On June 15, 2023, the AICPA’s Professional Ethics Executive Committee (PEEC or Committee) released, Proposed new definition of publicly traded entity and revised definition of public interest entity (Exposure Draft or ED), for public comment. The revisions, if adopted, would revise the public interest entity definition that currently exists in the AICPA Code of Professional Conduct (the Code) and add a new definition, publicly traded entity.
This article discusses the background and key elements of the proposal.
The AICPA and other accounting standard-setting bodies around the world are members of the International Federal of Accountants (IFAC). Among other things, IFAC members agree to adopt standards that are at least as strict as the International Code of Ethics for Accountants (including International Independence Standards) issued by the International Ethics Standards Board for Accountants (IESBA or Board). Members of the IFAC Forum of Firms, generally firms that audit large numbers of multinational companies, agree to apply the IESBA Code as a condition of membership.
In April 2022, the IESBA released Final Pronouncement: Revisions to the Definitions of Listed Entity and Public Interest Entity in the Code, which expanded the definition of public interest entity (PIE) and adopted a new term, publicly traded entity, in place of listed entity. A primary rationale expressed in the final pronouncement was that stakeholders of PIEs have heightened expectations regarding the independence of a firm performing its audit. Specifically, there is significant public interest in the financial condition of a PIE.
Under the IESBA Code, professionals performing financial statement audits or reviews of PIEs are subject to additional and more restrictive independence provisions than for non-PIEs. IESBA also recently strengthened its independence requirements for auditors performing nonattest services and in certain situations involving fees, e.g., fee dependency, giving the expanded PIE definition even greater impact.
A new PIE provision lists factors that national standard-setters (IFAC members like the AICPA) should consider when determining whether there is significant public interest in an entity’s financial condition. Factors include the nature of the business, size of the entity, importance of the entity to its sector, and whether the entity is subject to effective regulatory supervision, among other things.
The IESBA determined that certain categories of PIE should be mandatory but may be tailored to reflect jurisdictional differences. The mandatory categories are publicly traded entities, depository institutions, and insurers. IESBA also expects that standard-setters would consider and adopt possible additional categories of PIE such as:
• Pension funds
• Collective investment vehicles
• Private entities with large numbers of stakeholders (other than investors)
• Not-for-profit or governmental entities
• Public utilities
The IESBA revisions will be effective for audits of financial statements for periods beginning on or after December 15, 2024.
AICPA PIE proposal – key elements
Currently, the AICPA Code’s PIE definition includes two (2) categories:
• All listed entities, including entities that are outside the United States whose shares, stock, or debt are quoted or listed on a recognized stock exchange or marketed under the regulations of a recognized stock exchange or other equivalent body, and
• Any entity for which an audit is required by regulation or legislation to be conducted in compliance with the same independence requirements that apply to an audit of listed entities (for example, requirements of the SEC, the PCAOB, or other similar regulators or standard setters).
The Conceptual Framework for Independence references PIEs where it suggests that the effectiveness of safeguards a member applies to mitigate threats to independence may be impacted by whether an attest client is a PIE. The PIE concept does not otherwise appear in the interpretations of the Independence Rule.
The AICPA Code is structured very differently from the IESBA Code, which influenced the approach PEEC took in this convergence effort. Unlike the IESBA Code, the AICPA Code does not require members to apply additional or more restrictive independence rules when providing financial statement audits or reviews of PIEs. However, overall compliance with the AICPA Code requires members to comply with other regulatory requirements (such as that of the SEC) when their engagements require such (see 1.400.050 – Governmental Bodies, Commissions, or Other Regulatory Agencies).
To converge with IESBA but keep its current code structure, the PEEC is proposing that members who perform financial statement audits or reviews of PIEs (auditors) apply the relevant regulatory requirements. The Committee deems this appropriate since audits and other attest services performed for PIEs such as public companies, insurers, and depository institutions are heavily regulated in the United States (U.S.) and already subject to stricter independence requirements that substantially meet or exceed the IESBA requirements.
Proposed definition of PIE
Key elements of the AICPA proposal follow:
Publicly traded entity (category a)
The first category of PIE is also a new term being proposed for inclusion in the Code.
As proposed, a “publicly traded entity” (PTE) is an entity that issues financial instruments that are transferable and traded through a publicly accessible market mechanism, including through listing on a stock exchange.
If a PTE’s auditor is subject to Regulation S-X, Rule 2-01, “Qualification of Accountants” (SEC issuer independence rules), the entity is a PIE. This category can include both issuers and non-issuers of securities that meet this criterion, for example, publicly available mutual funds or entities whose shares trade on an over the counter (OTC) trading platform.
Entity that takes deposits from the public (category b)
As proposed, an entity would be a PIE if it meets the annual audit requirement under Part 363 of the FDIC (Federal Deposit Insurance Corporation) regulations and has $1B or more in total assets at the beginning of its fiscal year. Such engagements are subject to SEC issuer independence rules.
Since auditors of credit unions are not subject to issuer independence rules (i.e., they follow AICPA independence rules), and are insured under a separate program, they are not included in this category. However, the Exposure Draft (ED) asks commenters whether they should be included.
Entity that provides insurance to the public (category c)
As proposed, an entity would be a PIE if it is subject to the NAIC Annual Financial Reporting Model Regulation adopted by its state insurance regulator and meets or exceeds $500M in direct and assumed premiums. Such insurers are subject to several SEC issuer independence rules.
Additional categories of PIE considered
As noted, IESBA indicated its expectation that IFAC members would incorporate additional categories of PIE in their respective definitions based on the circumstances in their particular jurisdiction. PEEC is proposing one additional category: investment companies (category d). Specifically, an investment company would be a PIE if it was registered with the SEC pursuant to the Investment Company Act of 1940. Insurance company products, e.g., variable life insurance policies, are excluded as they are considered under category (c) in the proposed definition.
The PEEC considered other categories such as employee benefit plans, non-issuer broker-dealers, and not-for-profit entities, but declined to include any of these entities in the proposed definition of PIE. The PEEC’s reasoning for excluding these types of entities was as follows:
The range of employee benefit plans in the U.S. is broad and varied and the degree of public interest in these entities is limited to the plan’s participants. Many, but not all, come under the jurisdiction of the U.S. Department of Labor (DOL); those that do are subject to independence rules that are in some cases, more stringent than the AICPA rules. Further, the DOL has not required compliance with SEC issuer independence rules. Auditors of others plans that file SEC Form 11-K are subject to SEC issuer independence rules. However, PEEC concluded that the public’s true interest in Form 11-K employee stock ownership and similar plans is in the financial condition of the entity issuing the shares to its employees, not the plan itself. Such sponsor entities, being publicly traded entities, are already captured in category (a) of the proposed PIE definition.
Auditors of non-issuer broker-dealers and certain other (private) funds apply SEC, but not SEC issuer, independence rules. The fact that the SEC could have but has not required these entities to comply with the SEC issuer independence rules persuaded the Committee to exclude these entities from the proposed PIE definition.
Not-for-profit and governmental entities are regulated by the Government Accountability Office (GAO), which requires more restrictive independence rules in some cases. Similarly, the GAO has not subjected the auditors of these entities to SEC issuer independence and therefore, the PEEC declined to include them as PIEs.
PEEC is proposing that language in the current PIE definition encouraging firms to consider whether to treat additional financial statement audit or review clients of the firm as PIEs be deleted. The ED notes that the decision to apply more stringent independence rules than is required is generally driven by the client, not the firm. For example, a client may be planning to file an initial public offering. In such cases, nothing in the Code precludes a member from applying the SEC issuer independence rules, which is also consistent with category (a) of the proposed PIE definition. The ED asks commenters to indicate whether the AICPA should issue nonauthoritative guidance on this topic.
The revised IESBA PIE provision will require firms to publicly disclose when the firm has applied independence rules applicable to PIEs. IESBA did not prescribe the location of such disclosure; the Board deferred to IFAC’s International Auditing and Assurance Standards Board (IAASB), which is currently considering the matter. PEEC did not include such a requirement in its proposal; it will defer to the applicable regulatory requirements to determine where and how members should publicly disclose such information.
The last part of the proposed definition requires that members who perform a financial statement audit or review described in the proposed definition comply with the applicable regulator’s independence requirements. This compliance requirement references the Governmental Bodies, Commissions, or Other Regulatory Agencies interpretation [1.400.050] of the “Acts Discreditable Rule” [1.400.001].
Proposed Effective Date
To align with the effective date of the IESBA standard, PEEC proposes that these revisions be effective for periods beginning on or after December 15, 2024, with early implementation allowed.
To meet its convergence obligations as an IFAC member, the PEEC is proposing an expansion of the current definition of public interest entity and addition of a new term, publicly traded entity. PIE will comprise four (4) categories meeting prescribed criteria: (a) publicly traded entities, (b) depository institutions, (c) insurers, and (d) investment companies. As proposed, the definition would require members to comply with applicable regulatory requirements when performing financial statement audits or reviews for a PIE.
The comment period ends September 15, 2023.
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