Ethical Dilemmas in Auditing: Independence,
Objectivity, and Professional Skepticism
Introduction
The audit profession is one that requires maintaining high ethical standards
in order to fulfill its public interest role and maintain trust in the profession.
independence, objectivity and professional skepticism are core ethical
principles that auditors must adhere to in order to perform quality audits and
issue accurate audit opinions. However, in practice these principles can often
be challenging to maintain due to various pressures and ethical dilemmas
that auditors may face.
This assignment will discuss some key ethical dilemmas related to
independence, objectivity and professional skepticism that auditors may
encounter in their work. It will examine how each of these principles can be
compromised and the factors that influence auditors' judgements and
decisions. Potential solutions and measures to strengthen these principles
will also be proposed. The assignment is arranged into the following sections:
1. Auditor independence
2. Threats to auditor independence
3. Safeguards for independence
4. Auditor objectivity
5. Threats to auditor objectivity
6. Maintaining professional skepticism
7. Conclusion
1. Auditor Independence
Independence is a fundamental requirement for auditors under international
auditing standards and regulatory codes of ethics. It is seen as essential for
auditors to remain independent in both fact and appearance when
conducting an audit. The International Ethics Standards Board for
Accountants (IESBA) defines independence as comprising of both
independence of mind and independence in appearance. Independence of
mind refers to being "free from those influences that compromise
professional judgement", while independence in appearance means being
"free from interests and relationships that would seem to compromise an
auditor's objectivity to a reasonable observer" (IESBA, 2018, p.14).
In practical terms, independence requires auditors and audit firms to
maintain an attitude and avoid situations where their professional judgement
may be compromised or could reasonably be perceived as being
compromised. This includes not having any direct or indirect interests,
influences or relationships with the audit client that a reasonable and
informed third party, having knowledge of all relevant information, would
conclude to compromise the auditor’s integrity, objectivity or professional
skepticism (IESBA, 2018).
Independence is evaluated both at the individual auditor level as well as the
audit firm level. An auditor has to remain independent throughout the entire
engagement period, from the time they accept the audit appointment to
when they issue their opinion. Even the perception of a lack of independence
could undermine confidence in the audit opinion, therefore auditors have to
be mindful of both independence in fact and appearance.
2. Threats to Auditor Independence
While auditor independence is vital, maintaining it in practice is challenging
due to various threats that may arise. The IESBA Code of Ethics identifies a
number of threats to independence that auditors need to consider and
address appropriately. Some of the major threats include:
- Self-interest threat: The threat that a financial or other self-interest will
inappropriately influence an auditor's judgement or behaviour. For example,
the promise of new work, or the loss of existing work, from an audit client.
- Self-review threat: The threat that an auditor will not appropriately evaluate
the results of a previous judgement made or service performed by the firm or
an individual within the firm. For example, auditing the auditor's own work
from a prior period, or auditing a transaction that the audit firm itself
initiated.
- Advocacy threat: The threat that an auditor will promote a client's position
to such an extent that his or her objectivity is compromised. For example,
lobbying on behalf of an audit client's interests.
- Familiarity threat: The threat that due to a long or close relationship with an
audit client, an auditor will be too sympathetic to their interests or too
accepting of their work. For example, a partner who has socialized with a
client's executives for many years.
- Intimidation threat: The threat that an auditor will be deterred from acting
objectively due to actual or perceived pressures, such as threats regarding
replacement if the results of the engagement are unwanted.
Some other threats that can potentially compromise independence include
financial interests in audit clients; close business relationships with clients;
contingent fees and compensation arrangements; non-audit services
provided to audit clients; long association of senior personnel with audit
engagements; and employment relationships. Of these threats, provision of
non-audit services to clients and long association pose significant
independence issues.
3. Safeguards for Independence
Given the many potential threats, auditing standards and codes of ethics
prescribe various safeguards that must be applied to compensate for threats
and maintain independence. Some key safeguards include:
- Strong governance and oversight of audit firms: Robust internal quality
control systems and independent oversight bodies help promote quality and
ethical practices within firms.
- Segregation of assurance (audit) and non-assurance functions: Functional
and hierarchical separation between those providing audit and non-audit
services reduces familiarity and self-review threats.
- Engagement quality control reviews: Subjecting high-risk audit
engagements to reviews by senior personnel who are not directly involved
reduces self-review threats.
- Enhanced policies on business relationships: Restrictions on developing
close business relationships with clients and excessive client dependency
address familiarity and intimidation threats.
- Limitations on non-audit services: Strict limits on non-audit services that
are inconsistent with the audit role reduces self-interest and advocacy
threats.
- Restriction on employment of former client executives: Cooling-off periods
before hiring former client executives reduces familiarity and intimidation
threats.
- Reporting of independence breaches: Requiring disclosure of identified
independence issues or breaches ensures remedial action is taken.
- Rotation of audit engagement partners: Periodic rotation of audit
engagement partners every few years reduces threats from long-tenured
familiarity.
Strict governance, policies and rigorous application of these safeguards is
necessary to counter threats and effectively uphold independence in both
fact and appearance. However, some threats pose a greater challenge than
others.
4. Auditor Objectivity
Closely linked to independence is the principle of objectivity. Auditing
standards define an objective auditor as one who is impartial, intellectually
honest and not prejudiced. Objectivity requires auditors to maintain an
attitude that is balanced, neutral and has no bias in carrying out their work.
It is a state of mind that allows auditors to perform engagements in an
unbiased manner and report findings accurately without any distortion or
prejudice.
Like independence, objectivity is an essential requirement for all auditors
and is seen as a fundamental tenet of the audit profession. Being truly
objective in one's thinking and judgment is crucial for auditors to add
credibility to their work and issue opinions that can be relied upon. However,
objectivity is also challenging for auditors to maintain in practice due to
various pressures and influences they may be subject to.
5. Threats to Auditor Objectivity
While objectivity is an ethical imperative, in reality auditors face many
situational pressures and cognitive biases that can potentially threaten their
objectivity. Some of the threats to an auditor's objectivity include:
- Cognitive biases: Natural human tendencies towards overconfidence,
anchoring or confirmation bias can affect auditor judgement even when
unintentional.
- Pressure from client management: Attempts by client management to
influence the audit process or resist findings compromises objectivity.
- Strong economic dependence on client: Reliance on fees from a major
client, especially one that also provides non-audit services, poses a threat.
- Personal traits: Factors like an auditor's risk tolerance, need for approval or
cultural background could shape their views.
- Bias from preconceptions: Pre-existing assumptions or stereotypes about
certain clients or industries can color objectivity.
- Familiarity with client personnel: Close working relationships with client
staff over time risk developing subjective affinity.
- Advocacy by the audit firm: Pressure from within the firm to please clients
and aggressively market non-audit services threats objectivity.
- Subjectivity in complex judgements: Difficult areas involving high
estimation or uncertainty provide room for unintended bias.
- Ambiguous ethical standards: Vagueness in protocols on issues like non-
audit fees leaves scope for judgment calls affecting objectivity.
Addressing these threats requires conscious effort to maintain an impartial
and questioning mindset through strict adherence to principles of skepticism
and evidence-based audit procedures.
6. Maintaining Professional Skepticism
Closely associated with objectivity is the need for professional skepticism,
which means auditors should perform engagements with an attitude that
includes a questioning mind and critical assessment of audit evidence.
According to the International Standards on Auditing (ISA 200), an attitude of
professional skepticism means the auditor makes a critical assessment, with
a questioning mind, of the validity of evidence obtained and is alert to
evidence that contradicts or brings into question the reliability of documents
and responses to inquiries and other information obtained from management
and those charged with governance.
Maintaining an appropriate level of professional skepticism is crucial to
perform high quality audits. However, exercising true professional skepticism
can be challenging in practice due to various impediments like:
- Subconscious affinity with client management: Tendency to identify more
with client's perspectives risks undermining skepticism.
- Pressure to complete jobs on time and budget: Time and resource
constraints discourage thorough and skeptical review of evidence.
- Cognitive biases: Mental shortcuts like anchoring effects, confirmation bias
or trusting first impressions undermine questioning attitude.
- Prior assumptions: Pre-existing mindsets about clients based on reputation
or past experiences limit impartial scrutiny.
- Fear of client loss: Concern over implications of questioning clients
aggressively enough discourages professional doubt.
- Lack of contradiction: Auditors tend to search confirmation rather than
contradiction when evidence supports client views.
- Ambiguous ethical standards: Unclear protocols on skepticism leave scope
for variation in its application in practice.
To counter these impediments, auditing standards emphasize the need for
techniques like periodically changing audit team members; holding probing
discussion among team members; focusing on evidence contradicting client
assertions; rigorously assessing significant judgments; and documenting
contrary views and unresolved issues. Active and visible leadership support
for an independent and questioning culture within firms also strengthens
professional skepticism in reality.
7. Conclusion
In summary, independence, objectivity and professional skepticism are the
cornerstones of a quality audit, underpinning public trust in the credibility of
financial statements. However, maintaining these principles in line with
ethical standards presents various challenges for auditors due to a host of
situational pressures and cognitive biases they face in practice.
Robust governance, institutional safeguards and leadership emphasis is
needed within audit firms to promote an ethical culture upholding these
principles. At the same time, individual auditors must remain conscious of
susceptibility to biases and resist compromising their judgement through
demonstration of moral courage. Periodic ethics training and review of
emerging behavioral issues can strengthen auditors' ability to remain
independent in both mind and appearance.
Greater clarity, consistency and enforcement of ethical protocols on gray
areas regarding fee structures and long association is also required from
oversight bodies. While complete elimination of threats is impractical, their
mitigation through multipronged measures can minimize erosion of these
bedrock principles. Overall, judicious application of suitable preventive
controls combined with conscious and diligent effort by all stakeholders holds
the key to fortifying auditor ethics and restoring shaken public trust in the
audit profession.
