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Can statutory auditor be appointed as an internal auditor after rotation?

P.R. Sethuraman 
on 23 March 2020

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The author of this article has already written an article on Section 144 - A new avatar in the Companies Act On 'Auditor not to render certain services' that appeared on 1-12-2016

Read more: Click Here

Section 144 of the Companies Act 2013 on 'Auditor not to render certain services' is a new valiant concept decisively introduced in the Act which, in unequivocal language, has chosen to list out certain services  whether such services are rendered directly or indirectly to the company or its holding company or subsidiary company, namely: "For brevity, they are not reproduced here including the listed services., the explanation to the term "directly or indirectly" that may be seen in detail by revisiting to the said article/or the relevantSection144 of the Companies Act 2013.

There is no visible equivalent section under the Companies Act 1956 to regulate the above prohibited services. But, the Chartered Accountant Regulation Act & revised Guidance Note on Independence of Auditors issued by the Council of the Institute of Chartered Accountants of India have guided the Auditors regarding the acceptance or otherwise of certain services other than audit that are dealt with in the article referred to above with relevant reference to the Guidance Note.

Regarding, the direction of the Section on accepting services other than the prohibited ones; pointed attention is invited particularly to the first Para of Section 144 which is quoted verbatim below:

Can statutory auditor be appointed as an internal auditor after rotation

"An auditor appointed under this Act shall provide to the company only such other services as are approved by the Board of Directors or the audit committee, as the case may be, but which shall not include any of the following services (whether such services are rendered directly or indirectly to the company or its holding company or subsidiary company, namely:—

"A plain reading of the above clearly spell out in unambiguous language that even other admissible services to be rendered by an auditor are to be approved by the Board of Directors or the audit committee. This has to be noted both by the auditors and auditees coming under the Act.

Self-review threats & Advocacy threats:

 

But, certain stipulations on Self review threats & Advocacy threats in the GN referred to above are speaking a little different language – when auditors perform services that are themselves subject matters of audit (Para 2.1.2) it may land up in Self-review threat. Very similarly, it is apprehended, Advocacy threat may creep in when the auditor promotes, or is perceived to promote, a client's opinion to a point where people may believe that objectivity is getting compromised ( Para 2.1.3 ). If the assignment is only imparting knowledge of Ind. AS leaving to the management to take a policy decision on each issue, possible it may not land up in self-review threat but a study is required to take a call for which some Guidance from ICAI will be more relevant.

The purpose of the article is to address the question as to whether a CA firm can be appointed as an internal auditor after he ceases to be an auditor after retirement on rotation?

 

The Companies Act 2013 does not appear to place restriction on an Individual / Firm to be appointed as Internal Auditors after the completion of rotation period for statutory auditors i.e. 5 years or 10 years as the case may be, since the section is noticeably silent on that.

In the light of the above, after retirement, the firm who was appointed as the statutory auditors appear to be eligible to be appointed as Internal Auditors for the same company.

In this connection, it is appropriate to refer Clause 32 of Standard on Quality Control that runs as follows.

32. 'The firm also considers whether accepting an engagement from a new or an existing client may give rise to an actual or perceived conflict of interest '8'. Where a potential conflict is identified, the firm considers whether it is appropriate to accept the engagement'

Point No.8, to the above clause runs as follows:

Paragraph 1.4 of the Code of Ethics issued by the ICAI provides that "When in practice, an accountant should both be, and appear to be, free of any interest which might be regarded, whatever its actual effect, as being incompatible with integrity and objectivity". The Guidance Note on Independence of Auditors issued by the ICAI provides that "In addition to ensuring independence during the assignment, it is also essential to avoid any situation in near future which may be interpreted as a threat to independence, as for example, he or any other partner of his firm should not accept any other assignment such as internal audit, system audit and management consultancy services within one year from the completion of audit assignment."

Any role of Section 141 of the Companies Act 2013:

In this connection, it is highly relevant to refer to Section 141 of the Companies Act, 2013 on Eligibility, qualifications and disqualification of auditors particularly sub-sec.(3)e)(i) that reads as follows:

(I) a person who, directly or indirectly, renders any service referred to in section 144 to the company or its holding company or its subsidiary company.

Explanation- For the purposes of this clause, the term "directly or indirectly" shall have the meaning assigned to it in the Explanation to section 144.

Para 32 to38 of the said Annexure to SQCI underneath 'Scope of Services' are more of generic that may also be consulted.

Also visit the following article of the author on the subject.
Read more: Click Here

CODE OF ETHICS (Revised 2019):

In this connection, attention is invited to Glossary in page 285/322 of CODE OF ETHICS (Revised 2019 on the use of 'May'. This term is used in the Code to denote permission to take a particular action in certain circumstances, including as an exception to a requirement. It is not used to denote possibility.

Again, under "How to Use the Code under sub head on Requirements and Application Material on page VI/31, the following quotes expressly defines "what is 'may' and how to handle.

12. In some situations, the Code provides a specific exception to a requirement. In such a situation, the provision is designated with the letter "R" but uses "may" or conditional wording.

13. When the word "may" is used in the Code, it denotes permission to take a particular action in certain circumstances, including as an exception to a requirement. It is not used to denote possibility.

I t is a moot/debatable point to consider the applicability of the above interpretation in the CODE OF ETHICS (Revised 2019), especially when SQC I above mentioned in a different language.

Conclusion:

Auditors are to be perfectly clear about their eligibility for appointment of auditors of an audit. Section 141 and Section 144 of the Act, the relevant provisions of SQCI, the Code of Ethics and guidance Note should by and large speak in one voice except where it's for general compliance. Auditing community should not be in pell-mell for want of clarity about certain issues that are addressed in the article.

Can ICAI come forward with a revised Guidance Note to bring clarity to the issue?


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