Spring 2012 issue of Horizons

In December 2011, the Government Accountability Office (GAO) issued the 2011 version of Government Auditing Standards (commonly known as the Yellow Book). Under the 2003 and 2007 versions of the Yellow Book, external auditors were required to assess their independence related to an audit engagement using two divergent sets of standards: those promulgated by the American Institute of Certified Public Accountants (AICPA) and those significantly changed by the GAO. The updated guidance no longer includes references to the AICPA’s Statements on Auditing Standards because these two definitions are now consistent. In some instances, this previous guidance could have created a problem if the auditor was independent under AICPA standards, but not under the GAO standards. For example, it is very common for an auditor to assist in the preparation of the financial statements. Under the new guidance, financial statement preparation is a nonaudit service; however, if certain safeguards are met and management takes responsibility for the financial statements, the auditor can provide that nonaudit service and not impair his or her independence. When engaging an external auditor, it is important for the entity being audited to inquire about the individual auditor’s and the audit firm’s independence in relation to the entity. Independence in the revised Yellow Book refers to both “independence of mind” and “independence in appearance.” Per the Yellow Book, independence of mind is defined as “the state of mind that permits the performance of an audit without being affected by influences that compromise professional judgment, thereby allowing an individual to act with integrity and exercise objectivity and professional skepticism.” Independence in appearance is “the absence of circumstances that would cause a reasonable and informed third party, having knowledge of the relevant information, to reasonably conclude that the

integrity, objectivity, or professional skepticism of an audit organization or member of the audit team had been compromised.” These are important guidelines to keep in mind when interviewing and selecting an external auditor to perform your financial statement and Single Audit. When an entity needs certain nonaudit or consulting work performed, it is often logical to have your external auditor involved. Depending on the service, your auditor may be prohibited from providing that service. The 2011 Yellow Book highlights numerous nonaudit services that are prohibited, including: • Designing, implementing or maintaining internal control • Designing or developing an information system that would be subject to an audit • Internal audit assistance services such as setting internal audit policies or the strategic

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