Nikolai Remizov
The Federal Auditing Law has come into effect, which is a long-awaited event for Russian auditors and enterprises subject to audit. The need for auditing arose with the start of market reforms in Russia. The former Soviet Russian Law «On Foreign Investments in the Russian Soviet Republic» mentioned the necessity to have financial and business operations of enterprises with foreign interests inspected by audit firms in the Russian Soviet Republic for tax purposes as well as the need for inspections of break-up balance sheets to be performed by audit firms upon liquidation of enterprises.
The first draft auditing law was developed and it was to be approved in 1992. However, the then political crisis in Russia resulted in the termination of the old lawmaking body with a new one yet to come. So the law was not adopted at that time. In the course of the Russian Constitutional reform, a Presidential Decree approved the Interim Audit Rules in the Russian Federation (hereinafter – the Interim Rules). The drafters assumed that this regulation would be temporary and would not last long. In fact, the Interim Rules influenced greatly Russian audit operations and have been in effect for eight years.
In 1995, the work on the auditing law resumed. The draft was developed by the audit profession but its final version was prepared by the Russian Government. Another draft that caused the controversial reaction of Russian auditors was submitted to the State Duma in 1999.
The Auditing Law had a hard time. It is not easy to adopt any regulation concerning financial control in this country because it grants huge power to some individuals and imposes great restrictions on others. The Auditing Law tried to reconcile different vested interests such as government supervisory bodies and the emerging independent audit profession, «international» accounting firms and Russian auditing firms, auditing firms based in central cities and regional companies, large firms and small firms. The audit market is up and running, some of its participants started making lots of money. So an issue is raised about the auditors’ responsibility for the quality of their operations. Some market participants were intolerable about gaps and inconsistencies of the former legislation while others found them quite convenient.
As a matter of fact, the State Duma adopted the law on 13 July 2001 at one of its latest meetings during the spring session. On 20 July 2001, the law was passed by the Federation Council (also at the last meeting during the spring session). The law was signed by the Russian President on 7 August, officially published in the Russian Gazette on 9 August 2001 and came into effect a month afterwards, i.e. on September 9, 2001.
The law is not quite sound in terms of its wording, there are still certain reservations and inconsistencies, let alone misprints and technical errors.
First of all, the law has legalized the concept of federal audit rules (standards). The Interim Rules kept silent about the standards. There was no regulation that would describe the due process for Russian audit standards, mention their binding nature and set out their enforcement measures and the liability of those who fail to comply with their requirements. Nevertheless, the Audit Commission prepared and approved 37 standards, one auditing statement and a list of terms and definitions thereto. As a result of the uncertain legal status of these regulations, some audit firms complied with these documents, others stuck to the International Standards on Auditing (ISA) without giving effect to specific Russian characteristics and the rest of the firms did not follow any standards at all. However, all firms used the same format of the auditor’s report.
Now this legal gap is eliminated: the law says that federal audit rules (standards) must be approved by the Russian government and those who do not comply with them will be subject to severe sanctions. One can anticipate that if these new rules (standards), like those approved by the Audit Commission, more or less (ideally, to a larger extent) comply with the ISA, audit procedures in Russia will not be that different from audit practices in developed economies and auditor’s reports issued by Russian audit firms will sooner or later be recognized abroad.
A key point is the supervision of audit firms’ compliance with the rules (standards). To this end, the law provides for quality assurance reviews, which will inevitably lead to the inspection of internal working papers that auditors prepare when performing an audit engagement. On the one hand, similar practice has been effective in Western countries for a long time and its implementation might be welcome news here. On the other hand, Russian auditors express fair concerns that providing such access to working papers during quality assurance reviews in the Russian environment can result in the leakage of confidential information about their clients. Of course, the law says that such information should be treated as confidential and shall not be disclosed. However, auditors know it only too well that reasonable laws are very often violated in real life.
The law sets out some protective measures, i.e. it infringes upon some rights of Western investors of Russian audit firms and reduces potential impact of foreign experts on Russian audit practices for the benefit of «domestic companies». The law says that Russian citizens should account for at least 50 per cent of an audit firm’s employees or for at least 75 per cent if the general manager of an audit firm is a foreign citizen. Even if a foreign individual or legal entity owns only some interest in an audit firm, it is not allowed to perform audits of clients whose financial documentation constitutes a state secret. In theory, foreign citizens can apply for an audit certificate and be admitted to relevant examinations provided that they have graduated from Russian universities.
The lawmakers have specified that only audit firms rather than individual auditors are entitled to perform statutory audits (annual inspections of either «public interest» companies or the largest enterprises). According to the law, within two years of its enactment at least five certified professionals must be employed by audit firms. It is assumed that an increase in qualified professionals of audit firms will enhance the quality of their overall operations, the consolidation of audit firms will result in the elimination (or sharp decrease in the number) of «pocket» auditors that are set up specifically to perform easy and ‘painless’ audits of some enterprise or certain limited group of companies while inspections by supervisory bodies and ‘peer’ reviews will reduce the likelihood of the collusion between an individual auditor and unscrupulous client.
According to the law, a so-called «authorized federal body» will replace the Audit Commission that was eliminated by the Russian President in April 2001 and other two regulators, i.e. Certification and Licensing Commissions [TsALAKs] under the Ministry of Finance and Central Bank. There has been an increasing need for uniform requirements to be imposed on auditors of business enterprises and auditors of banks. Hopefully, the extensive audit experience of the Russian Central Bank will not be wasted during this process and all frustrating departures from ISAs that caused negative reaction of Russian bank auditors will be eliminated.
Significant authority will be delegated to the authorized federal body, including the certification of individual auditors, licensing of audit firms and accountants in public practice, keeping registers of certified and licensed individuals and entities, developing audit rules (standards) and their enforcement. The Audit Council is to be created under this body to take into account the views of professional auditors. This Council should perform a preliminary review of audit regulations prior to their submission to the federal body as well as participate in drafting and revising audit rules (standards).
Once the Audit Commission under the Russian President set up a so-called Advisory Council that comprised representatives of the audit community and academic staff. Unfortunately, that Council failed to exert significant influence on the audit development in Russia and consolidation of auditors. Time will show whether a new Audit Council will cope with this task and whether its audit rules (standards) will comply with ISA.
As everyone knows, there is a large number of professional auditors associations in Russia which, according to different estimates, varies from 90 to 150 organizations. The consolidation of Russian professional bodies and their merger into one or a few associations that would represent and protect interests of the professional community have been discussed for ages. The law specifies the status of so-called «accredited professional audit bodies». The accreditation is the process whereby the authorized federal body officially recognizes some audit bodies that meet certain criteria and grants certain rights to such bodies. These rights include exercising quality control of their member firms, participating in the training and certification of experts, protecting interests of their member firms in government and judicial authorities, performing representative functions in international organizations. As for accreditation criteria, the law provides that such body should have at least 1,000 certified auditors or 100 audit firms, require its members to comply with audit standards and professional ethics rules and supervise compliance with such rules and standards. Thus, the law segregates a limited number of the most respectable bodies from the overall mass of public associations. Sooner or later all Russian audit firms and individual auditors are expected to join accredited bodies that will be responsible for the training of auditors, their quality control and more active participation in the audit regulation in Russia.
The law came into effect on 9 September 2001. The authorized federal body and its audit council must be created within three months. Within a year (by 9 September 2002) federal audit rules (standards) must be created and measures taken to set up the enforcement system. Audit firms will be required to have five certified auditors as employees as from 9 September 2003 if the State Duma eliminates a technical error (reference to a missing paragraph) in the current version of the Law.
Nikolai Remizov is Director of the Technical Standards Department, FBK audit and consulting firm. He can be contacted by fax (095) 737 5347 or e-mail: remizovn@fbk.ru.