Updated January 6, 2020
Introduction to Financial Services: Accounting and Auditing
Regulatory Structure, U.S. and International
This In Focus provides an overview of how accounting and
oversight authority over the PCAOB and must approve the
auditing standards are created and regulated in the private
board’s rules, standards, and budget.
sector, the federal government, and state and local
governments. Different accounting and auditing standards
evolved in the private and public sector to address the
Material misstatement in financial reporting can be
specific needs of their respective stakeholders. This In
defined as information on a financial statement that
Focus also discusses two policy issues that might be of
could potentially affect the investment decision or the
interest to Congress and investors.
conclusions drawn by a reader about the financial
status of the firm.
Private Sector
The private sector includes public and private companies as

well as not-for-profit organizations. The accounting and
auditing standards created for publicly traded firms are
Federal Government
subject to the Securities and Exchange Commission’s
The financial statements of the U.S. government and its
(SEC’s) oversight.
agencies provide taxpayers and Congress a comprehensive
view of how the government manages tax revenue and how
Federal securities laws require public companies, both
effective the federal government is at providing services.
domestic and foreign, to share critical information about
The Financial Report of the United States Government
their performance on an ongoing basis with investors,
serves the same basic purpose as the annual report issued by
regulators, and other stakeholders. They are required to
a publicly traded company to its investors.
submit annual reports providing a comprehensive overview
of the firm’s performance; this includes the audited
Accounting. The accounting standards established by the
financial statements of the firm.
Federal Accounting Standards Advisory Board (FASAB)
are considered Generally Accepted Accounting Principles
Accounting. Throughout its history, the SEC has relied on
for federal financial reporting entities. FASAB was created
the private sector to establish and develop Generally
by the Government Accountability Office (GAO),
Accepted Accounting Principles (GAAP) in the United
Department of the Treasury, and the Office of Management
States. GAAP is a common set of principles and practices
and Budget.
to measure and report the economic activities of an
organization. Currently, the SEC recognizes the Financial
Auditing. The financial statements of federal agencies and
Accounting Standards Board (FASB) as the designated
the U.S. government are audited by inspectors general,
organization for establishing GAAP for the private sector.
independent accounting firms, or GAO. GAO is an
independent, nonpartisan agency of Congress.
Auditing. Private- or public-sector stakeholders need to
have reasonable assurance that the financial statements of
GAO issues the Generally Accepted Government Auditing
an entity are free of material misstatement whether caused
Standards (GAGAS), also commonly known as the “Yellow
by error or fraud. In the private sector, independent
Book,” which provides a framework for conducting audits.
assurance to shareholders and other stakeholders is
Some audit organizations within the federal government use
provided by a qualified external party—an auditor. The
a hybrid method of external and internal auditors.
auditor is engaged to give an unbiased professional opinion
on whether the financial statements and related disclosures
State and Local Governments
are fairly stated in all material respects for a given period of
The Comprehensive Annual Financial Report (CAFR)
time in accordance with GAAP. Generally Accepted
issued by a state or local jurisdiction serves the same
Auditing Standards (GAAS) provides standards of practice
purpose as the annual report issued by a publicly traded
on how an audit should be conducted.
company to its investors. States and territories have the
flexibility to choose the accounting and auditing standards
Congress created the Public Company Accounting
that suit their needs.
Oversight Board (PCAOB) as a self-regulatory organization
to provide independent oversight of audits of public
Accounting. The voluntary standard-setting body for state
companies in the Sarbanes-Oxley Act of 2002 (P.L. 107-
and local governments’ accounting standards is the
204). The PCAOB also oversees the audits of brokers and
Governmental Accounting Standards Board (GASB). While
dealers, including compliance reports. The SEC has
the SEC requires publicly traded companies to follow the
accounting standards created by FASB, state and municipal
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Introduction to Financial Services: Accounting and Auditing Regulatory Structure, U.S. and International
governments are not required to follow accounting
ESG Disclosures
standards promulgated by GASB. States and municipalities
The investing community and various stakeholders—
can voluntarily adopt GASB accounting standards without
institutional and individual investors, academics, and
any changes, choose not to adopt a specific standard, or
advocacy groups—continue to engage in a long-running
modify a standard to meet their specific needs.
debate about what should be disclosed by public firms.
Issues related to sustainability accounting standards have
Auditing. State and municipal government audits are
been at the forefront of that debate. Shareholder
conducted by either an elected or appointed auditor. Elected
expectations for corporations to address material
auditors conduct their work at all levels of government,
environmental, social, and governance (ESG) issues have
from states to cities and towns. Appointed auditors are often
continued to increase. In alignment with these increasing
appointed by the legislature or by the chief executive of the
shareholder expectations, firms with over $70 trillion in
respective municipal organization with the consent of the
collective assets under management have indicated they
legislature. State and municipal auditors, whether required
will consider ESG issues, such as political spending,
by law or not, might follow the GAGAS issued by GAO,
climate change, diversity, and human rights, in the
while making appropriate changes to suit their specific
investment management decisionmaking process.
needs, or might follow other audit standards that meet their
specific needs.
The Sustainability Accounting Standards Board (SASB), a
U.S.-based nonprofit, has created a set of standards to help
Policy Issues
corporations address increased shareholder interest in ESG
Two policy issues might be of particular interest to
issues. Currently, corporate filers with the SEC are not
Congress and investors. The first is the limits encountered
required to follow standards as recommended by SASB.
by PCAOB to inspect the work of foreign accounting
Publicly traded firms are subject to certain other ESG-
(audit) firms that audit the foreign firms listed on the U.S.
related disclosure requirements (e.g., GAAP disclosure
exchanges. The second is the newly emerging sustainability
requirements), though these disclosure requirements might
accounting standards for businesses, which encompass
not be as relevant for investors’ decisions as compared to
environmental, social, and governance (ESG) issues.
those proposed by SASB.
PCAOB Inspection Limits
Congress could continue to allow companies to voluntarily
Foreign firms accessing U.S. capital markets use foreign
choose to disclose ESG issues, require companies to
auditors from their home countries to audit their financial
disclose ESG issues, or make it harder for institutional
records. Over the past decade, the SEC and the PCAOB
investors to call for ESG disclosures. The legislation
have entered into various agreements either multilaterally
Members have introduced to address certain ESG
or bilaterally with various foreign regulators, but they face
requirements includes H.R. 1018, H.R. 3279, H.R. 4329,
limitations with regulators in certain countries.
and S. 592.
For example, the PCAOB is restricted from inspecting the
Proponents of sustainability accounting standards suggest
audit work and practices of PCAOB-registered accounting
that investments in material sustainability issues can
firms in China, including Hong Kong, to the extent their
increase shareholder value by, among other things,
audit clients have operations in China. The PCAOB has
differentiating among competitors within each industry,
identified 224 unique issuers with $1.8 trillion in combined
fostering investor confidence, increasing employee trust
market capitalization whose auditors are located in
and loyalty, and increasing access to capital.
jurisdictions where it faces obstacles. Out of these 224
issuers, 213 have auditors based in mainland China or Hong
Critics argue that existing regulations address many of the
Kong, while the remaining 11 issuers have auditors based in
ESG issues or allow issuers to voluntarily disclose.
Belgium. The PCAOB can inspect the work of another 207
Additional disclosures and reporting requirements, they say,
U.S.-listed companies but not all of the auditors’ work.
could be an unnecessary regulatory burden for firms and
distract firms from increasing shareholder value.
China has invoked state security laws governing the
protection of state secrets and national security to limit
CRS Resources
foreign access to China-based business books, records, and

audit work papers.
CRS Report R44894, Accounting and Auditing Regulatory
Structure: U.S. and International, by Raj Gnanarajah.
Some Members of Congress have proposed legislation to
address the limits placed on PCAOB oversight. These
CRS In Focus IF11221, Introduction to Financial Services:
proposals in the 116th Congress would require increased
Corporate Governance, by Raj Gnanarajah and Gary
disclosure about noncompliance by the foreign firms listed
Shorter
on U.S. exchanges and eventual delisting—S. 945, S. 1731,
and H.R. 3124. Some Members have also expressed
CRS In Focus IF11256, SEC Securities Disclosure:
concerns about the SEC’s oversight of the PCAOB and the
Background and Policy Issues, by Eva Su
culture within the board.
Raj Gnanarajah, Analyst in Financial Economics
IF10701
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Introduction to Financial Services: Accounting and Auditing Regulatory Structure, U.S. and International


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https://crsreports.congress.gov | IF10701 · VERSION 4 · UPDATED

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