New SAS on Passing the Baton

T he American Institute of CPAs auditing standards board is seeking comments on an exposure draft that would supersede the 22-year-old Statement on Auditing Standards no. 7, Communications Between Predecessor and Successor Auditors . While not seeking to make radical changes, the proposed SAS recognizes changes in the auditor succession process over the past two decades.

"SAS no. 7 doesn't really address the proposal process that is common today," Stephen M. McEachern, an ASB member and chairman of the SAS no. 7 task force, told the Journal . (See "The Auditor Change Process," JofA, June96, page 73, for details on how auditors have been applying SAS no. 7). "In the ED, we've clearly laid out which communications between predecessor and successor auditors are required before an auditor accepts a new engagement and which are required after. There are more details on what the predecessor should supply, what the successor should look at and when."

Key features
Common in many firms have been standard letters from the predecessor auditor to the client clarifying the successor's access to working papers and from the predecessor to the successor auditor outlining the terms under which the successor will review working papers. The ED gives examples of both of these in appendices. Auditors would not be required to use these letters as is but could modify them, write their own or omit them entirely.

One interesting feature in the proposed successor auditor acknowledgment letter is suggested language about the relationship between successor and predecessor auditors: "The successor auditor will not provide expert testimony, litigation support services or otherwise accept an engagement to comment on issues relating to the quality of the predecessor auditor's audit."

"This was controversial language," said McEachern, "so as a compromise, it was put in the appendix rather than in the standard itself."

Another, related provision that might become controversial is the definition of evidential matter . After some debate, the ASB decided working papers were not evidential matter, thus offering some protection to the predecessor auditor. "We didn't want predecessor auditors to hold back working papers out of fear these papers would later be used against them," said McEachern. "The whole point of the standard is to try to keep the doors open, not give anyone a reason to close doors."

The ED (product no. 800107JA), which has the same title as SAS no. 7, is available from the AICPA order department at 800-862-4272 and AICPA Online. Comments are due June 16.

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Short takes, notes and items of interest

KPMG Leaves Broker Business    In January of this year KPMG Peat Marwick dissolved a controversial 16-month alliance with an independent broker-dealer, KPMG BayMark Capital, that offered investment banking services. The Securities and Exchange Commission had questioned the independence of the firm's auditors when KPMG served a dual role as both auditor and investment banker to corporate clients. Fool-Proof ID Cards    The Immigration and Naturalization Service (INS) issued a new, more tamper-proof employment authorization card called form I-766. It is issued to nonpermanent aliens who have been granted temporary permission to work in the United States. The new ID cards, which include a photograph and anti-replication holograms, will be phased in. Employers can obtain more information by calling the INS at 800-870-3676. Disclosures Under the Gun    At Senate Banking Securities Subcommittee hearings on derivatives regulations witnesses disagreed about whether recent Securities and Exchange Commission regulations and proposed Financial Accounting Standards Board standards on derivatives disclosure would benefit U.S. investors. While some witnesses said disclosures would provide important transparency in the derivatives market, others said the high compliance costs could harm both companies that use derivatives and investors. The subcommittee chairman, Senator Phil Gramm (R-Texas), said he would confer with SEC Chairman Arthur Levitt, Jr. "If we decided we were going to try to override the SEC rules, we would want to do it quickly," said Gramm. FAF Looks at Its Own Books    The Financial Accounting Foundation needs money for the future. Contributions from industry have dropped by $500,000 since 1992, said FAF trustee Kathryn Wriston, who is leading a fundraising campaign to help keep rulemaking in the private sector. The Financial Executives Institute has called on its members to increase their financial support. Banking on Wall Street    Three bills in the House, HR 669, HR 268 and HR 10, and the comprehensive reform bill introduced in the Senate (S 298) would allow banks to establish securities affiliates that could offer municipal revenue bonds and asset-backed securities. Another effort by federal regulators would allow section 20 bank affiliates to underwrite more municipal revenue bonds.

Fellows in the Capitol    The SEC's Office of Chief Accountant selected Jeffrey N. Jones of KPMG Peat Marwick, New York, and Robert Uhl of Deloitte & Touche, Wilton, Connecticut, to serve as professional accounting fellows for two-year terms beginning in June. Bankers Fight Rubber Checks    The American Bankers Association recommended all banks use a standard classification for check fraud losses to help track nationwide fraud trends. It also should help correct weaknesses in the system and lead to new loss prevention methods. For a free copy of the classifications, fax John Hall at 202-663-7578. Researching the Future    The Indiana University School of Business will establish the Price Waterhouse Center for Information Technology for the development of the technical proficiency of future accounting and business consulting professionals. The center is expected to bring together auditing and cost accounting work with integrated computer networks. DOL Offers Family-Friendly Number    The Labor Department has a toll-free number that explains the Family and Medical Leave Act. Callers hear a recorded message and are able to request detailed information through the mail. The number is 800-959-3652. Help Is on the Way    Accountants for the Public Interest, a nonprofit organization through which volunteer accountants donate their time and expertise, has publications useful to not-for-profits: What a Difference Preparation Makes: A Guide to the Nonprofit Audit, What a Difference Nonprofits Make: A Guide to Accountant Procedures and What a Difference Understanding Makes: Guides to Nonprofit Management (a five-booklet series). To learn about API or to order publications, call 202-347-1668. Women's Businesses on a Roll    The Census Bureau recently released data on women-owned businesses: In 1992, women owned 6.4 million businesses, a third of all domestic companies and 40% of all retail and service companies. These businesses generated $1.6 trillion in revenues and employed 13.2 million people. Los Angeles has the greatest number of women-owned businesses, followed by New York, Chicago, Washington and Philadelphia. For more census data, visit the bureau at http://www.census.gov .

Clarifications

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A massive survey, Total Compensation for Middle Management: 1997 , tallied the responses from 326 organizations. Below are some results.

Participating Mortgage Loans Addressed—Finally

T he American Institute of CPAs accounting standards executive committee has issued a Statement of Position, Accounting by Participating Mortgage Loan Borrowers , which is the culmination of a project originating with the AICPA real estate committee in 1979. The SOP establishes the borrower's accounting for a participating mortgage loan in which the lender is entitled to participate in the appreciation in the market value or the results of operations of the mortgaged real estate project. Entities are required to accrete a liability for the participation feature and charge a part of that to expense every period, according to John M. Lacey, professor and Ernst & Young research fellow at California State University, Long Beach, who drafted the SOP for AcSEC. Lacey, the immediate past chairman of the AICPA real estate committee, said practice in this area has long been diverse.

During the SOP's exposure period, many comment letters said the payment to the borrower under the participation clause should be added to the value of the asset instead of charged to expense. "Some people believe there is objective evidence of the increase in the value of the asset as a consequence of the participation payment to a third party, which is based solely on the appreciation of the asset," said Lacey. "However, AcSEC decided the payment should be an expense." The SOP includes a section on AcSEC's basis for conclusions.

Compromise decision
When AcSEC voted on an earlier version of this SOP in 1992, said Lacey, the committee split evenly three ways, with each third voting for a different accounting treatment. Observers commented then that it was one of the most acrimonious debates in AcSEC history. The final conclusion, as approved by AcSEC and the Financial Accounting Standards Board in this SOP, is that the addition to the participation should be amortized over the remaining life of the loan. "So as we increase this participation liability, we take that increase and spread it over the remaining life of the loan," explained Lacey.

The SOP is effective for financial statements issued for fiscal years beginning after June 30, 1997, with earlier application encouraged. It will be published this summer.

C harities want to report most expenses as program services rather than as administrative or fundraising activities to appear favorably to the public and attract potential donors. Publications often rate charities based on the percentage of money spent on fundraising, and state regulators are concerned as well.

Gregory B. Capin, chairman of the NPO committee, said some charities will be unhappy with the new SOP. He suggested that CPAs be proactive in advising their clients about the rules to avoid surprises and to take advantage of planning opportunities. "CPAs and the charities' accounting staffs should be involved early in planning or reviewing activities that include fundraising and are intended to further a program or public education purpose. This will help management understand the accounting implications at an early stage rather than after the fact, when nothing can be changed. It also will minimize surprises and contentious accounting issues during an audit."

Capin said that the new statement is much clearer than SOP 87-2 in applying the criteria of purpose, audience and content, and it makes it explicitly clear that talking about the needs and causes the charity serves is in support of fundraising, not program and public education activities-unless there is a motivation to an action other than giving.

"For example, if a charity discusses the needs and plight of the homeless and appeals for gifts to provide meals and shelter or for volunteers to serve at the shelter (which is defined as fundraising by FASB Statement no. 117, Financial Statements of Not-for-Profit Organizations , and the AICPA not-for-profit guide), all costs would be fundraising under the new SOP. However, if the presentation includes actions people can take other than making contributions, some costs may be able to be allocated to public education. All criteria would have to be met and the actions substantive, such as petitioning the city council to provide more funding to local shelters and contacting businesses and houses of worship to establish food collection points."

Capin advises charities to involve their CPAs at an early stage to avoid undesirable results in annual reports and audited financial statements. "In some cases, it may be advisable for a charity to consider conducting any program or public education component separately from fundraising rather than as a joint activity. The key is to consult CPAs during the planning stages."