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PCAOB levies $27M in fines for exam cheating and answer sharing against KPMG Netherlands and Deloitte firms in Indonesia and Philippines

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The Public Company Accounting Oversight Board imposed its largest ever penalty of $25 million against KPMG’s firm in the Netherlands, in addition to $2 million in fines against Deloitte’s firms in Indonesia and the Philippines, accusing the firms Wednesday of cheating on exams and sharing answers.

In the KPMG Netherlands case, the PCAOB posted two settled disciplinary orders sanctioning KPMG Accountants N.V. in addition to its former head of assurance, Marc Hogeboom, accusing them of violating the PCAOB rules and quality control standards pertaining to the firm’s internal training program and monitoring of its quality control system. The PCAOB said it found widespread improper answer sharing happening at the firm over a five-year period and that the firm made multiple misrepresentations to the PCAOB about its knowledge of the misconduct. The PCAOB learned of the exam cheating through a whistleblower report it received in 2022. 

“The growth and breadth of exam cheating in this case was enabled by the firm’s failure to take appropriate steps to monitor, investigate and identify potential misconduct,” said PCAOB chair Erica Williams during a press conference Wednesday. “Furthermore, during the course of our investigation, the firm submitted and failed to correct multiple inaccurate representations to the PCAOB. For example, the firm claimed to have no knowledge of answer sharing prior to the 2022 whistleblower report. Yet this could not have been true because members of the firm’s management board and supervisory board who signed off on that submission to the PCAOB have in fact cheated themselves. But it doesn’t end there. KPMG Netherlands’ CEO learned the submissions were inaccurate and failed to inform anyone until months later, when a second whistleblower came forward. Only then did the firm correct the inaccurate representations to investigators. This misconduct reveals an inappropriate tone at the top and a complete failure of firm leadership to promote an ethical culture worthy of investors’ trust.”

PCAOB chair Erica Williams

PCAOB chair Erica Williams

The sanctions imposed by the PCAOB included a $25 million civil money penalty on KPMG Netherlands — the biggest fine ever levied by the PCAOB — along with a permanent bar and $150,000 civil money penalty on Hogeboom.

KPMG Netherlands acknowledged the problems at the firm and its CEO apologized. The investigation revealed that from at least October 2017, over 500 people at the firm were involved in some form of improper conduct, including sending or receiving answers to training tests and providing or receiving assistance in taking such tests. The firm said the settlement reflects that KPMG Netherlands violated a number of PCAOB rules. 

“The conclusions are damning, and the penalty is a reflection of that,” said KPMG Netherlands CEO Stephanie Hottenhuis in a statement. “I deeply regret that this misconduct happened in our firm. Our clients and stakeholders deserve our apologies. They count on our quality and integrity as this is our role in society, with trust as our license to operate.”

The firm said that after the investigation, people, at all levels of seniority, who participated in answer sharing have been sanctioned, and some of them had to leave the firm. After the second whistleblower notification, with regard to a member of the management board, all members of the board of management and supervisory board were subject to additional personal investigations into their involvement in answer sharing. The investigation led to the departure of the former head of assurance as a partner in the firm. The chairman of the supervisory board resigned after admitting he had received assistance in completing a training test.

The PCAOB and the Dutch Authority for the Financial Markets conducted parallel investigations, and the Dutch AFM separately imposed enhanced supervision measures under Dutch law to prevent recurrence of such behavior.

KPMG Netherlands said it has now taken several targeted remedial measures and is working on further improvements in policies and procedures relating to the assessment of mandatory training and internal culture. The remediation process is under the enhanced supervision of the AFM. The supervisory board of KPMG Netherlands will also monitor this closely.

“It is a hard lesson, and we are learning from this,” said Hottenhuis. “We have reviewed our approach to mandatory testing and made meaningful changes to our learning and development programs. We also have implemented controls to monitor whether training tests are being completed appropriately and will continue to do so going forward. We will continuously improve, and we must ensure we do our training sessions appropriately, sustainably.”

KPMG Netherlands also plans to encourage its employees to speak up about improper behavior. “This is a significant failure in our duty to serve the public interest,” said Hottenhuis. “Trust is essential in our business, and we must learn from this and make a change in our culture and behavior. Additional programs on ethical decision making are being rolled out for all teams. This is a critical topic that will remain on the agenda of all leaders and for everyone at our firm.”

The PCAOB said that from 2017 until 2022, hundreds of professionals at KPMG Netherlands engaged in improper answer sharing — either by providing access to test questions or answers, or by receiving such access without reporting it — in connection with tests for mandatory firm training courses. The courses related to different topics, including U.S. auditing standards, professional ethics and independence. The improper answer sharing reached as far as partners and senior firm leaders, including Hogeboom (who at the time was the firm’s head of assurance and a member of the firm’s management board). The growth of this widespread answer sharing was exacerbated by the firm’s failure to take appropriate steps to monitor, investigate and identify the potential misconduct. For example, starting in June 2020, the firm was aware that answer sharing had occurred at a KPMG service delivery center serving KPMG Netherlands and KPMG LLP in the United Kingdom, and the sharing had extended to the U.K. firm’s personnel. Nevertheless, KPMG Netherlands took virtually no steps to investigate potential answer sharing among its employees until a whistleblower reported the misconduct in July 2022.

Without admitting or denying the findings, the firm and Hogeboom agreed to the PCAOB’s respective orders against them. KPMG Netherlands was censured and agreed to pay a $25 million civil money penalty. The firm also agreed to review and improve its quality control policies and procedures to provide reasonable assurance that its personnel act with integrity in connection with internal training, and to report its compliance to the PCAOB. Hogeboom was censured, permanently barred from being an associated person of a registered public accounting firm, and agreed to pay a $150,000 civil money penalty.

Attorneys for Hogenboom and KPMG Netherlands did not immediately respond to requests for comment.

Deloitte Indonesia and Philippines

In the cases involving Deloitte’s member firms in Indonesia and the Philippines, the investigations also uncovered problems with exam cheating and answer sharing on training tests and coverups at high levels of the firms.

The PCAOB announced three settled disciplinary orders sanctioning Imelda & Raken (Deloitte Indonesia), Navarro Amper & Co. (Deloitte Philippines), and the Philippines firm’s former national professional practice director, Wilfredo Baltazar, for violating PCAOB rules and quality control standards relating to the firms’ internal training programs and monitoring of their systems of quality control that led to pervasive cheating.

From 2017 to 2019, the PCAOB said Deloitte Philippines’s audit partners and other personnel engaged in widespread answer sharing — either by providing answers or using answers — or received answers without reporting such sharing in connection with tests for mandatory firm training courses. On at least six occasions, Baltazar, who was the partner who was supposed to be responsible for e-learning compliance, shared answers to training assessments with other audit partners at the firm. (He has since left the firm.) Attorneys for Baltazar and the firms did not immediately respond to requests for comment.

From 2021 to 2023, over 200 professionals at Deloitte Indonesia engaged in answer sharing. The firm’s failure to detect and deter improper answer sharing by its personnel happened despite numerous warnings from Deloitte Global and regional leadership that answer sharing was impermissible.

Without admitting or denying the findings, Deloitte Indonesia, Deloitte Philippines and Baltazar agreed to the PCAOB’s respective orders against them. Deloitte Indonesia and Deloitte Philippines were censured, and each agreed to pay a $1 million penalty. The firms also agreed to review and improve their quality control policies and procedures to provide reasonable assurance that their personnel act with integrity in connection with internal training, and to report their compliance to the PCAOB.

Baltazar was censured, barred from being an associated person of a registered public accounting firm with a right to apply to terminate his bar after three years, and agreed to pay a $10,000 civil money penalty that reflects his financial resources. The PCAOB said it would have imposed a civil money penalty of $50,000 if it hadn’t considered his financial resources.

“Today’s orders demonstrate that an inadequate tone at the top, particularly with regard to issues of integrity and personnel management, can permeate all levels of a firm,” said Robert Rice, director of the PCAOB’s Division of Enforcement and Investigations, in a statement.

Since 2021, the PCAOB has sanctioned nine registered firms for quality control deficiencies related to the inappropriate sharing of answers on internal training exams.

“I want to be very clear: The PCAOB will not tolerate exam cheating, nor any other unethical behavior period,” said Williams. “Impaired ethics erode trust and threaten the investor confidence our system relies on. The PCAOB will take action to hold firms accountable when they fail to enforce culture, honesty and integrity.” 

Accounting Today asked Williams during the press conference whether the new standards proposed Tuesday for firm reporting and engagement metrics would have ferreted out such conduct.

“The goal of those proposals is to provide consistent information about audit firms in their audit engagements to help bolster confidence in our markets and strengthen oversight and empower investors and audit committees as they make informed decisions in order to help drive product quality forward,” Williams responded. “As I noted yesterday, I look forward to reviewing all the input we receive and encourage anyone who’s interested to submit a comment.”

Record levels of enforcement activity

The PCAOB has been cracking down on firms and auditors alike, according to a report released Wednesday by Cornerstone Research. 

The report found the PCAOB publicly disclosed 46 total enforcement actions, 37 of which related to the performance of an audit (auditing actions), an increase of more than 28% from 2022. Twenty-nine of the 37 auditing actions were concluded in the second half of 2023, matching the total number of auditing actions for 2022. Monetary penalties totaled $19.7 million, nearly doubling the previous record of approximately $10.5 million in 2022.

“There was a notable shift in the types of respondents in 2023 auditing actions,” said Jean-Philippe Poissant, who co-authored the  report and is co-head of Cornerstone Research’s accounting practice, in a statement. “In the past, two-thirds of respondents were individuals. Yet in 2023, two-thirds of respondents were firms. This shift was the result of a substantial jump in the number of auditing actions that only involved firms.”

The great majority — 79% — of the auditing actions in 2023 included alleged violations of auditing standards. Some 60% of those actions included additional allegations related to ethics and independence standards, quality control standards or both. For the first time, the PCAOB included allegations related to critical audit matters, or CAMs, in enforcement actions, with three actions including such allegations.

Of the $19.7 million in total monetary penalties in 2023, $18.8 million were imposed on firms, nearly twice the $9.5 million imposed on firms in 2022. Some 15% of the firm respondents were required to obtain an independent consultant.

Many of the penalties involve firms outside the U.S., as in the cases today involving Big Four affiliates in the Netherlands, Indonesia and the Philippines.

“More than two-thirds of the PCAOB’s record-setting monetary penalties were imposed on non-U.S. respondents in 2023, even though non-U.S. respondents accounted for less than half of the auditing actions during the year,” said Russell Molter, a principal at Cornerstone Research and report co-author, in a statement. 

The number of respondents in auditing actions totaled 53, a 23% increase over 2022, according to the report. The PCAOB settled four actions involving three China-based firms after securing access to inspect and investigate Chinese firms in 2022.

For the second year in a row, there were no enforcement actions related to a company’s disclosure of a material weakness in internal control. In contrast, SEC enforcement actions that referred to an announced restatement and/or material weakness in internal control reached their highest levels in recent years.

Violations of quality control standards were alleged in more than half of the actions involving firm respondents. Nearly 80% of the total monetary penalties in 2023 were assessed on just six defendants. The proportion of individual respondents who were barred increased from 64% in 2022 to 85% in 2023.

Enforcement activity appears to be on course for another record-setting year in 2024.

“This board set a goal to strengthen PCAOB enforcement, and we are doing just that,” said Williams during Wednesday’s press conference. “As of today, the PCAOB has imposed $34 million in penalties this year alone, and it’s only April. We set a record in 2022. We broke that record in 2023, and we are breaking it again today.”

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IRS Direct File reportedly ending next year

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The Trump administration is reportedly making plans to shut down the Internal Revenue Service’s Direct File free tax prep system next year.

The Associated Press reported Wednesday about the plans, which come amid widespread layoffs at the IRS. Elon Musk had posted on X in February that he had “deleted” 18F, a digital services team that helped build the Direct File system ahead of its initial pilot test last year. The IRS staff who had taken over development of the program were reportedly told last month to end their work on developing the system for next tax season. The U.S. Digital Service that also worked on developing Direct File has been renamed the U.S. DOGE Service after a takeover by Musk’s Department of Government Efficiency. 

Senate Finance Committee ranking member Ron Wyden, D-Oregon, blamed the move on lobbying by the tax prep software industry, as well as Treasury Secretary Scott Bessent.

“No one should have to pay huge fees just to file their taxes,” Wyden said in a statement Wednesday. “Direct File was a massive success, saving taxpayers millions in fees, saving them time and cutting out an unnecessary middleman that took money out of Americans’ pockets for no good reason,” Wyden said. “Trump and Secretary Bessent are robbing regular American families to pay back lobbyists that spend millions to make tax filing more expensive and more difficult.”

The Direct File system expanded from pilot tests in 12 states last year to 25 states this year, aided by the nonprofit group Code for America and its FileYourStateTaxes project.  A survey of over 1,000 Direct File and FileYourStateTaxes users reportedly found that 98% of respondents said they were either satisfied or very satisfied with the programs, according to the Federal News Network. Last year, former IRS commissioner Danny Werfel announced plans to make the Direct File program permanent, but the program has been repeatedly attacked by Republican lawmakers in Congress and the tax prep industry.

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S corporations bring tax advantages with caveats

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Electing to establish an S corporation could unlock the tax benefits enjoyed by millions of small business owners — as long as financial advisors and clients avoid some pitfalls.

Those include the ramifications of filing for deductions on the pass-through entity’s so-called qualified business income, the requirement of one single class of stock for the company’s equity and the implications of the S corp holding real estate, according to Tal Binder, CEO of Gelt. Binder’s firm works with high net worth clients and business owners through certified public accountants and artificial intelligence-powered tax services.

The caveats of S corp classification

For advisors and their clients, the S corp entity classification — named after Subchapter S of the Internal Revenue Code as a “Subchapter S corporation” or a “Small Business Corporation” — represents an opportunity with some tradeoffs. 

“Instead of thinking about it as just a tax structure, think about it as a tool — it’s a tool in the toolbox when you’re doing tax planning or tax strategy,” Binder said in an interview. “The S corp has a lot of tax benefits. It just becomes more complicated as you dig into the specifics and the numbers.”

Business owners and their advisors have likely run into those challenges in any number of situations — Binder noted that professional services firms such as a small wealth management company usually make the best candidates to be S corporations. The entity classifications of registered investment advisory firms affect industry M&A deals, and S corporations come in handy for clients who, for example, may be elite college athletes seeking tax savings on their “name, image and likeness” payments.

Most service-based businesses do elect to be S corporations, according to Miklos Ringbauer, the founder of Los Angeles-based tax firm MiklosCPA. However, state tax rules can alter the equation significantly, he noted, citing how California charges a flat annual duty of $800 per year for limited liability partnerships regardless of their profit, compared with a 1.5% rate on the net income generated by S corporations.

“You have to understand the state rules first — before you look at tax structure,” Ringbauer said in an interview. “Where we shine as tax professionals is providing that value, that guidance to the taxpayers, the investors to make the right choices, to help them to decide what is the best, optimized tax structure for their operation.”

READ MORE: 24 tax tips for self-employed clients

History to of S corporations

And tax pros have been doing so for decades.

Almost 70 years ago, small business owners gained the exemption from double taxation on corporate income flowing to their personal returns to the IRS, so long as they are domestic corporations, maintain a limited number and type of shareholders and have one class of stock. Today, there are about 5 million S corporations, according to the S Corporation Association, a business association and advocacy group. Before a recommendation by President Dwight Eisenhower’s Republican administration passed through Congress with the support of Harry Byrd, a Democrat from Virginia who was chairman of the Senate Finance Committee, small business owners faced “an oppressive level of tax,” a history on the group’s website stated.

“How significant was the creation of subchapter S?” it asked. “Consider that in 1958, the top income tax rate was 52% for corporations and 91% for individuals. That means dividends paid by a C-corporation to a high-income shareholder faced an effective tax rate of 96% Even a shareholder with median family income faced an effective federal tax of more than 60%.”

READ MORE: Business entities affect taxes and M&A — how RIAs weigh the choice

Potential downsides to S corp entities

The savings to the owners of S corporations add up in the right circumstances, but laws and individual tax implications could call for a sole proprietorship, partnership, limited liability company or a C corporation as a better fit.

In the case of a pass-through business tapping into the deduction for qualified business income that started with the Tax Cuts and Jobs Act in 2017, the S corporation could be a limiting factor based on the fact that the owner’s direct W-2 salary is likely to be lower in that situation, Binder noted. For some businesses that have a 401(k) or profit-sharing plan, the S corporation owners’ maximum tax-advantaged contribution can only rise to the level of their personal salary.

As another caveat to the S corporation, certain RIAs launch when advisors team up, but one of the advisors may bring a much more substantial base of clients to the business. That would suggest that one of the owners should have more control of the firm than the other, even if they each own half of the RIA, Binder said. They couldn’t set up the business that way as an S corporation that can only have one class of stock, though.  

“It doesn’t make sense, because you started it and built it for many, many years,” he said. “That might disqualify the S corp, so it’s not best in those cases.”

He brought up the additional problematic use of the structure with the idea of an S corporation RIA holding the building housing the business in the same entity, which is “the right approach” from the perspective of the general tax savings for real estate assets but “in the vast majority of cases not beneficial to you,” Binder said. The real estate could bring higher payments to Uncle Sam for an S corporation, based on the rules for tax basis and mortgage financing.

An LLC or LLP structure also provides more flexibility than an S corporation for transferring the real estate asset out of the business and into the client’s personal holdings without generating a taxable event, Ringbauer noted. From the perspective of a startup company that must take out heavy loans for capital expenses while incurring business losses in the first few years after launch, the S corporation could further cap the level of deductions — far below the amount available to an LLC or LLP, he said.

READ MORE: 25 tax tips for RIA M&A deals and other small business sales

Don’t go it alone on business-entity decisions

Unfortunately, many business owners attempt to choose their entity based on a simple online search or even a question to a public chatbot, according to Ringbauer.

“There’s a lot of incorrect information out there, which would result in incorrect guidance on how to treat stuff,” he said. “It’s a personal preference, but if it is properly guided, then the individuals who are starting the business will be able to make the right choice.”

In that vein, advisors who might otherwise avoid any mention of tax-related topics that fall outside their expertise should engage a local certified public accountant or enrolled agent “just to make sure that everything is correct” before the client fills out IRS Form 2553 electing to be treated as an S corporation, Binder said.

“I’d highly recommend the wealth manager to partner with a competent tax professional or CPA firm,” he said.

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FAF reports on standard-setting activity at FASB and GASB

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The Financial Accounting Foundation released its annual report Wednesday, offering an overview of its activities in 2024, especially at the two standard-setters it oversees, the Financial Accounting Standards Board and the Governmental Accounting Standards Board.

The report is available as both a downloadable PDF file and a digital, mobile-friendly version on the FAF website.

The report includes perspectives from leaders of the FAF, FASB and GASB, along with snapshots of how the teams keep stakeholders engaged. It also lists some of the highlights of 2024 FASB and GASB standards and exposure drafts on FASB projects such as recognition of intangibles and financial key performance indicators for business entities, as well as GASB exposure drafts on subsequent events and infrastructure assets. There’s also an update on the FAF’s strategic plan, plus a complete 2024 management’s discussion and analysis along with audited financial statements.

FAF executive director John Auchincloss and FAF chair Edward Bernard noted this will be their final annual report as Auchincloss will retire as FAF’s executive director in September, and  Bernard’s’s term as chair of the FAF board of trustees concludes in December. 

“When we assumed these roles, we inherited an organization that had a well-deserved reputation for excellence due to the experience, intelligence, and commitment of every single employee to our standard-setting mission,” they wrote. “We have been honored to serve in our roles and firmly believe in the organization’s bright future under new leadership.”

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