Question 1 (issued August 13, 2003)
Q: What are the rotation requirements for the "relationship" partner who is not the "lead" or "concurring" partner?
A: The "relationship" partner meets the definition of an "audit partner" and, therefore, is subject to the partner rotation requirements. "Lead" and "concurring" partners are required to rotate off an engagement after a maximum of five years in either capacity and, upon rotation, must be off the engagement for five years. Other "audit partners" are subject to rotation after seven years on the engagement and must be off the engagement for two years. A "relationship" partner who is not the "lead" or "concurring" partner would, therefore, be subject to the rotation requirement of seven years of service followed by a two year time out period.
Question 2 (issued August 13, 2003)
Q: The same partners at an accounting firm have served on the audit of a non-public audit client for more than three years. The non-public audit client is now going through an IPO. Should some or all of the service time of the audit firm partners prior to the IPO count towards the rotation requirements?
A: Since the company has become an issuer through the IPO process, the partners are now subject to the rotation requirements.
The specific rotation requirements would be established by the number of years of audited financial statements that are included in the filing. Some filings would include three years of audited financial statements while others (e.g., certain filings by emerging growth companies) would include two years of audited financial statements. Those prior years count as prior service in determining the rotation requirements. Accordingly, both the "lead" and "concurring" partners would have either two or three additional years before having to rotate off the engagement, depending on the number of years of audited financial statements that are included in the filing. The same conclusion would apply for determining the service time under the rotation requirements for partners other than the "lead" and "concurring" partners.
The same analysis also would apply to foreign companies that become issuers. As above, some foreign issuer filings include three years of audited financial statements while others may include two years of audited financial statements. The same conclusions regarding the partner rotation requirements would apply to these foreign companies at the time they become issuers.
Question 3 (issued August 13, 2003)
Q: An accounting firm accepts a new audit client that had previously been audited by another firm. In the course of auditing the current period's financial statements, it was determined that the prior two years should be re-audited by the newly-engaged firm. For purposes of the partner rotation provisions of the independence rules, does this engagement constitute one year or three years of service by the audit partners?
A: This constitutes one year for purposes of determining when the partners would need to rotate. This is a different situation from the IPO situation (see Question 2, in this section). In the IPO situation, the firm and its partners had an established relationship with the client for more than three years before the company became an issuer. In this situation, there is no previous relationship with the client.
As noted in the independence Release No. 33-8183 (January 28, 2003),Strengthening the Commission’s Requirements Regarding Auditor Independence, one of the objectives of partner rotation is for the firm to have a "fresh look" at the company. In this situation, there has not been an ongoing relationship with management or the company. Therefore, the fact that multiple periods were audited does not create a need to accelerate the "fresh look." The same would be true for a company preparing its IPO where it had never had its previous financial statements audited and the auditor concurrently audited all three periods included in the IPO.
Question 4 (issued August 13, 2003, revised 2019)
Q: Assume that Partner A is an audit partner with Audit Firm Z. Partner A has served as the "lead" partner on the audit of Company E for three years. Partner A leaves Audit Firm Z to join Audit Firm Y. The Audit Committee of Company E engages Audit Firm Y and Partner A becomes the “lead” partner on Company E. After joining Audit Firm Y, how many additional years may Partner A serve as the "lead" partner for Company E before Partner A must rotate off the engagement?
A: The rotation requirement is, in part, directed towards the need to have a fresh look with respect to the audit client. Since Partner A has a continuing relationship with Company E, the prior service would count in the determination of the partner rotation requirement. As a consequence, Partner A would be able to serve as the "lead" partner on Company E's audit for two additional years (thus, serving the client for five consecutive years) upon joining Audit Firm Y. At that point, Partner A would be required to rotate off the engagement for the required five-year time-out period.
Question 5 (issued August 13, 2003)
Q: Assume that a client changes its fiscal year-end. As a consequence, in the year of the change, its "annual" financial statements would cover less than 12 months. How would this "stub" period be counted in determining when the "audit partners" should rotate?
A: The filing for a “stub” period is referred to as a “transition report.” A transition report on Form 10-K for a period of six months or longer must be audited. A transition period of less than six months may be unaudited and filed on Form 10-Q. The required audit for a transition report on Form 10-K for a period of six months or longer counts as one year for purposes of the partner rotation requirements. If, however, the issuer is not required to file a separate transition report on Form 10-K, then the "stub" period does not constitute a "year" for purposes of the partner rotation requirements.
Question 6 (issued December 13, 2004)
Q: When a registered public accounting firm accepts its fifth audit client that is an issuer (as defined in section 10A(f) of the Exchange Act) or its tenth partner, the exemption to the partner rotation rules as described in Rule 2-01(c)(6)(ii) no longer applies. After the exemption no longer applies, is there a transition period before the lead, concurring, and other partners are required to rotate? In this situation, how do you determine the years of service for the lead, concurring and other partners as defined in Rule 2-01(f)(7)(ii) for purposes of partner rotation?
A: Rule 2-01(e)(1)(v) provides a transition period with respect to the auditor rotation rules for the lead, concurring, and other partners. In a similar manner, a transition period is appropriate when a firm no longer qualifies for the small firm exemption.
A firm should determine annually whether the firm qualifies for the small firm exemption; this determination should be made each year as of the end of the calendar year. Once a determination has been made that the exemption no longer applies the lead partner may continue to serve a client through the first annual audit period ending after the exemption is no longer applicable, regardless of whether that partner has served the client for more than five consecutive years; the concurring review partner may continue to serve a client through two annual audit periods ending after the exemption is no longer applicable, regardless of whether that partner has served the client for more than five consecutive years; audit partners, other than the "lead' and "concurring" partner, receive a "fresh clock" and may continue to serve a client through seven annual audit periods ending after the exemption is no longer applicable.
Question 7 (issued December 13, 2004, revised 2019)
Q: After a lead or concurring partner rotates off an audit engagement may that partner provide services to the issuer in a specialty partner capacity (i.e., providing tax services or national office/technical services) and still have this period continue to be considered part of the partner's rotation-off the audit engagement?
A: Any time providing services to, or continuing the direct service relationship with, the issuer would not be considered as time off the audit engagement. See question 10 in this section for further details of permissible interactions after the partner rotates off the audit engagement.
Question 8 (issued December 13, 2004)
Q: A principal auditor's report on an issuer's financial statement refers to and places reliance on the auditor of a subsidiary or equity method investee of the issuer. The audit report of the subsidiary or investee auditor is required to be included in the SEC filing. Are the audit partner rotation requirements applicable to the auditors of these entities, even if these entities are not issuers as defined by the Sarbanes Oxley Act of 2002?
A: Yes. The entire audit of an issuer must be conducted by independent auditors. For the principal auditor to rely on and make reference to the auditor of a subsidiary or equity method investee, such auditor must be independent under the SEC independence rules. The principal auditor is primarily responsible for determining and confirming compliance with those rules.
Question 9 (issued December 13, 2004)
Q: In an integrated audit of the financial statements and internal control over financial reporting, how would the rotation requirements affect a partner who is primarily responsible for the audit of internal control over financial reporting? Does that person meet the definition of audit partner?
A: Yes. Such a person meets the definition of audit partner.
Question 10 (issued August 13, 2003, revised 2019)
Q: The 20X1 audit of a calendar year client will be the last audit of that client for the person currently serving as the "lead" partner. The Commission's rules specify that, as of the beginning of the next year (e.g., January 1, 20X2), the firm is not independent when the "lead" partner has served for more than five years. How does the staff believe that the transition to the next partner should be applied?
A: The intention of the rules is to allow a "lead" partner to finish the current audit (e.g., the calendar 20X1 audit). The "lead" partner could complete the current audit even though work would extend beyond January 1, 20X2, without impairing the firm's independence. However, care must be taken that the partner is not involved in work that may be performed with respect to the first quarter of the 20X2 reporting period. Since some of this work may be performed simultaneously with the year-end audit, auditors will need to carefully monitor the transition for compliance with the rotation requirements. Limited discussions solely between the audit engagement team and a rotated-off partner generally would be considered as time off the audit engagement. Such discussions should be limited to historical accounting and auditing issues. This question also applies to concurring and other audit partners discussed in Rule 2-01(c)(6).
Question 11 (issued June 27, 2019)
Q: Would independence be impaired if, after serving the maximum period permitted under Rule 2-01(c)(6) the partner continues to serve on the engagement in a capacity outlined in Rule 2-01(c)(6) by performing quarterly review services in the subsequent year?
A: Yes. The partner rotation rules provide that an accountant is not independent of an audit client if an audit partner serves as a lead audit or concurring partner for more than five consecutive years or an audit partner as defined in Rule 2-01(f)(7)(ii) provides one or more services defined in Rule 2-01(f)(7)(ii)(C) and (D) for more than seven consecutive years. If a partner performs review procedures in a capacity outlined in Rule 2-01(c)(6) after the maximum terms in one or more of the quarters in the subsequent audit period, it would impair the accountant’s independence.
Question 12 (issued June 27, 2019)
Q: Rule 2-01(c)(6)(ii), has an exception to Rule 2-01(c)(6)(i) when the audit firm has less than five audit clients that are issuers and less than ten partners, provided the PCAOB conducts a review at least once every three years of each of these audit client engagements. Are all equity partners such as tax partners, consulting partners, firm shareholders, and principals and directors that have partner equivalent responsibility considered “partners” in applying this provision of the small firm exception?
A: Yes. An individual who is a proprietor, partner, principal, or shareholder of the accounting firm and other positions with equivalent responsibility are considered partners in evaluating partner rotation.
Question 13 (issued June 27, 2019)
Q: A private operating company becomes an issuer through a reverse merger with a non-operating shell issuer. The surviving public operating company establishes new governance, management, operations, and accounting policies and procedures. Would the lead audit (or concurring) partner of the pre-transaction shell company be allowed to serve as the lead (or concurring) audit partner for the audit of the new operating company for the first five years after the transaction?
A: Generally, yes. However, this answer would not apply to a circumstance in which the new operating company carried over the former non-operating shell company’s board of directors, management, or accounting policies and procedures, because those elements would have been previously subject to audit by the lead (or concurring) audit partner.
Question 14 (issued June 27, 2019)
Q: In 20X4, a private company submitted a confidential draft submission, i.e., a draft registration statement that included audited financial statements for the years 20X1, 20X2 and 20X3. During the staff review process the company was required to update its confidential draft registration statement to include the years 20X2, 20X3 and 20X4. The company’s auditor has been auditing the company for many years and the same lead audit or concurring partner, as defined in Rule 2-01(f)(7)(ii), provided services for years 20X1 through 20X4. How many years should count toward partner rotation if the registration statement that was declared effective included audited financial statements for 20X2, 20X3, and 20X4?
A: The lead audit or concurring partner would have served four years, 20X1-20X4. All years included in the confidential draft submission and effective registration statement count towards partner rotation, including for foreign private issuers. Further, the audit firm must also be independent in accordance with all other SEC and PCAOB rules for all years included in the confidential draft submission and effective registration statement, except for foreign private issuers.
[4] Rule 2-01 uses the terms “concurring partner,” “engagement quality reviewer,” and “engagement quality control reviewer.” These terms are interchangeable.
[5] For example, if a partner served as the "concurring" partner for two years and then began serving as the "lead" partner, he or she could serve for three years as the "lead" partner before reaching the maximum five year period as either the "lead" or "concurring" partner. It should be noted that PCAOB AS 1220, Engagement Quality Review, does not allow someone who served as the lead engagement partner during either of the two audits preceding the audit subject to the engagement quality review to serve as the engagement quality reviewer unless the audit firm qualified for the exemption under Rule 2-01(c)(6)(ii).
[6] See supra note 3.
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