Written evidence submitted by the Chartered
Institute of Public Finance and Accountancy (CIPFA)
CIPFA, the Chartered Institute of Public Finance
and Accountancy, is the professional body for people in public
finance. Our 14,000 members work throughout the public services,
in national audit agencies, in major accountancy firms, and in
other bodies where public money needs to be effectively and efficiently
managed.
As the worlds only professional accountancy body
to specialise in public services, CIPFA's portfolio of qualifications
are the foundation for a career in public finance. They include
the benchmark professional qualification for public sector accountants
as well as a postgraduate diploma for people already working in
leadership positions. They are taught by our in-house CIPFA Education
and Training Centre as well as other places of learning around
the world.
We also champion high performance in public services,
translating our experience and insight into clear advice and practical
services. They include information and guidance, courses and conferences,
property and asset management solutions, consultancy and interim
people for a range of public sector clients.
Globally, CIPFA shows the way in public finance by
standing up for sound public financial management and good governance.
We work with donors, partner governments, accountancy bodies and
the public sector around the world to advance public finance and
support better public services.
EXECUTIVE SUMMARY
— Audit
and inspection of local authorities has a critical role to play
in ensuring that those responsible for handling public money are
held fully accountable for its use.
— Public
audit currently involves provision of an opinion on public bodies'
financial statements, and also provides assurance on wider issues
including regularity, propriety and value for money (VFM).
— CIPFA
believes that the three principles of public audit should continue
to be central to the Government's new audit and inspection regime
for local authorities: wide audit scope; ability of the auditors
to make the results of their audits publicly available; and independence
of public audit from the organisations being audited.
— Even
if the National Audit Office undertakes high level VFM studies
as it already does in the NHS, this approach will not provide
the more complete data required to identify widespread problems
at an early stage along with potential solutions.
— Auditors
will in future be in the "front line" without the Audit
Commission standing behind them in both technical support and
liability terms. This could either lead to a reduction in the
frequency or increase in the cost of public interest reports and
other similar work. New arrangements should be stress-tested to
ensure that they are sufficiently robust to manage the pressures
which accompany the most difficult cases which arise perhaps once
in a decade.
— To
demonstrate an appropriate degree of independence, a locally based
appointment process would potentially require prescription of
significant reform of local authority audit committees.
— Central
decisions will be required, balancing costs and risks, on the
principle of whether any limitation of auditor liability will
be acceptable in future and, if so, on what basis.
— Standard
appointment terms will be needed to maintain consistency of approach
to the audit of public money, and to avoid the need for the same
issues to be addressed multiple times across local government.
— To
maintain the quality of local public audits, audit suppliers need
to demonstrate a different and broader range of skills and knowledge
than for commercial audits. There needs to be a proportionate
quality assurance regime, and authoritative technical guidance
to ensure that novel issues are addressed consistently. Arrangements
for dealing with enquiries and complaints from the public in relation
to local auditors must also be specified clearly.
— The
complexity of the continually evolving interplay between local
government finance and professional accounting and auditing guidance
means that a Code of Audit Practice and supplementary guidance
and support will continue to be required. It will be important
to be clear about the allocation of responsibility for these functions
and about funding arrangements.
— In
the absence of the Audit Commission's unified national pricing
framework, the cost of audit services is likely to vary from council
to council. Larger public bodies are likely to be particularly
attractive clients, and this will be reflected in fee proposals.
Smaller and more remote councils will be less attractive audits.
Safety net arrangements are likely to be required to ensure that
such audits can be procured at a reasonable cost.
— Downward
pressure on prices is more likely to be maintained if District
Audit remains an independent specialist practice rather than being
taken over by a firm. The vehicle adopted and the approach and
timetable for deregulation of appointments will have a crucial
influence on both its stability and timing.
— The
abolition of the Audit Commission, the major NHS reforms and the
creation of academies present an opportunity to develop a pan
public service approach to public audit which enhances public
accountability.
INTRODUCTION
1. In a paper entitled, The Principles of
Public Audit published in 1998, the Public Audit Forum set
out the three main principles which should underpin any public
audit regime:
— Wide
audit scope covering the audit of financial statements, regularity,
propriety and value for money (VFM).
— Ability
of the auditors to make the results of their audits publicly available.
— Independence
from the organisation being audited.
2. CIPFA believes that these three principles
need to be carried forward into the new audit arrangements to
replace the Audit Commission's functions. In addition we consider
that two further issues must be addressed effectively in any new
audit arrangements. These are:
— Ensuring
audit quality; and
— Developing
a cost-effective audit market for local public audit.
3. This submission to the Committee uses these
five themes as a framework for the presentation of CIPFA's evidence.
WIDER PUBLIC
AUDIT SCOPE
(INCLUDING VFM)
4. The funding of public services from taxation
creates a need for a different and much deeper level of accountability
than applies in the private sector.
5. The public expect that those responsible for
handling public money are held fully accountable for its use.
This means reporting not only the amounts that have been raised
in taxation and then spent, but whether this money has been spent
for the purposes intended, efficiently and effectively.
6. The Government's transparency agenda and data
publication initiative will certainly make local authorities more
accountable at an individual transaction level but will not provide
an overview of their performance at either service or authority
level. Public audit will therefore remain a crucial link in the
accountability chain, something the Committee on Standards in
Public Life recognised in its first report:
"Regular audit is an important way of uncovering
irregularities in financial matters—whether they are due
to outright fraud and corruption or result from laxity in following
proper procedures—and of establishing public confidence
that public money is being properly spent."
7. The deeper level of accountability resulting
from the "contract" between the public and public bodies
means that public audit must not only involve provision of an
opinion on financial statements, but also cover such issues as
regularity, propriety and value for money. In order to discharge
these obligations, public auditors must have some discretion to
decide the amount of work necessary to fulfil their duties and
to follow-up the implementation of their recommendations.
8. The Audit Commission has made an important
contribution to improving VFM in local government not least through
national VFM studies designed to find and publicise good practice.
Such studies have been promoted consistently across all audited
bodies by local auditors exercising their own duties to ensure
VFM in individual organisations.
9. Many organisations (including CIPFA) publish
best practice examples and guidelines. However, the advantage
of the Audit Commission's approach has been that it could mandate
auditors to follow up national studies around the country reinforcing
the wide adoption of good practice. The Audit Commission has also
been able to gather information centrally about what is happening
locally across the country and to publish reports summarising
the trends emerging. Ideally these strengths would be retained
in any new arrangements.
10. Limited reviews have already replaced full-scale
audits for parishes and other smaller local authority bodies.
CIPFA believes that this approach is appropriate given the relatively
small sums of money involved, and the potential for transparency
requirements to have a significant impact in view of the relatively
small number of transactions and lack of complexity in such organisations.
However it may be appropriate to consider further developing those
arrangements towards a model more closely aligned with the independent
examination regime for smaller charities.
ABILITY TO
REPORT PUBLICLY
11. For public audit to be effective, auditors
must be able to make the results of their audit publicly available.
Appropriate reporting arrangements are therefore required to communicate
audit findings widely on a "without fear or favour"
basis. This is a critical component of the accountability process.
12. Over recent years the Audit Commission has
been heavily involved in inspection activities designed to facilitate
reliable reporting of local authority performance. The discontinuation
of these arrangements will leave a gap which councils are being
encouraged to fill on their own initiative. Ideally all authorities
would subscribe voluntarily to a consistent approach enabling
comparisons to be made easily from one authority to another. In
order to inspire public confidence in such arrangements it may
be appropriate to involve independent parties in the validation
of performance information and/or in commenting on performance
levels.
13. The abolition of the Audit Commission may
have implications for some aspects of audit oversight. For example,
because of the general increase in litigation in recent years,
auditors have become increasingly risk averse, particularly when
faced by new or contentious issues. In the run-up to the Millennium,
the Government asked the Audit Commission to report on local authorities'
preparation for the risk of their IT systems being infected by
the Millennium bug. Auditors were wary of doing this locally and
reporting publicly for fear of giving an authority the green light
only for something unexpected then to go wrong on 1 January 2000.
After further discussion, the Audit Commission cut through these
reservations by mandating a national study on the subject. Auditors
were required to undertake audits locally, acting as agents of
the Commission rather than acting in their own right. It is difficult
to see how and by whom this sort of coordinated approach will
be brokered in future.
14. Various special features of the local government
audit regime such as auditors reporting in the public interest,
dealing with electors' questions and objections, and making applications
to the court in respect of illegality, are also relevant here.
Auditors have always been nervous about the prospect of challenging
issues before the courts, or being in the public eye with public
interest reports, where there is an increased risk of reputational
damage. As auditors will in future be in the "front line"
without the Audit Commission standing behind them in both technical
support and liability terms, we may see either a reduction in
the frequency or an increase in the cost of public interest reports.
In the case of Foundation Trusts, for example, there has been
a dearth of public interest reports since their creation.
INDEPENDENCE
15. Confidence in public audit is dependent on
it being seen as independent of the organisations being audited.
In addition to being able to report publicly, three further factors
are likely to influence independence. These are:
— Clear
and objective auditor appointment procedures.
— Demonstration
of professional impartiality.
— Ability
to carry out the work necessary to discharge the auditor's obligations.
16. At the time of the Audit Commission's creation,
Government was strongly opposed to a free choice of auditor for
local authorities. This led to the adoption of the current arrangements
which have been managed by the Commission.
17. Any new approach in which a public body appoints
its own auditor must demonstrate robustness and independence.
Moreover, the financial relationship between the auditor and the
audited body must not compromise the auditor's independence.
18. In the private sector, audit committees,
made up of non-executive directors, play a key role in the auditor
appointment process, with the final decision being made by the
company's shareholders. This model has detractors as well as supporters.
It is currently being reviewed in various studies following on
from the global financial crisis. In local authorities, audit
committees are made up of elected members. Elected members are
clearly not independent of the authority. On the contrary they
are part of the authority and contribute to both strategic and
operational decision making. Significant changes would therefore
need to be prescribed if audit committees were to play the central
role in a credible independent process for appointment of local
auditors.
19. A further question that arises is whether
public bodies should be allowed to purchase other non-audit services
from a company providing its audit services. This practice was
heavily criticised in Parliament in the run-up to the Audit Commission's
establishment on the basis that it has the potential to compromise
auditor independence. The Audit Commission have subsequently worked
on the basis of a presumption against this practice in other than
exceptional circumstances.
20. These concerns remain valid and to ensure
that professional independence can be demonstrated consistently
both on and after appointment, CIPFA believes that some form of
standard audit appointment terms will be required to ensure strong
and consistent professional guidance to all authorities.
21. Limitation of auditor liability was a less
prominent debate when the Audit Commission was established. However,
this issue will need to be fully considered as it is of critical
importance in the audit profession today. The Audit Commission
has shielded firms from liability. Its abolition raises important
professional and cost implications for all local public audits.
We believe that central decisions will be required, balancing
costs and risks, on the principle of whether any limitation of
liability will be acceptable in future, and if so, on what basis.
This should also be addressed in the standard appointment terms,
alongside other practical issues, such as appointment periods.
ENSURING AUDIT
QUALITY
22. Private sector audits are generally focused
solely on the provision of an audit opinion on the financial statements.
The wider scope and different reporting requirements attached
to public audit mean that audit suppliers need to develop and
apply a broader range of skills and knowledge than for commercial
audits. To maintain the quality of local public audits:
— audit
suppliers need to demonstrate these skills and knowledge on appointment;
— there
needs to be a proportionate quality assurance regime; and
— additional
technical guidance will be required to ensure that novel issues
are addressed consistently.
23. When the Audit Commission was created, a
large number of accountancy firms were interested in undertaking
public sector work and went through an interview process with
the Audit Commission. It appointed thirteen firms and audits were
allocated to them according to their relevant experience and expertise.
Problems with this process emerged, however, where portfolios
were too geographically diverse to allow firms to develop a strong
enough skill base of people to deliver local audits of the necessary
quality.
24. Subsequently the Audit Commission developed
the concept of "centres of excellence" where audit appointments
in a particular area were allocated to a specific office of one
of the firms. This allowed the firms to recruit and retain a core
of individuals to deliver audits of the right quality. The same
approach was applied when market testing of audits took place.
25. If councils choose their own auditors in
an uncoordinated way, there is a risk of going back to the "patchwork
quilt" approach with some auditors appointed and holding
just a handful of audits dotted around the country, preventing
them from developing the right skills and expertise. As a minimum
some form of accredited list will need to be maintained, but this
then raises questions about who will manage the accreditation
process, what criteria will be used, who will monitor audit quality,
and how these processes will be funded.
26. Private sector audits are carried out under
the frameworks set by the Financial Reporting Council (FRC) and
are subject to quality control visits by either the Audit Inspection
Unit (AIU) of the FRC for larger clients, or their Recognised
Supervisory Body, to ensure that auditing standards and ethical
requirements are being adhered to. The Audit Commission currently
runs a quality control inspection process using its own staff,
which would need to be replaced if local public audit quality
is to be monitored in future. If the regulation of public audit
was regulated by the FRC or a similar body its membership and
arrangements would need to reflect the broader scope of public
audit and the distinctive local government legal framework. The
set up and operation of the new regime would need to be appropriately
funded.
27. The statutory duties and powers of local
authority auditors have always been expressed in fairly high-level
terms, in order to allow professional judgements to be exercised
and provide flexibility to address novel situations as they arise.
Since 1972, there has been a Code of Audit Practice to supplement
the requirements of the Act. Before the creation of the Audit
Commission, this was a non-statutory code, and since the creation
of the Commission a statutory code has been approved by Parliament
at five yearly intervals. The code is necessarily high-level and
is supplemented by a whole range of supplementary guidance to
ensure auditors perform quality audits. These include standing
guidance to auditors explaining what they must or cannot do, technical
advice notes, training and helpdesk support to promote consistency
and avoid the need for each auditor to "reinvent the wheel"
to interpret new Acts, Government controls or new professional
developments. Central support is given to auditors to help them
through difficult issues that they may have had no prior experience
of such as complex public interest cases, objections work and
complex financial transactions such as PFI schemes.
28. As a result of the unique and specialised
nature of local government finance CIPFA believes that there will
be a continuing need for such a code. The opportunity should be
taken, however, to review the scope and coverage of the code where
appropriate to promote consistency of standards across all areas
of public audit.
29. The complexity of the continually evolving
interplay between the local government finance and professional
accounting and auditing guidance means that supplementary guidance
and support will continue to be required. Again this raises important
questions about who will provide such guidance and support and
how it will be funded. It will also be important to specify clear
arrangements for handling public enquiries and complaints about
local audit matters.
30. New arrangements should be stress-tested
to ensure that they are sufficiently robust to withstand the pressures
which arise in the most difficult audit cases which arise very
infrequently—perhaps only once per decade.
31. There is a major opportunity presented by
the coincidence of the proposed abolition of the Audit Commission,
the major NHS reforms and the creation of academies to develop
a pan public service approach to public audit which enhances public
accountability. The need for such an integrated regime will be
reinforced by the first publication of Whole of Government Accounts
in 2011. It will therefore be important that the needs of the
other parts of the public sector are properly taken into account
in developing new arrangements for local government. This will
be particularly important for the NHS given the scale of the planned
reforms.
32. In developing the new arrangements, if any
significant changes are proposed to the responsibilities of auditors,
audited bodies, or other parties, it will be essential that these
are clearly articulated, and that the cost impacts and funding
implications are fully evaluated.
DEVELOPING A
COST-EFFECTIVE
LOCAL PUBLIC
AUDIT MARKET
33. Before the creation of the Audit Commission,
audit fees were paid by councils according to a specified scale
relating to a council's turnover prescribed by Government. The
Audit Commission continues to prescribe a scale of fees. It did
so initially by prescribing a daily rate to be charged, multiplied
by the number of days on the audit as agreed between auditor and
local authority. The Audit Commission only intervened in the event
of a dispute that could not be resolved locally. The fee scale
subsequently was amended to set fees within specified bands.
34. If public audit for local authorities moves
away from a unified national pricing system operated by the Audit
Commission, there will inevitably be winners and losers. Larger
and more conveniently located public bodies are likely to be particularly
attractive clients, and this will be reflected in fee proposals.
A solution needs to be found to avoid unaffordable fee increases
for the least attractive authorities. There will also need to
be some central mechanism to arbitrate where there are fee disputes
that cannot be resolved locally.
35. Other questions which need to be addressed
in connection with audit appointments include the maximum lengths
of audit appointments, and whether all bodies must appoint their
auditors independently, or whether consortia will be permitted.
The Audit Commission was able to award significant blocks of work
to auditors, and to guarantee appointments for five years. Firms
were thus able to offer lower fees than they would have charged
to clients of comparable size and complexity in the private sector
making annual appointments.
36. If market disciplines are to be the main
method of fee regulation, it will be critical to ensure that there
are sufficient suppliers to choose from. In recent years, the
number of firms undertaking large local government audits for
the Audit Commission has reduced significantly following mergers.
It has thus become ever more important to have the in-house audit
practice, previously called District Audit, to act as another
specialist auditor. There are therefore risks around both audit
market concentration and completeness of coverage.
37. Downward pressure on prices is more likely
to be maintained if District Audit remain an independent specialist
practice rather than being taken over by a firm. There will then
be questions around its stability and financing. The vehicle adopted
and the approach and timetable for deregulation of audit appointments
will have a crucial influence on both of these.
38. If District Audit becomes an independently
run organisation outside the public sector, Government may not
be able to call on it to act as the "auditor of last resort".
Some authorities may therefore face difficulties in appointing
auditors at an affordable price. CIPFA believes that this issue
will need to be addressed in order to ensure that all authorities
continue to be subject to effective local public audit.
39. The audit of grant claims is a specific area
linked to the accounts audit which requires consideration. In
recent years, the audit of grant claims has been significantly
pared back to cover only the larger, more risky areas. The Audit
Commission has an approach for these larger grant schemes, whereby
it prepares a central instruction and agrees it with the relevant
government department to ensure that auditors undertake the same
tests and adopt a consistent approach when giving their certificates.
Ideally these arrangements would be carried forward in some way
in the new regime.
January 2011
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