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Flashcards in A6-1 Deck (84)
1

According to the ethical standards of the profession, which of the following acts by a CPA is generally prohibited?

a.

Writing a financial management newsletter promoted and sold by a publishing company.

b.

Accepting engagements obtained through the efforts of third parties.

c.

Accepting a commission for recommending a product to an audit client.

d.

Purchasing a product from a third party and reselling it to a client.

Choice "c" is correct. A CPA may not accept a commission for recommending a product to a client if the CPA audits or reviews that client's financial statements.

Choice "d" is incorrect. A CPA may resell a product to a client.

Choice "a" is incorrect. This is not considered incompatible with a CPA's practice.

Choice "b" is incorrect. A CPA may accept engagements obtained through the efforts of third parties.

2

According to the standards of the profession, which of the following circumstances will prevent a CPA performing audit engagements from being independent?

a.

Acting as an honorary trustee for a not-for-profit organization client.

b.

Employment of the CPA's spouse as a client's internal auditor.

c.

Litigation with a client relating to billing for consulting services for which the amount is immaterial.

d.

Obtaining a collateralized automobile loan from a financial institution client.

Choice "b" is correct. Independence of a member is impaired if the CPA's spouse is employed by the client in a position which is audit-sensitive. Examples of positions that are audit-sensitive include cashier, internal auditor, accounting supervisor, purchasing agent, or inventory warehouse supervisor.

Choice "d" is incorrect. The following types of loans do not impair independence:

Automobile loans,

Loans of the surrender value under terms of an insurance policy,

Borrowings fully collateralized by cash deposits at the same financial institution, and

Credit cards and cash advances on checking accounts with an aggregate unpaid balance of $10,000 or less.

Choice "c" is incorrect. Litigation not related to the engagement for an immaterial amount does not impair independence.

Choice "a" is incorrect. Acting as an honorary trustee for a not-for-profit company does not impair independence.

3

Under the ethical standards of the profession in the United States, which of the following circumstances would impair independence in the audit of an issuer but would not impair independence in the audit of a nonissuer?

a.

The audit firm has an immaterial direct financial interest in the client.

b.

The firm performing the financial statement audit also designed and implemented the client's financial information system.

c.

The audit firm provided a loan to the client during the prior year.

d.

The lead partner has worked on the audit engagement of a client for ten years.

Choice "d" is correct. The ethical standards that apply to the audits of issuers (SOX/PCAOB/SEC) require that the lead partner rotate off the audit engagement after 5 years. The AICPA Code of Professional Conduct, which is followed when auditing nonissuers, does not require audit partner rotation.

Choice "b" is incorrect. All U.S. ethical standards prohibit the performance of financial information systems design and implementation services for audit clients.

Choice "c" is incorrect. Loans to or from clients, other than loans from financial institutions under normal lending policies, are prohibited for audits of issuers and nonissuers under all ethical standards.

Choice "a" is incorrect. Any direct financial interest in a client impairs independence, whether the client is an issuer or a nonissuer.

4

Which of the following actions by a CPA most likely violates the profession's ethical standards?

a.

Compiling the financial statements of a client that employed the CPA's spouse as a bookkeeper.

b.

Arranging with a financial institution to collect notes issued by a client in payment of fees due.

c.

Using a records-retention agency to store confidential client records.

d.

Retaining client records after the client has demanded their return.

Choice "d" is correct. Failure to return records to a client after the client makes a demand is considered to be an act discreditable to the profession, and as such violates the profession’s ethical standards.

Choice "c" is incorrect. There is no prohibition against using a records-retention agency to store confidential client records.

Choice "b" is incorrect. Arranging with a financial institution to collect notes issued by a client in payment of fees due does not violate the profession’s ethical standards.

Choice "a" is incorrect. A compilation of financial statements does not require the auditor to be independent (although the lack of independence should be disclosed). Although this engagement poses a familiarity threat, the firm may have implemented appropriate safeguards to bring the threat to an acceptable level.

5

Jackson & Company, CPAs, plan to audit the financial statements of Perigee Technologies, an issuer as defined under the Sarbanes-Oxley Act of 2002. Which of the following situations would impair Jackson's independence?

a.

An audit of Perigee's internal control is performed contemporaneously with the annual financial statement audit.

b.

Provision of personal tax services to Johnson, the accounts payable manager of Perigee.

c.

Preparation of Perigee's routine annual tax return, where Jackson's fee will be calculated as a percentage of the tax refund obtained.

d.

Discovering that Lowe, the chief financial officer of Perigee, started his accounting career ten years earlier as a staff accountant for Jackson & Company, and continues to maintain ties with current partners at the firm.

Choice "c" is correct. The provision of services involving contingent fee arrangements impairs the auditor's independence.

Choice "b" is incorrect. Personal tax services provided to employees do not impair the auditor's independence; however, personal tax services provided to corporate officers or their families would impair independence.

Choice "a" is incorrect. Independence is not impaired by the performance of an audit of Perigee's internal control; in fact, such services are required by PCAOB Auditing Standard No. 5 (covered in a later class).

Choice "d" is incorrect. The prohibition against auditing companies whose corporate officers worked for the auditing firm only applies if those officers worked on the audit during the preceding year.

6

The concept of materiality would be least important to an auditor when considering the:

a.

Adequacy of disclosure of a client's illegal act.

b.

Discovery of weaknesses in a client's internal control.

c.

Decision whether to use positive or negative confirmations of accounts receivable.

d.

Effects of a direct financial interest in the client on the CPA's independence

Choice "d" is correct. Any direct financial interest in a client impairs independence, even if it is immaterial.

Choice "a" is incorrect. A material illegal act may require disclosure in or adjustment to the financial statements, whereas an immaterial illegal act may not require disclosure.

Choice "b" is incorrect. A material weakness in internal control will affect the nature, timing, and extent of audit procedures, whereas an immaterial weakness in internal control may have little impact on the audit.

Choice "c" is incorrect. An auditor is likely to use positive confirmations for material accounts receivable, but may consider negative confirmations for immaterial receivable balances.

7

Which of the following statements is incorrect regarding the SEC's partner rotation rules?

a.

Other audit partners are subject to a two year time out period.

b.

The lead and concurring partners are subject to a five year time out period.

c.

All audit partners must rotate off the audit engagement after five years.

d.

Small firms may be exempted from the partner rotation requirement.

Choice "c" is correct. This statement is incorrect. Under the SEC's rules, the lead and concurring partner must rotate off the engagement after five years and other audit partners must rotate after seven years. (Note that the IFAC Code of Ethics requires that the lead and engagement quality review partners on public company audits rotate after no more than seven years.)

Choice "d" is incorrect. This statement is correct. Small firms with fewer than five clients who are issuers may be exempted from the partner rotation rules.

Choices "b" and "a" are incorrect. These statements are correct. The lead and concurring partners are subject to a 5 year time out period before they can return to an engagement. Other audit partners are subject to a two year time out period.

8

Which of the following services do not need to be pre-approved by the audit committee of an issuer?

a.

Non-audit services that are less than five percent of total revenues from the audit client.

b.

Tax services.

c.

Services provided by the auditor on a recurring basis.

d.

Non-audit services related to internal control over financial reporting.

Choice "a" is correct. Non-audit services that do not exceed five percent of total revenues from an audit client do not require audit committee preapproval as long as the services are brought to the audit committee's attention and approved before the completion of the audit.

Choice "b" is incorrect. Tax services must be preapproved by the audit committee.

Choice "c" is incorrect. All audit, review, attestation, tax and significant non-audit services must be preapproved by the audit committee, even if provided on a recurring basis.

Choice "d" is incorrect. Non-audit services related to internal control over financial reporting must be preapproved by the audit committee.

9

The auditor of an issuer may provide which of the following tax services?

a.

Tax planning services.

b.

Services related to confidential tax transactions.

c.

Tax services for immediate family members of corporate officers.

d.

Tax services for officers of the issuer.

Choice "a" is correct. Permitted tax services include tax compliance, tax planning, and tax advice. The PCAOB prohibits tax services related to confidential or aggressive tax transactions and tax services to corporate officers of audit clients or immediate family members of corporate officers.

10

Which of the following will impair independence under the U.S. Department of Labor's independence rules for audits of employee benefit plans?

a.

The accountant is engaged to audit both the employee benefit plan and the financial statements of the plan sponsor.

b.

An actuary from the audit firm provides services to the employee benefit plan.

c.

The auditor also serves as an investment advisor to the employee benefit plan.

d.

A former employee of the benefit plan works for the audit firm but does not participate in the benefit plan audit.

Choice "c" is correct. Under DOL rules, independence is impaired when an auditor also serves as an investment advisor to the employee benefit plan.

Choice "a" is incorrect. Under DOL rules, independence is not impaired when an auditor audits both the employee benefit plan and the financial statements of the plan sponsor.

Choice "b" is incorrect. Under DOL rules, an actuary from the auditor's firm may provide services to the employee benefit plan without impairing independence.

Choice "d" is incorrect. Under DOL rules, independence is not impaired when a former employee of the plan works for the audit firm, as long as the employee has completely disassociated from the plan and does not participate in auditing the plan's financial statements for any period of the individual's employment with the plan.

11

Which of the following items impairs independence under U.S. ethics standards, but does not necessarily impair independence under the IFAC Code of Ethics for Professional Accountants?

a.

Contingent fee arrangements for audit engagements.

b.

Employment at a client of an immediate family member of the engagement partner in a key accounting position.

c.

The auditor also provides internal audit outsourcing services.

d.

An immaterial direct financial interest in an audit client.

Choice "c" is correct. Under the IFAC Code of Ethics, an auditor may provide internal audit services if appropriate safeguards are put in place to limit or eliminate any threats to independence. Internal audit outsourcing services may not be provided to audit clients under U.S. ethics standards.

Choice "d" is incorrect. Any direct financial interest impairs independence under both U.S. ethics standards and the IFAC Code of Ethics.

Choice "b" is incorrect. Employment at a client of an immediate family member of any audit team member in a key position impairs independence under both U.S. ethics standards and the IFAC Code of Ethics.

Choice "a" is incorrect. Contingent fee arrangements impair independence under both U.S. ethics standards and the IFAC Code of Ethics.

12

Which of the following statements best describes the ethical standard of the profession pertaining to advertising and solicitation?

a.

All forms of advertising and solicitation are prohibited.

b.

A CPA may advertise in any manner that is not false, misleading, or deceptive.

c.

There are no prohibitions regarding the manner in which CPAs may solicit new business.

d.

A CPA may only solicit new clients through mass mailings.

Choice "b" is correct. According to the Advertising and Other Forms of Solicitation Rule, advertising that is not false, misleading or deceptive is permitted by the CPA.

Choice "a" is incorrect. Advertising that is informative and objective is allowed according to the Advertising and Other Forms of Solicitation Rule.

Choice "c" is incorrect. Advertising and Other Forms of Solicitation Rule states that false, misleading or deceptive advertising is not allowed.

Choice "d" is incorrect. Mass mailings are not the only form of advertising allowed. Be careful of choices including the words "all, always, must, only, and never."

13

Under the ethical standards of the profession, which of the following situations involving nondependent members of an auditor's family is most likely to impair the auditor's independence?

a.

A spouse's employment with a client.

b.

A first cousin's loan from a client.

c.

A sibling's loan to a director of a client.

d.

A parent's immaterial investment in a client.

Choice "a" is correct. According to the Independence Rule, independence requirements extend to the member's spouse, dependent children, and dependent relatives. A spouse working for a client is considered part of the class of "members" subject to independence requirements.

Choices "d", "b", and "c" are incorrect. These choices do not, by definition, fall within the "member" class.

14

Under the ethical standards of the profession, which of the following investments in a client is not considered to be a direct financial interest?

a.

An investment held through a nonclient regulated mutual fund.

b.

An investment held by the trustee of a trust.

c.

An investment held through a nonclient investment club.

d.

An investment held in a blind trust.

Choice "a" is correct. According the Independence Rule of the Code of Professional Conduct, independence is impaired based on control or the appearance of control that a member can exert over the investment. While it is still not desirable to even own shares in a nonclient regulated mutual fund that has investments in the client company, this answer choice is the best given the choices. The member does not control which stocks the mutual fund is investing in.

Choices "c", "d", and "b" are incorrect. The member can exert control upon which investments are purchased by the investment club or by the trustees in trusts that could be revocable.

15

Burrow & Co., CPAs, have provided annual audit and tax compliance services to Mare Corp. for several years. Mare has been unable to pay Burrow in full for services Burrow rendered 19 months ago. Burrow is ready to begin fieldwork for the current year's audit. Under the ethical standards of the profession, which of the following arrangements will permit Burrow to begin the fieldwork on Mare's audit?

a.

Mare commits to pay the past due fee in full before the audit report is issued.

b.

Mare gives Burrow an 18-month note payable for the full amount of the past due fees before Burrow begins the audit.

c.

Mare sets up a two-year payment plan with Burrow to settle the unpaid fee balance.

d.

Mare engages another firm to perform the fieldwork, and Burrow is limited to reviewing the workpapers and issuing the audit report.

Choice "a" is correct. According to the Independence Rule of the Code of Professional Conduct, a member's independence is impaired with respect to a client who is more than one year overdue in the payment of professional fees. An attestation engagement, such as an audit, requires independence of mind and in appearance. Fees from prior work must be paid in full before the issuance of a report on the following year's work.

Choices "c" and "b" are incorrect. Neither of these answers would provide for the fees to be paid before the issuance of the report on the current year financial statements.

Choice "d" is incorrect. Burrow would not accept an engagement of this type, and the fees related to the prior year work would not be paid before the issuance of the current year report.

16

According to the ethical standards of the profession, which of the following acts is generally prohibited?

a.

Revealing confidential client information during a quality review of a professional practice by a team from the state CPA society.

b.

Issuing a modified report explaining a failure to follow a governmental regulatory agency's standards when conducting an attest service for a client.

c.

Retaining client records after an engagement is terminated prior to completion and the client has demanded their return.

d.

Accepting a contingent fee for representing a client in an examination of the client's federal tax return by an IRS agent.

Choice "c" is correct. The Code of Professional Conduct provides that a CPA may not commit a discreditable act. Retaining a client's records after a demand for their return has been ruled to be a discreditable act.

Choice "b" is incorrect. Issuing a modified report explaining a failure to follow a governmental regulatory agency's standards when conducting an attest service for a client is not generally prohibited.

Choice "a" is incorrect. A CPA may reveal confidential client information to a state CPA society quality review team.

Choice "d" is incorrect. Contingent fees are prohibited when preparing a tax return, but not when representing a client in an examination by the IRS.

17

According to the standards of the profession, which of the following activities may be required in exercising due care?

~~Consulting with experts
~~Obtaining specialty accreditation
a.

No

No

b.

Yes

Yes

c.

Yes

No

d.

No

Yes

Choice "c" is correct. Exercise of due care dictates consultation or referral when a professional engagement exceeds the CPA's personal competence. There is no requirement to obtain specialty accreditation.

18

According to the profession's ethical standards, which of the following events may justify a departure from GAAP?

~~New legislation
~~Evolution of a new form of business transaction
a.

No

Yes

b.

Yes

No

c.

No

No

d.

Yes

Yes

Choice "d" is correct. Accounting Principles Rule provides that while GAAP should be followed, unusual circumstances, such as new legislation or the evolution of a new form of business transaction, can justify a departure.

19

To exercise due professional care an auditor should:

a.

Design the audit to detect all instances of illegal acts.

b.

Critically review the judgment exercised by those assisting in the audit.

c.

Examine all available corroborating evidence supporting management's assertions.

d.

Attain the proper balance of professional experience and formal education.

Choice "b" is correct. Due care in performing an audit requires a member to plan and supervise adequately any professional activity for which he or she is responsible. This includes critical review at every level of supervision of the work done and the judgment exercised by those assisting in the examination.

Choice "c" is incorrect. An auditor need not examine all available corroborating evidence. Only sufficient appropriate evidence to provide the auditor with a reasonable basis for forming an opinion is required.

Choice "a" is incorrect. Because of the characteristics of illegal acts, an audit conducted in accordance with generally accepted auditing standards provides no assurance that illegal acts will be detected or that any contingent liabilities that may result will be disclosed.

Choice "d" is incorrect. The attainment of the proper balance between professional experience and formal education is related to the training and proficiency requirement rather than to the requirement of due care.

20

Must a CPA in public practice be independent of mind and in appearance when providing the following services?

~~Compilation of personal financial statements
~~Preparation of a tax return
~~Compilation of a financial forecast
a.

Yes

No

No

b.

No

No

Yes

c.

No

No

No

d.

No

Yes

No

Choice "c" is correct. Independence is not required for compilation engagements or for preparation of a tax return.

21

Which of the following statements best explains why the CPA profession has found it essential to promulgate ethical standards and to establish means for ensuring their observance?

a.

Vigorous enforcement of an established code of ethics is the best way to prevent unscrupulous acts.

b.

A distinguishing mark of a profession is its acceptance of responsibility to the public.

c.

A requirement for a profession is to establish ethical standards that stress primary responsibility to clients and colleagues.

d.

Ethical standards that emphasize excellence in performance over material rewards establish a reputation for competence and character.

Choice "b" is correct. A distinguishing mark of a profession is its acceptance of responsibility to the public.

22

Which of the following reports may be issued only by an accountant who is independent of a client?

a.

Report on consulting services.

b.

Compilation report on historical financial statements.

c.

Compilation report on a financial projection.

d.

Standard report on an examination of a financial forecast.

Choice "d" is correct. The accountant must be independent to issue a standard report on an examination of a financial forecast.

Choice "a" is incorrect. A member need not be independent to issue a report on consulting services.

Choice "b" is incorrect. It has been ruled that a member can issue a historic compilation report even though the accountant lacks independence, but the lack of independence must be disclosed.

Choice "c" is incorrect. An accountant can issue compilations even though the accountant is not independent, but the lack of independence must be disclosed.

23

According to the profession's ethical standards, an auditor would be considered independent in which of the following instances?

a.

The client is the only tenant in a commercial building owned by the auditor.

b.

The auditor's checking account that is fully insured by a federal agency, is held at a client financial institution.

c.

The auditor is the officially appointed stock transfer agent of a client.

d.

The client owes the auditor fees for more than two years prior to the issuance of the audit report.

Choice "b" is correct. Because the deposit account is fully insured, independence is not considered to be impaired.

Choice "c" is incorrect. It has been held that an auditor who is appointed the stock transfer agent of a corporation is not considered to be independent because the functions of a stock transfer agent are similar to that of a manager of the client.

Choice "d" is incorrect. If fees are owed for more than one year, the auditor is considered to be a creditor of the client, and independence is impaired.

Choice "a" is incorrect. If the client is the auditor's only tenant, the auditor definitely has a financial interest in the client's well being, and this situation impairs independence.

24

According to the profession's ethical standards, a CPA would be considered independent in which of the following instances?

a.

The CPA belongs to a country club client in which membership requires the acquisition of a pro rata share of equity.

b.

The CPA owns an office building and the mortgage on the building is guaranteed by a client.

c.

A client leases part of an office building from the CPA, resulting in a material indirect financial interest to the CPA.

d.

The CPA has a material direct financial interest in a client, but transfers the interest into a blind trust.

Choice "a" is correct. Membership in a social club in which membership requirements involve acquisition of a pro rata share of equity does not impair independence because such equity is not considered to be a direct financial interest. The member, however, should not serve in any management capacity.

Choice "c" is incorrect. Leasing property to a client results in an indirect financial interest that impairs a CPA's independence.

Choice "d" is incorrect. Any direct or material indirect financial interest impairs a CPA's independence with respect to a client, whether or not the financial interest is placed in a blind trust.

Choice "b" is incorrect. A CPA's independence is considered impaired if the CPA has any loan to or from the client. A loan includes a guarantee of a loan.

25

According to the ethical standards of the profession, which of the following acts generally is prohibited?

a.

Issuing a modified report explaining the CPA's failure to follow a governmental regulatory agency's standards when conducting an attest service for a client.

b.

Retaining client records after the client has demanded their return.

c.

Revealing client tax returns to a prospective purchaser of the CPA's practice.

d.

Accepting a contingent fee for representing a client in connection with obtaining a private letter ruling from the Internal Revenue Service.

Choice "b" is correct. According to the Discreditable Acts Rule, members may not commit any act that discredits the profession. Failure to return records to a client after the client makes a demand is specifically listed as an act that would discredit the profession.

Choice "d" is incorrect because a contingent fee is permitted when representing a client in a request for a ruling by IRS. The determination of the result would be determined by the IRS, not the accountant.

Choice "c" is incorrect. Although an accountant may not reveal confidential client information to others without the client's permission, the rule does not prohibit a review of the accountant's practice in connection with a sale of the accountant's practice. The accountant is required to take appropriate precautions in such cases. A written confidentiality agreement would be an example of such a precaution.

Choice "a" is incorrect. Unusual circumstances may justify a departure from generally accepted accounting principles if compliance would cause the report to be misleading (e.g., new legislation or new forms of business transactions). The departure must be described and explained.

26

Management of Hill Company has decided not to account for a material transaction in accordance with the provisions of GAAP. In setting forth its reasons in a note to the financial statements, management has clearly demonstrated that due to unusual circumstances the financial statements presented in accordance with the GAAP would be misleading. The auditor's report should include an emphasis-of-matter paragraph and contain a(an):

a.

Adverse opinion.

b.

"Subject to" qualified opinion.

c.

Unmodified opinion.

d.

"Except for" qualified opinion.

Management of Hill Company has decided not to account for a material transaction in accordance with the provisions of GAAP. In setting forth its reasons in a note to the financial statements, management has clearly demonstrated that due to unusual circumstances the financial statements presented in accordance with the GAAP would be misleading. The auditor's report should include an emphasis-of-matter paragraph and contain a(an):

a.

Adverse opinion.

b.

"Subject to" qualified opinion.

c.

Unmodified opinion.

d.

"Except for" qualified opinion.

27

An auditor's independence is considered impaired if the auditor has:

a.

An immaterial, indirect financial interest in a client.

b.

A joint, closely-held business investment with the client that is material to the auditor's net worth.

c.

A mortgage loan, executed with a financial institution client on March 1,1990, that is material to the auditor's net worth.

d.

An automobile loan from a client bank, collateralized by the automobile.

Choice "b" is correct. According to the Independence Rule, independence is impaired with an audit client if the auditor has a direct financial interest regardless of materiality, or a material indirect financial interest in the client. A joint, closely-held business investment with the client that was material would be a clear violation.

Choice "a" is incorrect because an immaterial indirect financial interest is permissible.

Choice "d" is incorrect because fully collateralized auto loans with financial institution clients are permissible.

Choice "c" is incorrect. Although such a loan made today would impair independence, there is an exception made for such loans executed prior to February 5, 2001.

28

Under the ethical standards of the profession, which of the following positions would be considered a position of significant influence in an audit client?

a.

A policy-making position in the client's finance division.

b.

A staff position in the client's research and development division.

c.

A senior position in the client's human resources division.

d.

A marketing position related to the client's primary products.

Choice "a" is correct. The Independence Rule of the Code of Conduct requires auditors to be independent of their clients. Independence is not impaired by an immediate family member's employment with a client provided that (s)he is not in a key position. Having a policy-making position in the client's finance division would clearly be a key position.

Choices "d", "b", and "c" are incorrect. Having a marketing position, a position in research and development or a position in human resources would not be directly related to financial activities.

29

A CPA who is not in public practice is obligated to follow which of the following rules of conduct?

a.

Commissions.

b.

Integrity and objectivity.

c.

Independence.

d.

Contingent fees.

Choice "b" is correct. A CPA must maintain objectivity and integrity in the performance of any professional service.

Choice "c" is incorrect. Independence is only required for audits and other attestation services. A CPA who is not in public practice would not perform audits or attestation services.

Choice "d" is incorrect. Contingent fees are fees based on a specific finding or result, and they are often prohibited for attest engagements.

Choice "a" is incorrect. Commissions are prohibited if the CPA is performing an audit or review, an examination of prospective financial information or a compilation when the member does not disclose independence. These prohibitions are not applicable to a CPA who is not in public practice.

30

Under the ethical standards of the profession, which of the following business relationships would generally not impair an auditor's independence?

a.

Client's general counsel.

b.

Advisor to a client's board of trustees.

c.

Promoter of a client's securities.

d.

Member of a client's board of directors.

Choice "b" is correct. The Independence Rule of the Code of Conduct requires that members be independent in audits and attestation services. Independence is impaired if an auditor is an employee of an audit client or is able to make management decisions on behalf of an audit client. An advisor of an audit client's board of directors is not an employee, nor is the advisor able to make management decisions for the audit client. The advisor does not make decisions, the advisor simply gives advice that the client is free to accept or reject.

Choice "c" is incorrect. A promoter of the audit client's securities has a direct relationship with the client. Being a promoter constitutes a business relationship that would impair independence.

Choice "d" is incorrect. A member of the board of directors of the audit client is able to make management decisions for the client. Being a member of the board constitutes a business relationship that would impair independence.

Choice "a" is incorrect. A client's general counsel is an employee. Acting as general counsel constitutes a business relationship that would impair independence.

31

Under which of the following circumstances may a CPA charge fees that are contingent upon finding a specific result?

a.

For an audit or a review if agreed upon by both the CPA and the client.

b.

For a compilation if a third party will use the financial statement and disclosure is notmade in the report.

c.

If fixed by courts, other public authorities, or in tax matters if based on the results of judicial proceedings.

d.

For an examination of prospective financial statements.

Choice "c" is correct. Fees are not regarded as being contingent when they are fixed by courts or other public authorities or in tax matters, if they are based on the results of court proceedings or the findings of governmental agencies. Further, contingent fees are permitted for compilations only if the member includes a statement that the member is not independent.

Choice "d" is incorrect. Contingent fees are specifically prohibited for audits and reviews of financial statements or examinations of prospective financial information.

Choice "a" is incorrect. Contingent fees are specifically prohibited for audits and reviews of financial statements or examinations of prospective financial information.

Choice "b" is incorrect. Contingent fees are permitted for compilations only if the member includes a statement that the member is not independent.

32

According to the ethical standards of the profession, a CPA's independence would most likely be impaired if the CPA:

a.

Served, with a client bank, as a co-fiduciary of an estate or trust.

b.

Became a member of a trade association that is a client.

c.

Accepted any gift from a client.

d.

Contracted with a client to supervise the client's office personnel.

Choice "d" is correct. With regard to business relationships, independence is impaired if the member is an employee of an attestation client or is able to make management decisions on behalf of the client. Independence would, therefore, be impaired if a CPA contracted with the client to supervise the client's office personnel (e.g., in the performance of normal recurring activities).

Choice "c" is incorrect. Independence is impaired only by acceptance of more than a token gift. This answer choice indicates that ANY gift would impair independence.

Choice "b" is incorrect. Membership in a trade organization that is a client would not cause independence to be impaired unless the CPA served in a management capacity of the trade organization.

Choice "a" is incorrect. Independence is not impaired if a CPA serves as a co-trustee of an estate or trust with a client bank. The CPA is not making management decisions for the client in this case. The CPA is simply making management decisions for the estate or trust along with the client bank.

33

According to the AICPA Code of Professional Conduct, which of the following financial interests in the client during the period of the engagement impairs a CPA's independence?

a.

Only material financial interests.

b.

All direct and indirect financial interests.

c.

Only direct and material indirect financial interests.

d.

Only direct financial interests.

Choice "c" is correct. Independence shall be considered to be impaired if, during the period of the professional engagement, the CPA had a direct or material indirect financial interest in the client.

Choices "b", "d", and "a" are incorrect, based on the above explanation.

34

Which of the following areas of professional responsibility should be observed by a CPAnot in public practice?

~Objectivity
~Independence
a.

Yes

No

b.

Yes

Yes

c.

No

No

d.

No

Yes

Choice "a" is correct. A CPA must always be objective; however, a CPA need not be independent, except when engaged in public practice.

Choices "b", "d", and "c" are incorrect, per the above.

35

Under the ethical standards of the profession, which of the following investments by a CPA in a corporate client is an indirect financial interest?

a.

An investment held in a retirement plan.

b.

An investment held in a blind trust.

c.

An investment held through a regulated mutual fund.

d.

An investment held through participation in an investment club.

Choice "c" is correct. A CPA in public practice must be independent in fact and appearance. Independence will be impaired if the CPA has a direct financial interest with an attestation client or a material indirect financial interest in a client. An indirect financial interest involves a removed relationship, such as owning shares in a mutual fund that owns stock in a corporate client.

Choices "a", "b", and "d" are incorrect. A direct financial interest is an interest held directly in a client. An interest in a client's retirement plan or in a blind trust holding stock in a client would be considered a direct interest.

36

Under the Code of Professional Conduct of the AICPA, which of the following is required to be independent in fact and appearance when discharging professional responsibilities?

a.

A CPA in public practice providing auditing and other attestation services.

b.

All CPAs.

c.

A CPA not in public practice.

d.

A CPA in public practice providing tax and management advisory services.

Choice "a" is correct. A CPA in public practice should be independent in fact and appearance when providing auditing and other attestation services.

Choice "d" is incorrect. Only a CPA providing audit or attestation services need be independent; A CPA performing tax and management advisory services need not be independent.

Choice "c" is incorrect. Only a CPA in public practice must be independent; a CPA not in public practice need not be independent.

Choice "b" is incorrect. Only CPAs who are in public practice must be independent; not all CPAs.

37

Which of the following acts by a CPA is a violation of professional standards regarding the confidentiality of client information?

a.

Allowing a review of professional practice without client authorization.

b.

Responding to an enforceable subpoena.

c.

Releasing financial information to a local bank with the approval of the client's mail clerk.

d.

Faxing a tax return to a loan officer at the request of the client.

Choice "c" is correct. A CPA owes clients a duty of confidentiality which generally prohibits the CPA from revealing a client's confidential information without the client's consent. A client's mail clerk would not have sufficient authority to validly authorize disclosure.

Choice "a" is incorrect. A CPA may disclose confidential client information to a professional practice review board without the client's permission.

Choice "b" is incorrect. A CPA may disclose confidential client information in response to an enforceable subpoena, even if he client objects to disclosure.

Choice "d" is incorrect. A CPA may, of course, disclose confidential client information when the client requests disclosure.

38

Under the provisions of the Sarbanes-Oxley Act of 2002, the lead audit or coordinating partner and the reviewing partner must rotate off the audit:

a.

Each year.

b.

Every three years.

c.

Every seven years.

d.

Every five years.

Choice "d" is correct. The lead audit or coordinating partner and the reviewing partner must rotate off the audit every five years. Thus, choices "a", "b", and "c" are incorrect

39

Under the provisions of the Sarbanes-Oxley Act of 2002, registered public accounting firms are required to prepare and maintain audit work papers and other information related to any audit report for a period of:

a.

Three years.

b.

Seven years.

c.

One year.

d.

Five years.

Choice "b" is correct. Registered public accounting firms are required to maintain audit work papers and supporting documentation for a period of seven years. Thus, choices "c", "a", and "d" are incorrect.

40

Rules issued under the Sarbanes-Oxley Act of 2002 restrict former members of an audit engagement team from accepting employment as a chief executive, chief financial or chief accounting officer, or controller of an audit client that files reports with the Securities and Exchange Commission. How many annual audit period(s) must be completed before such employment can be accepted?

a.

Two.

b.

Three.

c.

One.

d.

Five.

Choice "c" is correct. To impose a disincentive to fraud, an audit team member may not accept employment as a chief executive, chief financial or chief accounting officer, or controller of an audit client that files reports with the Securities and Exchange Commission for one year.

Choices "a", "b", and "d" are incorrect, per the above discussion.

41

The Code of Professional Conduct, Independence Rule, does not consider which of the following circumstances to be a lack of independence:

a.

A financial institution client loans the auditor money to buy a car but does not collateralize the loan.

b.

The auditor provides valuation and appraisal services to a client, the results of which are material to the client's financial statements.

c.

The CPA firm's sole audit manager served as controller of the firm's audit client from the January Year 1 through to May, Year 6 when the manager began working with the CPA firm. The current audit period for this client is from April 1, Year 6 through to March 31, Year 7.

d.

The auditor's brother-in-law's father is the controller of the client being audited.

Choice "d" is correct. Independence is impaired by a member, a member's spouse or dependents, or a close family member who holds a key position in an audit client. According to the Code, a close relative is defined as a parent, sibling, or nondependent child. Since a brother-in-law and family of the brother-in-law are not considered to be close relatives, independence would not be impaired. 

Choice "c" is incorrect. A CPA auditor cannot work for the client in a key position during the audit year.

Choice "b" is incorrect. If the results of the valuation and appraisal services are material to the client's financial statements, the auditor's independence is impaired.

Choice "a" is incorrect. Fully-collateralized automobile loans made within the normal course of business by a financial institution are specifically permitted and do not impair independence. Since this loan is not collateralized, independence is impaired.

42

Kar, CPA, is a staff auditor participating in the audit engagement of Fort, Inc. Which of the following circumstances impairs Kar's independence?

a.

Kar's friend, an employee of another local accounting firm, prepares Fort's tax returns.

b.

Kar's sibling is an internal auditor employed part-time by Fort.

c.

Kar owns stock in a corporation that Fort's 401(k) plan also invests in.

d.

During the period of the professional engagement, Fort gives Kar tickets to a football game worth $75.

Choice "b" is correct. Independence of a member is impaired if the CPA's spouse, parent, child, sibling, etc. are employed by the client in a position that is audit sensitive (i.e., internal auditor, cashier, accounting supervisor, etc.).

Choice "d" is incorrect because the tickets will probably be considered a token gift, and receipt of a token gift does not impair independence.

Choice "c" is incorrect because such an indirect ownership interest will not be deemed to affect independence.

Choice "a" is incorrect because a friend's relationship to the audit client does not affect independence.

43

On June 1, Year 1, a CPA obtained a $100,000 personal loan from a financial institution client for whom the CPA provided compilation services. The loan was fully secured and considered material to the CPA's net worth. The CPA paid the loan in full on December 31, Year 1. On April 3, Year 2, the client asked the CPA to audit the client's financial statements for the year ended December 31, Year 2. Is the CPA considered independent with respect to the audit of the client's December 31, Year 2, financial statements?

a.

Yes, because the loan was fully secured.

b.

Yes, because the CPA was not required to be independent at the time the loan was granted.

c.

No, because the CPA had a loan with the client during the period covered by the financial statements.

d.

No, because the CPA had a loan with the client during the period of a professional engagement.

Choice "b" is correct. A member's independence is impaired if a member has a loan with a client and that loan is preferential in relationship to "other borrowers." Since this loan was fully secured and there was no indication of a "preference," it appears to be in the ordinary course of business. Furthermore, the CPA was no longer a debtor of the financial institution at the time of the audit engagement. A CPA must be independent when providing auditing and attestation services, not compilation services.

Choice "a" is incorrect. The mere fact that the loan was secured would not itself make the CPA independent if the loan were outstanding during the engagement.

Choice "d" is incorrect because the loan was paid off before the audit engagement began; the CPA need not be independent while rendering compilation services.

Choice "c" is incorrect. The fact that the CPA had a loan with the client during the period covered in the client's financial statements itself does not impair independence

44

According to the standards of the profession, which of the following activities would most likely not impair a CPA's independence?

a.

Signing a client's checks in emergency situations.

b.

Providing extensive advisory services for a client.

c.

Contracting with a client to supervise the client's office personnel.

d.

Accepting a luxurious gift from a client.

 

Choice "b" is correct. The CPA's role here is merely as an advisor.

Choice "c" is incorrect. Supervising personnel is a management function and would impair independence.

Choice "a" is incorrect. Signing a client's check, even in emergency situations, is a management function and would impair independence.

Choice "d" is incorrect. Accepting more than a token gift from a client impairs independence.

45

A violation of the profession's ethical standards most likely would have occurred when a CPA:

a.

Made arrangements with a financial institution to collect notes issued by a client in payment of fees due for the current year's audit.

b.

Issued an unqualified opinion on the Year 2 financial statements when fees for the Year 1 audit were unpaid.

c.

Recommended a controller's position description with candidate specifications to an audit client.

d.

Purchased a CPA firm's practice of monthly write-ups for a percentage of fees to be received over a three-year period.

Choice "b" is correct. Independence of the member's firm may be impaired if more than one year's fees due from a client remain unpaid. Such amounts take on some of the characteristics of a loan, and it may appear that the practitioner is providing working capital for the client.

Choice "c" is incorrect. CPAs often make recommendations for a controller's position description as a management advisory service.

Choice "d" is incorrect. Purchasing a CPA firm's practice based on a percentage of fees is a legitimate method of pricing the business. It should not be confused with a contingent fee.

Choice "a" is incorrect. Making arrangements with a financial institution to collect notes issued by a client in payment of fees due is a business arrangement. It is not a conflict of interest because there is no direct financial interest in the company.

46

Which of the following non-audit services may be provided to an issuer audit client of a firm registered with the PCAOB?

a.

Actuarial services.

b.

Legal services.

c.

Tax services.

d.

Valuation service.

Choice "c" is correct. Tax services may be provided to an issuer audit client if preapproved by the audit committee, as long as the tax services do not include any confidential/aggressive tax transactions. 

Choices "b", "a", and "d" are incorrect. Legal, actuarial, and valuation services cannot be provided by registered firms to their audit clients.

47

According to the AICPA Code of Professional Conduct, in which of the following circumstances may a CPA serve on a company's board of directors?

a.

The CPA performs attestation services for a nonpublic company.

b.

The CPA does not audit the company and has no other business connection with the company.

c.

The CPA is asked by the company to test the internal controls of the company and offers compensation to the CPA for said services.

d.

The CPA audits a bank to which the company has applied for financing, and board approval is required for said financing to occur.

Choice "b" is correct. According to the Code of Professional Conduct, a CPA may only serve on the board of directors when the CPA does not audit the company and has no other business connections with the company. A CPA's independence is impaired by business relationships with its client, including service on the client's board of directors.

Choice "d" is incorrect. According to the Code of Professional Conduct, a CPA may not serve on a company's board of directors if the CPA has any business connection with the company. The CPA would have a business connection with the company if the CPA audited a bank to which the company has applied for financing, and board approval is required for the financing to occur.

Choice "c" is incorrect. An auditor must be independent to perform any attestation service, including testing internal controls. A CPA's independence is impaired by business relationships with its client, including service on the client's board of directors.

Choice "a" is incorrect. An auditor must be independent to perform any attestation service, whether the client is public or nonpublic. A CPA's independence is impaired by business relationships with its client, including service on the client's board of directors.

48

How many audits of public companies per year does a CPA firm that is registered with the Public Company Accounting Oversight Board (PCAOB) have to perform before it receives an annual inspection from the PCAOB?

a.

More than 10 audits.

b.

One audit.

c.

More than 100 audits.

d.

More than 50 audits.

Choice "c" is correct. The Sarbanes-Oxley Act requires the PCAOB to perform an annual inspection of each registered public accounting firm that regularly provides audit reports for more than 100 issuers.

49

In which of the following situations is there a violation of client confidentiality under the AICPA Code of Professional Conduct?

a.

A member uses a records retention agency to store clients' records that contain confidential client information.

b.

A member discloses confidential client information to a court in connection with arbitration proceedings relating to the client.

c.

A member discloses confidential client information to a professional liability insurance carrier after learning of a potential claim against the member.

d.

A member whose practice is primarily bankruptcy discloses a client's name.

Choice "d" is correct. An ethics ruling related to the Confidential Client Information Rule states that it is permissible for a member to disclose the name of a client without the client's consent unless the disclosure of the client's name results in the release of confidential information. The specific example given in the ethics ruling states that if a member's practice is limited to bankruptcy matters, the disclosure of a client's name suggests that the client may be experiencing financial difficulties, which could be confidential client information, and therefore a violation of client confidentiality.

Choice "b" is incorrect. A member is required to disclose confidential client information if necessary to comply with a validly issued subpoena or summons. Therefore, a disclosure of confidential client information to a court in connection with arbitration proceedings related to the client would not violate confidentiality rules.

Choice "c" is incorrect. A member is required to disclose confidential client information if necessary to comply with a validly issued subpoena or summons. Therefore, a disclosure of confidential client information to a professional liability insurance carrier after learning of a claim against the member would not violate confidentiality rules.

Choice "a" is incorrect. The use of a records retention agency to store client records does not violate confidentiality rules.

50

Smith, CPA, is a partner of Johnson Accounting Firm. Johnson audited the books of Hometown Bank. Smith's independence would be impaired under which of the following circumstances?

a.

Smith has a collateralized automobile loan with Hometown Bank.

b.

Smith had an account with Hometown Bank two years ago.

c.

Smith and a Hometown Bank board member belong to the same church.

d.

Smith is a director of Hometown Bank

Choice "d" is correct. Independence is impaired by business relationships with the client, including acting as a director of the client.

Choice "a" is incorrect. Independence is not impaired by a fully collateralized car loan.

Choice "b" is incorrect. Independence is not impaired by an account that a member had with the client in prior years. Additionally, independence is not impaired by an existing bank account that is fully insured by the government.

Choice "c" is incorrect. Independence is not impaired because a member and the board member of a client belong to the same church.

51

A CPA purchased stock in a client corporation and placed it in a trust as an educational fund for the CPA's minor child. The trust securities are not material to the CPA's wealth but are material to the child's personal net worth. According to the AICPA Code of Professional Conduct, would this action impair the CPA's independence with the client?

a.

Yes, because the stock would be a direct financial interest and materiality is not a factor.

b.

Yes, because the stock would be a direct financial interest and materiality is a factor.

c.

Yes, because the stock would be an indirect financial interest and materiality is not a factor.

d.

No, because the CPA would not have a direct financial interest in the client.

Choice "a" is correct. The Independence Rule requires that a CPA not have any direct financial interests in the client, regardless of materiality. This rule extends to the covered member's spouse and dependents.

Choices "d", "b", and "c" are incorrect per the above explanation.

52

According to the AICPA Code of Professional Conduct, which of the following actions by a CPA most likely involves an act discreditable to the profession?

a.

Auditing financial statements according to governmental standards despite the client's preferences.

b.

Retaining client records after the client demands their return.

c.

Refusing to provide the client with copies of the CPA's workpapers.

d.

Accepting a commission from a nonattest function client.

Choice "b" is correct. Retaining client owned records after the client demands their return is a violation of the Discreditable Acts Rule.

Choice "c" is incorrect. As the CPA's workpapers are technically owned by the CPA, there is no requirement to turn them over to the client.

Choice "a" is incorrect. This would not be considered a discreditable act. Failure to follow such standards may be considered an act discreditable.

Choice "d" is incorrect. This is not a violation, as the client is a nonattest client.

53

According to the SEC, an auditor is not independent of its issuer audit client in which of the following situations?

a.

The auditor's grandparent was in an accounting role at the audit client and ended employment before the period under audit began.

b.

The auditor has an investment in an entity that has the ability to exercise significant influence over the audit client.

c.

The auditor has an automobile loan at standard terms from the audit client that is collateralized by the automobile.

d.

The auditor's cousin has an insurance policy obtained from the issuer before it became an audit client.

Choice "b" is correct. An investment in an entity that has the ability to exercise significant influence over the audit client would be considered a violation of the Independence Rule.

Choice "d" is incorrect. A covered member's spouse and dependents are also generally subject to the Independence Rule; however this does not extend to cousins.

Choice "c" is incorrect. Independence is not impaired in a financial institution client by a fully collateralized car loan with a financial institution client.

Choice "a" is incorrect. A covered member's spouse and dependents are also generally subject to the Independence Rule; however this does not extend to grandparents.

54

A CPA audits the financial statements of a client. The CPA has also been asked to perform bookkeeping functions for the client. Under the AICPA Code of Professional Conduct, which of the following activities would impair the CPA's independence with respect to the client?

a.

The CPA authorizes client transactions and reports them to management.

b.

The CPA records transactions in accordance with classifications determined by management.

c.

The CPA prepares financial statements from a trial balance provided by management.

d.

The CPA posts adjusting journal entries prepared by management to the trial balance.


Explanation

Choice "a" is correct. Examples of activities with an attestation client that impair independence would include bookkeeping activities that include authorizing, executing or consummating a transaction on behalf of a client or preparing source documents or originating data (e.g., purchase orders).

Choice "b" is incorrect. As long as the CPA was following management's orders and not using any of their own judgment or decisions about how to record something, this would not impair the CPA's independence.

Choice "c" is incorrect. This scenario represents a compilation, which would not impair the CPAs independence.

Choice "d" is incorrect. As long as the CPA was not involved with the actual development of the adjusting entry, this would not impair the CPA's independence.

55

A person identified as an audit committee financial expert of an issuer generally must have acquired the attributes of a financial expert through any of the following experiences,except:

a.

Serving on at least one other issuer's audit committee or disclosure committee of the board of directors.

b.

Actively supervising a principal financial officer or principal accounting officer.

c.

Assessing the performance of public accountants with respect to preparation, auditing, or evaluation of financial statements.

d.

As a principal financial officer, principal accounting officer, controller, public accountant, or auditor.

Choice "a" is correct. Experience on an audit committee or disclosure committee of a board of directors would not enable one to acquire the attributes of a financial expert. Such experience must be acquired through involvement as a principal financial officer, principal accounting officer, controller, public accountant, auditor, or one who actively supervises or assess the performance of one of these financial jobs. Serving on at least one other issuer's audit committee or disclosure committee is not required.

Choices "d", "b", and "c" are incorrect per the above explanation.

56

An issuer may hire an employee of a registered public accounting firm who served on the audit engagement team within the previous year for which of the following positions?

a.

Staff accountant.

b.

CFO.

c.

Controller.

d.

CEO.

Choice "a" is correct. SEC and SOX rules prohibit an accounting firm from auditing an issuer's financial statements if certain members of management of the issuer (members in financial oversight roles such as the CEO, CFO, or controller) had been members of the accounting firm's audit engagement team within the one-year period preceding the commencement of audit procedures (the required "cooling off" period). A staff accountant would not be considered to be in a financial oversight role, thus could be hired without violating this requirement.

Choices "c", "b", and "d" are incorrect per the above explanation.

57

The Sarbanes-Oxley Act of 2002 mandates that a registered public accounting firm is prohibited from providing any non-audit service to an issuer contemporaneously with the audit, except:

a.

Tax services pre-approved by the audit committee.

b.

Bookkeeping or other services related to the accounting records or financial statements of the audit client.

c.

Financial information systems design and implementation.

d.

Appraisal or valuation services, fairness opinions, or contribution-in-kind reports.

Choice "a" is correct. Most services that audit firms previously provided to publicly traded clients have been prohibited by the Sarbanes-Oxley Act of 2002, except for approved tax services.

Choices "b", "d", and "c" are incorrect, per the above explanation.

58

The Code of Professional Conduct, Independence Rule, does not consider the following circumstances to be a lack of independence:

a.

The audited firm is privately held and the auditor provides valuation and appraisal services to an audit client, the results of which are material to the financial statements.

b.

The auditor's brother-in-law's father is the controller of the client being audited.

c.

A financial institution client loans the auditor money to buy a boat but does not collateralize the loan.

d.

The CPA firm's sole audit manager served as controller of the firm's audit client from the January, Year 1 through May, Year 5 when the manager began working with the CPA firm. The current audit period for this client is from April 1, Year 5 through March 31, Year 6.

Choice "b" is correct. Independence is impaired by a member, a member's spouse or dependent (immediate family), or a close relative who holds a key position in the audit client. A brother-in-law and family of the brother-in-law are not considered to be immediate family members or close relatives. According to the Code, a close relative is defined as a parent, sibling, or nondependent child.

Choice "d" is incorrect. A CPA auditor cannot work for the client in a key position during the audit year.

Choice "a" is incorrect. Independence is impaired if valuation and appraisal services are performed, the results are material to the financial statements, and the appraisal or valuation is subject to a significant degree of subjectivity.

Choice "c" is incorrect. Fully collateralized loans made within the normal course of business, such as by a financial institution, do not impair independence.

59

Which of the following is a correct statement about the circumstances under which a CPA firm may or may not disclose the names of its clients without the clients' express permission?

a.

A CPA firm may not disclose this information because the identity of its clients is confidential information.

b.

A CPA firm may disclose this information if the practice is limited to bankruptcy matters, so that prospective clients with similar concerns will be able to contact current clients.

c.

A CPA firm may disclose this information unless disclosure would suggest that the client may be experiencing financial difficulties.

d.

A CPA firm may disclose this information if the practice is limited to performing asset valuations in anticipation of mergers and acquisitions.


Explanation

Choice "c" is correct. An ethics ruling related to the Confidential Client Information Rule states that it is permissible for a member to disclose the name of a client without the client's consent unless the disclosure of the client's name results in the release of confidential information. The specific example given in the ethics ruling states that if a member's practice is limited to bankruptcy matters, the disclosure of a client's name suggests that the client may be experiencing financial difficulties, which could be confidential client information. Confidential client information cannot be disclosed without the client's consent.

60

Which of the following are true regarding communication requirements an auditor must follow when providing tax services to an audit client who is an issuer under the Sarbanes-Oxley Act of 2002?

I.

The auditor must communicate to the audit committee, in writing, regarding the proposed tax services and related fees.

II.

The auditor must communicate to the audit committee, in writing, when the proposed tax services involve contingent fee arrangements.

III.

The auditor must discuss with the audit committee the potential effects of the proposed tax services on the firm's independence.

a.

I and III only.

b.

II and III only.

c.

I and II only.

d.

I, II, and III.

Choice "a" is correct. The auditor must communicate to the audit committee, in writing, regarding the proposed tax services and related fees, and must discuss with the audit committee the potential effects of the proposed tax services on the firm's independence. Tax services related to contingent fee arrangements, confidential tax transactions, and certain aggressive tax transactions are expressly prohibited.

Choices "c", "d", and "b" are incorrect, based on the above explanation.

61

Under the Sarbanes-Oxley Act of 2002, exactly how many consecutive years may an audit partner lead an audit for an issuer?

a.

Six years.

b.

Five years.

c.

Seven years.

d.

Four years.

Choice "b" is correct. Under the Sarbanes-Oxley Act of 2002, the lead audit partner must rotate off an audit of an issuer every five years.

Choices "d", "a", and "c" are incorrect.  The number of years for these answer choices does not match the SOX requirement for audit partner rotation.  

62

An accountant can perform, with preapproval of the audit committee of the board of directors, which of the following non-audit services during the audit of an issuer?

a.

Internal audit outsourcing services.

b.

Bookkeeping services.

c.

Tax planning services.

d.

Human resource services.

Choice "c" is correct. Tax planning services that are preapproved by the audit committee of the issuer's board can also be performed during the audit of an issuer, as long as the effect on the audit firm's independence is discussed and documented with the audit committee.

Choices "b", "d", and "a" are incorrect. Each of these non-audit services would impair auditor independence if performed during the audit of an issuer.

63

The controller of a small utility company has interviewed audit firms proposing to perform the annual audit of their employee benefit plan.  According to the guidelines of the Department of Labor (DOL), the selected auditor must be:

a.

Independent for purposes of examining financial information required to be filed annually with the DOL.

b.

Included on the list of firms approved by the DOL.

c.

The firm that proposes the lowest fee for the work required.

d.

Independent of the utility company and not relying on its services.

Choice "a" is correct. The DOL requires auditor independence when auditing and providing an opinion on the financial information submitted annually to the DOL.

Choices "c", "b", and "d" are incorrect. Each of these choices is not a requirement outlined by the DOL.

64

Under the ethical standards of the profession, which of the following is a "permitted loan" regardless of the date it was obtained?

a.

Personal loan.

b.

Student loan.

c.

Secured automobile loan.

d.

Home mortgage loan.

Choice "c" is correct. According to the Independence Rule, a fully secured automobile loan with a financial institution client is permitted (regardless of the date obtained) and does not impair the independence rule.

Choices "d", "b", and "a" are incorrect. Each of these loans from the client would be considered an impairment of independence under the Independence Rule.

65

According to the Code of Professional Conduct of the AICPA, for which type of service may a CPA receive a contingent fee?

a.

Performing a review of a financial statement.

b.

Seeking a private letter ruling.

c.

Performing an audit of a financial statement.

d.

Performing an examination of prospective financial information.

Choice "b" is correct. According to the Contingent Fee Rule, contingent fees are permitted when they involve a legal proceeding or ruling. When a CPA is receiving a contingent fee for a private letter ruling, it would be allowed under the Contingent Fee Rule and not be considered "contingent" because it would most likely be fixed by the legal jurisdiction.

Choice "c" is incorrect. Contingent fees are prohibited for audits of a client's financial statements.

Choice "a" is incorrect. Contingent fees are not allowed for a review engagement of a client's financial statements.

Choice "d" is incorrect. Contingent fees are prohibited for an examination of a prospective client's financial information.

66

In which of the following circumstances would a covered member's independence be impaired with respect to a nonissuer client?

a.

The member belongs to a client golf club that requires members to acquire a share of the club's debt securities.

b.

The member owns municipal utility bonds issued by a client, and the bonds are notmaterial to the member's wealth.

c.

The member's spouse qualifies because of geographical residence to belong to a client's credit union, and all transactions with the credit union are conducted under normal operating practices.

d.

The member is designated to serve as guardian of a friend's children if the need arises, and the friend's estate, which would be held in trust for the children, holds significant stock ownership in a client entity.

Choice "b" is correct. Although the bonds are not material in relation to the member's total wealth, independence is still impaired because the ownership of the bonds represents a direct financial interest in the client and a violation of the Independence Rule.

Choice "d" is incorrect. Independence is not violated because the member is the children's guardian, but is not a trustee of the estate held in trust for the children.

Choice "c" is incorrect. Independence is not impaired by membership in a client credit union.

Choice "a" is incorrect. According to an AICPA ethics ruling, as long as the membership in the golf club is essentially a social matter, the covered member's association with the golf club would not impair independence because the debt ownership is not considered to be a direct financial interest.

67

A cooling-off period of how many years is required before a member of an issuer's audit engagement team may begin working for the registrant in a key position?

a.

Two years.

b.

One year.

c.

Four years.

d.

Three years.

Choice "b" is correct. The Securities and Exchange Commission requires a cooling-off period of one year for a former member of an audit client engagement team before he or she can be employed in a financial oversight role for that same client. This requirement is necessary to preserve auditor (firm) independence.

Choices "a", "d", and "c" are incorrect based on the explanation above.

68

According to the profession's ethical standards, which of the following events may justify a departure from U.S. GAAP.

~~New legislation
~~Evolution of a new form of business transaction
a.

Yes

Yes

b.

Yes

No

c.

No

Yes

d.

No

No

Choice "a" is correct. Yes - Yes. The Accounting Principles Rule of the Code of Professional Conduct of the AICPA states that if the financial statements or data contain a GAAP departure, the departure may be justified if the CPA can demonstrate that due to unusual circumstances, such as new legislation or the evolution of a new form of business transaction, the financial statements would otherwise be misleading.
Under these circumstances, the auditor's report should describe the departure, its approximate effects, if practicable, and the reasons why compliance with the generally accepted principle would result in a misleading statement.

Choices "c", "b", and "d" are incorrect, per the above explanation.

69

According to the Sarbanes-Oxley Act of 2002, which of the following non-audit services can be provided by a registered public accounting firm to the client contemporaneously with the audit when preapproval is granted by audit committee action?

a.

Tax services.

b.

Actuarial services related to the audit.

c.

Advice on financial information system design.

d.

Internal audit outsourcing services.

Choice "a" is correct. Tax services may be provided by a registered public accounting firm to the client contemporaneously with the audit when preapproval is granted by audit committee action.

Choice "d" is incorrect. The Sarbanes-Oxley Act of 2002 specifically prohibits a registered accounting firm from providing internal audit outsourcing services during an audit.

Choice "b" is incorrect. The Sarbanes-Oxley Act of 2002 specifically prohibits a registered accounting firm from providing actuarial services related to the audit contemporaneously with the audit.

Choice "c" is incorrect. The Sarbanes-Oxley Act of 2002 specifically prohibits a registered accounting firm from providing advice on financial information system design during an audit.

70

Which of the following situations would not impair objectivity, integrity, or independence with respect to an audit client?

a.

A client takes the audit engagement team on a two-day ski trip after the audit team worked for two consecutive weekends.

b.

An out-of-town client takes the audit engagement team out to dinner at a renowned local restaurant.

c.

An auditor takes the client's audit committee to Las Vegas for the weekend.

d.

An auditor provides client management with box seats for the season at a major league baseball franchise.

Choice "b" is correct. Objectivity, integrity, or independence would not be impaired if a client takes the audit engagement team out to dinner at a renowned local restaurant. Of the choices, this appears to be the most reasonable based on the circumstance, and clearly insignificant to the recipient.

Objectivity or integrity is considered impaired if a member offers or accepts gifts or entertainment to or from a client, unless the gift or entertainment is reasonable in the circumstances. Relevant facts and circumstances would include, but are not limited to:

The nature of the gift or entertainment.

The occasion giving rise to the gift or entertainment.

The cost or value of the gift or entertainment.

Independence would be considered to be impaired if the member's firm or member on the attest engagement or in a position to influence the attest engagement accepts a gift from an attest client, if the value is clearly more than a token gift.

Choice "c" is incorrect. Objectivity, integrity, and independence appear to be impaired if an auditor takes the client's audit committee to Las Vegas for the weekend.

Choice "d" is incorrect. Objectivity, integrity, and independence appear to be impaired if an auditor provides client management with box seats for the season at a major league baseball franchise.

Choice "a" is incorrect. Objectivity, integrity, and independence appear to be impaired if a client takes the audit engagement team on a two-day ski trip after the audit team worked for two consecutive weekends.

71

While performing certain non-audit services for an insurance company, a professional accountant is asked to recommend the appropriate accounting treatment for a weather hedge transaction. The accountant has worked with financial hedges but has no experience with weather hedges. Which of the following actions by the accountant would be in compliance with the IFAC Code of Ethics for Professional Accountants?

a.

Agree to recommend the appropriate accounting treatment after performing sufficient research on weather hedges.

b.

Refuse to conduct the research and make a recommendation, because of a conflict of interest.

c.

Refuse to conduct the research and make a recommendation, because of insufficient experience.

d.

Agree with the accounting treatment recommended by the company's hedge fund trader.

Choice "a" is correct. The accountant may agree to recommend the appropriate accounting treatment after performing sufficient research on weather hedges.

Choice "c" is incorrect. An accountant may make a recommendation after performing research, even if the accountant does not have previous experience with weather hedge transactions.

Choice "b" is incorrect. An accountant should not make a recommendation until sufficient research has been obtained on weather hedge transactions. This situation does not appear to be a conflict of interest.

Choice "d" is incorrect. The accountant is responsible for gaining the required level of knowledge on hedge transactions. The recommendation may or may not agree with the accounting treatment recommended by the company's hedge fund trader.

72

Which of the following rules of the AICPA Code of Professional Conduct must be observed even by a member who is not in public practice?

a.

Independence Rule.

b.

Contingent Fees Rule.

c.

Form of Organization and Name Rule.

d.

Integrity and Objectivity.

Choice "d" is correct. An AICPA member who is not in public practice must follow the Integrity and Objectivity Rule.

Choice "a" is incorrect. The Independence Rule applies to a member in public practice.

Choice "b" is incorrect. The Contingent Fees Rule applies to a member in public practice.

Choice "c" is incorrect. The Form of Organization and Name Rule applies to a member in public practice.

73

An auditor may provide an issuer client any of the following non-audit services without impairing independence and without obtaining the preapproval of the audit committee,except:

a.

Non-audit services with revenues in aggregate of less than 5% of the total revenues paid by the issuer to the auditor during the fiscal year in which the non-audit services are provided.

b.

Services that the issuer did not recognize as non-audit services at the time of the engagement.

c.

Non-audit services that were promptly brought to the attention of, and approved by, the audit committee prior to the completion of the audit.

d.

Non-audit services to perform financial information systems design and implementation.

Choice "d" is correct. Financial information systems design and implementation to an attestation client would impair independence. In addition, all non-audit services, except those that fall under the de minimis exception, need to be preapproved by the audit committee.

Note to Students: This question implies that there are three unique situations in which the auditor may provide an issuer client non-audit services without impairing independence and without obtaining the preapproval of the audit committee. However, Regulation S-X provides that all three conditions must be met. The incorrect answers in this question are ALL required in order to satisfy the exception.

74

According to the Sarbanes-Oxley Act of 2002, what is the maximum number of years an audit partner can perform audit services for an issuer before the auditor rotation is required?

a.

3 years.

b.

4 years.

c.

2 years.

d.

5 years.

Choice "d" is correct. The lead (or coordinating) audit partner or the reviewing audit partner must rotate off the audit every five years. Note: The Sarbanes-Oxley Act of 2002 addresses the partner rotation for the lead audit partner and the concurring partner. On the other hand, SEC Standards reference both the maximum number of years a lead or concurring partner may perform audit services (5 years) and the maximum number of years other audit partners may perform audit services before audit rotation is required (7 years).

Choices "c", "a", and "b" are incorrect. The number of years for these answer choices does not match the SOX audit requirement for audit partner rotation.

75

Each of the following broker-dealer relationships impairs auditor independence with respect to a broker-dealer issuer audit client, except:

a.

The auditor has a cash balance in a brokerage account that is fully covered by the Securities Investor Protection Corporation.

b.

The auditor has a brokerage account that includes assets other than cash or securities.

c.

The auditor has a brokerage account that holds both U.S. securities and assets other than cash or securities.

d.

The auditor has a brokerage account that holds U.S. securities in excess of Securities Investor Protection Corporation coverage limits.

Choice "a" is correct. An auditor's independence is not impaired if the auditor has a cash balance in a brokerage account that is fully covered by the Securities Investor Protection Corporation.

Choice "c" is incorrect. An auditor's independence is impaired if the broker-dealer account includes assets other than cash or securities.

Choice "d" is incorrect. An auditor's independence is impaired if the broker-dealer account amount exceeds the Securities Investor Protection Corporation coverage limits.

Choice "b" is incorrect. An auditor's independence is impaired if the broker-dealer account includes assets other than cash or securities.

76

When a former partner of a registered public accounting firm who left the firm two years ago accepts a financial reporting oversight role at an issuer audit client, the independence of the registered public accounting firm is considered impaired unless which of the following is true?

a.

The former partner was employed by the registered public accounting firm for a period of 2 years or less.

b.

The former partner discloses the relationship to the issuer audit client's board of directors.

c.

The former partner has no remaining capital balance in the registered public accounting firm.

d.

The former partner exerts only limited influence over the registered public accounting firm's operations and financial policies.

Choice "c" is correct. The independence of the registered public accounting firm would not be considered impaired if the former partner has no remaining capital balance in the registered public accounting firm.

Choice "b" is incorrect. Disclosure of the relationship to the issuer audit client's board of directors is not enough to ensure the registered public accounting firm's relationship is not impaired. Under SEC rules, if a former partner will be in an "accounting role" or "financial reporting oversight role" with an SEC audit client, he or she may not have a capital balance with the firm, influence over the accounting firm's operations or financial policies, or a financial arrangement with the accounting firm that is related to the firm's current revenues, profits, or earnings.

Choice "a" is incorrect. The number of years employed at a registered public accounting firm does not determine whether independence is impaired or not. However, there is a required one-year "cooling-off period" for engagement team members who provided 10 hours or more of service during the audit period for the current (or immediately preceding) fiscal year. In addition, if a former partner will be in an "accounting role" or "financial reporting oversight role" with an SEC audit client, he or she may not have a capital balance with the firm, influence over the accounting firm's operations or financial policies, or a financial arrangement with the accounting firm that is related to the firm's current revenues, profits, or earnings.

Choice "d" is incorrect. The independence of the registered public accounting firm would be considered impaired when the former partner is able to exert influence over the registered public accounting firm's operations and financial policies. To preserve the independence of the registered accounting firm, the former partner must be unable to influence the firm's operations or financial policies.

77

Each of the following is a required attribute of an issuer's audit committee financial expert,except:

a.

An understanding of generally accepted accounting principles.

b.

The ability to assess the application of accounting principles in connection with estimates, accruals, and reserves.

c.

An understanding of internal controls related to financial reporting.

d.

Significant audit experience as a certified public accountant.

Choice "d" is correct. Significant audit experience as a certified public accountant is not a required attribute of an issuer's audit committee financial expert. A financial expert qualifies through education, past experience as a public accountant, or past experience as a principal financial officer, controller, or principal accounting officer for an issuer.

Choice "b" is incorrect. The ability to assess the application of accounting principles in connection with estimates, accruals, and reserves is a required attribute of an issuer's audit committee financial expert.

Choice "c" is incorrect. An understanding of internal controls related to financial reporting is a required attribute of an issuer's audit committee financial expert.

Choice "a" is incorrect. An understanding of generally accepted accounting principles is a required attribute of an issuer's audit committee financial expert.

78

According to the AICPA Code of Professional Conduct, which of the following disclosures of client information by a member CPA to an outside party would normally require client consent?

a.

Disclosure of confidential client information to a third-party service provider when the member does not enter into a confidentiality agreement with the provider.

b.

Disclosure to a potential client of the name of a client for whom the member or member's firm performed professional services.

c.

Disclosure of confidential client information to a court or in documents in connection with a subpoena.

d.

Disclosure of confidential client information to the member's liability insurance carrier in response to a potential claim.

Choice "a" is correct. According to the AICPA Code of Professional Conduct, a member CPA generally is required to obtain client consent before disclosing confidential client information to a third-party service provider when the member does not enter into a confidentiality agreement with the provider.

Choice "b" is incorrect. A member CPA is allowed to disclose to a potential client the name of a client for whom the member or member's firm performed professional services without client consent.

Choice "d" is incorrect. A member CPA is allowed to disclose confidential client information to the member's liability insurance carrier in response to a potential claim without client consent.

Choice "c" is incorrect. A member CPA is allowed to disclose confidential client information to a court or in documents in connection with a subpoena without client consent.

79

According to the PCAOB, which of the following tax services may be provided jointly with the audit of an issuer's financial statements without impairing independence?

a.

Planning and issuing an opinion in favor of the tax treatment of an aggressive tax position.

b.

Reviewing a proposed transaction and informing the client of the tax consequences.

c.

Providing consultations under a contingency fee arrangement.

d.

Preparing tax returns for an individual in a financial oversight reporting role during the audit period.

Choice "b" is correct. The tax service of reviewing a proposed transaction and informing the client of the tax consequences may be provided jointly with the audit of an issuer's financial statements without impairing independence.

Choice "a" is incorrect. The PCAOB prohibits registered public accounting firms from providing tax services related to aggressive tax transactions to audit clients.

Choice "c" is incorrect. The PCAOB prohibits registered public accounting firms from receiving a contingent fee from an audit client.

Choice "d" is incorrect. The PCAOB prohibits registered public accounting firms from providing tax services, such as preparing tax returns, to individuals in a financial reporting oversight role.

80

According to the AICPA Code of Professional Conduct, under which of the following circumstances may a CPA receive a contingent fee for services?

a.

Examining a client's prospective financial information.

b.

Reviewing a client's financial statements.

c.

Preparing a client's federal income tax return.

d.

Representing a client in an IRS examination of the client's federal income tax return.

Choice "d" is correct. According to the AICPA Code of Professional Conduct, a CPA may receive a contingent fee in tax matters, if they are based on the findings of governmental agencies, such as representing a client in an IRS examination of the client's federal income tax return. Contingent fees are also permitted for compilations of financial statements expected to be used by third parties, but only if the member includes a statement that the member is not independent.

Choice "a" is incorrect. The AICPA Code of Professional Conduct specifically prohibits contingent fees for examinations of prospective financial statements.

Choice "c" is incorrect. The AICPA Code of Professional Conduct specifically prohibits contingent fees for preparing a client's federal income tax return.

Choice "b" is incorrect. The AICPA Code of Professional Conduct specifically prohibits contingent fees for reviews and audits of financial statements.

81

Section 404 of the Sarbanes-Oxley Act of 2002 requires each annual report of an issuer to include which of the following?

a.

Management representations that the company's external auditors have examined its internal control over compliance with laws and regulations.

b.

Reasonable assurances that fraud will be identified before the issuance of the company's annual report.

c.

Representations from the company's external auditors that the company has effective internal control over operations.

d.

Management's assessment of the effectiveness of internal control over financial reporting.

Choice "d" is correct. Section 404 of the Sarbanes-Oxley Act of 2002 requires each annual report of an issuer to include management's assessment of the effectiveness of internal control over financial reporting.

Choice "c" is incorrect. Section 404 of the Sarbanes-Oxley Act of 2002 requires the company's external auditors to attest to, and report on, management's assessment of the effectiveness of internal control over financial reporting.

Choice "a" is incorrect. Section 404 of the Sarbanes-Oxley Act of 2002 does not require management representations that the company's external auditors have examined its internal control over compliance with laws and regulations.

Choice "b" is incorrect. Section 404 of the Sarbanes-Oxley Act of 2002 does not require that the annual report of an issuer include reasonable assurance that fraud will be identified before the issuance of the company's annual report. Section 404 of the Sarbanes-Oxley Act of 2002 requires each issuer's annual report to contain an internal control report that (1) states the responsibility of management for establishing and maintaining an adequate internal control structure and procedures for financial reporting; and (2) contains an assessment, as of the end of the most recent fiscal year of the issuer, of the effectiveness of the internal control structure and procedures of the issuer for financial reporting.

82

To ensure that the audit report for an issuer is prepared in accordance with Section 404 of the Sarbanes-Oxley Act of 2002, the report must:

a.

Attest to, and report on, the efficiency and effectiveness of the issuer's system of internal control.

b.

Attest to and report on the internal control assessment made by the management of the issuer.

c.

Be prepared within 60 days of the issuer's fiscal year-end, be certified by the Public Company Accounting Oversight Board, and be publicly disclosed.

d.

Be prepared within 60 days of the end of the issuer's fiscal year-end unlessextenuating circumstances, as outlined in the act, are publicly disclosed.

Choice "b" is correct. Section 404 of the Sarbanes-Oxley Act of 2002 requires the company's external auditors to attest to, and report on, the internal control assessment made by management of the issuer.

Choice "d" is incorrect. Section 404 of the Sarbanes-Oxley Act of 2002 does not require the audit report to be prepared within 60 days of the end of the issuer's fiscal year.

Choice "c" is incorrect. The audit report on the effectiveness of the issuer's systems of internal control is not certified by the Public Company Accounting Oversight Board.

Choice "a" is incorrect. Section 404 of the Sarbanes-Oxley Act of 2002 requires the company's external auditors to attest to, and report on, management's assessment of the effectiveness, not efficiency, of the issuer's system of internal control.

83

During an audit of the financial statements of a company, the CFO provides a spreadsheet to the audit team that contains a number of errors that are material to the financial statements. Under what circumstances would this situation be a violation of the rules of the Sarbanes-Oxley Act of 2002 on improper influence on the conduct of audits?

a.

The audit team discovers the errors through alternative procedures when they discern that the spreadsheet was improperly manipulated by the CFO. This intentional conduct of the CFO does not succeed in affecting the audit.

b.

The CFO discovers and corrects most of the errors in the spreadsheet, which was prepared by a staff accountant. One immaterial error remains of which the CFO is aware, and this error remains undetected by the audit team, but the financial statements end up being fairly presented.

c.

The CFO was unaware of the errors in the spreadsheet, which was prepared by a staff accountant and reviewed by the CFO. The errors remain undetected by the audit team, and the financial statements are materially misleading.

d.

The CFO had the spreadsheet prepared by a vendor of the company; the vendor intentionally misstates information in the spreadsheet, and the CFO does not discover the misstatements. The errors remain undetected by the audit team, and the financial statements are materially misleading.

Choice "a" is correct. Improper influence occurs when an officer or director of an issuer fraudulently influences, coerces, manipulates, or misleads the independent auditor of the financial statements for the purpose of rendering the financial statements materially misleading. In this situation, the auditor identified material errors that were intentionally recorded by the CFO. However, this fraudulent manipulation did not affect the audit. Based on the circumstances, it appears that improper influence most likely occurred because the auditor knew of the manipulation but did not to allow it to affect the audit.

Choice "b" is incorrect. This does not qualify as improper influence because the error that the CFO is aware of does not make the financial statements materially misleading.

Choice "d" is incorrect. This does not qualify as improper influence because the CFO did not intentionally fraudulently influence, coerce, manipulate, or mislead the independent auditor of the financial statements for the purpose of rendering the financial statements materially misleading. The CFO was unaware of the errors and did not direct the vendor to make the material errors.

Choice "c" is incorrect. This does not qualify as improper influence because the CFO did not intentionally fraudulently influence, coerce, manipulate, or mislead the independent auditor of the financial statements for the purpose of rendering the financial statements materially misleading. The CFO was unaware of the errors and did not direct the staff accountant to make the material errors.

84

An independent auditor must have which of the following?

a.

A background in many different disciplines.

b.

A pre-existing and well-informed point of view with respect to the audit.

c.

Experience in taxation that is sufficient to comply with generally accepted auditing standards.

d.

Technical training that is adequate to meet the requirements of a professional.

Choice "d" is correct. The General Standards Rule of the AICPA Code of Professional Conduct states that the auditor must have adequate technical training as an auditor. 

Choice "b" is incorrect. The independent auditor should maintain an attitude of professional skepticism - an unbiased and objective view with respect to the audit.

Choice "a" is incorrect. An auditor does not need to have a background in many different disciplines. The auditor must have adequate technical training and proficiency as an auditor.

Choice "c" is incorrect. Generally accepted auditing standards do not require the independent auditor to have experience in taxation; rather the auditor must have adequate technical training and experience as an auditor.