Audit Committee Issues
The following is an example of a typical question which must be faced by all public company audit committees.
QUESTION: Should the auditor be used for tax planning services?
Answer: Although tax planning services do not impair the independence of auditors, audit committees should consider whether using the auditor for tax planning services is in the best interest of the company. There are four issues that should be considered by the audit committee.
First, the auditor is prohibited by the auditor independence rules from providing an expert opinion or other expert services for an audit client, or acting as an audit client's legal representative, for the purpose of advocating an audit client's interests in litigation or in a regulatory or administrative proceeding or investigation. The effect of this prohibition is that the auditor is unable to assist the company in advocating the company's tax position before the Internal Revenue Service, since the Internal Revenue Service inquiry might be viewed as a "regulatory or administrative proceeding or investigation." Although the auditor is permitted to be a fact witness in such proceedings or investigations, his or her inability to advocate the company's tax position handicaps the company in the defense of its tax planning.
Second, if the auditor advises the company to take an aggressive position on its tax return, a conflict of interest may result. The auditor is required to audit the company's tax reserve and under the auditor independence rules, cannot audit its own work. There is difficulty in determining what is an aggressive tax position or a tax shelter as distinguished from routine tax planning.
Third, the auditor does not have the advantage of the attorney-client privilege or the work product doctrine which would otherwise shield its services and work papers from discovery by the Internal Revenue Service.
Fourth, CalPERS is reportedly withholding its votes for the election of audit committee members if the auditor provides non-audit services, other than preparation of tax returns and SEC compliance documents. Some audit committees have decided to use an accounting firm separate from their auditor for their tax planning and tax preparation work. This separation avoids all but the third problem mentioned above, namely the absence of any attorney-client privilege or work product doctrine. Audit committees should consider using a law firm for company tax planning, in order to preserve the attorney-client privilege and work-product doctrine, and using a separate accounting firm for tax preparation work.
Members of the Association will receive information on numerous policy and procedural issues which should be considered by all public company audit committees, including:
- What sources of information do audit committee members require to fulfill their oversight role?
- Does the audit committee place a limit on an auditor's non-audit services - (e.g. not more than 100% of the aggregate of audit, audit-related services, and tax services)?
- What safeguards should the audit committee require to insure auditor independence?
- Should the auditor be used for tax planning services?
- Should the audit committee permit tax shelters to be sold by non-audit partners of the auditing firm?
- Should the audit committee permit members of the audit team (excluding partners) to receive compensation for selling non-audit services to the company (permitted by SEC rules unless audit committee determines otherwise)?
- How conservative should the audit committee be in determining accounting policies and procedures of the company, including the preferable accounting policies and procedures?
- What information should the audit committee expect to receive from the auditors in addition to the disclosures under SEC Regulation § 210.2-07?
- Should the audit committee require that the independent auditor provide the audit committee with any documents retained by the auditor that are inconsistent with the auditor's final conclusions on the audit?
- Does the audit committee control the internal audit function, the decision to outsource all or part of the internal audit function, or the decision to hire, fire and compensate the head of the internal audit? Should the internal auditor's compensation exclude rewards driven by accounting results?