There are three general categories of standard [regulations] for financial accounting. No financial accountant can practice properly without understanding these organizations and how they not only constrain but also assist the performance of financial accounting and reporting services. What are the standards and why do they exist? Who initiates? And who carried this over?
Through this post, I introduce types of standards for accountants and its agencies—any accountant should know.
Here are the three standards should be followed by accountants: (1) standards for practice, (2) standards for competence, and (3) standards for behavior. Read on for more details…
Standards for Practice
One effective regulatory policy is to establish rules governing the choice of accounting practices used in preparing financial statements. When companies use uniform accounting practices, they generate more comparable information than when each company makes its own choices. Reduction or elimination of alternative practices will also reduce or eliminate discretionary choices by preparers who are trying to present more favorable pictures. In addition, a set of practice standards gives auditors a basis for questioning or defending their client’s choices.
The standards used in financial accounting are known collectively as generally accepted accounting principles (GAAP). Originally, general acceptance denoted a consensus among a relatively small population of accountants that one particular practice was more common than others and therefore was presumably more useful. However, as practices grew more complex and required effective regulation, general acceptance has come to include designation by an authoritative body that particular accounting principles are suitable for use. Principles lacking this authoritative support are considered inappropriate.
A similar need exists for the conduct of audit procedures. Correspondingly, the practices to be applied in audits are known collectively as generally accepted auditing standards (GAAS). General acceptance here was also originally indicative of a consensus among practitioners but has come to mean authoritatively mandated. However, the PCAOB dropped the term generally accepted auditing standards from its vocabulary. Since its Standards are not based on the same process by which AICPA auditing standards had been set, it uses the term rules. The AICPA continues to use the term GAAS for standards issued for audits (private company, government and not for profit audits) that are not subject to PCAOB oversight.
Although the obvious main purpose of GAAP and GAAS is to provide guidance to practitioners, the standards also provide some assurance to statement users about the quality of the information they receive. In addition, they serve as an after-the-fact basis for evaluating the decisions of preparers or auditors. If accounting policies or practices prove to have been contrary to generally accepted standards, the persons who chose to use them can be more easily held responsible for injury resulting from those choices. Knowledge of GAAP and GAAS should help users understand (1) what the statements do and do not describe and (2) how much reliance should be placed on them.
Standards for Competency
In addition to controlling accountants’ practices, society also regulates the competence of individual accountants. By distinguishing between those who are or are not competent and by empowering only the competent accountants to perform critical tasks, useful information is more likely to be delivered to the capital markets. In addition, providing unique identification of competent accountants simpli?es the search for them.
In the United States, the most common competence indicator is the license to practice as a certified public accountant (CPA). This license is granted by individual states and other jurisdictions, such as the District of Columbia, through an agency often called the State Board of Accountancy.
Even though each state requires a candidate to pass the Uniform CPA Examination, there is substantial diversity in the additional requirements. Most states, but not all, require 150 hours of college education for licensure. Most states, but not all, grant certi?cates only after a candidate completes one, two, or more years of experience in public accounting. Some states also distinguish between certification and the license to practice. Aside from a generally recognized credential indicating a skill set in accounting, auditing, taxes and related subjects, the CPA designation permits the accountant to sign audit opinions on audits of public companies and practice before the SEC. In addition to the initial hurdles, most states impose “continuing professional education” (CPE) requirements designed to maintain the quality and the most up-to-date status of the CPA’s competence. Some accountants in some states carry the designations Public Accountant or Registered Accountant.
These individuals hold licenses that predate the creation of existing CPA requirements, particularly those involving formal education. In effect, these individuals were “grandfathered” when new laws were passed and were allowed to continue holding this designation. (Public accounting has been difficult to define precisely, but it is generally recognized as the offering of accounting services for fees to the public in general as opposed to the performing of accounting services solely for a single employer, whether a business, a not-for-profit entity, or a government agency).
The CPA designation is not lost when the individual leaves public practice and is an important credential on the resumes of many accountants who work for corporations and government agencies. Other designations have been developed to provide additional evidence of the competence (or to provide evidence for those who choose not to qualify as CPAs) of accountants who are not in public practice.
The Certified Management Accountant certi?cate was developed by the Institute of Management Accountants (IMA). Although there is a rigorous examination and a requirement for experience as a management accountant to hold the CMA certi?cate, this designation does not grant the holder any special privileges or licenses to do anything not granted to ordinary citizens. Nonetheless, it is sought after and respected. CMAs are also required to complete ongoing CPE requirements in order to maintain their competency.
The Certified Internal Auditor (CIA) certificate is similar to the CMA, and is administered by The Institute of Internal Auditors. This designation does not grant any special statutory rights or responsibilities to persons who hold it. It is proving to be an important credential for advancement in the internal auditing profession.
Standards for Behavior
In addition to standards for practice and competence, financial accountants are also subject to standards for behavior in the form of codes of ethics or codes of conduct. These standards distinguish between good and bad actions by accountants. To be meaningful, the codes must require more of accountants than other laws or morals demand of non-accountants.
The accountancy laws in the various states generally incorporate a set of ethical standards. If the state authority determines that a CPA has violated these standards, it may revoke or suspend the license to practice. In other situations (generally involving some technical error), the authority may merely require remedial education.
Non-governmental professional organizations have also established ethics codes to apply to their members. Under this arrangement, membership carries a higher standard of performance than would be faced without it. It also exposes the member to another investigative and sanctioning authority.
The return to the member is a higher perceived level of ethics and some protection against the misdeeds of other less ethical practitioners. The most significant of these bodies is the American Institute of Certified Public Accountants (AICPA). There are other societies (also associations and institutes) at the state level. The Institute of Management Accounting also sanctions unethical CMAs, and The Institute of Internal Auditors sanctions unethical CIAs.
Regulatory Agencies and Organizations
Regulations and standards concerning practices and behavior are created by various agencies and organizations, some of which have already been mentioned. They often have the power to enforce the rules that they (or other organizations) have produced. These agencies can be classified into three categories: governmental agencies, standard setting organizations, and professional societies.
The greatest regulatory power over financial accountants is held by governmental agencies established by legislative action to protect the public interest. The most significant of these agencies is the federal Securities and Exchange Commission (SEC), which was created by the Securities Exchange Act of 1934. Among other powers, it was granted authority to establish accounting and auditing standards, and to discipline accountants (including preparers and auditors) who do not live up to those standards or to other professional standards of conduct. Although the SEC’s jurisdiction extends only to the management, accountants, and other agents of companies whose securities are registered with it (approximately 17,000 in 2002), its influence is great because these registrants include the largest corporations in the United States. Furthermore, their accountants (internal and external) compose the most influential and powerful segments of the profession.
As mentioned previously, the Sarbanes-Oxley Act of 2002 establishes a new entity, the PCAOB, to oversee the audit of public companies. Although the PCAOB is not an agency or establishment of the U.S. government, its existence and statutory authority is codified in federal law. The PCAOB duties include: (1) accepting the registration of all accounting firms that audit one or more SEC registrants, (2) establishing or adopting auditing, quality control, ethics, independence, and other standards relating to the preparation of audit reports for SEC registrants, (3) conducting inspections of accounting firms that audit one or more SEC registrants, and (4) investigating and, if necessary, sanctioning accounting firms that audit one or more SEC registrants for substandard practice.
I may [if have the chance] to discuss about Sarbanes-Oxley Act 2002 and its PCAOB next time. If you are interested to know more, consider to subscribe through email so that you get notification when it is published or simply bookmark this site for easier revisiting.
As mentioned earlier, each CPA falls under the jurisdiction of a state board of accountancy. A CPA must meet the ethical requirements established at this level in order to obtain or keep the license.
Accounting Standard Setting Organizations
In a unique blend of public statutory authority and private voluntary submission, two nongovernmental, non-profit organizations—the FASB and the Governmental Accounting Standards Board (GASB)—create financial accounting standards. Both organizations are located in Norwalk, Connecticut, and operate under the funding and management of the Financial Accounting Foundation (FAF).
The FASB has power and influence through its designation in 1973 by the SEC as the authoritative source of accounting principles to be used in financial statements filed by SEC registrants. The FASB also gains authority through other organizations’ endorsements, most notably state boards of accountancy, the AICPA, and state professional societies. An additional source of influence is participation in its deliberative processes by others affected by financial accounting, most notably statement preparers and users. Despite the importance of the FASB to the SEC (and to the effectiveness of capital markets), the Board does not receive funds directly from the federal government.
However, contributions to the FASB by individuals and corporations are tax deductible, with the result that the Board is essentially subsidized through reduced costs for the donors. The PCAOB has continued to support the FASB as the source of financial accounting standards. The GASB’s influence is limited to establishing accounting principles used by state and local (but not federal) government entities. Its power comes through its endorsement by a variety of professional organizations composed of governmental accountants and governmental agencies, including state legislators and state auditors. Unlike the FASB, the GASB is partially funded through amounts appropriated by a number of state legislatures. It also receives some funds from the federal government, specifically the General Accounting Office (GAO).
Of the voluntary professional societies regulating the practices of accountants, the largest by far is the AICPA, with approximately 500,000 members. This size allows it to have a large permanent staff of several hundred individuals who are responsible for regulating and providing services to the membership. The AICPA also depends on an even larger number of members to carry out its tasks through various committees. Institute membership is entirely voluntary but is virtually obligatory for CPAs who wish to stay informed and to practice at the highest levels in the profession. The auditing standards of the AICPA are set by the Auditing Standards Board, a 19-member board representing large and small audit practices, academic, government, and user groups. Estimates are that over 600,000 non-public company audit reports are issued annually. In contrast, there are less than 20,000 public companies, but the capitalization of the largest 20 percent of these public companies dwarfs the value of the smaller public and private entities that are audited.
Although similar to the AICPA, state societies of CPAs are separately funded and operated entities. They are also a curious blend of regulatory authority and service providers. Individuals who want to influence the profession in their state consider membership to be essential. All states also have their own professional organizations, which are called societies, associations, or institutes, according to local preference. They duplicate and complement the activities of the AICPA by offering CPE, publishing newsletters and journals, and providing opportunities for service and leadership through committee membership.
Substantial ethics enforcement activity occurs at the state level and is controlled through a cooperative agreement with the AICPA, company referred to as JEEP. Recent years have seen state organizations playing a more active part in representing the profession’s interests in state legislatures. Through the Joint Ethics Enforcement Program (JEEP), the Ethics Division of the AICPA staff works with state societies and members of Institute ethics subcommittees to conduct investigations of alleged violations or to concur with findings conducted at the state level. These investigations attempt to establish only prima facie evidence that a section of the Code of Conduct was violated without trying to determine whether the member intended to violate it. JEEP leverages the expertise of the Institute staff to improve the overall quality and efficiency of the work that would otherwise have to be separately performed at the state level. This quality control helps ensure that the investigations protect the rights of the respondents while gathering appropriate evidence. Information about possible violations comes from other CPAs, clients, enforcement agencies, and public information, such as the Wall Street Journal , the Public Accounting Report , and SEC Accounting and Auditing Enforcement Releases.
Despite the large investment in ethics enforcement, the most extreme disciplinary action that the AICPA can take is to revoke membership, in which case the CPA is no longer subject to the Institute’s authority. However, the embarrassment may be substantial.
Other national societies exist, including several that are fairly large. Two of these are the IMA and the Financial Executives International (FEI), both of which generally consist of individuals who are not in public practice. Indeed, they can be characterized as organizations representing the interests of statement preparers. The Institute of Management Accountants (IMA) was originally called the National Association of Cost Accountants, and still draws most of its membership from management accountants. Nonetheless, it has played a leadership role in financial accounting standards setting through its position as one of the sponsoring organizations of the FASB. The primary units of IMA are its local chapters, which operate autonomously in order to best meet the interests of their own members. The Association also has developed a set of Standards of Ethical Conduct for Management Accountants, which requires the accountant to tell the truth to all who receive financial reports, including management and external users. The IMA administers the CMA examination and awards the CMA certificate to persons meeting all the requirements. The Financial Executives International (FEI) is smaller than the IMA because it draws its membership from only those accountants who have substantial responsibilities in the financial area of their companies, including reporting. In addition, the FEI limits the number of members from any given company. However, because FEI members occupy higher level positions in large entities, the FEI often has more influence, particularly in dealing with the FASB as another of the sponsoring organizations.
Another national organization is the American Accounting Association (AAA), which was originally created as a professional society for accounting educators. Through the middle of the twentieth century, the membership was more eclectic and included not only instructors but many practitioners. However, during the 1970s and 1980s, the AAA lost a large number of its members who were practicing accountants and became more and more oriented toward academic issues and services. Apart from the influence of individual members and the AAA’s participation as a “sponsoring organization” of the FASB, it does not affect financial accounting practice to any great degree. As the major organization of accounting educators, the American Accounting Association (AAA) hopes to influence the long-term development of financial and other kinds of accounting. To this end, the greatest emphasis of the Association has been on promoting and disseminating research in accounting and finance. The AAA publishes three journals, The Accounting Review, Accounting Horizons, and Issues in Accounting Education. The Accounting Review tends to include the most rigorous and highest quality research articles published by the AAA. Accounting Horizons tends to publish more applied research articles. The AAA is a sponsoring organization of the FASB, and one Board member seat has always been occupied by an academic accountant. However, the Association does not have substantial influence on accounting standards because its members have not had the financial or political power possessed by others, such as the AICPA, the FEI, and the Business Roundtable.