Centre for Economic Policy Research

3.5
Separation of auditing and related services
Concerns about the exploitation of conflicts of interest produced demands that
auditing firms cease their non-auditing services. Yet, separation does not guaran-
tee that problems will disappear, as former SEC Commissioner Wallman (1996)
explained: 
While this nuanced approach has not been ignored, separation of services has
become the popular remedy to the perceived failures of auditing.
Consulting services were popularly viewed as the key problem and new SEC
rules forced changes in the non-audit services being offered (Securities and
Exchange Commission, June 2000; Levitt, 2000), with several firms selling their
consulting businesses. The major vehicle for separation as a remedy in the United
States is the Public Company Accounting Reform and Investor Protection Act or
Sarbanes-Oxley Act of 2002. Section 201 of this Act determines what services 
cannot be performed by auditors. The law holds that it is unlawful for a registered
public accounting firm to provide any non-audit service to an issuer contempora-
neously with the audit including: bookkeeping, financial information systems
design, appraisals, actuarial services, internal audit outsourcing, management
functions, broker, dealer, investment advisor, investment banker, legal services
and any other service that the PCAOB determines are impermissible. The Board is
empowered to allow for case by case exceptions, if services constitute less than 5%
of the total amount of revenues paid to the auditor by a client.
Although at this time it is not clear how the law will be applied, it is certain to
restrict the activities in which audit firms had previously engaged drastically.
There are indications that the PCOAB will take a hard line. The SEC initially
decided to allow audit firms to retain their tax services, but the PCOAB has 
indicated that this non-audit service may be eliminated.