For many years, preparation of financial statements was considered a part of an attest engagement (audits, reviews compilations). No longer.
The Professional Executive Ethics Committee (PEEC) recently added guidance to the “Nonattest Services” interpretation as follows:
…activities such as preparation of financial statements…are considered outside the scope of the attest engagement, and, therefore, are considered a nonattest service
Consequently, if an accountant prepares financial statements (a nonattest service) and performs an attest service (e.g., audit, review, compilation), then consideration should be given as to whether:
- the client makes all management decisions,
- the client properly oversees the service,
- the client evaluates the adequacy and results of the service, and
- the client accepts responsibility for the service
We have, for some time now, included the aforementioned language in engagement letters when we have performed both attest services and nonattest services. But the language referring to nonattest services usually addressed tax preparation, depreciation schedule preparation, bookkeeping and the like. Now preparation of financial statements should be listed as another nonattest service and the requisite language concerning client responsibilities (in the previous paragraph) applies to the preparation-of-financial-statements engagement.
The requirement to treat financial statement preparation as a nonattest service is effective for engagements covering periods beginning on or after December 15, 2014. If you, for example, perform a compilation engagement for January 2015 (i.e., a monthly financial statement), the new guidance is applicable. Of course, with regard to compilations, you can lack independence if it is noted in the compilation report. Not true for reviews and audits. CPAs are precluded from performing reviews and audits if their independence is impaired.
Here is the sample relevant paragraph from Illustration 1 of the compilation engagement letters in Section 80 of SSARS 21:
You are also responsible for all management decisions and responsibilities and for designating an individual with suitable skills, knowledge, and experience to oversee our preparation of your financial statements. You are responsible for evaluating the adequacy and results of the services performed and accepting responsibility for such services.
If other nonattest services are to be provided (e.g., tax return), they are to be listed alongside preparation of financial statements.
The client must accept responsibility for financial statements prepared as a part of an audit or a review for periods beginning after December 15, 2014. So, for example, if a client desires for you to perform a review engagement for the first quarter of 2015, the client must be able to oversee your preparation and accept responsibility for the financial statements. If the client is unable to accept that responsibility, then the accountant is not independent and would be precluded from performing the review engagement.
Simply including the standard language in the engagement letter (that management assumes responsibility) is not the same as management actually accepting responsibility.
Obviously, the determination of whether the client can (or has the ability to) accept responsibility is a subjective one. I anticipate additional guidance to be forthcoming from the AICPA to assist CPAs in making this decision.