Caliber Business Solutions, Inc.
January 9, 2003
Mr. Jonathan G. Katz
RE: Proposed Auditor Independence Rules - File No. S7-49-02
Dear Mr. Katz:
On behalf of Caliber Business Solutions, Inc. I would like to comment on the above referenced proposed rules as they have been directed at tax services. While we strongly support the efforts of Congress and the SEC to improve auditor independence from the abysmal level to which it has fallen in recent years, we believe the approach to tax services has been based on a dangerously invalid premise resulting in the potential for continued substantial infringements on auditor independence in the area of taxes.
That premise is contained in the language, "Nothing in these proposed rules is intended to prohibit an accounting firm from providing tax services to its audit clients when those services have been pre-approved by the client's audit committee. As discussed in our previously proposed rules62 on independence, tax services are unique, not only because there are detailed tax laws that must be consistently applied, but also because the Internal Revenue Service has discretion to audit any tax return.63 In addition, the Congressional intent behind the above quoted reference to "tax services" would appear to be that auditor independence is not impaired by an accountant providing traditional tax preparation services to an audit client or an affiliate of an audit client." We believe reliance on the IRS to enforce accounting rules and maintain auditor independence through deterrence is misplaced.
First, relying on the tax laws (which include a multitude of laws and regulations issued by many other legal jurisdictions in addition to the federal income tax laws administered by the IRS) to provide security that tax issues on public financial statements are clearly stated is naive at best. The body of laws, regulations, rulings, court decisions, formal and informal advice devices related to federal tax laws alone far exceed all accounting rules in volume, complexity, and inconsistency. Opportunities for differences in interpretations of significant matters are rampant throughout the field of taxes. One merely needs to look at the tremendous volumes of court cases pending and previously decided to see just the tip of the iceberg of controversy. Issues reaching litigation represent a very small number of all the controversies generated by attempts, well-meaning or unscrupulous, to interpret the tax laws.
Second, relying on tax audits to provide protection from substantial misstatements of tax issues on financial statements is totally improper. Tax audits, which are made on only a very miniscule portion of all taxpayers, occur several years after the year in which the financial results have been reported. With the amount of time large audits require for completion plus time spent in administrative appeals and then litigation, it may be decades between the time the financial statements have been issued containing the tax issues have been issued and the final disposition of the tax audit related to those issues.
In addition, tax audits are performed to review the tax reporting under tax rules and regulations, not the financial reporting of tax issues which in many cases is significantly different that the tax reporting. Financial reporting rules like FASB 109 regarding financial reporting of tax issues differ substantially from the tax rules on reporting issues for tax compliance.
So, since neither the myriad of tax laws with all their confusing complexity nor the resulting audits by tax authorities provide even meager protection from incidences of impairment of independence by financial auditors, the only possible way the tax authorities may impact auditor independence would be through deterrence. One merely needs to examine current history to see the failures of deterrence in this area.
Over recent years the growth of ill-advised tax "shelters" and similar unscrupulous tax evasion programs has experienced a dramatic spurt of activity with the very accounting firms this act has targeted leading the way in several cases. There are published accounts of substantial IRS fines and penalties for over-aggressive bending of the tax rules involving major publicly traded corporations and their audit firms. If the quandary of tax laws combined with the hit-or-miss audit programs of taxing jurisdictions cannot adequately deter violations of the tax laws, how can they possibly be depended on to deter improprieties under the financial rules?
The October 14, 2002 edition of Business Week included a story on the dealings between Tyco International Ltd. and their auditors. That article points out that in part of the financial misstatement schemes Tyco engaged, "$41 million of a $96 million loan-forgiveness scheme was charged to the balance sheet account for `accrued federal income tax.'" The commentator stated regarding Tyco's auditors, "I can't understand how they missed that one." The article further points out that Tyco paid their auditors $18 million in 2001 for tax work which exceeded the $13 million paid to the auditors for the audit! If there were a challenge involving the firm's independence related to tax issues which service would more likely be protected, the audit or the tax services?
The area of tax services is a very critical area of financial reporting. There are several specific footnotes required for acceptable financial reporting to clearly indicate the tax portion of the company's financial condition. There is no question about the importance and significance of taxes as an element of the clear statement of financial condition.
What is questionable though is the reliance on taxing authorities rules and their audits to deter the incidence of impairments to auditor independence related to tax issues on the financial statements. Unquestionably, all tax services should receive the same level of scrutiny and limitation as other non-audit services.
I refer the reader to an extraordinary article co-authored by Daniel L. Goelzer (a former partner in the Washington, D.C. office of Baker & McKenzie, former General Counsel of the Securities and Exchange Commission, and recently named member of the newly-created Public Company Accounting Oversight Board empowered to enforce the provisions of the Sarbanes-Oxley Act) in the September-October 2002 issue of The Tax Executive. [The Tax Executive is the professional journal of Tax Executives Institute, Inc. - publication office: 1200 G Street, N.W., Suite 300, Washington, D.C. 20005.]
Mr. Goelzer presents an excellent outline of how the auditor independence rules should be applied to tax services. We only hope that he will continue to press these positions as a member of the Oversight Board and that the Board, through their powers to determine additional limitations by regulation, will limit tax services further if the final rules issued here are inadequate.