Comments from ACCA
Overall, we welcome a number of the proposals set out in this consultation, albeit, it would have been helpful to have been able to comment on future proposals at an earlier stage of the policy decision-making process. It would also have been helpful if the consultation had considered alternative options for delivering local government audit, such as whether or not a unitary system of audit would have been a viable option.
We have some concerns that the consultation doesn't consider a number of issues that will need to be addressed following the abolition of the Audit Commission (the Commission) and these are listed below.
- The Commission's inspection and research activities.
- Value for money studies undertaken by an auditor with the agreement of the audited body or identified by the National Audit Office (NAO) for a national study.
- Anti-fraud and corruption work, in particular, the national fraud initiative (NFI). The Commission has had a valuable role in protecting the public purse through data matching and surveying local government. In 2010 the Commission's survey identified £135 million of local government fraud.
- The audit and co-ordination of grant certification work. Currently, local authorities receive around £46 billion of grants and funding from government departments.
- The co-ordination of the whole of government accounts (WGA) and how this will work in practice e.g. the role of the National Audit Office (NAO) and audit firms.
- The transfer of the in-house audit practice of the Commission, although we understand that a Ministerial decision is imminent.
- A holistic picture of how the regulatory framework will be administered.
- Other sectors and ad hoc organisations which currently fall under the remit of the Commission such as health, police and fire and emergency authorities and the London Pension Fund Authority (LPFA) etc. However, we understand that some but not all sectors, such as health will be addressed as part of the wider health reforms.
We would like to see the issues listed above addressed by the Government in a timely and cost effective manner and as part of its broader suite of reforms for local government. This will be critical for ensuring that expertise and experience developed over a considerable number of years is not lost to the sector and public audit more widely.
Have we identified the correct design principles? If not what other principles should be considered? Do the proposals in this document meet these design principles?
We believe that the principles of public audit outlined in this consultation are highly appropriate for local government audit. These are not new and have been successfully applied to auditing public services over a considerable number of years.
However, whilst a number of proposals set out in this consultation appear to fulfil the design principles, there are clearly a number of areas which need clarifying such as the regulatory regime for small audits, the appointment process and scope of audit to name but a few. We are not fully satisfied that all of the 'checks and balances' required for strong public audit have been addressed and that they are sufficiently robust to secure effective implementation. A fundamental design principle that is missing from this consultation is how the Government is going to encourage the creation of a diverse and competitive market for encouraging the involvement in local government audit work of firms of different sizes.
Do you agree that the audit probation trusts should fall within the Comptroller and Auditor General's regime?
In the absence of a Commission it would seem sensible to give the National Audit Office (NAO) responsibility for probation trusts audits, particularly since they are consolidated within the National Offender Management Services Accounts. However, the NAO will require increased resource and capacity to take on this task, particularly given that there are 42 probation authorities in England which will require annual audits. An alternative option might be to subject the external audit of probation authorities to private sector competition.
Do you think that the National Audit Office would be best placed to produce the Code of audit practice and the supporting guidance?
Yes, the NAO is best placed to produce a Code of audit practice. We believe that there should also be a duty to consult on the Code of audit practice with key stakeholders e.g. the Financial Reporting Council (FRC), professional accountancy bodies, Local Government Association (LGA), National Association of Local Councils (NALC) etc.
Do you agree that we should replicate the system for approving and controlling statutory auditors under the Companies Act 2006 for statutory local public auditors?
We agree that it would be appropriate for the FRC to take on the role of overall regulator for local government audit. We are keen to avoid the fragmented system of regulation which has been recently criticised by the House of Lords Economic Affairs Committee. The FRC would need additional resources and capacity to take on this role. Also, the FRC would need to have more authority than they currently have in the private sector in order to remove individual auditors and firms where quality standards have been breached. In addition, the Government needs to consider whether or not the FRC's powers of intervention will be limited to public interest entities (PIEs) or extended more broadly.
We are pleased to see that the eligibility criteria will be based on those for the audit of companies, so as to allow new audit firms to enter the market. But because of the unique nature of local government audit there may be a need for additional criteria to ensure auditors have the necessary experience to do public body.
Who should be responsible for maintaining and reviewing the register of statutory local public auditors?
We believe that all eligible local public auditors should be placed on a public register which should be kept, maintained and reviewed by the recognised supervisory bodies recognised under the Companies Act.
How can we ensure that the right balance is struck between requiring audit firms eligible for statutory local public audit to have the right level of experience, while allowing new firms to enter the market?
As well as the high level criteria set out in the consultation we would recommend that the FRC works with the supervisory bodies in specifying the technical standards for firms seeking to operate in the sector.
The Audit Inspection Unit (AIU) of the FRC would be best placed to oversee and regulate audit performance. It already has undertaken this role for a handful of local authority audits at the invitation of the Audit Commission. It would of course, need additional capacity and resources.
What additional criteria are required to ensure that auditors have the necessary experience to be able to undertake a robust audit of a local public body, without restricting the market?
As set out in 6 above, audit firms should adhere to specific technical and quality standards for the sector. However, the criterion needs to be flexible enough to encourage small to medium sized audit firms to enter the market. This is particularly important as there are a number of obstacles to new audit firms entering the local government market including: the potential lack of skills and capacity to undertake a wide scope of audit, market concentration and meeting the timescales recently announced by the Government for the tendering of audits by 2012/13.
Also, a potential barrier for small and medium sized firms entering the market is that in most cases they won't be able to demonstrate a proven track record of auditing local government. Therefore, they may fail at the first hurdle in the tendering process. As well as setting criteria it would be helpful for the professional oversight body to provide some guidance for firms on how to gain experience.
What should constitute a public interest entity (i.e. a body for which audits are directly monitored by the overall regulator) for the purposes of local audit regulation? How should these be defined?
There is an argument that by their very nature all local public bodies could be categorised as 'public interest entities.' Does the overall regulator need to undertake any additional regulation or monitoring of these bodies? If so, should these bodies be categorised by the key services they perform, or by their income or expenditure? If the latter, what should the threshold be?
What should the role of the regulator be in relation to any local bodies treated in a manner similar to public interest entities?
Arguably, all bodies that currently come under the auspices of the Audit Commission (large or small local authorities) can be deemed as public interest entities. Therefore, the private sector concept of public interest entities presents particular difficulties in the public sector. We would argue that overall regulation should be determined as local authorities of material and systemic interest. These bodies would be categorised by income and expenditure, as well as key services.
We are of the view that the overall regulator will have to understand the distinctive nature of public bodies and ensure that audit firms have the necessary experience and skills in the local government auditing. The wider scope of audit e.g. assessing arrangements for value for money and regularity and propriety will require a broader range of audit skills which go beyond private sector audit.
Do you think the arrangements we set out are sufficiently flexible to allow councils to cooperate and jointly appoint auditors? If not, how would you make the appointment process more flexible, whilst ensuring independence?
The arrangements set out in this consultation are sufficient to allow local bodies to co-operate to ensure wide competition for external audit contracts.
Do you think we have identified the correct criteria to ensure the quality of independent members? If not, what criteria would you suggest?
We believe that the criteria for structuring an audit committee seem sensible. It could be further enhanced by specifying that an audit committee should have a balance of members with financial expertise and skills. The independent Chair should be financially competent (a qualified accountant). It would also be helpful to provide guidance on the term of appointment for individual members to audit committees e.g. three years, appropriate levels of remuneration and some guidance on the optimal size of an audit committee.
How do we balance the requirements for independence with the need for skills and experience of independent members? Is it necessary for independent members to have financial expertise?
See our response to question 12.
Do you think that sourcing suitable independent members will be difficult? Will remuneration be necessary and, if so, at what level?
We think that there will be a mixed picture across local authorities in relation to their ability to attract suitably qualified independent members. The pool of individuals with financial skills to draw from is limited and there is strong competition from other public bodies, the third and private sectors for their skills.
Also, while many public appointments are voluntary, those across the NHS, wider health and social care community and government departments are typically remunerated on an annual basis. Most cover expenses such as travel and subsistence costs too. If local authorities are to attract the right calibre of independent members they will have to offer remuneration packages. A typical fee for an audit committee member on a PCT is around £13,000 pa.
Do you think that our proposals for audit committees provide the necessary safeguards to ensure the independence of the auditor appointment? If so, which of the options described in paragraph 3.9 seems most appropriate and proportionate? If not, how would you ensure independence while also ensuring a decentralised approach?
Which option do you consider would strike the best balance between a localist approach and a robust role for the audit committee in ensuring independence of the auditor?
Are these appropriate roles and responsibilities for the Audit Committee? To what extent should the role be specified in legislation?
Should the process for the appointment of an auditor be set out in a statutory code of practice or guidance? If the latter, who should produce and maintain this?
We agree that the proposals for audit committees to safeguard auditor independence are heading in the right direction. In particular, we are supportive of audit committees following guidance (adapted for local authorities) issued by the FRC. Also, we understand that there is no current statutory duty for local authorities to have an audit committee, therefore, as part of the 'checks and balances' we would like to see a statutory duty for local authorities to put in place an audit committee.
We agree that it should be the responsibility of the audit committee to advise full council on the appointment of an audit firm and for full council to approve the appointment. If for some reason the full council doesn't follow the advice of the audit committee we would expect to see full publication of the reasons why the advice wasn't taken.
Whilst being aware of the burden of regulation we are also aware of the risks of getting implementation of the new audit framework wrong because of the lack of clear guidance and support. Therefore, we would prefer to see Option (2) implemented to provide as much clarity as possible for members serving on an audit committee.
The roles and responsibilities listed appear appropriate, but not exhaustive. Other key functions that need to be outlined are the responsibilities of audit committees in relation to dealing with electors objections and supporting the auditor in circumstances that require a public interest report (PIR) to be issued. Further clarity is needed in these areas and responsibilities should be set out in a statutory code of practice.
Following the banking crisis further attention is being afforded to risk management and the potential establishment of risk committees for listed companies. A number of audit committees in the public sector already take on the function of ensuring organisations have the appropriate arrangements in place to address risk management issues. The proposal needs to reflect developments in this area and assess whether an audit committee or some other local authority body/committee should also be mandated to take on this role.
The appointment of the auditor should be set out in a statutory code. In the absence of a Commission, a single regulator should maintain this code and we would suggest that the FRC is best placed to take on this role.
Is this a proportionate approach to public involvement in the selection and work of auditors?
We agree that the proposal is proportionate. The appointment of an auditor by the local public body should be as transparent as possible and that publication of the invitation to tender and expressions of interest registered on the web-site will help to strengthen transparency. We also agree that a member of the public should be able to make representations to the audit committee if he/she believes there is a significant issue. It should be the responsibility of the audit committee to investigate and advise full council. Also, we believe that it would be helpful if some advice and guidance is provided for audit committees to decide on how to determine a significant issue from a vexatious complaint and deal with areas of potential conflict of interest.
How can this process be adapted for bodies without elected members?
Audit committees with clear terms of reference provide an important governance role for any organisation irrespective of whether or not they are in the public or private sector. They have been around for sometime in the health sector so we can see no reason as to why similar arrangements cannot be established for police and crime commissioners. The police and crime panel may be the obvious body to take on the role.
Which option do you consider provides a sufficient safeguard to ensure that local public bodies appoint an auditor? How would you ensure that the audited body fulfils its duty?
Should local public bodies be under a duty to inform a body when they have appointed an auditor, or only if they have failed to appoint an auditor by the required date?
If notification of auditor appointment is required, which body should be notified of the auditor appointment/failure to appoint an auditor?
In answer the questions 21, 22 & 23 we think that if a local authority fails to appoint an auditor it should have a duty to inform an appropriate oversight body. In the absence of the Commission and not wanting to create a fragmented system of regulation we believe that the FRC's audit inspection unit could take on this role and be given the power to make an appointment from an approved list of local authority auditors. The local authority should incur the costs of this additional process.
Should any firm's term of appointment be limited to a maximum of two consecutive five-year periods?
Do the ethical standards provide sufficient safeguards for the rotation of the engagement lead and the audit team for local public bodies? If not, what additional safeguards are required?
Do the proposals regarding the reappointment of an audit firm strike the right balance between allowing the auditor and audited body to build a relationship based on trust whilst ensuring the correct degree of independence?
ACCA is not in favour of mandatory rotation of audit firms. We believe that the provisions in the APB Ethical Standards concerning the rotation of key audit partners provide a more appropriate safeguard to the familiarity threat to independence. Continuity of auditor is a positive driver of audit quality and efficiency. This may be lost if there is mandatory rotation of the auditor, driven only by the desire to improve the apparent independence of the statutory role. Moreover, a local authority's choice may be limited because it is forced to appoint a new auditor, which may not be as suitable as the outgoing auditor.
Do you think this proposed process provides sufficient safeguard to ensure that auditors are not removed, or resign, without serious consideration, and to maintain independence and audit quality? If not, what additional safeguards should be in place?
We believe that the proposals outlined in the proposal which largely reflect the Companies Act should provide sufficient safeguards. In the interests of safeguarding independence, it should not be possible to remove and auditor because of disagreement over accounting policies etc. This should mirror the provisions set out in the EU Statutory Directive.
Do you think the new framework should put in place similar provision as that in place in the Companies sector, to prevent auditors from seeking to limit their liability in an unreasonable way?
In the absence of the Commission indemnifying auditor's costs when audit firms are engaged in litigation there is some inevitability that audit fees will rise to cover the risks of potential litigation.
We believe that it is unlikely that the Government's proposal to replicate the private sector model of limiting audit liability will result in reduced audit fees for local authorities. Although the Companies Act 2006 introduced an entitlement for companies and their auditors to enter into liability limitation agreements, subject to shareholder approval, to date these agreements do not appear widespread. This may be because it is the duty of directors under company law to act in the best interests of the company and therefore if they entered into a limited liability agreement they could be accused of not meeting this duty.
Which option would provide the best balance between costs for local public bodies, a robust assessment of value for money for the local taxpayer and provides sufficient assurance and transparency to the electorate? Are there other options?
Do you think local public bodies should be required to set out their performance and plans in an annual report? If so, why?
Would an annual report be a useful basis for reporting on financial resilience, regularity and propriety, as well as value for money, provided by local public bodies?
Should the assurance provided by the auditor on the annual report be 'limited' or 'reasonable'?
What guidance would be required for local public bodies to produce an annual report? Who should produce and maintain the guidance?
We believe that the scope of audit should be wider in the public sector to reflect the protection of public money and to recognise the distinct nature of public services which are focused on service delivery rather than maximising profitability. Unlike investors who have a choice to move funds when a company goes badly wrong, citizens haven't the choice of not paying their taxes if the local authority performs poorly. Generally taxpayers want to know that their money is well spent and local services deliver value for money.
However, that said, we are firmly of the view that all audits should be proportionate and risk based. The options set out in the proposal appear rather muddled so rather than agree a single option we would suggest that the following criteria as being included in the scope of an audit:
- An opinion on the financial statements as to whether they give a true and fair view
- Regularity and propriety – a conclusion on compliance with relevant laws and regulations and the audited body's governance and control regime
- Limited assurance as to whether the audited body has proper arrangements in place to secure value for money, this would form part of the auditors report on the annual report.
In our view the scope of audit for large local authorities will provide the best balance between costs and independent assurance for local public bodies. We believe anything outside the above scope such as local value for money reviews should be agreed locally with the audit firm as part of the contract.
In the interests of transparency and accountability we believe that local authorities should produce annual reports. A number of local authorities already do this and central government departments have been publishing departmental annual reports for some time. The annual report would be a useful basis for reporting on a summary of the financial accounts, going-concern, regularity and propriety as well as whether the local authority has adequate governance arrangements in place to support value for money. In our view the auditor should provide limited assurance on the annual report.
Although we are highly supportive of annual reports as a key document for outlining financial and non-financial performance of a local authority, the government needs to be also minded of the cost of producing the reports. Lessons need to be learnt from the 'best value' reports in the 1990's where millions of pounds were wasted on disseminating these reports to disinterested readers.
Do these safeguards also allow the auditor to carry out a public interest report without his independence or the quality of the public interest report being compromised?
We agree that it is important that the duty on an auditor to consider whether or not to make a report in the public interest should be retained. However, we don't believe that the safeguards outlined in this consultation allow the auditor to carry out public interest reports without compromising independence. The proposal fails to consider whether or not it is more appropriate for a completely independent body to undertake a PIR investigation rather than the local auditor. The former arrangement would ensure complete independence and follow the private sector model. There is also a role for the FRC's AIU in appointing an independent body and monitoring the quality of PIRs.
Also, it is not clear is how public interest reports will be co-ordinated when they cover multiple local authorities which may have different auditors. A typical example is when shared service arrangements have gone badly wrong and impact on a number of bodies, who will take the lead in issuing a PIR and how will this be co-ordinated?
Do you agree that auditors appointed to a local public body should also be able to provide additional audit-related or other services to that body?
Have we identified the correct balance between safeguarding auditor independence and increasing competition? If not, what safeguards do you think would be appropriate?
Public perception is important and confidence in the independence of the auditor can be undermined by the provision of non-audit services delivered to local authorities. This is recognised in existing regulatory environment (such as Article 22 of the Statutory Audit Directive and the IESBA Code of Ethics). In addition, in the private sector, the UK Code on Corporate Governance identifies the main role and responsibilities of the audit committee as including: 'to develop and implement policy on the engagement of the external auditors to supply non-audit services…'
Despite Article 22 being adopted in divergent ways across the EU we do not see an argument for a general prohibition on the provision on non-audit services by audit firms. In our view it is not possible or desirable. We believe it is for the local authority's audit committee to weigh up the numerous factors necessary when considering the possible threats to the auditor's independence. It can for example be more convenient and cheaper to use the non-audit services on an auditor because a third party does not posses as much knowledge of the business. The availability of the auditor as a supplier of non-audits services can itself widen choice.
Do you agree that it would be sensible for the auditor and the audit committee of the local public body to be designated prescribed persons under the Public Interest Disclosure Act? If not, who do you think would be best placed to undertake this role?
We agree with this option as it will make local authorities consistent with other sectors.
Do you agree that we should modernise the right to object to the accounts? If not, why?
Is the process set out above the most effective way for modernising the procedures for objections to accounts? If not, what system would you introduce?
Do you think it is sensible for auditors to be brought within the remit of the Freedom of Information Act to the extent of their functions as public office holders? If not, why?
What will be the impact on (i) the auditor/audited body relationship, and (ii) audit fees by bringing auditors within the remit of the Freedom of Information Act (to the extent of their functions as public office holders only)?
We agree that it is right to modernise the right to object to the accounts. We also agree that the public have an existing number of avenues for redress. However, what is less clear is how well these avenues are signposted for the public. For example, we doubt if most citizens know what maladministration means, let alone knowing that they must take their issue to the Local Government Ombudsman. Also, the wide variety avenues available for redress may mean that citizens take a scatter gun approach to raising an issue which has obvious cost and data and information sharing implications for the bodies involved in the investigation. In our view improved information and signposting is needed for the general public.
We agree to the removal of the right to make a formal objection, but to retain the right for the public to make representations to the auditor. It should be within the auditor's discretion to follow up an issue and whether to take it further.
As far as we understand the Commission has to comply with the Freedom of Information Act (FoI) but its auditors don't fall within its remit. We believe that any extension of this to firms would likely have an adverse impact on audit fees, as well as having a detrimental affect on the auditor/audit body relationship. Therefore, we don't see any added value from extending FoI Act to the firms.
Which option provides the most proportionate approach for smaller bodies? What could happen to the fees for smaller bodies under our proposals?
Do you think the county or unitary authority should have the role of commissioner for the independent examiners for smaller bodies in their areas? Should this be the section 151 officer, or the full council having regard to advice provided by the audit committee? What additional costs could this mean for county or unitary authorities?
What guidance would be required to enable county/unitary authorities to:
Appoint independent examiners for the smaller bodies in their areas?
Outline the annual return requirements for independent examiners?
Who should produce and maintain this guidance?
Would option 2 ensure that smaller bodies appoint an external examiner, whilst maintaining independence in the appointment?
Are there other options given the need to ensure independence in the appointment process? How would this work where the smaller body, e.g. a port health authority, straddles more than one county/unitary authority?
Is the four-level approach for the scope of the examination too complex? If so, how would you simplify it? Should the threshold for smaller bodies be not more than £6.5m or £500,000? Are there other ways of dealing with small bodies, e.g. a narrower scope of audit?
In our view the appointment process for the independent examiner should be proportionate and independent. The commissioning powers of a county or unitary authority will help small bodies to achieve some economies of scale. Option (1) is likely to be the most practical solution easier to implement. Although Option (2) has its merits there will be practical difficulties in some areas for smaller bodies joining together and a governance framework being put in place to ensure oversight and independence.
Also, Audit Committees will require guidance on the appointment of independent examiners. It would seem sensible that the guidance is held and maintained by one regulator such as the FRC.
We are of the view that the threshold for dealing with smaller bodies is arbitrary whether it is £500,000 or £6.5 million and it is problematic simply transplanting the thresholds for company audits on the public sector. We believe that there are other ways of dealing with small bodies through the scope of the audit. A narrow scope of audit which is proportionate and risk based would provide a more cost effective audit approach. The four tier framework for smaller bodies set out in the proposal appears unnecessarily complex and will potentially create as many problems as it is designed to solve.
Also, given that a significant number of local authorities fall below £6.5 million threshold, this collectively could amount to a significant sum of public money being spent without any assurance about value for money. A key question that is not addressed in the consultation is whether the Government is comfortable with the risk of not being assured that public money for small bodies is well spent and represents value for money.
Does this provide a proportionate, but appropriate method for addressing issues that give cause for concern in the independent examination of smaller bodies? How would this work where the county council is not the precepting authority?
Is the process set out above the most appropriate way to deal with issues raised in relation to accounts for smaller bodies? If not, what system would you propose?
Does this provide a proportionate but appropriate system of regulation for smaller bodies? If not, how should the audit for this market be regulated?
We agree that the proposal provides a proportionate approach where the county is a precepting authority. If there are significant issues to address as part of a PIR report it would seem sensible that the FRC is informed with a view to appointing an independent investigator.