Question

Review the threats to independence, and then review the safeguard to counteract the threats to independence. Now compare this to Conflicts of Interest and their safeguards.

***Please make the answer in 1 or 2 short paragraphs. Thank you.

Answer 1

Threats to Independence

The Code of Ethics for Professional Accountants, prepared by the International Federation of Accountants (IFAC) identifies five types of threats. These are:-

• Self-interest threats :- This threat occur when an auditing firm, its partner or associate could benefit from a financial interest in an audit client.

Example :- (i) direct financial interest or materially significant indirect financial interest in a client,

(ii) loan or guarantee to or from the concerned client

• Self-review threats :- This threat occur when during a review of any judgement or conclusion reached in a previous audit or non-audit engagement (Non audit services include any professional services provided to an entity by an auditor, other than audit or review of the financial statements. These include management services, internal audit, investment advisory service, design and implementation of information technology systems etc.), or when a member of the audit team was previously a director or senior employee of the client.

Example :- (i) when an auditor having recently been a director or senior officer of the company

• Advocacy threats :- This threat occur when the auditor promotes, or is perceived to promote, a client’s opinion to a point where people may believe that objectivity is getting compromised.

Example :- When an auditor becomes the client’s advocate in litigation and third party disputes.

• Familiarity threats :- Familiarity threats are self-evident, and occur when auditors form relationships with the client where they end up being too sympathetic to the client’s interests.

Example :- (i) Close relative of the audit team working in a senior position in the client company

• Intimidation threats :- which occur when auditors are deterred from acting objectively with an adequate degree of professional skepticism.   

Example :- Threat of replacement over disagreements with the application of accounting principles.

Safeguard to Counteract the Threats to Independence

The auditor has the responsibility to remain independent.So following are the guidlines to  eliminate the threats to independence,

• For the public to have confidence in the quality of audit, it is essential that auditors should always be and appears to be independent of the entities that they are auditing.

• In the case of audit, the key fundamental principles are integrity, objectivity and professional skepticism, which necessarily require the auditor to be independent.

• Before taking on any work, an auditor must conscientiously consider whether it involves threats to his independence

• When such threats exist, the auditor should either desist from the task or put in place safeguards that eliminate them.

• If the auditor is unable to fully implement credible and adequate safeguards, then he must not accept the work.

Conflict of Interest :-

When an individual forms a relationship, personal or professional, he may begin to desire and work towards certain goals.If two or more relationships have incompatible goals, the individual may make decisions that benefit one side over the other. This is called a "conflict of interest."

Safeguards to Prevent Conflict of Interest:-

• Prevention :-

The best way to mitigate conflicts of interest is to avoid them in the first place. Don't accept roles and responsibilities that are incompatible with your existing interests

• Public Disclosure :-

Avoid hiding your roles and responsibilities. Disclosing your interests in a public forum enables potential partners to determine the course of action for them.For example, if you have a known policy that prevents you from accepting gifts, you are less likely to be offered compromising presents.

• Follow Procedure :-

Organizations and governing bodies create extensive procedures and guidelines for the management of conflicts of interest. This documentation may include rules and lists of prohibited activities.

• Seek Mediation:-

Organizations caught within a conflict of interest may seek assistance from an impartial third-party.

• Awareness :-

Be aware of your roles and responsibilities. By acknowledging your position and interests, you cement your commitments to uphold certain beliefs.

• Non-Disclosure:-

Keep your varying interests separate whenever possible. Do not discuss personal, religious, social or political views at work.