACCA have the right to discipline members
to fail to comply with the code of ethics through a process of disciplinary
hearings which can result –
➢ Fines
➢ Suspension of membership
➢ Withdrawal of membership
➢ Ordered to pay costs
➢ Publication of the results of the decision and the member’s name on
the ACCA website
➢ Publication of the results of the decision and the member’s name in
the local press

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The fundamental principles –

➢ Objectivity – Members should not allow bias, conflicts of interest or

undue influence of others to override professional or business
judgments.
➢ Professional Behaviour – Members should comply with relevant laws
and regulations and should avoid any conduct that discredit the
profession.
➢ Professional Competences and Due Care – Members should
maintain professional knowledge and skill at the level required to
ensure that a client or employee receives competent professional
services based on current developments in practice, legislation and
techniques.
➢ Integrity – Members should be straightforward and honest in all
professional and business relationship.
➢ Confidentiality – Members should respect the confidentially of
information acquired as a result of professional and business
relationships and shouldn’t disclose any such information to third
parties without proper and specific authority, unless there is a legal or
professional right or duty to disclose. Such confidential information
shouldn’t be used for the personal advantage of members or third
parties.

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Threads and safeguards –
Firms must establish procedures to –

Safeguard – It is an action or measure that eliminates a threat, or reduces it

to an acceptable level. The code of ethics divides safeguards into two broad
categories:
➢ Safeguard created by profession, legislation or regulation – it
includes requirements for entry into profession, continuing
professional development, corporate governance, professional
standards, monitoring and disciplinary procedures, etc.
➢ Safeguard created by the work environment – it includes
rotation/removal of relevant staff from the engagement team,
independent quality control reviews, using separate teams, etc.

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Identifying threats –

Self Interest –
Fee dependency:
➢ The firm should disclose the issue to those charged with governance
at the client.
➢ An independent engagement quality control review should be
performed by a person not a member of the audit firm expressing the
opinion or the professional regulatory body.
➢ It can be performed as either a pre-issuance review before the 2nd year
audit opinion is issued or a post-issuance review on the 2nd year audit
before the 3rd year audit opinion is issued.
Gifts and hospitality –
a) Acceptance of goods, services or hospitality from an audit client can
create self interest and familiarity threats as the auditor may feel indebted
to the client.
b) Gifts and hospitality may not be accepted unless –
➢ The value is trivial and inconsequential
➢ Offered in the normal course of business without intention to
influence decision-making

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c) The offer of gifts and hospitality must be documented in the audit file even
if refused.
Owning shares/financial interest –
➢ The auditor will want to maximise return from the investment and
overlook audit adjustments which would affect the value of their
investment.
➢ Any member of the audit team or their immediate family mustn’t have
a financial interest in the audit client therefore they must dispose of
the shares immediately or be removed from the team.
➢ Any member of the audit team who has a close family member who
owns shares should be removed from the audit team or the family
member should dispose of their shares.
Overdue fees –
➢ The overdue fees may be regarded as a loan or not permitted to an
audit client.
➢ A partner of the firm in the office connected with the audit engagement
or any partner providing non-audit services to the audit client
shouldn’t have a financial interest in the client.
➢ Don’t perform any further work or issue any reports to the client until
the outstanding fees are paid or arrangements have been agreed with
the client for payment.
➢ An independent review of the work should be performed if the fees
remain unpaid after the report has been issued.
Loans and guarantees –
a) A loan or guarantee from an assurance client that is bank or similar
institution will not create a threat a independence provided that –
➢ It is on commercial terms
➢ Made in the normal course of business
b) Loans and guarantees between audit clients and audit team members
and their immediate family that are not in the normal course of business or
not on commercial terms are not permitted.
c) If the loan is made to the firm rather than a member of the audit team, it
must be immaterial both the firm and the client.

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d) If it is material, appropriate safeguard should be put into place, e.g. an
external review of the work performed.
Business relationship –
➢ If audit firms enter into business relationships with clients, it leads to
self-interest because the auditor would have an interest in the
successful operation of the client.
➢ The purchase of goods and services from an assurance client would
not normally give rise to a threat to independence, provided the
transaction in the normal course of business and commercial terms.
➢ In the case of audit firms or partners of the firms unless immaterial no
safeguard can reduce threat to an acceptable level.
➢ In the case of audit team members, the individual with the connection
to the audit client should be removed from the audit team.
➢ If the purchase of goods and services by an audit team member
represents a material amount, person should be removed from the
audit team or reduce the magnitude of the transactions.
Potential employment with an audit client –
➢ If a member of the engagement team has reason to believe they may
become an employee of the client they will not wish to do anything to
affect their potential future employment.
➢ The policies and procedures of the firm should require such
individuals to notify the firm the possibility of employment with the
client.
➢ Remove the individual from the assurance engagement.
➢ Perform an independent review of any significant judgments made by
the individual.
Contingent fees –
➢ The auditor would have incentive to ensure a particular outcome is
achieved in order to maximize the audit fees.
➢ E.g. overlook audit adjustments that would reduce profits if the fees is
a percentage of the profit.
➢ Fees based on a particular outcome, e.g. level of profits of the
company are not permitted for assurance services.

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Compensation and evaluation policies – A self-interest is created when a
member of the audit team is evaluated on or compensated for selling non-
assurance services to that audit client.
The significant of the threat will depend on the following ways are -
➢ The proportion of the individual’s compensation or performance
evaluation that is based on the sale of such services.
➢ The role of the individual on the audit team.
➢ Whether promotion decisions are influenced by the sale of such
services.
➢ A key audit partner shall not be evaluated on or compensated based
on their success in selling non-assurance services to their audit client
For other staff, the firm shall either revise the compensation plan or
evaluation process for that individual or apply safeguards such as -
➢ Removing such members from the audit team
➢ Having professional accountant review the work of the member of the
audit team
Actual or threatened litigation –
➢ Litigation could represent a breakdown of trust in the relationship
between auditor and client.
➢ This may affect the impartially of the auditor and lead to a reluctance
of management to disclose the relevant information to the auditor.
➢ The significance of the threat depends on the materiality of the
litigation and whether the litigation relates to a prior assurance
engagement.
It may be possible to continue other assurance engagements, depending on
the significant of the threat by –
➢ Discussing the matter with the client’s audit committee.
➢ If the litigation involves an individual, removing that individual from the
engagement team.
➢ Obtaining an external review of the work done.
➢ If adequate safeguards cannot be implemented the firm must
withdraw from or decline the engagement.

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 Familiarity Threats – When the auditor becomes sympathetic or trusting of
a client and loses professional scepticism or where the relationship
between the auditor and client goes beyond professional boundaries.
Threat Safeguards
Long association of senior personnel – Non-listed clients –
Using the same senior personnel in an a) Rotate senior personnel
engagement team over a long period may b) Independent partner/quality
cause the auditor to become too control reviews.
trusting/less sceptical of the client Listed clients –
resulting in material misstatement going Key audit partners must be rotated
undetected. after no more than seven years with a
The firm should consider – minimum break of two years.
a) The length of time on the audit team. If the client becomes listed, the
b) The structure of the firm. length of time the partner has served
c) Whether the client’s management before becoming listed is taken into
team has changed. account.
d) Whether the complexity of the subject In exceptional circumstances, a
matter has changed. maximum one-year extension is
permitted where necessary to
maintain audit quality.
Family and personal relationship – a) Remove the individual from the
It may occur when a member of the engagement team.
engagement team has a family or b) Structure the engagement team so
personal relationship with someone at that the individual doesn’t deal with
the client who is able to exert significant matters that are responsibility of the
influence over the financial statements. close family members.
Consideration should be given to the
possibility that such a threat may also
arise when a partner of the firm has a
family or personal relationship with
someone at the client who is able to exert
significant influence over the subject
matter, even when the individual is not
member of the engagement team.
Recruitment Services – Listed clients –
a) It may arise if the firm is involved in The firm cannot provide recruitment
recruiting senior personnel for the client. services in respect of directors or
b) The firm may also be considered to be senior management who would be in
assuming management responsibilities. a position to exert significant

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c) Reviewing qualification and influence over the financial
interviewing applicants to advise on statements.
financial competence is allowed.
Employment with an audit client – a) Assign individual to the audit team
a) It may arise where an employee of the who have sufficient experience in
firm becomes a director or employee of relation to the individual who has
an assurance client. joined the client.
b) The threat is significant if connection b) Perform a quality control review of
remains between the employee and the the engagement.
firm such as entitlement to benefits or Listed clients –
payment from the firm or participation in For partners joining public interest
the firm’s business and professional entities, independence would be
activities. deemed to be compromised unless,
subsequent to the partner ceasing to
be a key audit partner or senior
partner, the client had issued audited
financial statements.
Self-review threats – Where non-audit work is provided to an audit client
and is subject to audit, the auditor will be unlikely to admit to errors in their
own work, or may not identify the errors in their own work.
Threats Safeguards
Accounting and book-keeping Non-listed clients –
services – a) A firm can provide a non-listed
Preparing accounting records or audit client with accounting and
financial statements for an audit book-keeping services including
client creates a self-review threat. payroll services of a routine or
mechanical nature.
b) Separate teams must be used.
c) Managerial decision must not be
made by the firm and the source
data, underlying assumptions, and
subsequent adjustments must be
originated or approved by the client.
Listed clients –
a) A firm cannot provide a listed
audit client with accounting and
book-keeping services.
b) A firm can provide accounting
services for divisions or related

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 entities of a listed client if separate
teams are used and the service
relates to matters immaterial to the
division/related entity.
Internal audit services – a) A firm cannot provide internal
In addition to the self-review threat, audit services for a listed client,
the auditor needs to be careful not where the service relates to internal
assume management controls over financial reporting,
responsibilities. financial accounting systems or in
relation to amounts or disclosures
that are material to the financial
statements.
b) Where services are provided,
separate teams must be used.
Taxation services – Non-listed clients –
a) Tax calculation for inclusion in the a) Advice should be obtained from
financial statement and tax planning an external tax professional.
advice creates a self-review threat. b) Where an audit team member
b) Completion of tax returns doesn’t performs the tax calculation, the
generally create a self-review threat. work should be reviewed by a senior
person with appropriate expertise
that has not been involved with
audit.
Listed clients –
a) A firm cannot prepare tax
calculations (current or deferred) for
a listed audit client.
b) The firm shouldn’t provide tax
advice that depends on a particular
accounting treatment and is
material to the financial statement.
c) Other tax advice is allowable with
safeguard.
IT services – It may create a self- The firm can only provide IT services
review threat and also be considered which involve –
to be assuming management a) Design or implementation of IT
responsibilities. systems unrelated to internal
controls or financial reporting.
b) Implementation of off-the-shelf
accounting software.

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 c) Evaluating and making
recommendations on a system
designed or operated by another
service provider or by the entity.
Valuation Services – Non-listed clients –
It may create a self-review threat and a) Valuation of matters that are
also be considered to be assuming material to the financial statements
management responsibilities. The and involve a significant degree of
firm should consider- subjectivity should not be provided.
a) The nature of the service b) Where the threat is not deemed
b) The nature of tax system and significant, different personnel
extend which impact or interact with should be used.
client’s accounting records or Listed clients –
financial statements a) Valuation services that are
c) The degree of reliance that audit material to the financial statements
team will place on the tax systems. should not be provided to listed
audit clients.
Temporary staff assignments – Staff may be loaned to the client
a) A self-review threat will be created provided –
if staff are loaned from the audit firm a) The loan period is short
to the client. b) The person doesn’t assume
b) If the person was assigned to the management responsibilities.
audit they would be evaluating work c) The client is responsible for
for which they have been responsible directing and supervising the person
during the temporary assignment and d) The loaned staff member is not a
may not detect errors in their work. member of the audit team.
Corporate Finance Services – If there is doubt over the accounting
Self-review and advocacy threats treatment or if the outcome will
may be created if a firm: materially affect the financial
a) Assists an audit client in statements, the service should not
developing corporate strategies be provided.
b) Identifies possible targets for the Where services can be provided, the
audit client to acquire firm should:
c) Advises on disposal transaction a) use professionals who are not
d) Assists finance raising transaction members of the audit team to
e) Provides structuring advice perform the service.
Factors affecting the existence and b) have a professional who was not
significance of any threat include – involved in providing the corporate
a) The degree of subjectivity involved finance service to the client.

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b) Whether the outcome will have a c) advise the audit team on the
material impact on the financial service and review the accounting
statements. treatment and any financial
c) Whether the effectiveness of the statement treatment.
corporate finance advice depends on
a particular accounting treatment.
Client staff joins audit firms – a) Such individuals should not be
A self-interest, self-review or assigned to the audit if that person
familiarity threat may arise where a would be evaluating elements of the
director or employee of an assurance financial statements for which they
client becomes an employee of the had prepared accounting records.
firm. b) An employee or partner of a firm
cannot also be an employee or
director of an assurance client as
the self-interest and self-review
threats created would be so
significant that no safeguard could
reduce the threats to an acceptable
level.
Intimidation – Actual or perceived pressures from the client or attempts to
exercise undue influence over the assurance provider, create an intimidation
threat. Example include:
➢ Fee dependency
➢ Personal relationships
➢ Audit partner leaves to join client
➢ Litigation with a client
➢ Recruitment services
➢ Gifts and hospitality
Advocacy – Promoting the position of a client or representing them in some
way would mean the audit firm is seen to be taking sides with the client.
Example includes:
➢ Representing the client in court or any dispute where the matter is
material to the financial statements
➢ Promoting the client

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 ➢ Negotiating on behalf of the client for finance
➢ Loan of personal from an audit firm to an audit client
➢ Providing valuation services to an audit client
➢ Providing tax service to an audit client
Confidentially – External auditors having a right of access to all information
about their client. The client must be able to trust auditor not to disclose
anything about business to third party and could be detrimental to the
operations. It may be obtained in the following ways are:
➢ The firm or employing organisation
➢ Business relationship i.e. current client and previous client
➢ Prospective clients and employers
Circumstance in which disclosure is permitted in the following ways are:
a) Disclosure by law –
➢ Production of documents or other provision of evidence in the course
of legal proceedings.
➢ Disclosure to the appropriate public authorities of infringement of the
law.
b. Disclosure is permitted by law and authorised by the client or the
employer.
c. There is a professional duty or right to disclose when not prohibited by law-
➢ Comply with the quality review of ACCA or another professional body
➢ Respond to an inquiry or investigation by ACCA or regulatory body
➢ Protect the professional interest of a professional accountant in legal
proceedings
➢ Comply with technical standards and ethical requirements
Conflict of interest –
➢ It may create a threat to fundamental principles of objectivity and
confidentially.
➢ It may be perceived that auditor cannot provide objective services and
advice the company where it also audits competitor.
➢ Professional accountants should always act in best interest of client.

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 ➢ The firm’s work should be arranged by avoid the interest being
adversely affected by another and prevent a breach of confidentiality
➢ The firm must disclose the nature of conflict to relevant parties and
obtain consent to act.
Threats Safeguards
a) Procedures to limit access to client a) Separate engagement team who
files provided with clear guidance on
b) Physical separation of confidential maintaining confidentiality
information including separate practice b) Review of the key judgemental
areas. and conclusion by an independent
c) Signed confidentiality agreement by person of appropriate seniority
the engagement team members
d) Specific training and communication
Accepting/continuing an audit engagement – An audit firm should only
take on clients and work of an appropriate level of risk. For this reason, the
firm will perform client screening. The firm will consider the following
matters before accepting a new engagement or client:

a) Professional clearance – If offered an audit role, the prospective audit

firm must –
➢ Ask the client for permission to contact the existing auditor
➢ Contact the outgoing auditor, asking all information relevant to the
decision whether to accept the appointment.

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 ➢ If a reply is not received, the prospective auditor should try and
contact the outgoing auditor by other means i.e. telephone.
➢ If a reply is not received, the prospective auditor may still choose to
accept but must proceed with care.
➢ If a reply is received, consider the outgoing firm’s response and assess
if there are any ethical or professional reasons why they should not
accept appointment.
➢ The existing auditor must ask the client for permission to respond to
the prospective auditor.
➢ If the client refuses permission, the existing auditor should notify the
prospective auditor of this fact.
b) Independence and objectivity – If the assurance provider is aware, prior
to accepting an engagement that threat to objectivity cannot be managed to
an acceptable level, the engagement should not be accepted.
c) Management integrity – If the firm has reason to believe the client lacks
integrity there is a greater risk of fraud and intimidation.
d) Money laundering –
➢ The firm must comply with money laundering regulations which
require client due diligence to be carried out.
➢ If there is any suspicion of money laundering or actual money
laundering committed by the prospective client, the firm cannot
accept the engagement.
e) Resources –
➢ The firm should consider whether there are adequate resources
available at the time of engagement is likely to take place to perform
the work properly.
➢ If there is a sufficient time to conduct the work with the resources
available the quality of the work could be affected.
f) Risks –
➢ Any risk identified with the prospective client should be considered.
➢ These risks can be increases the level of engagement risk, i.e. the risk
of issuing in an appropriate report.

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g) Fees –
➢ The firm should consider the acceptability of the fee.
➢ The fee should be commensurate with the level of risk.
➢ In addition, the creditworthiness of the prospective client should be
considered as non-payment of fees can create a self-interest threat.
h) Professional competence – An engagement should be accepted if the
audit firm has the necessary skill and experience to perform the work
competently.
i) Reputation of the client –
➢ The audit firm should consider the reputation of the client and whether
its own reputation could be damaged by association.
➢ If there are any reasons why the firm believes they may not be able to
issue an appropriate report, they should not accept the engagement.
j) Preconditions for an audit –
1) ISA 210 Agreeing the terms of audit engagements and the code of ethics
and conduct provides guidance to the professional accountant when
accepting new work.
2) Before accepting an engagement, the auditor must establish whether the
preconditions for an audit are present and there is common understanding
between the auditor and management those charged with governance.
3) The preconditions for an audit are that management acknowledge and
understand its responsibility for –
➢ Preparation of the financial statements in accordance with the
applicable financial reporting framework
➢ Internal control necessary for the financial statements to give a true
and fair view
➢ Providing the auditor with access to all relevant information and
explanations.
Engagement letters – It specifies the nature of the contract between the
firm and client but the letter will be sent before the audit commences.
a) Purpose – The purpose of engagement letters is:

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 ➢ Minimise the risk of any misunderstanding between the practitioner
and client
➢ Confirm acceptance of the engagement
➢ Set out the terms and conditions of the engagement
b) Changes to the engagement letter –
1) The engagement letter should be reviewed every year to ensure that it is
up to date but doesn’t need to be reissued every year unless there are
changes to the terms of the engagement.
2) ISA 210 requires the auditor to consider whether there is need to remind
the entity of the existing terms of the audit engagement for recruiting audits.
3) Some firms choose to send a new letter every year to emphasis its
importance to clients.
4) The auditor should issue a new engagement letter if the scope or context
of the assignment changes after initial appointment, or if there is a need to
remind the client of the existing terms.
5) Reasons for changes would include –
➢ Changes to statutory duties due to new legislation
➢ Changes to professional duties i.e. due to new or updated ISAs
➢ Changes to other services as requested by the client
The contents of the engagement letter – The auditor will agree the terms of
the audit engagement with management or those charged with governance
as appropriate.
The terms are recorded in a written audit engagement letter and should
include –
➢ The objective and scope of the audit of the financial statements
➢ The responsibilities of the auditor
➢ The responsibilities of management
➢ Identification of the applicable financial reporting framework for the
preparation of the financial statement
➢ Reference to the expected form and content of any reports to be
issued by the auditor.

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In addition, the following items will be included –
➢ Reference to professional standards, regulations and legislation
applicable to the audit
➢ Limitation of an audit
➢ Expectation that management will provide written representations
➢ Basis on which the fees are calculated
➢ Agreement of management to notify the auditor of subsequent events
after the auditor’s report is signed
➢ Agreement of management to provide draft financial statements in
time to allow the audit to be completed by the deadline
➢ Form of any other communication during the audit
➢ Arrangement concerning the involvement of internal auditors and
other staff of the entity
➢ Limitation to the auditor’s liability
➢ The content of the engagement letter should be agreed with the client
before any engagement related work commences
➢ The client’s acknowledgement of the terms of the letter should be
formally documented in the form of director’s signature.

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