TRUSTEES WHERE THERE IS AN AUDIT CONNECTION

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TRUSTEES WHERE THERE IS AN AUDIT CONNECTION 

Steven R. Firer 

1. Introduction 

1.1. The objective of this opinion is to determine if it is acceptable within the confines of the current regulatory environment in South Africa for a registered auditor who is a partner/director in an audit firm to accept an appointment as a trustee of a trust in a situation where trust has an investment in a company that is audited by the audit firm. 

1.2. The Trust Property Control Act No. 57 of 1988 (TPCA) forms the framework in which trusts operate. All decisions and actions taken by the trustees must be made with reference to the trust deed and the TPCA. 

1.3. A trust is a legal entity which is created to hold assets for the benefit of certain persons or entities. 

1.4. A trust’s constitutional document is a trust instrument which defines the framework in which the trust must operate, including its powers and limitations. 

1.5. The trust instrument must clearly establish a separation between the right to control the trust assets, which is held by the trustees, and the right (whether vested or contingent) to benefit from the trust assets, which is held by the beneficiaries. 

2 

1.5.1. Trusts are described according to when they are created. For example, the Inter Vivos (Living) Trust: This is a trust created during the founder’s lifetime. It is established by a trust deed which sets out who the founder, trustees and beneficiaries are, defines powers and duties of trustees and how and when the trust is to be wound up. The founder may also be co-beneficiary and /or trustee. The founder usually donates assets to the trust. 

1.5.2. Trusts are described according to the rights given to beneficiaries, for example the Discretionary Trust: This type of trust gives the trustee(s) discretionary powers as to how and when to allocate the income or capital of the trust to the beneficiaries or a Vested (Vesting) Trust: Here the trustees are not given any discretion in the deed, and the beneficiaries and their benefit(s) are fixed and predetermined. 

3 

1.6. Whatever the type of trust it is unequivocally crucial to recognize that the trust assets belong to the trust and not the trustees. Trustees are prohibited from using the trust assets for their own benefit, unless the trust deed specifically authorises such action.1 

1 Section 12 of the Trust Property Control Act 57 of 1988 states that the ‘Trust property shall not form part of the personal estate of the trustee except in so far as he as the trust beneficiary is entitled to the trust property.’ 

2 See http://www.saica.co.za/faqs/showAnswer.asp?FaqQuestionId=6&FaqSectionId=3&FaqSubSectionId=7, accessed 12 August 2017. 

1.6.1. An example of this would be where the trust owns residential property. Assume that three trustees are appointed, two of them a married couple and the other their attorney. The trust deed allows for the couple to live in the house but the trust deed could specify that a market related rental is to be charged so that income accrues for the benefit of all beneficiaries which includes the children of the married couple. 

1.7. Because of the need to be seen to be independent in any reporting assignment, in fact and in appearance, a professional accountant should avoid the appointment as a trustee in any situation where the absence of a conflict of interest cannot be clearly demonstrated.2 This issue will be dealt with in detail later in this opinion. 

4 

1.8. Where a professional accountant3 acting in his or her capacity as a registered auditor conducts services other than those known as ‘assurance services’4 those services are known as ‘non-assurance services5’. 

3 A professional accountant registered as such in terms of the Auditing Profession Act 2005. 

4 Audit engagements and review engagements, which are assurance engagements in which a registered auditor expresses a conclusion on financial statements. 

5 These engagements provided registered auditors include accounting and book-keeping services, tax services and management consulting services - these fall outside assurance engagements. 

6 Code of Professional Conduct [Code](Independent Regulatory Board for Auditors) para 290.102. 

7 Code of Professional Conduct (Independent Regulatory Board for Auditors) para 290.103. 

1.8.1. For example, where a partner in an audit firm acts as a trustee of a trust its accepted that such a service is one of non-assurance. 

1.8.2. However, such a non-assurance service is one that is not provided to an audit client, the service is provided directly to a trust. 

2. Financial Interests 

2.1. Holding a financial interest in an audit client may create a self-interest threat.6 

2.2. The determination of whether such financial interests are direct or indirect will depend upon whether the beneficial owner has control over the investment vehicle or the ability to influence its investment decisions.7 

5 

2.3. When control over the investment vehicle or the ability to influence investment decisions exists, this Code defines that financial interest to be a direct financial interest. Conversely, when the beneficial owner of the financial interest has no control over the investment vehicle or ability to influence its investment decisions, this Code defines that financial interest to be an indirect financial interest. 

2.4. Financial interests may be held through an intermediary (e.g. a collective investment vehicle, estate or trust).8 Such a statement in the code suggests that trustees have a financial interest in the companies in which the trusts they are trustees of, hold investments. The default position in the Code is that auditors should not hold investments in audit clients. Auditors are for these purposes defined as the audit firm, any partner in the audit firm, a person in a position to influence the conduct and outcome of the audit or an immediate family member of such a person. 

8 Ibid. 

6 

2.5. It is my view that trustees do not have a financial interest in the investments (for example a company) owned by the trust. This opinion will demonstrate as stated in 1.7 that there is no conflict of interest where a registered auditor who is a partner/director in an audit firm accepts an appointment as a trustee of a trust in a situation where trust has an investment in a company that is audited by the audit firm. 

7 

2.6. A financial interest means an interest that could result in directly or indirectly receiving a pecuniary9 gain or sustaining a pecuniary loss as a result of ownership or interest in a business entity, or as a result of salary, gratuity, or other compensation or remuneration from any person. 

9 Monetary. 

10 Section 22 of the TPCA states ‘A trustee shall in respect of the execution of his official duties be entitled to such remuneration as provided for in the trust instrument or, where no such provision is made, to a reasonable remuneration, which shall in the event of a dispute be fixed by the Master.’ 

2.7. A trustee is entitled to remuneration as provided for in the trust deed. If no remuneration is provided for in the trust deed, the trustee will still be entitled to reasonable remuneration for the services to be rendered by the trustee.10 

2.8. Therefore, it is self-evident that a trustee does not hold a financial interest of any type in the trust’s investment as the trustee does not receive any fees or remuneration from the company. This again is obvious as the trustees do now own any interest in the company. 

3. Control 

3.1. The definition of a trust is premised on the principle of control rather than ownership. The trustee controls but does not own the property held by a trust. Such control must however be contextualized in terms of administrative control rather than substantive control in regard to the investment owned by the trust. Substantive control is when the holder of that right has the practical ability to exercise control over the investment on a day to day basis. 8 

3.2. The Code does not define the term ‘control’. However, there are various financial reporting sources which articulate what the meaning of control is. 

3.3. When a trustee determines whether he or she has control over the trust’s investment they must consider all relevant facts and circumstances when assessing whether it controls the investment. An trustee controls the trust property when the trustee is exposed, or has rights, to variable returns from its involvement with the investee and has the ability to affect those returns through its power over the trust property. 

3.4. In my opinion, the following must be considered when assessing whether control exists: 

3.4.1. The trustee must have power over the trust property, i.e. the trustee has existing rights that give him or her the ability to direct the relevant activities (the activities that significantly affect the trust property returns) exposure, or rights, to variable returns from its involvement with the trust property the ability to use its power over the trust property to affect the amount of the trust property’s returns. 

3.5. It is submitted that the trustee does not have control in the manner in which the ‘auditor’ trustee would have to have if he or she would be forbidden by the Code 9 

not to accept such a non-assurance engagement under the circumstances as set out in 1.1. 

3.6. Trustees do not have any substantive control over the investment. It is the trust rather than the trustees that is exposed to the risk that the investment will generate profits that would eventually be distributed to the beneficiaries. The trustees have no control or ability to influence the manner in which the company conducts its business. 10 

3.7. Section 66 (1) of the Companies Act 2008 states: 

‘The business and affairs of a company must be managed by or under the direction of its board, which has the authority to exercise all of the powers and perform any of the functions of the company.’ 

3.8. The company is separately run but it's board of directors and the trustees of the trust cannot interfere unless its conducting company business in terms shareholders resolutions. The day to day business of the company is conducted by the directors and not the trustees who would obviously act as shareholders on the trusts behalf. 

3.9. The trustees have in essence protective rights which are designed to protect the rights of the beneficiaries. The trustees cannot direct the activities of the company. The trustees are also limited in their powers in terms of the trust deed. 

3.10. Crucial Question 

3.10.1. The crucial question that needs to be answered is whether the trustees as the individuals who control the trust have the power as set out in the Companies Act 2008 to appoint the auditor of the company owned by the trust and therefore potentially interfere with the audit? 11 

3.10.2. More often than not the administration of the trust is undertaken by more than one trustee. Its trite law that co trustees must always act jointly in the performance of their duties and the exercise of their powers. This joint action rule is derived from the vesting of co-ownership in trust property in the co-trustees of an ownership trust. However as stated before the definition of a trust is premised on control not ownership. This rule renders the ‘independent’ trustee out of place in trust practice, each trustee is required to be involved in the administration of the trust if only at a minimum to fulfill the ‘watch dog’ function in respect of co-trustees. It follows therefore that each trustee of a trust must exhibit a minimum degree of independent judgment in trust affairs and may not follow the lead of the other trustees.11 

11 Section 9 (1) of the TPCA states ‘A trustee shall in the performance of his duties and the exercise of his powers act with the care, diligence and skill which can reasonably be expected of a person who manages the affairs of another’ 

3.10.3. Therefore, if the trustee appoints his own audit firm to audit the company clearly it would be incumbent on the other trustees to veto such an appointment. The auditor would have to be appointed unanimously by the trustees, making it impossible for an auditor who is the trustee of a trust who owns a company to appoint his or her own audit firm and therefore interfere with the audit. 12 

3.10.4. It is also crucial to note that the trustees on their own cannot change the trust deed. Which is an indicator that they cannot control the trust property at their own discretion. 13 

4. Conclusion 

4.1. I am of the opinion that there appears to be no barrier for an auditor to be appointed as a trustee of a trust which owns a company and where the auditor of such a company is an audit partner of the trustee. There are no questions regarding financial interest, there are no situations where the trustee has the ability to alone appoint the auditor nor influence the manner in which the company is run. The trustee’s major duties are administrative and must be conducted in terms of the trust deed which limit any powers the trustees may have. 

4.2. The safeguards are in place simply as a result of the regulatory framework, trust and company law practice. The trustee who is the audit partner of the company auditor has no relation whatsoever to the trustee auditor in the context of ethical and independence issues. 

 TRUSTEES WHERE THERE IS AN AUDIT CONNECTION 

By – Dr. Steven R. Firer 

Friday, 11 August 2017 

1. Introduction 

1.1. The objective of this opinion is to determine if it is acceptable within the confines of the current regulatory environment in South Africa for a registered auditor who is a partner/director in an audit firm to accept an appointment as a trustee of a trust in a situation where trust has an investment in a company that is audited by the audit firm. 

1.2. The Trust Property Control Act No. 57 of 1988 (TPCA) forms the framework in which trusts operate. All decisions and actions taken by the trustees must be made with reference to the trust deed and the TPCA. 

1.3. A trust is a legal entity which is created to hold assets for the benefit of certain persons or entities. 

1.4. A trust’s constitutional document is a trust instrument which defines the framework in which the trust must operate, including its powers and limitations. 

1.5. The trust instrument must clearly establish a separation between the right to control the trust assets, which is held by the trustees, and the right (whether vested or contingent) to benefit from the trust assets, which is held by the beneficiaries. 

2 

1.5.1. Trusts are described according to when they are created. For example, the Inter Vivos (Living) Trust: This is a trust created during the founder’s lifetime. It is established by a trust deed which sets out who the founder, trustees and beneficiaries are, defines powers and duties of trustees and how and when the trust is to be wound up. The founder may also be co-beneficiary and /or trustee. The founder usually donates assets to the trust. 

1.5.2. Trusts are described according to the rights given to beneficiaries, for example the Discretionary Trust: This type of trust gives the trustee(s) discretionary powers as to how and when to allocate the income or capital of the trust to the beneficiaries or a Vested (Vesting) Trust: Here the trustees are not given any discretion in the deed, and the beneficiaries and their benefit(s) are fixed and predetermined. 

3 

1.6. Whatever the type of trust it is unequivocally crucial to recognize that the trust assets belong to the trust and not the trustees. Trustees are prohibited from using the trust assets for their own benefit, unless the trust deed specifically authorises such action.1 

1 Section 12 of the Trust Property Control Act 57 of 1988 states that the ‘Trust property shall not form part of the personal estate of the trustee except in so far as he as the trust beneficiary is entitled to the trust property.’ 

2 See http://www.saica.co.za/faqs/showAnswer.asp?FaqQuestionId=6&FaqSectionId=3&FaqSubSectionId=7, accessed 12 August 2017. 

1.6.1. An example of this would be where the trust owns residential property. Assume that three trustees are appointed, two of them a married couple and the other their attorney. The trust deed allows for the couple to live in the house but the trust deed could specify that a market related rental is to be charged so that income accrues for the benefit of all beneficiaries which includes the children of the married couple. 

1.7. Because of the need to be seen to be independent in any reporting assignment, in fact and in appearance, a professional accountant should avoid the appointment as a trustee in any situation where the absence of a conflict of interest cannot be clearly demonstrated.2 This issue will be dealt with in detail later in this opinion. 

4 

1.8. Where a professional accountant3 acting in his or her capacity as a registered auditor conducts services other than those known as ‘assurance services’4 those services are known as ‘non-assurance services5’. 

3 A professional accountant registered as such in terms of the Auditing Profession Act 2005. 

4 Audit engagements and review engagements, which are assurance engagements in which a registered auditor expresses a conclusion on financial statements. 

5 These engagements provided registered auditors include accounting and book-keeping services, tax services and management consulting services - these fall outside assurance engagements. 

6 Code of Professional Conduct [Code](Independent Regulatory Board for Auditors) para 290.102. 

7 Code of Professional Conduct (Independent Regulatory Board for Auditors) para 290.103. 

1.8.1. For example, where a partner in an audit firm acts as a trustee of a trust its accepted that such a service is one of non-assurance. 

1.8.2. However, such a non-assurance service is one that is not provided to an audit client, the service is provided directly to a trust. 

2. Financial Interests 

2.1. Holding a financial interest in an audit client may create a self-interest threat.6 

2.2. The determination of whether such financial interests are direct or indirect will depend upon whether the beneficial owner has control over the investment vehicle or the ability to influence its investment decisions.7 

5 

2.3. When control over the investment vehicle or the ability to influence investment decisions exists, this Code defines that financial interest to be a direct financial interest. Conversely, when the beneficial owner of the financial interest has no control over the investment vehicle or ability to influence its investment decisions, this Code defines that financial interest to be an indirect financial interest. 

2.4. Financial interests may be held through an intermediary (e.g. a collective investment vehicle, estate or trust).8 Such a statement in the code suggests that trustees have a financial interest in the companies in which the trusts they are trustees of, hold investments. The default position in the Code is that auditors should not hold investments in audit clients. Auditors are for these purposes defined as the audit firm, any partner in the audit firm, a person in a position to influence the conduct and outcome of the audit or an immediate family member of such a person. 

8 Ibid. 

6 

2.5. It is my view that trustees do not have a financial interest in the investments (for example a company) owned by the trust. This opinion will demonstrate as stated in 1.7 that there is no conflict of interest where a registered auditor who is a partner/director in an audit firm accepts an appointment as a trustee of a trust in a situation where trust has an investment in a company that is audited by the audit firm. 

7 

2.6. A financial interest means an interest that could result in directly or indirectly receiving a pecuniary9 gain or sustaining a pecuniary loss as a result of ownership or interest in a business entity, or as a result of salary, gratuity, or other compensation or remuneration from any person. 

9 Monetary. 

10 Section 22 of the TPCA states ‘A trustee shall in respect of the execution of his official duties be entitled to such remuneration as provided for in the trust instrument or, where no such provision is made, to a reasonable remuneration, which shall in the event of a dispute be fixed by the Master.’ 

2.7. A trustee is entitled to remuneration as provided for in the trust deed. If no remuneration is provided for in the trust deed, the trustee will still be entitled to reasonable remuneration for the services to be rendered by the trustee.10 

2.8. Therefore, it is self-evident that a trustee does not hold a financial interest of any type in the trust’s investment as the trustee does not receive any fees or remuneration from the company. This again is obvious as the trustees do now own any interest in the company. 

3. Control 

3.1. The definition of a trust is premised on the principle of control rather than ownership. The trustee controls but does not own the property held by a trust. Such control must however be contextualized in terms of administrative control rather than substantive control in regard to the investment owned by the trust. Substantive control is when the holder of that right has the practical ability to exercise control over the investment on a day to day basis. 8 

3.2. The Code does not define the term ‘control’. However, there are various financial reporting sources which articulate what the meaning of control is. 

3.3. When a trustee determines whether he or she has control over the trust’s investment they must consider all relevant facts and circumstances when assessing whether it controls the investment. An trustee controls the trust property when the trustee is exposed, or has rights, to variable returns from its involvement with the investee and has the ability to affect those returns through its power over the trust property. 

3.4. In my opinion, the following must be considered when assessing whether control exists: 

3.4.1. The trustee must have power over the trust property, i.e. the trustee has existing rights that give him or her the ability to direct the relevant activities (the activities that significantly affect the trust property returns) exposure, or rights, to variable returns from its involvement with the trust property the ability to use its power over the trust property to affect the amount of the trust property’s returns. 

3.5. It is submitted that the trustee does not have control in the manner in which the ‘auditor’ trustee would have to have if he or she would be forbidden by the Code 9 

not to accept such a non-assurance engagement under the circumstances as set out in 1.1. 

3.6. Trustees do not have any substantive control over the investment. It is the trust rather than the trustees that is exposed to the risk that the investment will generate profits that would eventually be distributed to the beneficiaries. The trustees have no control or ability to influence the manner in which the company conducts its business. 10 

3.7. Section 66 (1) of the Companies Act 2008 states: 

‘The business and affairs of a company must be managed by or under the direction of its board, which has the authority to exercise all of the powers and perform any of the functions of the company.’ 

3.8. The company is separately run but it's board of directors and the trustees of the trust cannot interfere unless its conducting company business in terms shareholders resolutions. The day to day business of the company is conducted by the directors and not the trustees who would obviously act as shareholders on the trusts behalf. 

3.9. The trustees have in essence protective rights which are designed to protect the rights of the beneficiaries. The trustees cannot direct the activities of the company. The trustees are also limited in their powers in terms of the trust deed. 

3.10. Crucial Question 

3.10.1. The crucial question that needs to be answered is whether the trustees as the individuals who control the trust have the power as set out in the Companies Act 2008 to appoint the auditor of the company owned by the trust and therefore potentially interfere with the audit? 11 

3.10.2. More often than not the administration of the trust is undertaken by more than one trustee. Its trite law that co trustees must always act jointly in the performance of their duties and the exercise of their powers. This joint action rule is derived from the vesting of co-ownership in trust property in the co-trustees of an ownership trust. However as stated before the definition of a trust is premised on control not ownership. This rule renders the ‘independent’ trustee out of place in trust practice, each trustee is required to be involved in the administration of the trust if only at a minimum to fulfill the ‘watch dog’ function in respect of co-trustees. It follows therefore that each trustee of a trust must exhibit a minimum degree of independent judgment in trust affairs and may not follow the lead of the other trustees.11 

11 Section 9 (1) of the TPCA states ‘A trustee shall in the performance of his duties and the exercise of his powers act with the care, diligence and skill which can reasonably be expected of a person who manages the affairs of another’ 

3.10.3. Therefore, if the trustee appoints his own audit firm to audit the company clearly it would be incumbent on the other trustees to veto such an appointment. The auditor would have to be appointed unanimously by the trustees, making it impossible for an auditor who is the trustee of a trust who owns a company to appoint his or her own audit firm and therefore interfere with the audit. 12 

3.10.4. It is also crucial to note that the trustees on their own cannot change the trust deed. Which is an indicator that they cannot control the trust property at their own discretion. 13 

4. Conclusion 

4.1. I am of the opinion that there appears to be no barrier for an auditor to be appointed as a trustee of a trust which owns a company and where the auditor of such a company is an audit partner of the trustee. There are no questions regarding financial interest, there are no situations where the trustee has the ability to alone appoint the auditor nor influence the manner in which the company is run. The trustee’s major duties are administrative and must be conducted in terms of the trust deed which limit any powers the trustees may have. 

4.2. The safeguards are in place simply as a result of the regulatory framework, trust and company law practice. The trustee who is the audit partner of the company auditor has no relation whatsoever to the trustee auditor in the context of ethical and independence issues.