During the course of an audit engagement, circumstances may arise that necessitate a change in the agreed-upon terms. This could involve modifications to the scope, objectives, reporting framework, or responsibilities outlined in the original engagement letter. The acceptance of such changes must be carefully evaluated, formally documented, and agreed upon by both the auditor and the client to ensure compliance with professional standards and maintain the integrity of the audit process. International Standard on Auditing (ISA) 210 provides guidance on how auditors should handle requests for changes in engagement terms, emphasizing the importance of transparency, ethical considerations, and risk management.
1. Reasons for Changes in Terms of an Audit Engagement
Changes in the terms of an audit engagement can arise from various factors, including shifts in the client’s circumstances, regulatory requirements, or the discovery of new information during the audit process.
A. Client-Initiated Changes
- Change in Scope or Objectives: The client may request to expand or reduce the scope of the audit, for example, by shifting from a full audit to a review engagement or vice versa.
- Changes in Financial Reporting Framework: The client may adopt a different financial reporting framework (e.g., moving from GAAP to IFRS), requiring modifications in the audit approach and procedures.
- Organizational Changes: Mergers, acquisitions, restructuring, or significant changes in management may lead to the need for revised engagement terms.
B. Auditor-Initiated Changes
- Discovery of New Information: If new information emerges during the audit that affects the engagement’s risk profile, the auditor may propose changes to the audit plan or scope.
- Regulatory and Standards Updates: Changes in auditing standards or regulatory requirements may necessitate adjustments to the engagement terms to ensure compliance.
- Resource and Capability Constraints: The auditor may realize that additional resources or time are required to complete the engagement effectively, prompting a revision of the engagement terms.
C. External Factors Necessitating Changes
- Legal and Regulatory Changes: New laws, regulations, or compliance requirements may require modifications to the audit approach or reporting obligations.
- Economic and Industry Developments: Significant changes in the economic environment or industry-specific risks can impact the audit scope and procedures.
- Technological Changes: The adoption of new technology or changes in the client’s information systems may require adjustments in audit methodologies and data analysis techniques.
2. Evaluating the Acceptability of Changes in Terms
Before accepting any changes to the terms of an audit engagement, auditors must carefully evaluate the reasons for the change, the potential risks involved, and whether the changes align with professional and ethical standards.
A. Assessing the Legitimacy of the Request
- Valid Reasons for Change: The auditor must ensure that the request for a change is based on legitimate factors, such as regulatory updates, organizational restructuring, or new risk assessments.
- Avoiding Avoidance of Responsibilities: If the client requests changes to avoid disclosing unfavorable information or to limit the auditor’s ability to detect fraud or misstatements, the auditor should decline the request.
- Alignment with Professional Standards: Changes should be consistent with International Standards on Auditing (ISAs) and ethical guidelines, ensuring that audit quality and integrity are maintained.
B. Evaluating Ethical and Independence Implications
- Maintaining Independence: The auditor must ensure that any changes to the engagement terms do not compromise their independence or create conflicts of interest.
- Ethical Considerations: The auditor should assess whether the requested changes align with ethical principles, including integrity, objectivity, and professional skepticism.
- Transparency in Communication: Both parties should engage in transparent discussions regarding the reasons for the change and its implications for the audit process.
C. Assessing the Impact on Audit Risk and Quality
- Impact on Audit Scope and Procedures: The auditor should evaluate how the proposed changes affect the audit scope, risk assessment, and planned procedures.
- Potential Increase in Risk: If the changes increase audit risk or reduce the auditor’s ability to obtain sufficient appropriate evidence, the auditor may need to reconsider their involvement in the engagement.
- Impact on Audit Timelines and Resources: Changes may require additional time, resources, or expertise to complete the engagement effectively. The auditor should assess whether they can accommodate these requirements.
3. Formalizing Changes in the Audit Engagement Letter
Once both parties agree to the changes, the revised terms must be formally documented in an updated audit engagement letter or an addendum to the original letter. This ensures clarity, accountability, and legal protection for both the auditor and the client.
A. Key Elements to Include in the Revised Engagement Letter
- Description of the Changes: Clearly outline the specific changes to the engagement terms, such as modifications to the audit scope, reporting framework, or responsibilities.
- Reasons for the Change: Include a brief explanation of why the changes were made, referencing any regulatory updates, organizational changes, or new information discovered during the audit.
- Impact on Fees and Timelines: Specify any adjustments to audit fees, billing arrangements, or completion timelines resulting from the changes in terms.
B. Obtaining Formal Agreement from Both Parties
- Signatures of Authorized Representatives: The revised engagement letter or addendum must be signed by authorized representatives of both the auditing firm and the client to formalize the agreement.
- Confirmation of Responsibilities: Both parties should reaffirm their responsibilities under the revised terms, ensuring that management acknowledges its role in preparing financial statements and providing access to necessary information.
- Communication with Those Charged with Governance: For public companies and entities with audit committees, the changes should be communicated to those charged with governance to ensure transparency and oversight.
C. Documenting the Change Process
- Maintaining a Record of Discussions: Document all discussions and correspondence related to the changes in terms, including the rationale for the changes and any ethical considerations evaluated.
- Updating Audit Documentation: Ensure that the audit file reflects the revised engagement terms, including updated risk assessments, planning documents, and procedures.
- Compliance with Quality Control Standards: Review the changes in terms under the firm’s quality control procedures to ensure compliance with ISA 220 and other applicable standards.
4. Declining Requests for Inappropriate Changes
There may be situations where the auditor determines that a requested change in terms is inappropriate or could compromise the integrity of the audit. In such cases, the auditor should decline the request and consider the implications for continuing the engagement.
A. Identifying Inappropriate Requests
- Avoiding Misrepresentation: If the client requests changes that could result in the misrepresentation of financial information or concealment of material misstatements, the auditor should reject the request.
- Limiting Audit Scope Unreasonably: Requests that unreasonably limit the audit scope, preventing the auditor from obtaining sufficient appropriate evidence, should not be accepted.
- Non-Compliance with Standards: Changes that result in non-compliance with professional standards, regulatory requirements, or ethical guidelines must be declined.
B. Communicating the Decision to Decline
- Professional and Transparent Communication: The auditor should communicate their decision to decline the requested changes professionally and transparently, providing clear reasons for the decision.
- Involving Those Charged with Governance: If the client’s management insists on inappropriate changes, the auditor should escalate the matter to those charged with governance for resolution.
- Documenting the Declination: Maintain detailed documentation of the reasons for declining the changes, including any ethical or legal considerations evaluated during the decision-making process.
C. Considering Withdrawal from the Engagement
- Conditions for Withdrawal: If the client persists in requesting inappropriate changes or if the auditor believes that continuing the engagement would compromise their independence or ethical obligations, they may need to withdraw from the engagement.
- Formal Withdrawal Process: The auditor should follow a formal process for withdrawing from the engagement, including notifying the client in writing and documenting the reasons for withdrawal.
- Reporting Obligations: Depending on regulatory requirements, the auditor may have an obligation to report the withdrawal and the reasons for it to regulatory authorities or other stakeholders.
5. Regulatory and Professional Standards for Changes in Engagement Terms
The acceptance and documentation of changes in audit engagement terms must comply with professional standards and regulatory guidelines to ensure consistency, quality, and ethical conduct.
A. International Standards on Auditing (ISAs)
- ISA 210 – Agreeing the Terms of Audit Engagements: Provides guidance on how auditors should handle changes in engagement terms, emphasizing the importance of formal documentation and ethical evaluation.
- ISA 220 – Quality Control for an Audit of Financial Statements: Outlines quality control procedures for reviewing and approving changes in engagement terms to maintain audit quality.
- ISA 300 – Planning an Audit of Financial Statements: Emphasizes the need to update audit planning and risk assessments in response to changes in engagement terms.
B. International Ethics Standards Board for Accountants (IESBA) Code of Ethics
- Integrity and Objectivity: The IESBA Code emphasizes the importance of maintaining integrity and objectivity when evaluating and accepting changes in engagement terms.
- Independence Requirements: The Code outlines independence requirements that must be considered when changes in engagement terms could affect the auditor’s impartiality.
- Professional Behavior and Due Care: Auditors must ensure that any changes in engagement terms comply with professional standards and that they exercise due care in evaluating the implications of such changes.
C. National Regulatory Requirements
- Securities and Exchange Commission (SEC) – United States: Requires transparency and regulatory reporting of any significant changes in audit engagement terms for publicly listed companies.
- Financial Reporting Council (FRC) – United Kingdom: Provides ethical and professional standards for managing changes in audit terms and ensuring continued compliance with regulatory requirements.
- Professional Accounting Bodies: Organizations such as the American Institute of Certified Public Accountants (AICPA) and the Institute of Chartered Accountants in England and Wales (ICAEW) offer additional guidance on managing changes in audit engagement terms.
Managing Changes in Audit Engagement Terms with Integrity and Professionalism
Changes in the terms of an audit engagement are sometimes necessary to reflect evolving circumstances, regulatory updates, or new information discovered during the audit process. However, such changes must be carefully evaluated, formally documented, and agreed upon by both the auditor and the client to ensure compliance with professional standards and ethical guidelines. By maintaining transparency, assessing the implications of changes, and adhering to regulatory requirements, auditors can manage changes in engagement terms effectively while upholding audit quality and integrity. In cases where changes are inappropriate or compromise ethical standards, auditors must be prepared to decline the changes or withdraw from the engagement to protect their professional responsibilities and public trust.