All firms performing any engagement in an accounting and auditing practice must comply with the new Quality Management (QM) standards, including SQMS No. 1 and SQMS No. 2.
Your quality management system must be designed and implemented by December 15, 2025.
Then, after your new QM process is in place for one year, your managing partner (or other persons with ultimate QM system responsibility) will conclude whether the QM system provides reasonable assurance that objectives are being achieved.
Start your work on this implementation as soon as you can, especially if you perform more complex engagements such as audits and attestations.
In this article, I explain why quality management is essential, and then I summarize SQMS No. 1 (the firm’s system of QM) and SQMS No. 2 (engagement quality reviews).
I also provide this video (an interview with Jennifer O’Neal) that provides an overview of the QM standards and information about how to get started.
The purpose of the QM Standards, issued by the American Institute of Certified Public Accountants (AICPA), is to assist accountants with compliance (with professional standards). The QM standards assist with the following:
And when firms comply with professional standards and issue correct reports, their peer review results should be good.
An unstated benefit of the QM standards is risk management (avoiding loss through legal suits). These standards (when used appropriately) lessen the probability that a firm will be sued for deficient work. How? By helping firms identify QM system and engagement deficiencies. Thereafter, firms can create responses to improve their work.
My main point here is the QM standards help protect your accounting firm, lessening the potential for future harm (whether from peer review failures or legal loss).
The QM standards are made up of the following:
Statement of Quality Management Standards No. 1 | SQMS No. 1
The Firm’s System of Quality Management |
Statement of Quality Management Standards No. 2 | SQMS No. 2
Engagement Quality Reviews |
Statement of Quality Management Standards No. 3 | SQMS No. 3
Amendments to QM Sections 10, A Firm’s System of Quality Management, and 20, Engagement Quality Reviews |
Statement on Auditing Standards No. 146 | SAS 146
Quality Management for an Engagement Conducted in Accordance With Generally Accepted Auditing Standards |
Statement on Standards for Accounting and Review Services 26 | SSARS 26
Quality Management for an Engagement Conducted in Accordance With Statements on Standards for Accounting and Review Services |
This article addresses SQMS No. 1 and SQMS No. 2.
SQMS No. 1 addresses how a firm’s system of quality management operates and specifies eight components:
(1) Risk assessment and (2) information and communication are new components; they were not included in the prior quality control standards.
Risk assessment, as well as monitoring and remediation, are processes. So, you will not establish quality objectives, quality risks, and responses for these.
The risk assessment component is the most significant change. Firms are required to do the following for the six components listed below:
Here’s an example:
SQMS No. 1 requires that firms establish quality objectives, quality risks, and responses (the risk assessment process) for the following components:
After establishing objectives, risks, and responses for these six components, the firm will create a monitoring and remediation process. In doing so, firms will consider the reasons for quality risk assessments, the designed responses, changes in the QM system, the results of previous monitoring, and other relevant information such as peer review information.
The QM standards are a holistic approach to ensure (1) that firms comply with professional standards and (2) issue appropriate reports. Develop your objectives, risks, and responses in light of these objectives. The eight components should dovetail. In other words, they should work together.
Additionally, the QM system is organic (or at least, it should be). As changes occur in your firm’s accounting and auditing engagements or how it operates, you will reassess your overall system to see if it needs changing.
No longer will we create static quality control documents that sit on the shelf. Real-time changes make sense: your responses (actions to lessen risk) should change as your risks change.
The QM system is also scalable. For smaller firms with fewer risks, the QM documentation will be less than that of more complex CPA firms.
Think of a firm that does compilation engagements and nothing else; this firm’s chance of noncompliance with professional standards and issuing incorrect reports is generally less than that of a firm performing audits or attestation services. So, the smaller firm’s QM system will be simpler.
The QM system is like an accordion, expanding for more risk and compressing for less risk.
So, who is responsible for the QM system?
SQMS No. 1 states that your firm will assign ultimate responsibility and accountability to your managing partner, CEO, or managing board. This person or board will evaluate the QM system at a point in time (at least annually) and conclude whether the QM system provides reasonable assurance that objectives are being met.
The conclusion will include one of the following:
If 2. or 3. is in play, the firm should take prompt and appropriate action and communicate to engagement teams and QM personnel as needed.
SQMS No. 1 also says that firms will assign operational responsibility for the QM system to someone such as a QM partner or director. The person with operational responsibility oversees:
So, does this person have to perform all QM duties? No, the person with operational responsibility can delegate specific responsibilities to other firm members, such as independence monitoring. Even so, the person with operational responsibility is still responsible for the QM system operations (in this example, independence monitoring).
The standard creates accountability by defining who is responsible for what. In most firms, the managing partner has ultimate responsibility, and the quality control partner/director has operational responsibility. Also, SQMS No. 1 states that the firm should perform periodic performance evaluations of these persons.
The firm should document its QM system, including:
This documentation should be retained long enough for the firm and its peer reviewer to monitor the QM system (and to meet any legal and regulatory requirements).
For higher-risk engagements, firms may need an engagement quality review.
SQMS No. 1 requires that firms establish policies and procedures that address engagement quality reviews in accordance with SQMS No. 2. Engagement quality reviews are required for the following:
Not all engagements are subject to an engagement quality review. Riskier engagements (as defined by the firm; see SQMS No. 1 criteria) are more likely to be subject to an engagement quality review.
Next, we look at SQMS No. 2, Engagement Quality Reviews.
An engagement quality review (EQR) is an objective evaluation of the engagement team’s significant judgments and conclusions. It is not an evaluation of the entire engagement. The review is done at the engagement level, and an engagement quality reviewer performs the EQR before the engagement report is released.
So, who can be an engagement quality reviewer (EQ reviewer)? An engagement quality reviewer can be a:
The EQ reviewer should understand SQMS No. 2 and apply the requirements. The firm will also define the EQ reviewer qualifications in its policies and procedures, namely that this person must have the competence, capability, and time to perform the review and that the person will be objective.
EQR policies and procedures should address the following:
SQMS No. 2 also provides EQR performance requirements.
The EQR performance should include the following:
SQMS No. 2 includes documentation requirements. Let’s see what those are.
The EQR documentation should include:
It’s a good idea—though not required by standards—to capture EQR findings in a summary document (e.g., Excel or a database). Then, the firm can use this information in planning and performing its monitoring duties.
The EQR is scalable depending on the engagement, entity’s nature, and circumstances. Again, less risk will result in less work and documentation than riskier engagements. Fewer significant judgments will likely mean fewer EQR procedures.
Given the EQ reviewer’s involvement, can the engagement partner’s work be reduced? The short answer is no.
The EQR does not change the engagement partner’s responsibilities. For example, an engagement partner should review judgment areas such as complex estimates even though the EQ reviewer does the same.
You may be wondering how EQRs relate to monitoring and remediation. For instance, can the person performing an EQR also perform the monitoring on the same engagement? Find in this related article.
In conclusion, the QM standards are no small change. As you can see from the above, you have a great deal of work before you. This is especially true if you perform riskier audits and attestation engagements. So, start working on this transition as soon as possible. That way, you’ll have everything in place by December 15, 2025.
The most challenging part of this change is the risk assessment process. You need to document your quality objectives, quality risks, and responses for the six components (those that are not processes, i.e., risk assessment and monitoring) listed above.
Finally, consider whom you will assign the QM system operational responsibility. This person must have the competence, capability, and time to comply with the standards. You may need to hire someone to fill this role or contract with someone outside your firm.
Charles Hall is a practicing CPA and Certified Fraud Examiner. For the last thirty-five years, he has primarily audited governments, nonprofits, and small businesses. He is the author of The Little Book of Local Government Fraud Prevention, The Why and How of Auditing, Audit Risk Assessment Made Easy, and Preparation of Financial Statements & Compilation Engagements. He frequently speaks at continuing education events. Charles consults with other CPA firms, assisting them with auditing and accounting issues.
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