June 2000

Big Five Agree to Conduct Self-Reviews And Disclose Independence Violations

SEC to Provide Safe Harbor

The Securities and Exchange Commission announced on June 7 that the Big Five accounting firms have all agreed to participate in a voluntary look-back program to report past violations of auditor independence rules. In exchange, the SEC will provide safe harbor protection from enforcement and certain other staff actions, except in situations involving serious violations.

All accounting firms that practice before the SEC can participate in the program, which began on June 15. Firms must retain independent counsel to oversee the reviews and disclose independence violations.

Scope of Review

The reviews will examine investments held by certain partners and managers during a period lasting at least nine months and ending March 31, 2000, and will determine whether those individuals or their immediate family members held financial interests in audit clients. The reviews also will identify whether the accounting firms themselves held financial interests in their audit clients.

Specifically, firms and their independent counsel must identify any direct investment in securities of an SEC audit client, including

1) securities held in a brokerage account or IRA;
2) any prohibited loan with an SEC audit client, including a margin account loan; and
3) any employee benefit plan account holding securities of an SEC audit client [such as a 401(k) account], except when such account is held by or for the spouse or dependent of a firm partner or professional employee.

The reviews will examine investments of the firms themselves; audit partners and professional employees who worked on certain audits; partners who were in a position to influence an audit (e.g., supervisors); partners not in these categories but located in an office or practice unit that participated in a significant portion of an audit; nonaudit partners and managerial employees (e.g., consultants) who provided a significant amount of nonaudit services to an SEC audit client; and spouses and dependents of the aforementioned individuals.

Safe Harbor Protection

The SEC stated that it would not recommend any enforcement action with respect to a violation reported under the program, with the following exceptions: violations by a firm; violations that resulted because a partner or manager (or his or her spouse or dependents) held a prohibited financial interest in an SEC client in whose audit the partner or manager participated (except for certain inadvertent violations); and violations of which the SEC was informed prior to the program's commencement and after its completion. SEC staff members can exercise their discretion regarding enforcement in these exceptions.

Firms will disclose violations to the SEC and to their clients' audit committees. They have until July 15, 2001, to submit their reports, after which time an SEC staff report will follow.

Systems and Controls

The participating firms also have agreed to design and implement, subject to oversight by the Public Oversight Board, systems, procedures, and internal controls previously specified by the SEC chief accountant in a letter to the AICPA's SEC Practice Section last December. These include establishing written independence policies and procedures; developing a "modern tracking system" (e.g., a real-time, intranet-based system) to automate conflict verifications processes; conducting ongoing firm-wide training on independence and ethics; strengthening procedures to monitor compliance; creating profession and firm disciplinary mechanisms for independence violations; requiring senior management supervision of the independence process; and identifying, when necessary, timely and responsive changes in professional quality control standards, including accompanying guidance for improvements. *