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Updated Ethical Standard and Auditing Standards

Just before Christmas, the Financial Reporting Council (FRC) issued the final versions of the amended Ethical Standard and several Auditing Standards.

Various Auditing Standards have been amended, and these are effective for accounting periods commencing on or after 15 December 2019; for the vast majority of entities, these new Standards will only affect 31 December 2020 year ends and onwards – you could say this is a “next year problem”. HAT will be reviewing these new Standards in the near future, with updates to the audit methodology to be made as appropriate.

The new Ethical Standard has a different implementation date; this comes into force for periods beginning on or after 15 March 2020. This means that firms have a little more time to become accustomed to the new rules and HAT will soon be reviewing the new Standard in detail.

However, it is worth pointing out a couple of issues in the new Ethical Standard that firms need to be aware of now. 

1. Contingent Fees

The new Ethical Standard introduces a prohibition on providing non-audit services to audit clients on a contingent fee basis. Paragraph 4.10 of the 2019 Ethical Standard states:

“The firm and any of its network firms shall not provide any non-audit / additional services, to or in respect of an entity relevant to an engagement, wholly or partly on a contingent fee basis

Contingent fee basis is defined in the Glossary of Terms (Auditing and Ethics) as “Any arrangement made under which a fee is calculated on a predetermined basis relating to the outcome or result of a transaction, or other event, or the result of the work performed”.

Therefore carrying out work such as Research and Development Tax Credit claims on behalf of audit clients, where the fee is dependent on the tax relief obtained, will no longer be permitted.

2. Internal audit services

Paragraph 5.54 of the 2019 Ethical Standard introduces a prohibition on providing Internal Audit services to audit clients. Whilst this is not a common occurrence for the vast majority of HAT firms and their typical clients, care is needed here in certain sectors (such as Academies).

 

Are there are any transitional rules?

As noted above, the new Standard applies for periods commencing on or after 15 March 2020. However, paragraphs 1.70 and 1.71 are as follows:

“Firms may complete engagements relating to periods commencing before 15 March 2020 in accordance with existing ethical standards, putting in place any necessary changes in the subsequent engagement period.”

“Engagements to provide previously permitted non-audit or additional services, entered into before 15 March 2020, and for which the firm has already commenced work may continue until completed in accordance with the original engagement terms, subject to the application of appropriate safeguards.”

Firms are advised to exercise extreme care when performing work with contingent fees and must ensure that separate departments providing such work (such as the tax team) do not cause issues, such as having to resign from the audit engagement.

Other amendments expected to impact HAT firms include an enhancement to the “Objective, Reasonable and Informed Third Party” test.  As indicated above, we will be providing a detailed analysis of the changes in due course. 

The Ethical Standard can be found here: https://bit.ly/2T1ilzR

The Auditing Standards can be found here: https://bit.ly/36G7fEg