Chapter 1 of 415–25% of exam

Area I: Ethics, Professional Responsibilities and General Principles

This area covers the rules that decide whether a CPA may take and keep an engagement: independence under the AICPA Code, SEC and PCAOB rules, GAO and Department of Labor requirements, professional skepticism, engagement terms, documentation, communications with governance, and the firm's quality management. Many questions depend on the entity type, so read whether the stem says issuer, nonissuer, government, or employee benefit plan before answering.

Independence under the AICPA Code

The AICPA Code sorts independence problems into threats: adverse interest, advocacy, familiarity, management participation, self-interest, self-review, and undue influence. A member identifies threats, evaluates their significance, and applies safeguards, but some relationships are impairments that no safeguard can fix. The most tested are direct financial interests, unpaid fees, loans, and nonattest services where management does not take responsibility. Fee arrangements and the handling of confidential client information fall under separate rules in the Code.

Direct financial interests
Any direct financial interest, or a material indirect one, held by a covered member during the period of the professional engagement impairs independence, and materiality does not matter for a direct interest. An inherited or gifted interest must be disposed of within 30 days after the member gains the right to dispose of it.
AICPA Code ET 1.240.010, 1.240.020
Unpaid fees
Unpaid fees that are significant to the member and relate to services provided more than one year before the current-year report is issued impair independence, and a note receivable for those fees counts as unpaid.
AICPA Code ET 1.230.010
Nonattest services
Management must assume all management responsibilities, designate a person with suitable skill, knowledge, or experience to oversee the service, and accept responsibility for the results. The understanding must be documented in writing before the work begins.
AICPA Code ET 1.295.040
Contingent fees and commissions
Contingent fees and commissions are prohibited for clients receiving an audit, review, examination of prospective information, or a compilation a third party will use when the report does not disclose a lack of independence. Contingent fees for preparing tax returns are prohibited for every client.
AICPA Code ET 1.510.001, 1.520.001
Third-party service providers
Before sharing confidential client information with an outside provider, including technology or AI tools run by a vendor, the member needs either the client's specific consent or a confidentiality contract with reasonable assurance about the provider's safeguards.
AICPA Code ET 1.700.040

SEC, PCAOB, GAO and DOL requirements

Auditors of issuers follow SEC Rule 2-01 and PCAOB rules, which are stricter than the AICPA Code in several places. The SEC lists non-audit services that impair independence, requires partner rotation, and imposes a cooling-off period before audit team members join the client in financial reporting roles. Government auditors follow the Yellow Book, and plan auditors must meet the Department of Labor's independence bulletin. Know which rule set applies to which client.

Prohibited non-audit services
Bookkeeping, financial information systems design, appraisal and valuation, actuarial, internal audit outsourcing, management functions, human resources, broker-dealer, legal, and expert services unrelated to the audit impair an issuer auditor's independence, subject to the rule's stated conditions.
17 CFR 210.2-01(c)(4)
Partner rotation
The lead partner and engagement quality reviewer may serve five consecutive years, followed by a five-year time-out. Other audit partners covered by the rule may serve seven years, followed by a two-year time-out.
17 CFR 210.2-01(c)(6)
Cooling-off and pre-approval
A former audit team member may not take a financial reporting oversight role at the issuer within the one-year cooling-off period. All audit and non-audit services require audit committee pre-approval, with a narrow de minimis exception.
17 CFR 210.2-01(c)(2)(iii)(B), (c)(7)
Employee benefit plans
The DOL does not recognize an accountant as independent if the accountant or the firm held a direct or material indirect interest in the plan or its sponsor, had certain roles such as officer or director, or maintains the plan's financial records.
29 CFR 2509.2022-01
Yellow Book competence
GAGAS auditors need 80 hours of CPE every two years, with 24 hours related to government and at least 20 hours each year, and an audit organization needs an external peer review at least every three years.
GAO Government Auditing Standards, 2024 Revision, paras. 4.16-4.17, 5.179

Skepticism, engagement types and terms

Professional skepticism is an attitude, and professional judgment is the application of training and experience to decisions; standards also name specific biases that undermine both. The level of assurance separates the engagements: audits and examinations give reasonable assurance, reviews give limited assurance, and compilations and preparation engagements give none. Before accepting an audit, the auditor confirms the preconditions, agrees on terms in writing, and makes inquiries of any predecessor auditor.

Skepticism and bias
Skepticism combines a questioning mind, alertness to possible misstatement, and critical assessment of evidence. Recognized biases include automation, anchoring, confirmation, availability, overconfidence, and groupthink.
AU-C 200.14; AU-C 220.A37
Preconditions for an audit
Management must use an acceptable financial reporting framework and acknowledge its responsibility for the financial statements, for internal control, and for giving the auditor access. Without that agreement, the auditor should not accept the engagement unless law requires it.
AU-C 210.06-.08
Changing the engagement
A move to a lower level of service needs reasonable justification. A change of circumstances or a misunderstanding may qualify, but a request made to avoid a modified opinion does not.
AU-C 210.17-.20, .A40-.A42
Predecessor auditor
Before accepting an initial audit, the auditor asks management to authorize the predecessor to respond. If management refuses, the auditor considers the reasons before deciding whether to accept.
AU-C 210.11-.15

Documentation, communications and quality management

Audit documentation must let an experienced auditor with no previous connection to the engagement understand the work, the findings, and the significant judgments. Deadlines for assembling and retaining documentation differ between nonissuer and issuer audits. Communications with those charged with governance cover the planned scope and timing of the audit, significant findings, and internal control deficiencies. Quality management standards place responsibility on the firm and on the engagement partner.

Nonissuer documentation deadlines
Assemble the final audit file within 60 days after the report release date and retain it for at least five years from that date.
AU-C 230.16-.17
Deficiency communications
For nonissuers, significant deficiencies and material weaknesses go in writing to those charged with governance within 60 days after the report release date, including ones already fixed. For issuers, they go in writing before the auditor's report is issued.
AU-C 265.11-.13; PCAOB AS 1305.04
Scope and timing
The auditor gives governance an overview of the planned scope and timing, including significant risks, without making detailed procedures predictable.
AU-C 260.11, .A24
System of quality management
SQMS No. 1 organizes a firm's system into eight components, and the system is evaluated at least annually. Firms had to design and implement their systems by December 15, 2025.
SQMS No. 1 (QM sec. 10) paras. .07, .10, .14
Engagement quality review
The engagement partner may not release the report until the reviewer confirms the review is complete. U.S. standards require policies on a former partner becoming the reviewer but set no fixed cooling-off period.
SQMS No. 2 (QM sec. 20) paras. .19, .24

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