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Why is Ethics in Accounting Important?

July 20, 2023
Female accountant using computer to generate financial reports.

Accounting professionals hold critical positions in the businesses and organizations they support, and their actions can impact the lives of millions of people around the world.

In 2001, a series of bad business decisions and unethical accounting practices led energy giant Enron to bankruptcy, costing investors $74 billion.1 The financial chaos of the Great Recession later dwarfed the Enron debacle, but it was the biggest corporate bankruptcy up to that time. Enron focused public and regulatory attention on accounting ethics and professional conduct and triggered the creation of the Sarbanes-Oxley (SOX). Signed into law in 2002, Sarbanes-Oxley is a comprehensive set of financial and auditing regulations for public companies.

Both state and federal government agencies are involved in regulating the professional conduct of accountants, and accounting industry regulations have evolved as changes in the business environment have created new ethical conflicts. In addition to laws and licensing requirements, industry-organized governing bodies formulate and promote professional competence and ethics.

A Brief History of the Accounting Profession

Sometimes called "the language of business," accounting is an ancient activity. The accounting system that used marks to keep track of inventory five millennia ago contributed to the development of written language.2

In the 19th century, Queen Victoria created the profession of chartered accounting with a royal charter to the Scottish Institute of Accountants. British accountants came to the U.S. to monitor British investments, and many settled here. In 1887, they formed the first national association, the American Association of Public Accountants, which later became the American Institute of Certified Public Accountants (AICPA).2

The Great Depression Highlights Accounting Ethics

Unethical practices led to the stock market crash of 1929 and triggered a global financial meltdown that lasted more than a decade. Until then, there were no government standards for accounting ethics and practices. The U.S. Congress created the Securities and Exchange Commission in 1934 to help set official standards for financial disclosure, accounting and reporting.2

FASB Chartered in 1973 to Champion GAAP in Financial Statements

FASB stands for the Financial Accounting Standards Board. It is an independent organization empowered by the SEC and recognized by the AICPA and state licensing boards, among others. FASB sets and interprets standards for generally accepted accounting principles (GAAP) in the financial statements of public companies and non-profit organizations. The FASB is allied with similar U.S. governing bodies and is collaborating with the International Accounting Standards Board to improve international comparability and transparency in financial statements.3

Twenty-First-Century Regulatory Developments for the Accounting Profession

As noted, Congress enacted Sarbanes-Oxley (2002) to enforce higher standards of business ethics in response to Enron and other scandals. It amended and expanded several outdated laws, including the 1934 Securities and Exchange Act and the 1940 Investment Advisers Act. In addition to creating new accounting protocols, SOX created protection for corporate whistleblowers, established penalties for noncompliance and assigned responsibility for compliance to chief executive and financial officers.4

The Lehman Brothers implosion was the largest bankruptcy in U. S. history. It signaled the end of the low-cost debt party that led to the U.S. housing bubble and the start of the Great Recession of 2008. The worst financial crisis since the great depression drained $9.8 trillion from American pocketbooks and again highlighted the need for high standards of ethical behavior and professional judgment in the accounting profession.5

One of the ways Congress responded to the crisis was with the Dodd-Frank Wall Street Reform and Consumer Protection Act in 2010. At the time, the AICPA observed that the law would most impact CPAs working in the financial industry. However, AICPA noted sweeping new regulations for professional accountants working across fields and roles and found both challenges and opportunities for further professional services in the law's provisions. The law has since been partially rescinded, and its provisions are still in flux.6,7

State and Industry Standards Require Teaching Students Accounting Ethics

In 1916, the predecessor of the AICPA published its first model licensing law to regulate the practice of public accountancy. In 1984, the National Association of State Boards of Accountancy (NASBA) began working with the AICPA to update the Uniform Accountancy Act (UAA). NASBA administers the CPA exam for all states and jurisdictions.8,9

NASBA and AICPA regularly refresh the UAA to reflect changes in accounting practice. In 2020, they updated the model to reflect requirements for teaching ethics that several states had adopted in the wake of the Enron, Worldcom and Tyco scandals. 10

Rule 5.1 of the UAA requires CPA applicants to have received an accounting ethics education that "provides students with a framework of ethical reasoning, professional values and attitudes for exercising professional skepticism and other behavior that is in the best interest of the public and profession."11

What is Ethics in Accounting?

Just as in any other human endeavor, ethics in accounting refers to a set of moral principles that guide a person's actions. In the case of a professional accountant, the ethical issues revolve around concerns for honesty and fairness in financial reporting, maintaining client confidentiality, and developing professional judgment to handle ethical dilemmas effectively.

Code of Ethics In Accounting

The applicable code of professional ethics for an accountant depends on where the client does business. For work in the United States, the AICPA code sets the standard for ethical codes in accounting and auditing, while individual companies may also have their own regulations.

The International Federation of Accountants code, formulated by the International Ethics Standards Board for Accountants (IESBA), is the international standard. It can help guide a U.S.-based accounting professional performing work for a multinational client, although the country-specific guidance and regulations would take precedence.

The AICPA is a member of the International Federation of Accountants, and the accounting ethics codes articulated by AICPA and IESBA are similar, although there are substantive and formatting differences.12

IESBA Principles

Briefly, the IESBA framework uses a five-point conceptual framework of fundamental principles that encompasses these key areas of focus:

  • Professional competence and due care
  • Integrity
  • Objectivity
  • Confidentiality
  • Professional behavior
  • Independence13

The AICPA Code of Professional Conduct enumerates seven principles, which it then interprets in relation to all members of the organization, whether they are in public practice, in business, retired or unemployed. Those principles include:

AICPA Principles

The AICPA has developed professional standards for ethical behavior in accounting. According to the AICPA Code of Professional Conduct, professionals in this field must consider these five factors when making ethical decisions.14

1. Integrity

Honesty and trustworthiness are essential characteristics of ethical accountants. These professionals must uphold client confidentiality while being candid about this principle's limitations. Accountants are ethically obligated to keep every client’s data private but must comply with legal requirements and subpoenas. For example, accountants often need to disclose client information to an external authority like the Internal Revenue Service.14

Ethical accountants don’t use client information for personal gain. That means accountants can’t engage in deceptive or self-serving behavior, such as using insider knowledge about a corporate client’s finances to buy or sell stocks.14

2. Responsibilities

The AICPA requires accountants to act professionally when serving clients. Accountants have an ethical duty to work together to uphold the field’s public reputation. For instance, they should collaborate with their peers to improve accounting practices and self-govern by reporting the unethical behavior of other accountants.14

3. The Public Interest

Accountants have a responsibility to act in the best interests of the public, including credit grantors, the government, investors, and the wider business community. They should also avoid engaging in unethical behavior that could cause the public to lose faith in the accounting profession.14

Serving vulnerable communities is another way accountants can act in the public interest. Research shows that accountants can use their statistical skills to raise awareness of social issues like homelessness and promote more equitable tax systems.15

4. Objectivity and Independence

Accountants must remain fair and unbiased when conducting professional services like auditing records and filing taxes. Additionally, ethical accountants should avoid conflicts of interest that may cause them to be less objective when serving clients.14 Examples of behaviors that could compromise an accountant’s impartiality include accepting expensive gifts from clients and not reporting illegal business operations to protect a favorite client.16

5. Due Care

Finally, the AICPA requires accountants to always deliver the highest-quality services. Ethical accountants can ensure professional competence by continually educating themselves about new developments in the field.14

Examples of Ethical Behavior in the Accounting Profession

Accountants can engage in many types of ethical behavior, such as the following.

Maintaining Strict Data Confidentiality

Accountants are frequently privy to sensitive client data, such as employee bank account numbers and unannounced merger plans. The Gramm-Leach-Bliley Act requires accounting professionals to take steps to keep this information safe from cybercriminals, like:17

  • Backing up data in a secure location
  • Installing antivirus software and firewalls on work devices
  • Encrypting files with confidential data
  • Reporting data theft to the IRS

Immediately Disclosing Noncompliant Activities

Members of the accounting profession may discover illegal business practices as they perform services for their employers or clients. Examples of noncompliant activities include fraud, money laundering, and policies that endanger public health.18

The International Ethics Standards Board for Accountants requires members to try to resolve these ethical issues internally. For instance, an accountant could report fraud to a manager, an executive, or the company board. If the client refuses to fix the problem, the accountant may disclose illegal activities to an appropriate authority if they believe those activities threaten the public interest.18

Real-World Ethical Dilemmas in Accounting

Many rules and professional standards govern accounting ethics, but professionals still face ethical dilemmas that don’t have an obvious solution. In these cases, accountants must make decisions based on their own moral judgment. Famous examples of accounting predicaments include the following.

Enron & Arthur Anderson

As previously mentioned, energy company Enron employed unethical accounting principles and was swiftly punished. 5,600 Enron employees lost their jobs, along with billions of dollars in retirement funds.1,19 Enron's auditor, the accounting firm Arthur Andersen, was also decimated by the scandal. Andersen had been a "Big Five" firm with over 85,000 global employees before it was dismantled because it facilitated the unethical behavior Enron used to hide its financial losses.20

LuxLeaks Scandal

Between 2002 and 2012, PricewaterhouseCoopers (PwC) accounting professionals helped hundreds of multinational corporations funnel hundreds of billions of dollars through the small country of Luxembourg. They used various strategies to help their clients significantly reduce or eliminate their tax burden. In 2012, companies like Ikea and Pepsi channeled $95 billion in profits through Luxembourg and paid only 1.1% in taxes.21

In 2014, PwC auditor Antoine Deltour leaked confidential documents from his employer that revealed the tax-avoidance schemes. This scandal became known as LuxLeaks and led to international tax law reform. Initially, Deltour was sentenced to six months in jail for theft, but his conviction was later overturned under whistleblower protection laws.22

WorldCom Scandal

In the early 2000s, the telecommunications company WorldCom used illegal accounting tactics to exaggerate its profits and deceive investors. Several WorldCom accountants, including Cynthia Cooper, discovered the fraud when they noticed strange errors in the company's financial records. Cooper decided to reveal this ethics violation to an external auditor and the company's board, and the ensuing scandal caused WorldCom to file for bankruptcy in 2002.23

Build Your Career With A Solid Foundation in Accounting Ethics

The accounting curriculum at Yeshiva University's Sy Syms School of Business is deeply grounded in meaningful ethical values. In addition to specific coursework on accounting ethics, ethical principles thread throughout the accounting courses that make up the online MS in Accounting . Prepare for your CPA exam and a leadership position in the dynamic world of professional accounting with the Sy Syms School of Business.

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