How many times have you seen a local newspaper article like the following?
Johnson County’s longtime court clerk admitted today to stealing $120,000 of court funds from 2019 through 2021. Becky Cook, 62, faces up to 10 years in federal prison after pleading guilty to federal tax evasion and theft.
Thefts of Cash from Local Governments
Usually, the causes of such cash thefts are (1) decentralized collection points and (2) a lack of accounting controls.
1. Decentralized Collection Points
First, consider that governments commonly have several collection points.
Water and sewer department
Building and code enforcement
Many governments have over a dozen receipting locations. With cash flowing in so many places, it’s no wonder that thefts of cash are common. Each cash receipt area may have different accounting procedures – some with physical receipt books, some with computerized receipting, and some with no receipting system at all.
A more centralized receipting system reduces the possibility of theft, but many governments may not be able to centralize the receipting function. Why? Here are three reasons:
Elected officials, such as tax commissioners, often determine how monies are collected without input from the final receiving government (e.g., county commissioners or school). Consequently, each elected official may decide to use a different receipting system.
Customer convenience (e.g., recreation centers and senior citizen centers) may drive the receipting location decision.
Other locations, such as landfills, are purposely placed on the outer boundary of the government’s geographic area.
What’s the result?Widely differing receipting systems. Since these numerous receipting locations have varying controls, the risk of theft is higher.
2. Lack of Accounting Controls
Second, consider that many governments lack sufficient accounting controls for cash.
It’s more likely cash will be stolen if cash collections are not receipted. If the transaction is recorded, then the receipt record must be altered, destroyed or hidden to cover up the theft. That’s why it’s critical to capture the transaction as early as possible. Doing so makes theft more difficult.
Additional steps that will enhance your cash controls include the following:
If possible, provide the government’s administrative office (e.g., county commissioners’ finance department) with electronic viewing rights for the decentralized receipting locations (e.g., landfill).
Require the transfer of money on a daily basis; the government’s administrative office (e.g., county commissioners’ finance department) should provide a receipt to each transferring location (e.g., landfill).
Limit the number of bank accounts.
Deposit funds daily.
Periodically perform surprise audits of outlying receipting areas.
Use a centralized receipting location (and eliminate the decentralized cash collection points).
Persons creating deposit slips and handling cash should not key those receipts into the accounting system.
The person reconciling the bank statements should not also handle cash collections.
Don’t allow the person billing customers to handle cash collections.
If segregation of duties is not possible (such as 7., 8. and 9. above), consider having a second person review the activity (either an employee of the government or maybe an outside consultant).
Final Thoughts About Fraud Prevention for Cash
When possible, use an experienced fraud prevention specialist to review your cash collection procedures. Can’t afford to? Think again. The average incidence of governmental fraud results in a loss of approximately $100,000.
Finally, make sure your government has sufficient fidelity bonding. If all else fails, you can recover your losses through insurance.
Twenty-four percent of governmental frauds are billing schemes such as fictitious vendor theft, so says the Association of Certified Fraud Examiners. Fictitious vendor fraud is usually committed by a person with the ability to establish new vendors in the accounting system (often the accounts payable clerk). If you are going to prevent this fraud, you need to know how it works.
Fictitious Vendor Fraud
First, the clerk creates the fictitious vendor in the accounts payable system using his own address (or that of an accomplice). Alternatively, he may use a personal P.O. box (which is more common). Second, the clerk creates fictitious vendor invoices to support the payments; often, these invoices are for services rather than for a physical product. Since no shipped asset will be received by the government, it’s easier to conceal the fraud. Finally, the accounts payable clerk issues the vendor checks: since the fictitious vendor check address is that of the accounting clerk, the check is mailed directly to the fraudster (or his accomplice).
Here’s an example of how this fraud might happen.
Accounts Payable Clerk Fraud
John, the accounts payable clerk, sets up the fictitious vendor, Rutland Consulting, and keys his (John’s) address (P.O. Box 798, Atlanta, Georgia, 99890) into the vendor master file. To save time, the city has elected to have all checks signed electronically by the computerized system, so printed checks have signatures on them, and it just so happens that John prints all checks. John records an accounts payable amount of $53,322 to Rutland Consulting.
To conceal the fraud, John creates a fictitious consulting services invoice from Rutland Consulting (especially designed for the auditors), and he codes the expense to an account which has plenty of remaining budgetary appropriation. Now John prints and mails the checks (including the fictitious vendor check).
Two days later John picks up his check at his P.O. box. John has opened a bank account for—you guessed it—Rutland Consulting; he is the only authorized check signer for the account. After depositing the city-issued check to the Rutland Consulting checking account, he writes checks to himself. Soon John’s friends are impressed with his shiny new bass boat.
Other Fraudulent Disbursement Schemes
While reading about John’s fraud, you may be thinking, “Not a problem in my government. Our checks are physically signed.” Consider, however, that signed checks can be created by:
Forging signatures on manual checks
Signing checks with signature stamps
The fraudster might also, in another twist to this scheme, just wire the money electronically and record the transaction with a journal entry. If the fraudster can get a fake vendor added to the payables system and create a signed check or wire funds, then the fictitious vendor scheme becomes a possibility.
Banks generally do not visually inspect checks as they clear (how could they, given the volume of daily checks?), so a forged signature will usually suffice. John’s theft described above becomes easier if he also reconciles the related bank statement—no second pair of eyes will inspect the cleared checks.
Department Head Fraud
City or county department heads can also use a fictitious vendor scheme if they can submit believable new-vendor documentation. Many governments do not verify the existence of new vendors; therefore, a department head can merely send a fake invoice to the payables clerk and receive payment.
Oftentimes when an accounts payable clerk receives an invoice, he will add the new vendor to the accounts payable master file without verifying that the vendor is real. Since department heads often code and approve invoices (by writing the expense account number on the invoice and initialing the same), the payment will be recorded in an account of the department head’s choice.
Again, such invoices are usually for services (e.g., electrical repair)—that way, the accounts payable department is not waiting for receiving documents (e.g., packing slips) before payment is made.
Fictitious Vendor Fraud Factors
The fictitious vendor fraud hinges on three factors:
Getting the fictitious vendor added to the accounts payable vendor list (along with the false address)
Getting the payment made (either by controlling the whole payment process or by having the authority to approve disbursements)
Getting the payment posted to an account where its presence goes unnoticed
Lessen Fictitious Vendor Threat
To mitigate the risk of fictitious vendors, do the following:
Require vendors to provide a physical address (even if payments are to be mailed to a P.O. box)
Require the accounts payable clerk to verify the existence of the new vendor (by calling the vendor or googling the vendor’s address)
Have someone outside of accounts payable (e.g., controller) review new vendors added
Segregate duties (namely the ability to add new vendors and the power to authorize payments); have at least two persons involved in processing all payables
Have someone other than an accounts payable person reconcile the bank statement and require that that person compare the payee on cleared checks to the general ledger; if this suggestion is not viable, periodically review all cleared checks for a month and review the payees on the checks
Periodically review the list of vendors in your accounts payable system
While this is not a comprehensive article about fictitious vendor fraud, hopefully it will prompt you to consider whether your internal controls are sufficient in relation to this threat.
Are you looking for GASB 87 lease accounting information? Are you a government that leases assets? Then you're in the right place. Below I provide information about lease terms, discount rates, accounting entries, and disclosure requirements.
Removal of Bright-Line Criteria
Historically governments have followed the guidance in FASB 13, Accounting for Leases. Lease classifications (i.e., operating or capital) were based on bright-line criteria such as whether the government leased an asset for more than 75% of its economic life.
GASB 87, Leases, removes the bright-line criteria and calls for more judgment. (The words reasonably certain appears thirty-nine times in GASB 87.)
The new lease standard provides for various accounting alternatives. Let's see what they are.
Three Potential Accounting Alternatives
Regarding leases, there are now three accounting alternatives:
Contracts that transfer ownership
Contracts that do not transfer ownership
Before we dive deeper, here are three quick points about these alternatives:
First, know that short-term leases do not create a lease liability.
Second, understand that contracts that transfer ownership are a financed sale.
Third, know that contracts that do not transfer ownership create a lease liability. This third category is a catchall for arrangements that don't qualify for short-term lease treatment and don't transfer ownership.
Now, let's see how GASB defines a lease.
Definition of a Lease
GASB defines a lease this way:
A lease is defined as a contract that conveys control of the right to use another entity’s nonfinancial asset (the underlying asset) as specified in the contract for a period of time in an exchange or exchange-like transaction.
There are five points to this definition:
First, the lease must be a contract.
Second, the contract must provide control of the right to use.
Third, this control is in relation to a nonfinancial asset.
Fourth, the control of the nonfinancial asset must be for a period of time.
And finally, the lease is an exchange or exchange-like transaction.
I think the terms contract, period of time, and exchange are easily understood. But the terms control and nonfinancial assets might cause some confusion. So let's clarify those.
A government controls an asset if it has the right to the present service capacity and the right to determine the nature and manner of use of the asset.
In other words, the government must have the right to the benefits generated from the asset. A city can drive a leased police car. That is the benefit, the present service capacity.
Additionally, Nature and manner address whether the government controls the use of the asset. A city police officer can, for example, drive a leased police car at 3:00 a.m. And she can drive it as far as she likes. The police department determines the nature and manner of use.
And what is a nonfinancial asset? It's generally anything that is not a financial asset (e.g., cash, receivable). Examples of nonfinancial assets include buildings, land, vehicles, and equipment. There are exceptions, however.
GASB 87 Scope Exclusions
GASB 87 does not apply to:
Leases of intangible assets (e.g., rights to explore for oil and gas)
Leased biological assets (e.g., timber)
Inventory that is leased
Service concession arrangements
Leases in which the underlying asset is financed with outstanding conduit debt (unless the underlying asset and the conduit debt are reported by the lessor)
Supply contracts (e.g., power purchase agreements)
Now let's see how to determine the lease term.
Prior to GASB 87, the minimum lease payments determined the lease term. Not so any more. In some cases, GASB 87 provides for a more subjective determination of a lease's term, one based on what is reasonably certain.
Under GASB 87, lease terms are not just the noncancelable portion of the agreement. Governments add the following to the noncancelable period:
Periods covered by a lessee’s option to extend the lease if it is reasonably certain, based on all relevant factors, that the lessee will exercise that option
Periods covered by a lessee’s option to terminate the lease if it is reasonably certain, based on all relevant factors, that the lessee will not exercise that option
Periods covered by a lessor’s option to extend the lease if it is reasonably certain, based on all relevant factors, that the lessor will exercise that option
Periods covered by a lessor’s option to terminate the lease if it is reasonably certain, based on all relevant factors, that the lessor will not exercise that option.
Reasonably Certain Factors
In determining what reasonably certain is, the government considers factors such as the economic impact of not exercising an option or how the government has acted in the past.
Once the lease term decision is made, document your basis for doing so. Why? So there is a record of the decision. (Your auditors may want to see this. Additionally, the record provides valuable information regarding future lease term decisions.)
Fiscal Funding Clauses Affect on Term
Additionally, you may be wondering if fiscal funding clauses affect leases. (Fiscal funding clauses allow a government to cancel a lease if the government does not appropriate funds for the payments.) If a government is reasonably expected to exercise such a provision, then this factor can impact the lease term. Personally, however, I've never seen a government terminate a lease through such a provision. Fiscal funding clauses will usually not affect lease terms.
So, should governments ever reassess the term period?
Reassessment of Term
Government will generally not reassess the lease term decision.
Nevertheless, reassessment will occur in some cases. Consider this example. The government enters into a fifteen-year lease with a five-year lease extension. The government believes that it will not exercise the five-year extension. But then in year fifteen, it does so. Now the government binds itself for another five years. Therefore, the lease is extended. And the additional five years is added to the lease term.
Now that you know about lease terms, you may be wondering about short-term leases. How does a government account for those?
Treat leases with a maximum possible term of twelve months or less as short-term leases. And do not capitalize such leases.
One word of caution: if there are renewal options, include those in making the short-term lease classification decision, regardless of probability. If, for example, the lease is for twelve months with an option to renew for another six months, then the lease is not short-term. Even if the government believes it will not exercise the option.
So, how do you record short-term lease payments? As expenses.
Contract that Transfers Ownership
If an agreement transfers ownership of the asset to the lessee by the end of the contract, then the contract is a financed purchase. For the lessee, the government records the purchased asset (not an intangible) and the related debt (not a lease liability).
So, what about a lease agreement with a bargain purchase option? Should it be treated as financed purchase? The answer is no. The presence of a bargain purchase option in a lease contract is not the same as a provision that transfers ownership of the underlying asset.
Multiple Components of a Lease Contract
If an agreement has lease and non-lease components, split the transaction.
A government might, for example, lease floors four and five of a ten-story building. In doing so, it is required to pay for common area maintenance. Split this transaction into a lease and a maintenance contract. Record the lease exclusive of the maintenance payments. If, however, it is not practicable to determine the separate price allocation, the government should account for the transaction as a single lease.
If a lease involves multiple underlying assets (say a police car and a water tank), the government should account for each as a separate lease component.
If the government is leasing an asset, then it will use the following guidance. (An exception exists if the lease is short-term as explained above.)
At commencement, the government recognizes an (1) intangible right-to-use asset and (2) a lease liability.
So the government does not recognize the asset itself (e.g., tractor), but the right to use the asset. This is an intangible asset.
Now let's see how to compute the lease asset.
1. Lease Asset
So. what goes in the lease asset calculation?
The government should include:
Initial lease liability (see below)
Payments made to lessor at or before commencement less any lease incentives received from the lessor at or before the commencement of the lease term
Initial direct costs that are ancillary charges necessary to place the lease asset into service
So what costs are not included in the intangible asset? Governments should exclude any debt issuance costs.
Notice that the lease asset can be greater than the lease liability. The lease asset starts with the lease liability and increases if, for example, the government makes a payment to the lessor prior to commencement of the lease term.
In governmental funds (e.g., general fund), the initial accounting entry is a debit to capital outlay and a credit to other financing sources. In full accrual funds (e.g., enterprise fund), the initial entry is a debit to the intangible lease asset and a credit to the lease liability.
So, how should the lease asset be amortized?
Lease Asset Amortization
Amortize the lease asset in a systematic and rational manner over the shorter of the lease term or the asset's useful life. Usually this will be straight-line amortization.
And what are the journal entries for recording the lease asset?
Lease Asset Accounting
The government records the lease asset and then amortizes it using an entry such as the following (for full-accrual funds; e.g., water and sewer fund):
Accumulated Amortization - Right-of-Use Asset
GASB 87 says to report the amortization as an outflow of resources (e.g., amortization expense). The amortization expense can, for financial reporting purposes, be combined with the depreciation expense of other capital assets.
Modified accrual funds (e.g., general fund) will not record an amortization entry. Why? The asset does not appear on the balance sheet.
2. Lease Liability
How does a government compute the lease liability?
Simply put, the lease liability is the present value of everything you think you're going to pay. Prior to GASB 87, governments used the present value of minimum lease payments. Now governments include payments that are reasonably certain. (See information above regarding what is reasonably certain.)
The computation is made up of the present value of:
Variable payments that depend on an index or a rate (e.g., consumer price index) measured using the index or rate as of the commencement of the lease
Variable payments that are fixed in substance
Amounts that are reasonably certain of being required to be paid by the lessee under residual value guarantees
The exercise price of a purchase option if it is reasonably certain that the lessee will exercise that option
Payments for penalties for terminating the lease
Any lease incentives receivable from the lessor
Any other payments that are reasonably certain of being required based on an assessment of all relevant factors
Variable Payments Based on Future Performance
Governments will not include payments based on future performance or usage in the lease liability. Expense such payments in the period incurred.
For example, if a government leases a vehicle with a provision for 12,000 miles annually but the car is driven 15,000 miles, expense the payment for the additional mileage as incurred.
So, where does the discount rate come from?
Use the rate charged by the lessor if specified in the agreement. If not specified, use the incremental borrowing rate for the government. This is the estimated rate the government would pay if, during the life of the lease, it borrowed the funds for those lease payments.
Lease Liability Accounting
Once the initial lease is recorded as a liability, the government will begin making periodic payments to the lessor. The effective interest rate method will be used. Record the payments as follows (for full-accrual funds; e.g., water and sewer fund):
Post the payments to principal and interest expenditures in modified accrual accounting funds (e.g., general fund).
GASB 87 Disclosures
The following disclosures are required for lessees:
A general description of its leasing arrangements
The total amount of lease assets, and the related accumulated amortization, disclosed separately from other capital assets
The amount of lease assets by major classes of underlying assets, disclosed separately from other capital assets
The amount of outflows of resources recognized in the reporting period for variable payments not previously included in the measurement of the lease liability
The amount of outflows of resources recognized in the reporting period for other payments (e.g., termination penalties) not previously included in the measurement of the lease liability
Principal and interest requirements to maturity, presented separately, for the lease liability for each of the five subsequent fiscal years and in five-year increments thereafter
Commitments under leases before the commencement of the lease term
The components of any loss associated with an impairment
Apply GASB 87 retroactively, if practicable, for all periods presented. Use the facts and circumstances existing at the beginning of the implementation period to record the leases.
The notes to the financial statements should disclose the nature of the restatement and its effect.
GASB 87 says that the provisions of this statement need not be applied to immaterial items.
GASB 87 Effective Date
The effective date of GASB 87 is for reporting periods beginning after December 15, 2019. On May 8, 2020, the Governmental Accounting Standards Board (GASB) issued Statement No. 95, Postponement of the Effective Dates of Certain Authoritative Guidance. This standard postponed GASB 87 by eighteen months.
So GASB 87 is effective for fiscal year-ends of June 30, 2022 (years starting after June 15, 2021) and calendar year-ends of December 31, 2022 (again, years starting after June 15, 2021).
From time to time, I have clients ask me “What is funded depreciation?” And more importantly, they ask, “How can this technique make my organization more profitable and less stressful?”
Here’s a simple explanation.
Funded depreciation is the setting aside of cash in amounts equal to an organization’s annual depreciation. The purpose: to fund future purchases of capital assets with cash.
Suppose you buy a $10,000 whiz-bang gizmo—a piece of equipment—that you expect to use for ten years, and at the end of the ten years you expect it to have no value. Your annual depreciation is $1,000.
In this example, a $1,000 depreciation expense is recognized annually on your income statement (depreciation decreases net income) even though no cash outlay occurs. The balance sheet includes the cost of the whiz-bang gizmo, but at the end of ten years, the equipment has a $0 book value, being fully depreciated.
The smart manager will annually set aside $1,000 in a safe investment—such as a certificate of deposit or money market account—for the future replacement of the whiz-bang gizmo.
If the company does not annually invest the $1,000, it has a few options at the end of the ten-year period:
Borrow the full amount for the replacement cost
Seek outside funding (e.g., grants)
Use other funds from within the organization
Lease the equipment
Ask U2 to do a special benefits concert—just kidding
Obviously, if you borrow money to replace the equipment, you will have to pay interest—another cash outlay. Suppose the rate is 10%. Now the organization must pay out $1,100 each year. So, if the organization funds the depreciation (invests $1,000 annually), it earns interest. But if the entity chooses not to fund depreciation, it pays interest.
Businesses that fund depreciation are always making money from interest (granted not much these days) rather than paying for it.
Another advantage to funding depreciation: you know you will have the money to purchase the capital asset. You’re not concerned with whether a creditor will lend you the money for the acquisition. You’re financially stronger.
Why Doesn’t Every Entity Fund Depreciation?
So why doesn’t everyone fund depreciation?
Some don’t understand the concept
Some had rather spend the cash flows for the ten years (e.g., owners taking too much in distributions)
Some need the money just to run the organization
In governments, elected officials desire to keep tax rates low while they are in office
In growing businesses, the owners may need the money to fund the growth of the company
Most importantly, it may require two cash payments
Concerning the last point, if the business had to borrow money to purchase the initial capital asset, then it must make debt service payments (cash outlay 1). If the company also funds depreciation for that same asset (making investments equal to the annual depreciation), another cash flow occurs (cash outlay 2). Nevertheless, if the business can ever get into a position where it pays cash for new equipment, it will be better off. Then only one cash outlay (investment funding) occurs, and the company is making–not paying–interest.
What if the organization cannot–due to cash flow constraints–fund depreciation for all new equipment purchases? Consider doing so for just one or two pieces of equipment–over time, the entity may be able to move into a fully funded position.
Who Should Fund Depreciation?
So, who should fund depreciation?
Organizations with sufficient cash flow and discipline. It’s the smart thing to do.
Imagine a world with no debt, a world where you don’t have to wonder how you will pay for equipment. Dreaming? Maybe, but funded depreciation is worth your consideration.
You’ve heard about the new Yellow Book (effective for audits of years ending June 30, 2020, and after). So, now you’re wondering if there are any changes in CPE requirements. This article explains the Yellow Book continuing education requirements.
Below we will address (1) who is subject to the Yellow Book CPE requirements and (2) what CPE classes satisfy those requirements.
Paragraph 4.16 of the Yellow Book states “Auditors who plan, direct, perform engagement procedures for, or report on an engagement conducted in accordance with GAGAS should develop and maintain their professional competence by completing at least 80 hours of CPE in every 2-year period.”
Nevertheless, Paragraph 4.26 states “nonsupervisory auditors who charge less than 40 hours of their time annually to engagements conducted in accordance with GAGAS may be exempted by the organization from all CPE requirements in paragraph 4.16.” Additionally, paragraph 4.27 allows an audit organization to exempt “college and university students employed on a temporary basis.”
Auditors not exempted by the provisions in paragraphs 4.26 or 4.27 must take at least 20 hours of CPE in each year of the two years.
So, there is an 80 requirement. Additionally, there are two more requirements:
56-hour (every two years)
24-hour (every two years)
Below we’ll see:
Who is subject to each requirement?
What classes qualify for each requirement?
Before we get into the details, you may be wondering, “How do I know if I am subject to the Yellow Book CPE requirements?” To answer that question, consider whether a Yellow Book report is to be issued (or whether one was issued in a prior engagement). If yes, then consider the requirements below. In most audit reports, you’ll see the Yellow Book report just after the notes to the financial statements. And when must an entity comply with the Yellow Book requirements? Usually when a law or a grant requires it.
Now, let’s start our review of Yellow Book CPE requirements.
The 24-Hour Requirement – Who is Subject?
Who is subject to the 24-hour requirement? If you work on a Yellow Book engagement as an auditor, you are subject to the 24-hour requirement. Even so, if you are a nonsupervisory auditor that works less than forty hours annually on Yellow Book engagements, your audit organization can exempt you from Yellow Book requirements. (See paragraph 4.26 of the Yellow Book.) Additionally, audit organizations can exempt college students hired temporarily. (See paragraph 4.27 of the Yellow Book.)
Next, let’s see who is subject to the 56-hour requirement?
The 56-Hour Requirement – Who is Subject?
Who is subject to the 56-hour requirement? Auditors who are involved in:
1. Planning, 2. Directing, or 3. Reporting
These are usually partners, managers, and in-charges.
Additionally, the 56-hour requirement applies to auditors who are not involved in planning, directing, or reporting but charge 20 percent or more of their annual time to GAGAS engagements. This category usually includes professional staff personnel.
So, consider this example. You have a staff member that has:
2,000 hours of total time each year
140 hours in two GAGAS (Yellow Book) engagements for the year
He is not involved in planning, directing, or reporting
He is not subject to the 56-hour requirement (his GAGAS time is less than 20% of the total hours), though he is subject to the 24-hour requirement.
But suppose he is promoted during the year and becomes a manager on the second Yellow Book engagement. Even though his time is less than 20% of his annual time, he is now subject to the 56-hour requirement. Why? He is directing the engagement.
Now, let’s see what classes qualify for Yellow Book CPE.
What Classes Qualify for Yellow Book CPE?
Paragraph 4.21 of the Yellow Book states, “Determining what subjects are appropriate for individual auditors to satisfy the CPE requirements is a matter of professional judgment to be exercised by auditors in consultation with appropriate officials in their audit organization.” Moreover, there are differences in the 56-hour requirement and the 24-hour requirement. Otherwise, only one category would exist. The 56-hour requirement is broader and the 24-hour requirement is more specific.
Okay, let’s define the differences in the 56-hour and 24-hour requirements.
The 56-Hour Rule – Classes that Qualify
The 56-hour rule is broad, encompassing any CPE that enhances the auditor’s professional expertise to conduct engagements. So, CPE classes about better writing, for example, would qualify.
Paragraph 4.24 of the Yellow Book provides the following as examples of acceptable topics:
Subject matter categories for the 24-hour requirement listed in paragraph 4.23 (the 24-hour requirement–see below)
General ethics and independence
Communicating clearly in writing or verbally
Now, let’s compare the general 56-hour requirements with the more specific 24-hour requirements.
The 24-Hour Rule – Classes that Qualify
Each auditor performing work under GAGAS should complete, every two years, at least twenty-four hours of CPE that directly relates to government auditing, the government environment, or the specific or unique environment in which the audited entity operates.
Paragraph 4.23 of the Yellow Book provides the following as examples of acceptable topics:
GAO generally accepted government auditing standards (GAGAS)
AICPA Statements of Auditing Standards (SASs)
AICPA Statements on Standards for Attestation Services (SSAEs)
AICPA Statements on Accounting and Review Services (SSARS)
Standards issued by the Institute of Internal Auditors
Standards issued by the Public Company Accounting and Oversight Board
U.S. Generally Accepted Accounting Principles (FASB and GASB)
Standards for Internal Control in the Federal Government
COSO Internal Controls–Integrated Framework
Relevant audit guides (including information technology auditing and forensic auditing)
Fraud and abuse in a governmental environment
Compliance with laws and regulations
Topics related to the governmental environment such as financing, economics, appropriations, program performance
Governmental ethics and independence
Notice these topics are more directly related to auditees than those in the 56-hour requirement. But again, use judgment to determine whether a CPE class is in the 24-hour or the 56-hour bucket.
Since the GAO, a governmental agency, issues the Yellow Book, we tend to associate Yellow Book engagements with audits of governments. But the Yellow Book can be in play for entities such as banks or electric membership corporations.
Specific or Unique Environment in Which the Audited Entity Operates
Suppose you audit electric membership corporations (EMCs) subject to the Yellow Book. A CPE class about electric supply grids qualifies for the 24-hour requirement. Or if you audit banks subject to Yellow Book requirements (e.g., FHA loans), then a CPE class dealing with lending qualifies. These classes address issues unique to the environment in which the entity operates.
So, are there CPE classes that don’t qualify as GAGAS hours?
CPE that Does Not Qualify as Yellow Book Hours
Some CPE classes will not qualify as GAGAS hours. Paragraph 4.36 of the Yellow Book provides the following examples:
Improving parent-child relations
Additionally, paragraph 4.35 states that some taxation classes may not qualify such as estate planning. It is possible that a tax class would qualify if “topics relate to an objective of the subject matter of an engagement.”
Your head might be spinning from all of the above rules. So, you might be wondering, can my audit organization use a standard two-year cycle for all employees? You’d like to keep this as simple as possible.
An audit organization can adopt a standard two-year period for all of its auditors to simplify the administration of CPE requirements.
But can you carry over excess CPE credit earned in the two-year period?
Auditors are not allowed to carry over hours in excess of the 24-hour or 56-hour rule to the next reporting period.
And what are the Yellow Book CPE requirements for a new employee?
Proration of Hours for New-Hires (or Those Newly Assigned to a Yellow Book Audit)
You will prorate the hourly requirements based on the remaining full 6-month intervals in your two-year reporting period. For example, you hire Joan on May 1, 2021, and the firm’s two-year cycle ends on December 31, 2021. There is one remaining full 6-month period. So, if Joan is subject to the 24-hour rule, she will multiply 25% (one six-month period divided by the four six-month periods in the two-year cycle) times 24 to compute the required hours: 6 hours.
And when is the 2018 Yellow Book effective?
Effective Date of Yellow Book Guidance
The 2018 Yellow Book is effective for audits of financial statements for periods ending on or after June 30, 2020. Early implementation is not permitted.
But, didn’t the GAO provide COVID-19 relief? Yes.
COVID-19 GAO Guidance
The above information is provided without consideration of the COVID-19 guidance issued on February 29, 2020. See the GAO COVID-19 guidance here.