EU audit reform brings in big changes

This article was first published in the September 2016 Ireland edition of Accounting and Business magazine.

Legislation regarding the new EU regulatory framework on statutory audit has now come into effect. Its aim is to enhance the integrity, independence, objectivity, transparency and reliability of statutory auditors and audit firms, while achieving a high level of consumer and investor protection.

It heralds a new era in the relationship between the auditor and the audited entity and, moreover, the regulation of that relationship to ensure the highest standards of quality and transparency are applied to all audits.

The new measures include significant changes to the regulatory regime for auditors, particularly for the audits of public interest entities (PIEs) such as banks, insurance companies and entities listed on regulated stock exchanges. These include equity, fund and debt issuers.

PIEs will be required to change auditor at least every 10 years, restrictions have been placed on the provision of certain non-audit services to PIEs, and the function, roles and responsibilities of the PIEs’ audit committees have been broadened.

What effect will the legislation have in practice?

The new legislation will bring about a number of changes to current practice in Ireland, the most significant of which are the following:

A new regulatory regime for auditors
The Irish Auditing and Accounting Supervisory Authority (IAASA) is now responsible for the direct inspection of auditors and audits of PIEs, and is the authority with ultimate responsibility for a number of functions undertaken by the recognised accountancy bodies (RABs) in Ireland.

Mandatory audit firm rotation for PIEs
In Ireland, the maximum period for which a statutory audit firm can be appointed as an auditor of a PIE is 10 years. In contrast, in the UK and some other EU states, this can be extended for a further 10 years, provided a public tendering process is conducted. Following rotation, a statutory audit firm is not eligible for reappointment as statutory auditor to that PIE for at least four years.

Restrictions on certain non-audit services to PIEs
The following are examples of the non-audit services that now cannot be provided to PIEs by their auditors:

• certain tax services
• internal audit function
• legal services
• human resources.

A monetary cap has been set on the level of fees for non-audit services
The legislation introduces a monetary limit on the level of fees that can be received for non-prohibited, non-audit services. Such fees cannot exceed 70% of the total audit fee received by the auditor of a PIE.

A broadening of the function, roles and responsibilities of audit committees
The legislation enhances the requirements for audit committees of PIEs; in particular, those regarding the technical competence and independence of audit committee members.

How does IAASA’s role change?

Following the enactment of the legislation, IAASA has assumed important new functions, and many of its existing functions have widened significantly. These changes will have major implications for IAASA and will require organisational change. They will also have a significant impact on its interaction with the auditing profession, as outlined here:

Domestic audit inspections
IAASA has been given ultimate responsibility for the quality assurance of auditors. IAASA will now perform direct inspections of the auditors of PIEs, and a new unit of IAASA has been established for this task. Direct inspections will involve assessing the policies for the audit firm as a whole, including policies on quality control and independence. In addition, IAASA will inspect a selection of PIE audits to ensure that those audits were conducted to the high standard expected by the users of financial information.

The recognised accountancy bodies will continue to perform the quality assurance inspections of non-PIE audits conducted by those firms, and all audits conducted by non-PIE audit firms. However, IAASA will be responsible for the oversight of how this function is conducted by RABs.

International audit inspections
The significant international dimension to the new IAASA audit inspection regime shouldn’t be underestimated. In addition to continued engagement with the international forums of audit regulators, IAASA will be required to share inspection findings at a European level, and will participate in joint inspections with third-country regulators. Most notably – given the number of high-profile US corporations with significant subsidiaries in Ireland – this includes joint inspections with the US Public Companies Auditing Oversight Board (PCAOB).

IAASA is also responsible for the registration and quality assurance of third-country auditors registered in Ireland.

Investigation and discipline
IAASA is empowered to conduct investigations into potential breaches of the new regulations by auditors. If a finding is made by IAASA, sanctions can be imposed, including fines of up to €100,000 for an auditor, or €500,000 for an audit firm, and prohibitions on working as an auditor or audit firm for up to three years. IAASA will publish details of any findings made and sanctions imposed.

Similar to audit inspections, it is expected the RABs will continue to perform investigation and discipline for non-PIE audits and auditors.

Auditing standards
The current audit framework consists of auditing standards, ethical standards and a quality-control standard. At present, the standards used in Ireland are those issued by the UK Financial Reporting Council (FRC), and auditors are mandated by their accountancy body to use these auditing standards when conducting an audit of an entity’s financial statements.

The legislation makes IAASA responsible for the adoption of the auditing framework, including auditing standards. The practical consequence of this is that the UK FRC can no longer issue auditing standards for both the UK and Ireland. This new regime will apply for the audits of entities with financial periods beginning on or after 17 June 2016. The current audit framework will apply to audits of financial periods beginning before 17 June 2016; for example, an audit of financial statements for a full year ending 31 March 2017. IAASA has been actively discussing, with a number of interested parties, the various options available. At this stage, the options are as follows:

• adopt an Irish version of the UK FRC standards under licence
• adopt the international standards under licence from International Federation of Accountants (IFAC) and provide Irish guidance
• create Irish auditing standards.

The deliverability of the first two options is based on the premise that licensing agreements can be put in place and discussions in this regard have commenced with both the FRC and IFAC.

IAASA will issue a full public consultation paper to seek views on the matter in the coming months.

Regulation of the profession
One of IAASA’s key responsibilities regarding the 5,272 audit firms registered in Ireland continues to be the delivery of independent and effective supervision of the RABs’ regulatory obligations. IAASA now has ultimate responsibility for the following tasks relating to auditors:

• approvals and registration, including recognition of EU member state firms
• investigations and discipline
• quality assurance reviews of statutory auditors and audit firms
• continuing education requirements.

The legislation requires that the six RABs in Ireland (four of which are also recognised supervisory bodies in the UK, including ACCA) shall perform these tasks, subject to oversight by IAASA.

IAASA shall have the power to take back tasks from the RABs in certain circumstances. Tasks are assigned to the RABs in Irish legislation, which differs in form to the UK, whereby the FRC delegates the tasks to the accountancy bodies. It is anticipated that forthcoming primary legislation will mirror the form adopted in some other member states.

More changes ahead

Brexit
Adding to the challenges of audit reform is Brexit and the potential impact it will have on the audit market. Brexit could have a significant impact in Ireland, where many auditors (including members of ACCA) are registered as statutory auditors in both jurisdictions.

It is also likely to form part of IAASA’s consideration in relation to which auditing and ethical standards should be followed in Ireland. The impact is unknown, but it certainly has added a layer of uncertainty to be considered when contemplating changes arising from audit reform.

Further legislation
However, regardless of Brexit, Statutory Instrument 312 is still not the end of the legislative process. Primary legislation is anticipated shortly and it is expected that this legislation will contain further changes to the investigation and disciplinary powers of IAASA, as well as changes to the model of how tasks are delegated to the RABs.

It is clear the new legislation will mean significant changes for all those affected by it. IAASA is committed to working with all stakeholders to ensure these important new reforms are effectively and robustly implemented.

Michael Kavanagh is interim chief executive at IAASA

Any opinions expressed are that of the writer.