May 9, 2011
To our peer review clients:
Annually we make an effort to highlight recent changes in professional standards for our peer review clients. We hope what follows is helpful to you in your accounting and auditing practice.
New Compilation and Review Standards
The AICPA issued SSARS No. 19, “Compilation and Review Engagements,” in December 2009, and it is effective for periods ended on or after December 15, 2010. The new standard requires the accountant to obtain an engagement letter from the client. The engagement letter does not need to be signed, however, and could take the form of an e-mail as long as it covers the required topics. If you already have engagement letters, they will need to be revised to include the topics required under SSARS No. 19. In addition, there are new documentation requirements, including a requirement to document significant issues and findings in the working papers.
The most visible changes are to the compilation and review report language. For example, there is a new reference to standards “generally accepted in the United States of America .” In addition, both compilation and review reports will include a paragraph describing management's responsibilities and both reports should have a title (just as auditor's reports are titled). When independence is impaired on a compilation engagement, you will now have the option of disclosing the reason or reasons for the impairment in the report. If you provide the explanation, however, all reasons that independence is impaired must be included.
The AICPA has issued guidance to peer reviewers with examples of the kinds of noncompliance that will result in a pass with deficiencies or fail peer review report on an engagement peer review, which include:
- Not obtaining an engagement letter
- Not updating reports with the new three paragraph format for compilations and four paragraph format for reviews
- Not documenting significant findings or issues
- On reviews, not documenting significant unusual matters and their disposition (how resolved)
- On compilations, failure to include all the reasons why the accountant is not independent when the accountant has elected to disclose the reasons
The standards already required documentation of additional procedures performed in response to significant unexpected differences and documentation of unusual matters and their disposition but now that the AICPA is telling peer reviewers that some documentation deficiencies must go to the peer review report, firms need to be even more careful about documentation on review engagements. There has been a tendency for firms to sometimes complete the inquiries questionnaire and document the initial analytical review procedures and stop there, but firms now have to be careful to follow up and provide an explanation when analytical review procedures detect a significant unexpected discrepancy between the current and prior year or between the client and industry norms. Additional management inquiries usually resolve the matter, but those inquires should be documented. We recommend firms use the “Analytical Procedures Documentation Form” Appendix 4G in PPC's Guide to Compilation and Review Engagements , which provides a format for documenting additional procedures when a calculation or comparison doesn't turn out as expected.
Although failure to obtain an engagement letter will lead to a substandard peer review report on engagement peer reviews, if you have an engagement letter prepared under the old standards in the file, the peer reviewer may issue a pass peer review report with a Finding for Further Consideration Form recommending the firm update the engagement letter.
New Accounting Standards
Although footnote disclosure requirements for small business clients had not changed significantly in several years, there were several major changes reported in our update letter last year that affect private sector companies and nonprofit organizations, as follows: a) accounting codification, b) uncertain tax positions, c) subsequent events, and d) fair values. We included sample footnote disclosures for these items in last year's letter, which has been posted to our website at www.peer-review.com.
Fair Value Disclosures: ASU 2010-06, “Improving Disclosures about Fair Value Measurements,” amends ASC 820 and for the most part is effective for periods beginning after December 15, 2009. It requires more disaggregation of data and additional disclosure about valuation techniques used.
Variable Interest Entities: SFAS No. 167 (ASC 810) on consolidating variable interest entities is a significant revision of the standards in this area, and includes enhanced disclosure requirements including summarized financial statements for the variable interest entity in the footnotes of the primary beneficiary. In addition, the primary beneficiary must now present separately certain of the variable interest entity's assets and liabilities on its consolidated balance sheet. The new standard is effective for periods beginning after November 15, 2009.
Goodwill Impairment: FASB has issued an exposure draft that would simplify the goodwill impairment test. Currently the standards require the company calculate its fair value annually as the first step in determining if goodwill is impaired. The new standard would allow management to forego the fair value computation as long as “events and circumstances” suggest it is “more likely than not” that fair value exceeds the “carrying amount” (i.e., fair value exceeds net book value). The standard would be effective for fiscal years beginning after December 15, 2011.
Some of the changes in accounting standards that appeared imminent a year ago have been postponed:
New Formats for Financial Statements: Working jointly with the International Accounting Standards Board (IASB), FASB planned to significantly revise the formats of the basic financial statements. We described this project in our 2008 through 2010 update letters. An exposure draft had been anticipated for 2010, but in June 2010 the boards decided to “engage in additional outreach activities before finalizing and publishing an exposure draft.” In July both FASB and IASB posted on their respective websites “a staff draft of an exposure draft” that includes samples of the new financial statement formats if you are interested in reviewing them, but this project appears to be on hold indefinitely.
Lease Accounting: As noted previously in our update letters FASB, in partnership with IASB, plans to require lessors and lessees to account for operating leases as capital leases. A lessee would record a “right-of-use” asset and a liability for the obligation to pay rents. Subsequently, FASB revised its approach allowing for a category of lease termed “other-than-finance,” which would be accounted for more like present day operating leases insofar as the income statement presentation is concerned. FASB postponed issuing an exposure draft on this topic in 2010 and announced in April 2011 that there would be a further delay.
Revenue Recognition: FASB and the IASB have been working jointly on a standard for revenue recognition. The standard would require significant changes in the accounting for work in progress for construction contractors, replacing the relatively black and white guidance currently in the standards with a complex approach that many CPAs feel will be subject to manipulation. FASB announced in April 2011 that, as with the standard on lease accounting, there would be a delay before the standard is issued.
FASB and IASB intend to complete the lease accounting and revenue recognition projects by the end of 2011.
Blue Ribbon Panel
Compliance with increasingly more complex accounting standards has continued to challenge private companies and their CPAs. The complexity is largely driven by the public company reporting in such areas as variable interest entities and uncertain tax positions. Last year the AICPA and FASB's parent organization, the Financial Accounting Foundation (FAF), formed the Blue Ribbon Panel to establish recommendations on standards setting for private companies. The Blue Ribbon Panel issued a report in January 2011 that recommends a new standard setting board be established exclusively for private companies. However, the voice for the regulators, the National Association of State Boards (NASBA), does not favor another standard setting board. Also, FASB Chair Leslie Seidman announced in early May 2011 that she “strongly hopes” FASB retains responsibility for private-company financial reporting standards. The FAF trustees are going to study the matter and have formed a “working group” to conduct further “outreach.” An announcement of the study's outcome is expected in November 2011. A representative of the AICPA tells us he thinks the probability that the FAF will create a new standard setting board for private companies is no more than fifty-fifty. Recently FASB appears to be paying more attention to the concerns of private companies, adding board members who have a background in private company accounting and designating staff members within each of its projects to present private company viewpoints. FASB says that the exposure draft on testing for goodwill impairment discussed above was issued in response to “input from preparers of nonpublic entity financial statements.” In order to encourage comments on this exposure draft from the private company sector, whose members for the most part do not have the time to write a formal comment letter, FASB for the first time will allow interested parties to complete an online feedback form. The feedback form has a series of questions you can answer in a couple of minutes or include a longer narrative if you wish.
Firms with Audit Clients
The AICPA has issued three new statements (SAS Nos. 118, 119 and 120) on supplementary information. These statements, which include new performance requirements and affect the wording of your audit opinions, are effective for periods beginning after December 15, 2010, and have been issued in the “clarity format,” as part of the Auditing Standards Board's Clarity Project. The Clarity Project involves the converging of US GAAS with International Standards on Auditing (ISA). SAS No. 117 was the first statement to be issued in the clarity format. The AICPA is in the process of rewriting all previously issued statements on auditing standards in this new format. Once a significant portion of the auditing standards have been clarified, they will be issued as one SAS that will be codified in the “AU section” format and supersede SAS issued prior to SAS No. 117.
The AICPA has already released several clarified AU Sections, covering such areas as audit planning, risk assessment, materiality and the auditing of opening balances in an initial engagement, as well as a comprehensive standard on the external confirmation process. The standards on communication of internal control matters, having been revised by SAS No. 112 followed in quick succession by SAS No. 115, are revised yet again in the Clarity Project. The new AU sections involve more than simply rewording existing guidance. New concepts and requirements are introduced. Perhaps the most noteworthy is the new AU section revising the auditor's opinion language to conform to the ISA format. You will find the new auditor's opinion language, including sample reports for various circumstances, in the “Official Releases” section of the April and May 2011 issues of the Journal of Accountancy .
The new audit opinion is longer than the old version and includes “section headings” to help the reader navigate through the report. The language is consistent with the language used in the new compilation and review reports, including a paragraph on management's responsibilities.
The effective date for the clarified statements on auditing standards, including the new language for the auditor's opinion, is for periods ending on or after December 15, 2012. The new audit opinion will read as follows:
Independent Auditor's Report
To the Board of Directors
Report on the Financial Statements
We have audited the accompanying financial statements of ABC Company, which comprise the balance sheet as of December 31, 20X1, and the related statements of income, changes in stockholders' equity and cash flows for the year then ended, and the related notes to the financial statements.
Management's Responsibility for the Financial Statements
Management is responsible for the preparation and fair presentation of these financial statements in accordance with accounting principles generally accepted in the United States of America; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free from material misstatement, whether due to fraud or error.
Auditor's Responsibility
Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with auditing standards generally accepted in the United State of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free from material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor's judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity's preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity's internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Opinion
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of ABC Company as of December 31, 20X1, and the results of its operations and its cash flows for the year then ended in accordance with accounting principles generally accepted in the United States of America.
Report on Other Legal and Regulatory Requirements
[Form and content of this section of the auditor's report will vary depending on the nature of the auditor's other reporting responsibilities.]
[Firm's signature]
[Auditor's City, State]
[Report Date]
New Quality Control Standards
Although the quality control standards were revised in the recent past, with SQCS No. 7 effective January 1, 2009, they have been revised yet again as part of the Auditing Standards Board's Clarity Project, with SQCS No. 8, A Firm's System of Quality Control (Redrafted) effective January 1, 2012. There are only a few changes to make to your quality control document:
- SQCS No. 8 eliminates the “risk versus reward” concept of client acceptance and continuance. SQCS No. 7 allowed the firm to consider client integrity in relation to the risks associated with providing services to the client.
- When a firm considers whether to continue or accept an engagement, SQCS No. 8 requires the firm to consider whether there is adequate staff time available to conduct the engagement.
- SQCS No. 8 requires firm's policies and procedures address the degree to which the Engagement Quality Control Reviewer can be consulted on the engagement without impairing objectivity.
Firms with Governmental Audits
If you perform Circular A-133 audits, there are a number of changes affecting you this year.
• Funding under the American Recovery and Reinvestment Act (ARRA) continues to increase the number of major programs subject to audit. Clusters of programs specifically listed in the Compliance Supplement with a new Recovery Act CFDA number added during the current year will not qualify as low-risk Type A programs.
• Auditors will have to test compliance with a new federal report filing requirement, similar to the Recovery Act 1512 report, which applies to all non-ARRA awards and concerns subawards equal to or exceeding $25,000. The reports are filed at FSRS.gov. If your client is not filing the report, you will have a finding.
• As we noted last year, the AICPA has issued a new peer review checklist for peer reviewers to use in their reviews of A-133 audits. This is a two-part checklist, with “Part A” and “Part B” sections. The AICPA is advising peer reviewers that a “No” answer in the “Part A” checklist will usually lead to a pass with deficiencies peer review report. As part of your pre-issuance review process, we strongly recommend you complete the Part A checklist, which is available on the AICPA website in the Peer Review Interest area.
• The AICPA has a practice aid for documenting the controls over compliance and the tests of compliance and the tests of controls over compliance that may be purchased for $39.99 (Product #006662PDF). This aid is highly recommended.
• After the peer review is completed, the information on major program determination goes to a “technical reviewer” within the OSCPA peer review program who double checks the determination. Major program determination has to be perfect or the likely outcome will be a pass with deficiencies peer review report.
Other areas to consider on your governmental engagements include:
- GASB No. 54 on fund balances may require certain special revenue funds be closed to the general fund in a GAAP presentation and is effective this year.
- The GAO is issuing a new edition of the Yellow Book later this year, with includes documentation requirements when you use the “independence framework” or perform nonattest services.
- SAS No. 120 on required supplementary information (RSI) changes the definition of RSI such that this terminology can no longer be used when reporting on OCBOA presentations. Many smaller governmental units report on a modified cash basis and on such engagements auditors will have to report on the MD&A and any other information formerly designated “RSI” as Other Information (OI) following the SAS No. 118 guidance.
Our Peer Review Clients
When scheduling your peer review with the state society, the scheduling form requests information about the firm you have hired to perform the peer review. This is the information you will need if you select our firm to perform your peer review:
Name of Reviewing Firm: Read & Bose, PC
AICPA Firm Number: 10083621
Team Captain's Name: Harry Bose
AICPA Member Number: 01153765
___________________________
This letter will be posted on our award-winning home page, along with additional guidance on peer reviews. Our web site address is:
Our email address if your wish to contact us about peer review is:
Please do not hesitate to contact us if you have any questions. We appreciate your business.
Very truly yours,
Read & Bose, PC