On November 18, the Wall Street Journal reported that the PCAOB is reviewing tax services that accounting firms perform for their audit clients. The Journal article states that, in April, Carl Levin, chair of the Senate Permanent Subcommittee on Investigation, sent a letter to the PCAOB asking it to consider whether its rules should be strengthened to prohibit an auditor from auditing a company’s tax obligations when those obligations rely on a tax strategy developed by the audit firm. Senator Levin’s request arose as part of a series of hearings his subcommittee has held on corporate strategies to shift income from the U.S. to lower tax overseas jurisdictions.
According to the article, PCAOB Board Member Jay Hanson referred to the PCAOB’s review during informal remarks at a recent accounting conference. The PCAOB’s press spokesman subsequently confirmed the review, stating that the Board “is looking further at the nature of tax services that auditors are performing for their audit clients” in light of Senator Levin’s concerns. It appears that this “further look” has been incorporated into the PCAOB’s large firm inspection program.
The PCAOB’s rules provide that an auditor is not independent of a public company audit client if it provides any services to the client related to marketing, planning, or opining in favor of a tax transaction that is either “confidential” or “aggressive”. “Aggressive” tax transactions are defined in PCAOB Rule 3522 to mean transactions that were recommended by the accounting firm and “a significant purpose of which is tax avoidance, unless the proposed tax treatment is at least more likely than not to be allowable under applicable tax laws.” More conservative tax planning advice to audit clients is permissible.
Comment: While the PCAOB’s review appears to be at a very early stage, it is possible that it will take Senator Levin’s suggestion and seek to further limit the tax services that an auditor can provide to a public company audit client. As a practical matter, prohibiting accounting firms from auditing tax obligations that are based the accounting firm’s advice regarding tax strategy could amount to a prohibition against auditors providing any tax planning advice at all to audit clients.
In any event, audit committees of companies whose engagement is inspected in 2015 can anticipate that the PCAOB may question their auditor concerning advice the firm has provided regarding tax strategy, whether that advice was implemented, and how it impacted tax liabilities in financial statements audited by the firm. If a tax strategy that was not initially regarded as “aggressive” has subsequently been challenged by the IRS, the PCAOB or SEC might question the auditor’s independence with respect to financial statements that reflect tax accruals based on the strategy.