IIA: Keep internal and external audit separate

AccountancyAge is reporting that the UK and Ireland IIA’s chief executive Ian Peters recently made a statement on the contentious issue of having external auditors provide internal audit services:

Internal auditors answer to management and the non-executive directors… external audit reports to shareholders. Merging these two important functions has the potential to cause serious conflicts of interest and reduce the effectiveness of internal controls and the management of risk.

The statement was made in relation to the KPMG-Rentokil deal.

I think if the two parties gave us more details about the work performed around independence it was assuage many of the fears stakeholders are having.

KPMG has said they believe the provision of both functions “is perfectly feasible to do in the spirit and letter of the law.” If that’s so, how long before more of these arrangements are made by KPMG or other firms?

Weekend reading

Small Is Essential

At 37signals, a company with just eight employees whose Web-based collaboration software is used by thousands of small businesses, there isn’t time to sit around a conference room sipping latte and deconstructing memos. Come to think of it, there isn’t even a company conference room. There are just a couple of cubicles, loads of brainpower and three simple goals: make useful business software, make it easy to run, make money selling it. Repeat.

Fraud too pervasive to roll back SarbOx

In a new examination of 374 companies accused of securities fraud between 1997 and 2002, an average of seven people were implicated in each case… CEOs were implicated in nearly 90% of the cases examined. Next came CFOs, 78%. Then board directors, 40%; vice presidents, 36%; COOs, 20%; controllers, 19%; and general counsels, 7%. Big accounting firms were implicated in 18% of the cases.

The End of Independent Advice & Counsel

When a consultancy offers solutions, it has made its bed with a handful of technology or other vendors that will provide some portion of the service/product combination that will be sold to clients. When a consultant is truly independent and objective, they are solution independent and will help clients select the best solution for the client (not for the integrator).

PwC: Internal Auditors May Be Missing Risks

Between departments and across the enterprise, more parties have gotten involved in assessing risk and contributing to the company’s risk management process. That has led to some confusion and overlapping of responsibilities. One-third of the internal audit managers surveyed said their companies conduct multiple risk assessments across the organization, but the majority do not coordinate their work or results. The effect is inefficient and redundant presentations before audit committees.

Must I Play Golf To Get Ahead?

In a 2004 survey of 1,000 women golfers, 73% said that the game had helped them develop important business relationships, and over half said that being able to talk knowledgeably about golf had contributed to their success.

Are you an employee or independent contractor?

In Canada, there are no hard and fast rules in the Tax Act that help an individual determine whether they are an employee or an independent contractor. There are three tests, which have evolved through court decisions, that are used to assess the relationship between an individual and his/her employer. They are:

  1. Economic reality or entrepreneur test
  2. Specific result test
  3. Organization or integration test

Why is this important? Well, if you’re a contractor, or self-employed, you can deduct any reasonable expense incurred to earn income. There is a distinction in the Tax Act between the type of income earned depending on whether you’re self-employed or not. If you’re self-employed, you earn business income as a sole proprietor. If you’re employed, you (of course) earn employment income and are restricted in the types of expenses you can deduct for tax purposes.

An employer is also required to withhold income tax, Canada Pension Plan contributions and Employment Insurance premiums from their employees’ pay. If you’re a contractor you’re likely required by the CRA to make tax installments since no one is withholding for you your contribution to the treasury on a regular basis. (The issue of installments will be covered in a future blog post.)

But back to the tests.

Economic reality or entrepreneur test

There are three aspects to this test: control, tool ownership, chance of profit/risk of loss. If someone is not only telling you what to do but how to do it, they have control over the work and a strong case is made that they are your employer. If you own the tools you need to do the job and they are not provided to you, this points to the likelihood that you are independent. Finally, if you are profiting from the work and bearing the risk of loss due to cost overruns, it is even more likely you are a contractor.

Specific result test

If there is a defined piece of work you’ve hired to do and you’ve been given the freedom to accomplish it however you see fit, the employer-employee relationship likely does not exist. As an employee you’re typically hired to perform tasks with no specific result and on an ongoing basis. If there is a defined beginning and end to the work required, that’s a pretty good indicator you’re self-employed.

Organization or integration test

This test concerns itself with the dependence of the individual on the organization. If benefits ordinarily conferred on employees are available to the individual, then from the outside (i.e. the CRA) it appears the individual is an employee. In certain cases the proportion of an individual’s total income which comes from a single organization has been taken into consideration as well, although personally I don’t think this is particularly convincing metric.

To sum up: There is no specific section of the Act that lays out all the rules to help a taxpayer determine if he/she can deduct expenses from their income. The law has evolved through court decisions and they have been based on the above three tests, which should all be taken into consideration along with the specific facts of the situation.

As with any general tax discussion, your personal situation is unique and could require the expertise of a Chartered Accountant. If you need a CA, please contact me and I will be happy to help you find one in your area!