SEC proposes to amend auditor independence rules

Recently, SEC Chief Accountant Sagar Teotia hinted at possible forthcoming changes to the auditor independence rules, remarking that, in connection with the recent changes related to lending relationships, the SEC “also received comments on other aspects of auditor independence rules.  In conjunction with that feedback, the Chairman directed the staff to formulate recommendations to the Commission for possible additional changes to the auditor independence rules for potential rulemaking.” However, the nature of the potential changes remained something of a mystery. The proposal to amend the auditor independence rules has now been released.  According to the press release issued today, the proposal is intended to modernize aspects of the independence rules to minimize the potential for “relationships and services that would not pose threats to an auditor’s objectivity and impartiality [to] trigger non-substantive rule breaches or potentially time consuming audit committee review of non-substantive matters.”  It is important to keep in mind that violations of the auditor independence rules can have serious consequences not only for the audit firm, but also for the audit client.  For example, an independence violation may cause the auditor to withdraw its audit report, requiring the audit client to have a re-audit by another audit firm.  As a result, in most cases, inquiry into the topic of auditor independence should be a menu item on the audit committee’s plate. The comment period will be open for 60 days. ^[1][2][3]

The comprehensive framework of rules governing auditor independence identifies principles and relationships that would cause an auditor not to be independent of its audit client. The framework was initially adopted in 2000 and amended in 2003, but, except for the recent change in connection with debtor-creditor relationships, has otherwise not been reexamined since then, notwithstanding changes in “market conditions and industry practices.”  Under Rule 2-01(b), the SEC “will not recognize an accountant as independent, with respect to an audit client, if the accountant is not, or a reasonable investor with knowledge of all relevant facts and circumstances would conclude that the accountant is not, capable of exercising objective and impartial judgment on all issues encompassed within the accountant’s engagement.” In addition,  in determining whether an auditor is independent, the SEC “will consider all relevant circumstances, including all relationships between the accountant and the audit client.” Rule 2-01(c) provides a nonexclusive list of financial, employment, business and non-audit service relationships that the SEC views to be inconsistent with the independence standard in Rule 2-01(b).