University of Economics
KIỂM TO Faculty of Accounting
ÁN
CHAPTER 2
PROFESSIONAL ETHICS AND
LEGAL LIABILITY OF
AUDITORS
PROFESSIONAL ETHICS
KIỂM TO
ÁN
What are ethics?
- Ethics can be defined broadly as a set of moral principles or values.
- Ethical behavior is necessary for a society to function in an orderly
manner. Ethics is the glue that holds a society together.
- The need for ethics in society is sufficiently important that many
commonly held ethical values are incorporated into laws.
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PROFESSIONAL ETHICS
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Special need for ethical conduct in accounting professions
A CPA, as a professional, recognizes a responsibility to the public,
to the client, and to fellow practitioners, including honorable
behavior, even if that means personal sacrifice.
The reason for an expectation of a high level of professional
conduct by any profession is the need for public confidence in the
quality of service by the profession, regardless of the individual
providing it.
It is essential that the client and external financial statement users
have confidence in the quality of audits and other services.
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PROFESSIONAL ETHICS
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Code of ethics for CPA firms
The code of ethics for professional Accountants was published by
the International Federation of Accountants (IFAC).
Its mission to serve the public interest by:
- contributing the development of high-quality standards and
guidance;
- facilitating the adoption and implementation of high-quality
standards and guidance;
- contributing the development of strong professional accountants,
and promoting the value of professional accountants worldwide;
- and speaking out on public interest issues.
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PROFESSIONAL ETHICS
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Code of ethics for government accountability office
auditors
INTOSAI has deemed it essential to establish an international Code of
Ethics for auditors in the public sector.
A Code of Ethics is a comprehensive statement of the values and
principles which should guide the daily work of auditors.
A code of ethics for auditors in the public sector should consider the
ethical requirements of civil servants in general and the particular
requirements of auditors, including the latter’s professional obligations.
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PROFESSIONAL ETHICS
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Code of ethics for internal auditors
The Office of Internal Audit adopts and upholds the Code of Ethics as
promulgated by the Institute of Internal Auditors.
The purpose of The Institute’s Code of Ethics is to promote an ethical
culture in the profession of internal auditing.
A code of ethics is necessary and appropriate for the profession of
internal auditing as it is founded on the trust placed in its objective
assurance about risk management, control, and governance.
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CODE OF ETHICS FOR CPA FIRMS
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A professional accountant shall comply with the following
fundamental principles:
a.Integrity – to be straightforward and honest in all professional and
business relationships
b.Objectivity – to not allow bias, conflict of interest or undue
influence of others to override professional of business judgments
c.Professional Competence and Due Care – to maintain
professional knowledge and skill at the level required to ensure that
a client or employer receives competent professional service based
on current developments in practice, legislation and techniques and
act diligently and in accordance with applicable technical and
professional standards
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CODE OF ETHICS FOR CPA FIRMS
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A professional accountant shall comply with the following
fundamental principles:
d.Confidentiality – to respect to confidentiality of information
acquired as a result of professional and business relationships and
therefore not disclose any such information to third parties without
proper and specific authority, unless there is a legal or professional
right or duty to disclose, nor use the information for the personal
advantage of the professional accountant or third parties.
e.Professional Behavior – to comply with relevant laws and
regulations and avoid any action that discredits the profession.
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PROFESSIONAL INDEPENDENCE
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Independence of mind: reflects the auditor’s state of mind
that permits the expression of a conclusion without being
affected by influences that compromise professional
judgments.
Independence in appearance: means avoiding situations
and facts that are so significant that a reasonable person,
knowing all relevant facts and having considered the
safeguards in place, would reasonably conclude that a firm’s
or a professional accountant’s integrity and objectivity had
been impaired.
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CODE OF ETHICS FOR CPA FIRMS
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Threats: when a relationship or circumstance
creates a threat, such a threat could compromise, or could be
perceived to compromise, a professional accountant’s compliance
with the fundamental principles.
Threats fall into one or more of the following categories:
a.Self-interest threat – the threat that a financial or other interest
will inappropriately influence the professional accountant’s judgment
or behavior;
b.Self-review threat – the threat that a professional accountant will
not appropriately evaluate the results of a previous judgment made,
or activity or service performed by the professional accountant, or by
another individual within the professional accountant’s firm or
employing organization, on which the accountant will rely when
forming a judgment as part of performing a current activity or
providing a current service, 10
CODE OF ETHICS FOR CPA FIRMS
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Threats fall into one or more of the following categories:
c.Advocacy threat – the threat that a professional accountant will
promote a client’s or employer’s position to the point that the
professional accountant’s objectivity is compromised;
d.Familiarity threat – the threat that due to a long or close
relationship with a client or employer, a professional accountant will
be too sympathetic to their interests or too accepting or their work;
and
e.Intimation threat – the threat that a professional accountant will
be deterred from acting objectively because of actual or perceived
pressures including attempts to exercise undue influence over the
professional accountant.
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LEGAL LIABILITY OF AUDITORS
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Changed legal environment
Once auditing became established as an important
part of capital markets in the second half of the
nineteenth century, it was expected to carry a public
responsibility.
The 19th century court cases established public
responsibility of auditing.
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LEGAL LIABILITY OF AUDITORS
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Changed legal environment (cont.)
The responsibility of auditors to safeguard the public
interest has increased as:
the number of investors has increased
the relationship between corporate managers and
stockholders has become more impersonal
the government increasingly relies on accounting
information.
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LEGAL LIABILITY OF AUDITORS
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ÁN
Changed legal environment (cont.)
Auditor liability to their clients and third party user groups has
developed from the following laws:
• Contract law: liability from breach of contract. The origin of
auditors responsibility. Client sued the auditor for not properly
performing an audit
• Common or tort law: expansion of liability to third parties that
rely on auditor reports concepts developed through court
decisions based on auditor negligence, gross negligence or
fraud
• Statute: liability based on statutes, such as the Corporations
Act, Trade Practices legislation and Crimes Acts.
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KIỂM TO
Factors leading to legal liability
ÁN
User awareness of the possibilities and rewards of
litigation
Deep pockets: auditors have professional indemnity
insurance and have until recently been jointly and
severally liable. This changed to proportionate
liability in Australia in 2002
Increased audit complexity due to computerised
systems, new types of transactions and operations,
more complicated accounting standards, more
international business
More demanding audit standards for detection of
errors and fraud
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Factors leading to legal liability
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Pressures to reduce audit time and improve
audit efficiency
Misunderstanding by users that an unqualified
opinion is an insurance policy against
misstatements (expectations gap)
Class action lawsuits:
allow law firms to combine defendants into one legal
action
permitted in Australia since 2003, grown with growth
of litigation funders such as IMF Ltd
no win no fee-based compensation for law firms.
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KIỂM TO
Basic legal concepts
ÁN
To understand the potential liability, the auditor
must understand:
concepts of breach of contract and tort
parties who may bring suit
legal precedence and statutes that may be
used as a standard against which auditor
performance may be evaluated
auditor defences.
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KIỂM TO
Causes of legal actions
ÁN
Causes of legal action from not using
reasonable care and skill in completing an audit:
breach of contract
negligence: failure to exercise a reasonable
level of care that causes damage to another
• Errors of judgement are not negligence
fraud: intentional concealment or
misrepresentation of material facts that cause
damages to those deceived.
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KIỂM TO
Breach of contract
ÁN
Breach of contract occurs when auditor fails to
perform a contractual duty.
Breach actions include:
failing to complete the engagement within the agreed-
upon time
withdrawing from the engagement without sufficient
justification
violating client confidentiality
failing to provide professional quality work.
Parties to the contract can file suit.
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Breach of contract (cont.)
ÁN
Court remedies to a breach include:
ordering auditors to fulfill the contract (specific
performance)
issuing an injunction to prohibit the auditor from
continuing the breach
ordering the auditor to pay compensatory (actual)
damages.
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KIỂM TO
Breach of contract (cont.)
ÁN
Auditors’ defences include:
the auditor did not breach the contract
the client was contributorily negligent
the client’s losses were not caused by the breach.
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Negligence
KIỂM TO
ÁN
Negligence can be classified as any conduct
that is careless or unintentional in nature and
entails a breach of any contractual duty or duty
of care in tort owed to another person or
persons.
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Requirements for a finding of negligence
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To be successful in a claim for negligence, a
plaintiff must prove that:
– Duty was owed to the plaintiff by the defendant;
– A breach of the duty of care (negligent conduct)
occurred;
– Loss or damage was suffered by plaintiff; and
– A causal relationship existed between the breach of
duty by defendant and harm suffered by the plaintiff
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Auditors Liability to Clients
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ÁN
• Auditors liability to clients arises generally from
failing to perform their duties with due care
Difficulty in establishing appropriate level of due care
Failure to follow auditing standards has often served
as conclusive evidence that level of care is deficient
• Liability to clients arises both in contract and in
the tort of negligence.
Distinction between the type of action brought is
related to the type of remedy sought
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Auditors Liability to Clients
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19th-century English cases defined auditing
London General Bank
Kingston Cotton Mills
Auditor did not guarantee; was not an insurer
Must be honest and use reasonable care and skill
The famous words: ‘… he is a watchdog not a bloodhound.’
Auditors are not investigators; they only provide assurance
“it is the duty of an auditor to bring to bear on the work that he has to
perform that skill, care, and caution which a reasonably
competent, careful and conscientious auditor would use. What is
reasonable skill, care and caution must depend on the particular
circumstances of each case”
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Auditor’s defenses against client suits
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ÁN
Four defenses against legal claims by
clients:
Lack of duty to perform the service
Nonnegligent performance
Contributory negligence
Absence of causal connection
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KIỂM TO
Auditors Liability to Third Parties
ÁN
Third parties: actual and potential stockholders,
vendors, bankers and other creditors,
employees and customers
A CPA firm may be liable to third parties if a loss
was incurred by the claimant due to reliance on
misleading financial statement
Auditor defenses against third-party suits: lack
of duty to perform service, nonnegligent
performance and absence of causal connection.
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KIỂM TO
Criminal Liability of Auditors
ÁN
Auditors can be subject to criminal
prosecution.
It is an offence under s. 1308(2) of
Corporations Act to knowingly make or
authorize false and misleading statements. A
penalty of $22,000 and/or five years’
imprisonment exists.
Criminal actions against auditors are rare.
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The profession’s response to legal liability
IỂM TOÁ
N
Seek protection from nonmeritorious litigation
Improve auditing to better meet users’ needs
Educate users about the limits of auditing
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