Significant changes to the standards for compilation and review engagements will soon take effect. The AICPA’s Accounting and Review Services Committee (ARSC) issued Statement on Standards for Accounting and Review Services no. 19, Compilation and Review Engagements, in December. The standard’s effective date is for compilations and reviews of financial statements for periods ending on or after Dec. 15, 2010, with early implementation permitted for the new reporting option for compilation engagements when the accountant’s independence is impaired. This article discusses the major changes made by the standard.
DISCLOSURE OF REASONS FOR LACK OF INDEPENDENCE
SSARS no. 19 contains the most significant changes to the professional literature for compilation and review engagements since SSARS no. 1, Compilation and Review of Financial Statements, was issued in December 1978. For more than 30 years, accountants have been required to disclose in the compilation report if they are not independent but have been prohibited from disclosing the reasons. It was thought that while it was important for users to know whether the accountant was independent, the reasons were not relevant and, in fact, could cause confusion among financial statement users.
However, with the increasing complexity of new accounting standards, many smaller companies are asking for their accountant’s assistance in preparing high-quality, reliable financial statements. This assistance, which often includes preparing and posting payroll and payroll reports, maintaining the general ledger, and preparing and recording journal entries, may cause the accountant to impair his or her independence.
As a result, members advised ARSC that third-party users (primarily bankers) wanted to know and understand the reasons for the impairment. What ARSC found out is that many bankers view a technical impairment caused by the accountant’s involvement in a client’s system of internal control different from an impairment caused by a financial interest or a relationship with the client.
After studying the issue, ARSC developed the new standard so that the accountant has the option, but is not required, to disclose the reasons for an independence impairment in a compilation report. The only caveat is that, if the accountant does decide to disclose the reasons for an independence impairment, all reasons must be disclosed. The result will be reports that are more transparent and useful to users of compiled financial statements.
Applicable Financial Reporting Framework
The applicable financial reporting framework is the financial reporting framework adopted by management and, when appropriate, those charged with governance in the preparation of the financial statements that is acceptable in view of the nature of the entity and the objective of the financial statements, or that is required by law or regulation. They include, for example, accounting principles generally accepted in the United States, the cash basis of accounting, or the income tax basis of accounting.
SEPARATING COMPILATION GUIDANCE FROM REVIEW GUIDANCE
Another significant change is the separation of the compilation guidance from the review guidance. SSARS no. 19 supersedes AR sections 20 (Defining Professional Requirements in Statements on Standards for Accounting and Review Services), 50 (Standards for Accounting and Review Services) and 100 (Compilation and Review of Financial Statements). In the place of those AR sections, the requirements and guidance will be separated into the following sections:
- Framework for Performing and Reporting on Compilation and Review Engagements.
- Compilation of Financial Statements.
- Review of Financial Statements.
This change was in direct response to member comments that they had difficulty in researching the existing literature since the requirements and guidance for compilation and review engagements were presented together. For example, under the pre-SSARS no. 19 standards, an accountant looking to understand the compilation standards would have to sort through both compilation and review guidance because they were presented together. Now, the framework and compilation sections contain all the necessary requirements and guidance. In fact, an accountant who just performs compilations can rip the framework and compilation sections out of the SSARSs Codification and have all of the professional literature that he or she needs.
CLARIFICATION OF REVIEW PERFORMANCE PROCEDURES
Another important change was made in the review standards where ARSC felt more guidance around the planning of review procedures was needed. ARSC noted that, to properly plan the nature and extent of review procedures, an accountant cannot merely use a canned list of analytical and inquiry procedures. Rather, an accountant should tailor those procedures, taking into consideration those areas where the accountant believes there are increased risks of misstatements. In that respect, a review engagement is not simply a compilation engagement with a few additional procedures layered on top. A review is an assurance engagement and needs to be planned and performed to obtain a limited level of assurance that the financial statements are free of material misstatement.
A review engagement requires the accumulation of review evidence that will provide the accountant with a reasonable basis for obtaining limited assurance that there are no material modifications that should be made to the financial statements for the statements to be in accordance with the applicable financial reporting framework. That compares to an auditor’s objective, which is to accumulate greater evidence to obtain a reasonable or high level of assurance. Limited assurance can generally be obtained by performing analytical and inquiry procedures whereas an audit contemplates much greater testing through inspection, observation, confirmation and the examination of source documents.
While SSARS no. 19 does not require the accountant to ordinarily perform procedures beyond analytical procedures and inquiries, it does require the accountant to use professional judgment in determining the specific procedures and tailor those procedures accordingly. A trend analysis may be an appropriate analytical procedure for client A; however, that same analysis may not be appropriate for client B. Additionally, the inquiries that are made to management should be tailored. The accountant should tailor his or her analytical procedures and inquiries to that specific client based on an understanding of the industry, knowledge of the client, and awareness of the risk that the accountant may unknowingly fail to modify his or her review report on financial statements that are materially misstated.
SSARS no. 19 also attempts to clear up the misconception that a review engagement is always limited to analytical procedures and inquiries. If the accountant performs a trend analysis and the results indicate that accounts receivable increased by an unexpected amount and the client’s response to the accountant’s inquiry does not satisfy the accountant, other procedures should be performed. Such other procedures may include making additional inquiries of client management or personnel, performing additional analyses or confirming certain receivables. A mistaken assumption is that once an “audit-type” procedure is performed, the accountant is required to perform an audit. Although certain procedures are ordinarily performed in an audit and not in a review, the accountant should perform additional procedures he or she believes necessary to obtain limited assurance that the financial statements are free of material misstatement when the accountant becomes aware that there may be a material misstatement.
DOCUMENTING THE UNDERSTANDING WITH MANAGEMENT
SSARS no. 19 does not change the accountant’s requirement to establish an understanding with the client’s management regarding the services to be performed with respect to both compilation and review engagements. However, whereas previous standards stated that it is preferable that the understanding be in writing, SSARS no. 19 requires that the understanding be in writing. For accountants who have established the understanding verbally with their clients in the past, this will be a change in practice and may necessitate discussions with the client.
Accountants should be aware that SSARS no. 19 leaves open the “engagement” that the written understanding should cover. For example, if the accountant is to compile monthly financial statements and then review the year-end financial statements, the accountant can obtain one engagement letter. That letter would cover the entire year. Therefore, SSARS no. 19 does not require a separate engagement letter for the compilation and another letter for the year-end review.
The accountant can even obtain an engagement letter that covers multiple years, however, such documentation is discouraged since the understanding would be less clear as time goes on. It is recommended that the accountant document the understanding with the client’s management regarding the services to be performed at least annually.
ENHANCED REQUIREMENTS FOR COMPILATION DOCUMENTATION
Prior to SSARS no. 19, in a compilation engagement, the accountant was only required to document the understanding with the client’s management regarding the services to be performed if the accountant availed himself or herself of the nonreporting option provided for compiled financial statements not intended for third-party use and any communications to the appropriate level of management with respect to suspected fraud or illegal acts. SSARS no. 19 expands the documentation requirements for compilation engagements, requiring documentation of the understanding with the client’s management regarding the services to be performed for all engagements and any findings or issues that, in the accountant’s judgment, are significant. The accountant is still required to document any communications to the appropriate level of management regarding fraud or illegal acts.
A compilation is limited to assisting management in presenting financial information in the form of financial statements without undertaking to obtain or provide any assurance that there are no material modifications that should be made to the financial statements for the statements to conform to the applicable financial reporting framework. In the cleanest of compilations, the accountant simply takes the client’s data and puts it in the form of financial statements. However, if during the process, the accountant questions whether some of the amounts in the financial statements may be misstated, then those questions and how they’re resolved are likely to be significant issues that should be documented. The documentation could be the issue that the accountant raised and management’s response to the accountant’s inquiry.
Impact on Compilation Engagements
- Requirement to obtain a written understanding (for example, an engagement letter) for all compilation engagements.
- Modified documentation requirements.
- Allows accountants to disclose a description of the reasons for the lack of independence.
REVIEW DOCUMENTATION CHANGES
The documentation procedures for a review engagement are likewise enhanced and expanded. The accountant is now required to document the establishment of an understanding with the client’s management regarding the services to be performed for all review engagements.
The accountant is now also required to document management’s responses to inquiries regarding fluctuations or relationships that are inconsistent with other relevant information or that differ from expected values by a significant amount. The accountant is required to document the significant matters covered in his or her inquiry procedures and the responses received. This may be accomplished by using a memorandum, checklist or other means. Any findings or issues that, in the accountant’s judgment, are significant must be documented, such as the results of review procedures that indicate the financial statements could be materially misstated, including actions taken to address such findings, and the basis for the final conclusions reached.
Impact on Review Engagements
- Requirement to obtain a written understanding (for example, an engagement letter) for all review engagements.
- Expanded guidance with respect to analytical procedures in a review engagement.
- Requirement to document management’s responses to inquiries:
- Analytical procedures.
- Significant matters.
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NEW COMPILATION AND REVIEW REPORTS
SSARS no. 19 revises the reporting requirements for compilation and review engagements to make the reports clearer as to management’s responsibilities and the accountant’s responsibility. In addition to the new compilation reporting option when the accountant’s independence is impaired, the compilation reporting requirements require a title that clearly indicates that it is the accountant’s compilation report. The accountant may indicate that he or she is independent in the title, if appropriate. Examples of appropriate titles would be “Accountant’s Compilation Report” or “Independent Accountant’s Compilation Report.” The report is also required to be addressed as appropriate in the circumstances.
The revised illustrative compilation report splits the report into three clear paragraphs. The introductory paragraph identifies the entity whose financial statements have been compiled; states that the financial statements have been compiled; identifies the financial statements that have been compiled; specifies the date or period covered by the financial statements; and includes a statement that the accountant has not audited or reviewed the financial statements and, accordingly, does not express an opinion or provide any assurance about whether the financial statements are in accordance with the applicable financial reporting framework.
The second paragraph states management’s responsibility for the financial statements and for internal control over financial reporting. The third paragraph states the accountant’s responsibility to conduct the compilation in accordance with SSARSs issued by the AICPA and the objective of the compilation. To see a comparison of the pre-SSARS no. 19 compilation report with the new report, click here.
With respect to the review report, SSARS no. 19 requires that the accountant’s review report have a title that clearly indicates that it is the accountant’s review report and includes the word “independent.” An appropriate title would be “Independent Accountant’s Review Report.” In addition, the accountant’s report should be addressed as required by the circumstances of the engagement.
The illustrated review report is separated into four paragraphs. The introductory paragraph identifies the entity whose financial statements have been reviewed; states that the financial statements have been reviewed; identifies the financial statements that have been reviewed; specifies the date or period covered by the financial statements; and includes a statement that a review consists of primarily applying analytical procedures to management’s financial data and making inquiries of company management. It also includes a statement that a review is substantially less in scope than an audit, the objective of which is the expression of an opinion regarding the financial statements as a whole, and that, accordingly, the accountant does not express such an opinion.
The second paragraph states management’s responsibility for the financial statements and for internal control over financial reporting. The third paragraph states that the accountant’s responsibility is to conduct the review in accordance with SSARSs issued by the AICPA; that those standards require the accountant to perform the procedures to obtain limited assurance that there are no material modifications that should be made to the financial statements; and that the accountant believes that the results of his or her procedures provide a reasonable basis for his or her report.
The fourth paragraph states that, based upon his or her review, the accountant is not aware of any material modifications that should be made to the financial statements for them to be in conformity with the applicable financial reporting framework, other than those modifications, if any, indicated in the report. To see a comparison of the pre-SSARS no. 19 review report to the new report, click here.
CHANGES FROM APRIL 2009 EXPOSURE DRAFT
In April 2009, ARSC exposed for public comment a trio of proposed standards that eventually became SSARS no. 19. During the comment period, the committee received 169 comment letters.
SSARS no. 19 differs from the exposure draft in two major ways. First, ARSC decided to retain the concept of limited assurance rather than moderate assurance as proposed in the exposure draft. ARSC had proposed using the term moderate assurance to describe the level of assurance that the accountant aims to obtain in a review engagement in order to harmonize with the terminology used in the international review standards. However, after the exposure draft was issued, the International Audit and Assurance Standards Board began a project to revise the international review standards. ARSC determined that it would be inappropriate to conform to a document currently under revision and, accordingly, tabled the proposed change.
The other major difference is that the proposed nonindependent review is not part of the final standard. ARSC received a number of comments on this proposal, both for and against. As a result of the great interest in this topic, ARSC decided to defer this issue so it could hold additional meetings with key stakeholders. These additional meetings will be used to further discuss with stakeholders the issues that many smaller firm accountants face in trying to serve their small business clients.
At issue is whether performing a nonattest service to help smaller businesses establish or maintain aspects of their internal control over financial reporting, the purpose of which is to improve the reliability of the client’s financial statements, impairs an accountant’s independence. ARSC will revisit the topic during its public meetings in 2010 but remains committed to allowing practitioners to review financial statements when they also perform services that are intended to assist the client in preparing reliable, high-quality financial statements.
To read a series of questions and answers about the new standard, click here.
To view a previous illustrative compilation report compared to a new illustrative report, click here.
EXECUTIVE SUMMARY
In December, the AICPA’s Accounting and Review Services
Committee (ARSC)
issued
Statement on Standards for Accounting and Review Services no.
19, Compilation and Review Engagements, representing
the most significant changes since 1978.
The standard permits, but does not require,
an
accountant to disclose the reasons for a lack of independence
in a compilation report. This amendment can be implemented
immediately.
Other than the compilation reporting option that may be
implemented immediately,
the
standard is effective for compilations and reviews of
financial statements for periods ending on or after Dec. 15,
2010.
In response to comments received from smaller firm
practitioners,
the
standard separates the compilation guidance from the review
guidance. This should make the standards easier to
use.
The standard also includes a discussion
of
how the accountant obtains limited assurance through the
performance of tailored review procedures.
Carolyn H. McNerney (cmcnerney@ssandg.com) is the co-director of the SS&G Financial Services Inc. assurance services department and is chairperson of the AICPA Accounting and Review Services Committee. Charles E. Landes (clandes@aicpa.org) is vice president–Professional Standards and Services for the AICPA. Michael P. Glynn (mglynn@aicpa.org) is a technical manager for the AICPA Audit and Attest Standards team.
To comment on this article or to suggest an idea for another article, contact Loanna Overcash, senior editor, at lovercash@aicpa.org or 919-402-4462.
AICPA RESOURCES
JofA article
“A Fresh Approach for Compilation and Review,” July 09, page 24
Standard
Statement on Standards for Accounting and Review Services no. 19, Compilation and Review Engagements (#060657)
Guide
Compilation and Review Engagements , providing the most updated guidance for accountants performing compilation and review engagements. The guide features information on implementing SSARS no. 19, Compilation and Review Engagements, including illustrative engagement and representation letters, sample compilation and review reports, detailed illustrations and case studies. (#0128110)
Webcasts
- “Compilation and Review Strategic Briefing—2009/2010” (#780207)
- “Early Adopting the New Compilation Reporting Option” (#780209)
CPE Self Study
InSight: SSARS19—The New Compilation and Review Standard (#154230)
For more information or to place an order, go to cpa2biz.com or call the Institute at 888-777-7077.
On-Site Training
- Advanced Update for Compilation, Review and Accounting Services (#RPCR)
- Compilation and Review Engagement Essentials (#ICRE)
To access courses, go to aicpalearning.org and click on “On-Site Training” then search by “Acronym Index.” If you need assistance, please contact a training representative at 800-634-6780 (option 1).
An Empirical Test of the Reliability Framework
See the results of research on commercial bankers’ perceptions of CPAs’ integrity, expertise, independence, objectivity and reliability, and how they affect judgments about risk. The research also delves into whether the type of engagement and the CPAs’ provision of nonattest services had an impact on the banker’s impression of financial statement reliability. To read the report, go to tinyurl.com/q8z47p.
Web sites
Private Companies Practice Section
The Private Companies Practice Section (PCPS) is a voluntary firm membership section for CPAs that provides member firms with targeted practice management tools and resources, as well as a strong, collective voice within the CPA profession. Visit the PCPS Firm Practice Center at aicpa.org/PCPS.
Exhibit 1: Comparison of Previous Illustrative Compilation Report and New Illustrative Report
| Previous Compilation Report | New Compilation Report | |
| Title | Not required | Accountant's Compilation Report |
| Addressee | Not required | [Appropriate Salutation] |
| Introductory paragraph | I (we) have compiled the accompanying balance sheet of XYZ Company as of December 31, 20X1, and the related statements of income, retained earnings, and cash flows for the year then ended, in accordance with Statements on Standards for Accounting and Review Services issued by the American Institute of Certified Public Accountants. | I (we) have compiled the accompanying balance sheet of XYZ Company as of December 31, 20XX, and the related statements of income, retained earnings, and cash flows for the year then ended. I (we) have not audited or reviewed the accompanying financial statements and, accordingly, do not express an opinion or provide any assurance about whether the financial statements are in accordance with accounting principles generally accepted in the United States of America. |
| Paragraph outlining management's responsibilities | None | Management (owners) is (are) responsible for the preparation and fair presentation of the financial statements in accordance with accounting principles generally accepted in the United States of America and for designing, implementing, and maintaining internal control relevant to the preparation and fair presentation of financial statements. |
| Paragraph outlining the accountant's responsibilities | None | My (our) responsibility is to conduct the compilation in accordance with Statements on Standards for Accounting and Review Services issued by the American Institute of Certified Public Accountants. The objective of a compilation is to assist management in presenting financial information in the form of financial statements without undertaking to obtain or provide any assurance that there are no material modifications that should be made to the financial statements. |
| Conclusion paragraph | A compilation is limited to presenting in the form of financial statements information that is the representation of management (owners). I (we) have not audited or reviewed the accompanying financial statements and, accordingly, do not express an opinion or any other form of assurance on them. | The communication is moved to the introductory paragraph. |
| Paragraph disclosing independence impairment | I am (we are) not independent with respect to XYZ Company. The accountant is precluded from disclosing the reasons for the independence impairment. | I am (we are) not independent with respect to XYZ Company. The accountant is not precluded from disclosing the reasons for the independence impairment. |
Exhibit 2: Comparison of Previous Illustrative Review Report and New Illustrative Report
| Previous Review Report | New Review Report | |
| Title | Not required | Independent Accountant's Review Report |
| Addressee | Not required | [Appropriate Salutation] |
| Introductory paragraph—in the new report, the scope of the engagement is described (it was included in the second paragraph of the previous review report). Management’s responsibilities are moved to a separate paragraph. | I (We) have reviewed the accompanying balance sheet of XYZ Company as of December 31, 20X1, and the related statements of income, retained earnings, and cash flows for the year then ended in accordance with Statements on Standards for Accounting and Review Services issued by the American Institute of Certified Public Accountants. All information included in these financial statements is the representation of management (owners) of XYZ Company. | I (We) have reviewed the accompanying balance sheet of XYZ Company as of December 31, 20XX, and the related statements of income, retained earnings, and cash flows for the year then ended. A review includes primarily applying analytical procedures to management’s (owners’) financial data and making inquiries of company management (owners). A review is substantially less in scope than an audit, the objective of which is the expression of an opinion regarding the financial statements as a whole. Accordingly, I (we) do not express such an opinion. |
| Second paragraph–the new report describes management’s responsibilities. The scope of the engagement is included in the introductory paragraph. | A review consists principally of inquiries of company personnel and analytical procedures applied to financial data. It is substantially less in scope than an audit in accordance with generally accepted auditing standards, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, I (we) do not express such an opinion. | Management (owners) is (are) responsible for the preparation and fair presentation of the financial statements in accordance with accounting principles generally accepted in the United States of America and for designing, implementing, and maintaining internal control relevant to the preparation and fair presentation of the financial statements. |
| Paragraph describing the accountant’s responsibilities | None | My (our) responsibility is to conduct the review in accordance with Statements on Standards for Accounting and Review Services issued by the American Institute of Certified Public Accountants. Those standards require me (us) to perform procedures to obtain limited assurance that there are no material modifications that should be made to the financial statements. I (We) believe that the results of my (our) procedures provide a reasonable basis for our report. |
| Paragraph describing the results of the engagement | Based on my (our) review, I am (we are) not aware of any material modifications that should be made to the accompanying financial statements in order for them to be in conformity with generally accepted accounting principles. | Based on my (our) review, I am (we are) not aware of any material modifications that should be made to the accompanying financial statements in order for them to be in conformity with accounting principles generally accepted in the United States of America. |
