APESB renews focus on SMSF auditor independence

Not any more. 

The new guidelines dispel the myth that APES 110 Code of Ethics for Professional Accountants (including independence standards) does not apply to SMSF audit clients because they fall within the “small client” category. It is precisely this type of classification, according to the guidelines, that has a direct impact on the type and significance of independence threats.

What compromises independence?

Where an SMSF auditor has any doubt about their independence and is unable to eliminate the circumstances creating a threat to independence, or fails to apply safeguards to reduce those threats to an acceptable level, they must decline the audit engagement. 

SMSF auditors should be applying a litmus test by asking themselves whether they would have any hesitation in qualifying an audit report or writing up an adverse finding. By way of example, if an SMSF auditor identified a reportable compliance breach for a new client and dealt with it through a management letter, their independence is shot. 

Can an SMSF firm still audit in-house?

The guidelines explicitly state that an auditor cannot audit an SMSF where the auditor, their staff or their firm has prepared the financial statements unless it is a routine or mechanical service. 

There can be no misunderstanding as to the nature of the guideline’s intent about what constitutes a routine or mechanical service. 

Services provided by the SMSF firm that is “routine or mechanical” require little or no professional judgement, such as preparing the accounts from a trustee-approved trial balance. 

The implication here, though, is that merely getting the trustee to approve and sign off a trial balance prepared by the firm would not be considered routine or mechanical. 

To this end, the firm must ensure the trustee has the suitable skills, knowledge and experience to remain responsible for their decisions. The trustee is also required to oversee the service and understand the objectives, nature and results of the firm’s services. 

Where the firm is unable to demonstrate the trustee’s ability to take responsibility, the auditor, their staff or their firm would be unable to prepare the financial statements and audit them. 

What about reciprocal arrangements?

An arrangement whereby two SMSF auditors audit each other’s personal SMSF, or where two firms prepare the financials in-house and then enter into an agreement to audit each other’s SMSF clients, represents a reciprocal arrangement.

Both the ATO and ASIC have these arrangements on their radar as an area of concern. 

There are no safeguards that can be put in place to eliminate the circumstances that create a self-interest, familiarity or intimidation threat to independence where auditors have reciprocal arrangements for their personal funds. They must decline or end the arrangement. 

One referral source issue

Firms that have a large proportion of fees coming from one referral source, such as under a reciprocal arrangement or where an SMSF auditor predominantly has one large client, may not be able to eliminate an independence threat. 

An appropriate safeguard would be to spread out the referral of clients to several different SMSF auditors, which would minimise the dependence on one source. Another might include engaging external quality control reviews or external consultation on critical audit judgements. 

Yet another solution would be for the SMSF auditor to increase their client base, which is not the easiest thing to do in these fee-challenged times. 

Are long-term arrangements affected?

Long-standing audit arrangements over 10 years can also provide the impetus for a self-interest or familiarity threat. 

Under these circumstances, auditor rotation could eliminate independence threats but may be a challenge to implement in a small firm. 

Other safeguards might include having a reviewer not involved in the audit to review the auditor’s work or performing regular independent internal and external quality reviews of the engagement. 

As a minimum, it is considered best practice to organise an internal or external independent review after auditing a fund for 10 years. 

ATO stance 

The ATO continues to refer SMSF auditors to ASIC as a result of their focus on SMSF auditor independence. 

In 2019, the ATO referred two Top 100 SMSF auditors and 29 high-risk auditors to ASIC after a review that identified a failure to comply with auditor independence standards. 

The ATO has always been concerned about the situation where the SMSF auditor is the registered tax agent and is also involved in preparing accounts and statements for the SMSFs they audit.

Conclusion 

The new guideline confirms that SMSF firms undertaking the audit and accounting function will no longer meet their obligations under professional standards and ethics. 

SMSF firms that provide both services and have long held the belief that there is no need to give up the SMSF audit should think about revising their business model. 

It will also be interesting to see how the ATO responds to the new guidelines and how they expect SMSF auditors to comply with the standard. 

Still, it must be apparent to even the most steadfast SMSF firm undertaking audits in-house that the rules have been rewritten given the renewed focus by the APESB on SMSF auditor independence.

Shelley Banton, head of technical, ASF Audits