Wiley CPA excel exam review 2016 focus notes regulation

2016

Wiley

CPAexcel

®

exam review
FOCUS NOTES
Regulation


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Contents
Prefacev
About the Author
vii
About the Contributors
vii
Module 23:
Module 24:
Module 25:
Module 26:
Module 27:
Module 28:
Module 29:
Module 30:
Module 31:
Module 32:
Module 33:
Module 34:
Module 35:

Professional and Legal Responsibilities
Federal Securities Acts
Business Structure
Contracts
Sales
Commercial Paper
Secured Transactions
Bankruptcy
Debtor-Creditor Relationships
Agency
Regulation of Business Employment, Environment, and Antitrust
Property
Individual Taxation

1
16
28
52
66
80
93
101
114
118
122
145
154

iii

Module 36:
Module 37:
Module 38:
Module 39:

Transactions in Property
Partnership Taxation
Corporate Taxation
Other Taxation Topics

208
215
224
253

Index276

Contents
iv


Preface
This publication is a comprehensive, yet simplified study program. It provides a review of all the
basic skills and concepts tested on the CPA exam, and teaches important strategies to take
the exam faster and more accurately. This tool allows you to take control of the CPA exam.
This simplified and focused approach to studying for the CPA exam can be used:
•
•

•

As a handy and convenient reference manual
To solve exam questions
To reinforce material being studied

Included is all of the information necessary to obtain a passing score on the CPA exam in
a ­concise and easy-to-use format. Due to the wide variety of information covered on the exam, a
number of techniques are included:
•
•
•

Acronyms and mnemonics to help candidates learn and remember a variety of rules and
checklists
Formulas and equations that simplify complex calculations required on the exam
Simplified outlines of key concepts without the details that encumber or distract from
­learning the essential elements

v


•

•
•

Techniques that can be applied to problem solving or essay writing, such as preparing a
multiple-step income statement, determining who will prevail in a legal conflict, or developing an audit program
Pro forma statements, reports, and schedules that make it easy to prepare these items by

simply filling in the blanks
Proven techniques to help you become a smarter, sharper, and more accurate test taker

This publication may also be useful to university students enrolled in Intermediate, Advanced and
Cost Accounting; Auditing, Business Law, and Federal Income Tax classes; or Economics
and Finance classes.
Good luck on the exam,
Ray Whittington, PhD, CPA

Preface
vi


About the Author
Ray Whittington, PhD, CPA, CMA, CIA, is the dean of the Driehaus College of Business at DePaul University. Prior to
joining the faculty at DePaul, Professor Whittington was the Director of Accountancy at San Diego State University. From
1989 through 1991, he was the Director of Auditing Research for the American Institute of Certified Public Ac­countants
(AICPA), and he previously was on the audit staff of KPMG. He previously served as a member of the Audit­ing Standards
Board of the AICPA and as a member of the Accounting and Review Services Committee and the Board of Re­gents of
the Institute of Internal Auditors. Professor Whittington has published numerous textbooks, articles, mono­graphs, and
continuing education courses.

About the Contributors
Edward C. Foth, PhD, CPA, Administrator of the Master of Science in Taxation Program at DePaul University. Pro­fessor
Foth is the author of CCH Incorporated’s Study Guide for Federal Tax Course, Study Guide for CCH Federal Taxation:
Comprehensive Topics, and coauthor of their S Corporation Guide. Professor Foth prepared the answer expla­nations

vii

to the multiple-choice and task-based simulation questions in Income Taxes, wrote new questions, selected the mix of
questions, and updated items to reflect revisions in the tax law.
Brad McDonald, JD, is an instructor of Business Law and Statistics at Northern Illinois University. He has taught
business law since 1987 and has taught the Business Law section of the Northern Illinois CPA review course since
1998. He wrote and revised most of the Business Law modules. He prepared and revised answer explanations for the
multiple-choice and simulation questions.



About the Contributors

viii


Regulation of Accountants
•

State boards of accountancy issue licenses to practice in a state
•
•

•

AICPA and state societies of CPAs
•
•

•

Investigate violations of professional ethics through Joint Ethics Enforcement Program

(JEEP)
May admonish, sanction, suspend, or expel a member

The AICPA Uniform Accountancy Act (UAA)
•
•

•

Investigate violations of professional standards and ethics
May revoke license to practice

Provides guidance to states in establishing accountancy laws
Contains rules for education, reciprocity, continuing education, etc.

The Securities Exchange Commission
•
•

Investigates CPAs and CPA firms that violate SEC rules
May disbar an accountant or firm from auditing public (issuer) companies
Focus on



Professional and Legal Responsibilities—Module 23

1

Regulation of Accountants (continued)
•

The Public Company Accounting Oversight Board (PCAOB)
•
•
•
•

Registers and performs inspections of firms that audit public (issuer) companies
Firms that audit more than 100 issuers are inspected every year
Firms that audit 100 or less issuers are inspected every three years
For substandard performance the PCAOB may:
•
•

Prescribe remedial actions such as improvements in quality control
Suspend an individual or firm from auditing issuers

Focus on



Professional and Legal Responsibilities—Module 23

2


Accountants’ Liability
Liability under Common Law

An accountant may be liable under common law due to negligence or fraud.

Negligence
A loss due to negligence occurs when an accountant violates the duty to perform professional
services in a competent manner. NEGligence may consist of

• Nondisclosure of information to a client
• Errors previously discovered not being corrected
• GAAP not being followed
Best defense to common law negligence is that appropriate professional standards were followed.

Focus on



Professional and Legal Responsibilities—Module 23

3


Negligence (continued)
Simple negligence
•
•

Careless mistakes
Defense of lack of privity may be available
•
•
•

But client and intended third-party beneficiaries have privity
Foreseen third parties have privity in majority of states under tort law
Foreseen third parties lack privity in states conforming to Ultramares case

Gross negligence
•
•

Reckless disregard for the truth
Lack of privity not valid as defense

Focus on



Professional and Legal Responsibilities—Module 23

4


Fraud
Fraud refers to conduct that involves all of the following:
Material false representation of fact
Justifiable reliance on the information
• Awareness of the false information by the accountant
• The falsity was made with the ultimate intent to deceive
• The party must have suffered damages

•

•

Scienter refers to the accountant’s knowledge of a false representation or material omission of
fact with the intent to deceive.
Potential defenses against fraud include:
•
•

Lack of intent to deceive
Immateriality

Lack of privity is not a valid defense.

Focus on



Professional and Legal Responsibilities—Module 23

5


Liability under Federal Securities Regulations
Auditors are liable under both the Securities Act of 1933 (33 Act) and the Securities Exchange Act
of 1934 (34 Act).

Liability under 33 Act
Accountants are liable under Section 11 of the 33 Act
• Liable if financial statements contain untrue statement or material omission
• Liable to anyone acquiring security without knowledge of error

To be successful, the plaintiff need not prove
•
•
•

Privity
Scienter
Reliance

Defenses the accountant may use include
•
•

Plaintiff’s knowledge of the error
Due diligence in performance of services
Focus on



Professional and Legal Responsibilities—Module 23

6


Liability under 34 Act
Accountants are liable under Rule 10b-5 of the 34 Act:
•
•

Liable for oral or written misrepresentations of fact

Liable for wrongful act committed through mail, interstate commerce, or a national securities
exchange

To be successful, the plaintiff must prove:
•
•

Scienter
Reliance

Defenses the accountant may use include:
•
•

Plaintiff’s knowledge of the error
Lack of reliance by plaintiff

Focus on



Professional and Legal Responsibilities—Module 23

7


Summary of Auditor Liability
Elements in action taken against an accountant

1)
2)
3)
4)

There is a misstatement or omission of a material fact
Plaintiff has reasonably relied upon the information
Plaintiff suffered a loss
Accountant was in error

Focus on



Professional and Legal Responsibilities—Module 23

8


Auditor Common Law Liability
Gross Negligence
or Fraud

Contracts

Negligence

Who may bring action

Client or an intended
user

Client or (usually)
foreseen user

Anyone injured

Accountant’s error
resulting in action

Breach of contract

Carelessness

Recklessness or intentional
misconduct (scienter)

Plaintiff must prove

All four elements

All four elements

All four elements

Focus on

Professional and Legal Responsibilities—Module 23

9


Auditor Liability under Federal Securities Laws
1933 Act Section 11

1934 Act Rule 10b-5

Who may bring action

Any purchaser

Any purchaser

Accountant’s error resulting
in action

Lack of due diligence

Recklessness or intentional
misconduct (scienter)

Plaintiff must prove

Elements 1 and 3 only

All four elements

Focus on



Professional and Legal Responsibilities—Module 23

10


Private Securities Litigation Reform Act of 1995
Requires auditor of publicly held company to include specific substantive procedures designed to
•
•
•

Identify illegal acts, including management fraud, having a direct and material effect on the
financial statements
Identify significant related-party transactions
Determine if there is substantial doubt related to the entity’s ability to continue as a going
concern

Illegal acts must be reported to management and board of directors must be notified
Board of directors must
•
•

Notify the SEC within 1 business day
Provide auditor with copy of report to SEC

If auditor not notified
•
•

Resign from engagement
Notify SEC within 1 business day of board’s failure to meet deadline

Focus on



Professional and Legal Responsibilities—Module 23

11


Private Securities Litigation Reform Act of 1995 (continued)
Responsibilities under the Sarbanes-Oxley Act
•
•

CPAs and CPA firms may be criminally prosecuted for destroying or falsifying records
(e.g., working papers)
Created the Public Company Accounting Oversight Board (PCAOB)
•
•
•
•
•

•
•

Public companies must disclose whether they have adopted code of ethics for company’s
officers
For audit committees of the board of directors
•
•

•

Registers CPA firms that audit public (issuer) companies
Sets standards on auditing, quality control, independence for registered CPA firms
Restricts the types of services that a CPA firm may perform for an issuer audit client
Requires rotation of audit partner every 5 years
Requires audits of internal control over financial reporting

All members must be independent
Must have at least one financial expert

Requires the CEO and CFO to certify to company’s financial statements
Focus on



Professional and Legal Responsibilities—Module 23

12

Standards for Tax Practice
AICPA Statements on Responsibilities for Tax Services
A CPA performing tax services
•
•
•
•
•

May not recommend a tax position that lacks merit
Must make a reasonable effort to answer applicable questions on the return
May rely on client information when preparing the return
Must make reasonable inquiries about questionable or incomplete information
May use estimates

Focus on



Professional and Legal Responsibilities—Module 23

13


Treasury Department Circular 203
Establishes requirements for practicing before the Internal Revenue Service (IRS)
•
•
•

•
•
•
•
•
•

•

Requires registration with the IRS
Accountant must promptly provide records and documents to the IRS unless the accountant
believes the information is privileged
If accountant becomes aware of error in filed tax return must notify client of error and
consequences of not filing an amended return
Accountant must exercise due diligence in preparing tax return
Accountant must not charge an unconscionable fee
Accountant must not negotiate or endorse a client’s government refund check
Accountant must possess adequate competence to perform an assignment
Accountants with responsibility for overseeing a tax practice must take adequate steps to
ensure compliance by all personnel
Accountant may rely on information obtained from client without verification but must make
additional inquiries if information appears incorrect, incomplete or inconsistent with the
facts
Accountants have additional responsibilities when providing written advice
Focus on



Professional and Legal Responsibilities—Module 23

14


Liability as a Tax Preparer
Penalties
Actions by an accountant preparing a client’s tax return can result in penalties
•
•
•

Not providing client with copy of return
Failing to sign return as a preparer
Endorsing and cashing client’s refund check

Liability to Client
Other actions may create a liability to a tax client
•
•
•

Failing to file a return timely
Not advising client of tax elections
Neglecting evaluation of joint versus separate returns

Focus on



Professional and Legal Responsibilities—Module 23

15