Local Audit and Accountability Bill [HL]

Baroness Hanham Excerpts

Monday 24th June 2013 Grand Committee

[Lord McKenzie of Luton]

My Lords, Amendment 14F is quite a narrow probing amendment. At the start of our deliberations today, perhaps I should just make clear that although we have some concerns about the fragmentation of the new local audit regime—an amendment to cover this will be forthcoming on Wednesday—we accept the broad technical means by which the Government seek to implement its framework, drawing on the Companies Act 2006 and the Audit Commission Act 1998. Our probing should be seen in that context.

The Companies Act 2006 sets out who may be treated as holding an appropriate qualification for the purposes of acting as a statutory auditor. A Secretary of State can include in this persons who are qualified to audit accounts under the law of a foreign country and someone who holds a professional qualification in a specified foreign country. For these purposes, an EU state is not treated as a foreign country. These provisions are specifically excluded from operating under the Bill, so can the Minister please confirm, under the local audit regime, what is the position of individuals qualified in an EU country regime, especially given the broader nature of local bodies’ audit? What is the rationale for excluding other foreign qualifications, which are included in the Companies Act? I beg to move.

[The Parliamentary Under-Secretary of State, Department for Communities and Local Government (Baroness Hanham)]

My Lords, the Government believe that the Bill provides for sufficient suitable qualifications to be recognised for the purposes of local audit. As the noble Lord said, this amendment seeks to find out about the qualifications and, in particular, the approval of overseas qualifications from non-EU countries for the purpose of statutory audit. It also sets out the conditions that will need to be satisfied relating to the assurance of professional competence of those holding an overseas qualification.

Section 1221 provides for approval of all those in a specified country who are qualified to audit accounts or only those who hold specified qualifications in that country. In the case of the latter, the Secretary of State may specify any additional requirements to be satisfied. The section allows the Secretary of State to recognise an overseas qualification only if there is comparability and/or equivalence of treatment of United Kingdom qualifications in the country in question.

For local audit, an auditor will hold a suitable qualification if it is one recognised under Part 42 of the Companies Act 2006 or if it is another qualification recognised under the Bill. If a third-country audit qualification has been recognised for company audit through the application of Section 1221 of the Companies Act 2006, it would be deemed an appropriate qualification for local audit. I must stress that we would expect anyone employed under those circumstances to have experience of local audit as carried out in this country. I hope that will help the noble Lord and that he will feel able to withdraw the amendment.

[Lord McKenzie of Luton]

I thank the Minister. I may have missed it, but what provision allows the Secretary of State to take account of a third-country qualification? I ask because the Bill specifically omits the provisions of the Companies Act which permit that. I was trying to spot the precise bit of the Bill that allows that to happen. I think it is entirely appropriate that it does—if it does—but if the noble Baroness could give me the particular reference, that would be good. Presumably for EU nationals, the position has not changed. Whatever EU directive applies, they would be entitled to be considered, as indeed someone with a UK qualification would be in Europe.

[Baroness Hanham]

My Lords, EU auditors may be subject to an aptitude test if they practise local audit in the United Kingdom on a permanent basis. Under all these provisions, the expectation is that people would be qualified, as they are in the United Kingdom, to carry out local audit. We shall come to that further on, because it is the qualifications that will matter. We would not see any dilution of the competence of auditors, whether they come from here, the EU or non-EU countries. Have I still not answered the noble Lord’s question?

[Lord McKenzie of Luton]

Perhaps we might deal with it in correspondence. I was just trying to see the particular reference that allows back in the approval of those with third-country qualifications. I can see the provision that takes it out of the starting point, which is the Companies Act 2006. I think there may be something else coming from the Box.

[Baroness Hanham]

My Lords, it is blindingly obvious—the provisions in paragraph 8 of Schedule 5 to the Bill, which amend the Companies Act. Why did I not think of it immediately?

[Lord McKenzie of Luton]

My Lords, I think I am grateful for that follow-up. I shall read the record to see that it remains blindingly obvious. From what the noble Baroness has said, I do not disagree and am supportive of the provisions and facilities made in the Bill. It is important that there is no lessening of standards, whether a qualification is an overseas one or a UK one. For the time being, I beg leave to withdraw Amendment 14F.

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[Lord McKenzie of Luton]

My Lords, this amendment relates to Schedule 5 again, which relates to the new regulatory framework for auditors of local public bodies. It draws heavily, as we have discussed, on the framework contained in the Companies Act 2006, the provisions of which, as I have said, have our broad support. Schedule 5 applies Part 42 of the 2006 Act to local audits, as it does to statutory audits, but with some exclusions. The purpose of this amendment is to understand the exclusion of Section 1215(2) to (7) of the Companies Act.

Section 1215 takes us back to the subject of independence, and requires a statutory auditor to resign immediately on becoming prohibited from acting because of lack of independence, and this requirement is imposed similarly on local auditors. However the legal sanctions which underpin the failure to comply with this requirement for statutory auditors appear to have been omitted in the case of local audits. Doubtless the Minister will tell me that it is blindingly obvious and covered somewhere else. Could she draw my attention to a specific provision? I beg to move.

[Baroness Hanham]

My Lords, we may need to explain to Hansard that I was joking. The new audit framework sets out robust arrangements to provide confidence in the independence of the local auditor. This amendment seeks to replicate the criminal offences in Section 1215 of the Companies Act 2006 in the local audit framework, as the noble Lord explained. We have chosen not to replicate these particular criminal offences as we consider that there are other, more suitable mechanisms to do so—in short, the disciplinary powers of the recognised supervisory bodies and the ethical standards raised by the Financial Reporting Council.

The rules and practices that the recognised supervisory bodies will put in place will cover the independence of the auditor. They will also outline the disciplinary sanctions that could be applied if the independence requirements were found to have been breached. This could ultimately include the withdrawal of registration, and other sanctions could include that the firm responsible for the audit would not be able to accept new audits or particular types of audits, that a person may no longer be a responsible individual and that a specific employee may no longer be involved in audit work.

The Government have also been mindful of not introducing any new offences unless there is a compelling case to do so. Even though these offences are in the Companies Act 2006, they would be considered as new offences if applied to the provisions in the Bill.

That is the explanation. I hope that the noble Lord will be happy with it and that he will feel able to withdraw his amendment.

[Lord McKenzie of Luton]

My Lords, I am certainly going to withdraw the amendment. If I understand the position correctly, there will be a difference of approach between local audit and the Companies Act provisions, where private sector auditors will continue to be subject to this regime. In a sense, they will still be subject to the supervisory requirements for local auditors that the noble Baroness outlined. Is that correct?

[Baroness Hanham]

My Lords, I think it is correct. As I suggested, the Financial Reporting Council issues ethical standards for auditors, and those cover the integrity, objectivity and independence of auditors, and it applies in the audited financial statement. Therefore, I think that we are covered from that point of view. We have also been working with regulatory partners, including the Financial Reporting Council, to decide how these may need to be applied to auditors of local bodies. Therefore, I think that some discussion is still going on about the matters that the noble Lord has raised.

[Lord McKenzie of Luton]

I will not dwell on it but I thought that one of the objectives of the current exercise was to align local audit with private sector audit arrangements. This seems to be creating a divergence. However, I am not sure that there is going to be further fruitful discussion on this. I hear what the Minister has said and I beg leave to withdraw the amendment.

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[Lord Tope]

My Lords, I express my appreciation to the noble Lord, Lord McKenzie, for raising this issue, because I know it is one of concern. Indeed, it was one of the concerns, as I think he mentioned, expressed by the Chartered Institute of Public Finance and Accountancy, best known to us all as CIPFA. One of the concerns that it raised in its Second Reading briefing was that the wider scope of public audit has not been fully embedded in the Bill. This is perhaps an example of that. CIPFA makes the point, which those of us familiar with local government will understand very well, that public audit is a good deal wider than private sector audit. I do not think I need to labour the point. We are looking forward to the Minister’s response, which I see she is eager to give us.

[Baroness Hanham]

Too eager, perhaps. I say at the outset that we are absolutely clear that the auditors must be competent, appropriate and steeped in local government finance. We should start there, with that as the interest common to us all, to make sure that any changes are made in the most appropriate way so that we can be sure of getting the same high standards of auditing that taxpayers expect and to which they have been accustomed.

The Bill sets out a pretty robust regulatory regime. The National Audit Office will have to develop the underpinning code of audit practice and produce supporting guidance that will set out how auditors perform their role. What this means, essentially, is that the boards going for public audit will not change. In addition, the future local audit framework will require all auditors to be suitably qualified and competent to carry out local audits.

The Bill requires auditors to hold an appropriate qualification. This is either a qualification recognised under Part 42 of the Companies Act 2006, for a statutory audit, or another qualification recognised under this Bill. The Secretary of State will be able to make regulations setting out the minimum requirements that other qualifications will need to meet in order to be recognised for the purposes of local audit.

It is clearly crucial that local auditors are, as I have said, suitably qualified, that they attain an appropriate qualification and that that demonstrates that an individual understands, among other things, auditing standards, accounting standards and audit procedures. These standards and skills must be applied to audit assignments regardless of whether they are in the public or private sector.

However, while holding an appropriate audit qualification is necessary, it is not sufficient in itself for those individuals within firms assigned responsibility for signing audit reports of local bodies. What is important for local audit is that auditors have the skill and experience of local audit, which includes understanding the wider scope of public audit. As such, we believe that the amendment is unnecessary as the Bill requires all individuals to have this appropriate level of competence to carry out local audits, regardless of whether they hold a qualification under Part 42 of the Companies Act 2006 or another one recognised under the Bill. This critical requirement regarding competence is set out in paragraph 27 of Schedule 5. The amendment would apply only to the other qualifications recognised under the Bill, and not those recognised under Part 42 of the Companies Act.

It maybe helpful for me to outline briefly how the framework works for the companies sector and then explain how the framework for local audit will ensure that all local auditors understand the wider scope of public audit, thus removing the need for this amendment. Under the Companies Act, it is for the recognised supervisory body to set out the requirements for approving those individuals who will be responsible for signing audit reports for companies. The requirements established by the recognised supervisory bodies are subject to agreement and oversight by the Financial Reporting Council. Once an individual has been approved to sign an audit report of a company, it does not follow that they could sign such a report for any company. That individual would need to be competent to sign the audit report of the specialism of that particular company; they would need to have the relevant skills, experience and knowledge of the relevant subject matter of the company or industry in which they work.

We are replicating this framework for local audit. The recognised supervisory bodies for local audit will have responsibility for approving the individuals nominated by its member firms for signing the audit reports of local bodies. This will also be overseen by the Financial Reporting Council. Under rules that it will agree with the Financial Reporting Council, a recognised supervisory body will approve an individual to take a key responsibility in the audit of a local body only if that individual has an appropriate level of competence to carry out local audits. A firm that cannot demonstrate that a nominated person has recent experience of auditing a local body and understands the wider scope of local audit will not be considered competent and therefore cannot be approved by the recognised supervisory body.

To provide further assurance on this issue, I should also say that there are established standards and professional obligations with which firms must comply regardless of whether they are appointed to a company or a local public body. In particular, the international standard on quality control requires all firms to have policies and procedures that ensure that individuals have the right knowledge and experience to undertake a specific engagement. For local audit, this would mean that a firm could not put forward an individual to be responsible for a local audit if that individual did not understand the wider scope of public audit. If it did so, it would be in breach of its obligations and would risk breaching the terms of its registration with the recognised body.

The noble Lord, Lord Tope, raised the question of CIPFA and the discussions that have taken place. It may be helpful for noble Lords to know that I recently saw and had discussions with CIPFA about this, and it is being closely involved in discussions that are going ahead with the council, so its views are well taken into account. We recognise that it is probably one of the very few bodies with qualifications that continue to exist for auditors who will be required to do this work.

The register will be published when we see the draft regulations, which will be available at the next stage in the Commons. The register will be published in 2016, in time for the local appointment of auditors. We have discussed the question of how many firms will be able to do this, and I remember saying earlier that we hope and anticipate that smaller local firms will be able to get their staff qualified, if they do not have that qualification, so that they can bid for contracts. We expect that the smaller, new contracts will open up the market to smaller firms. We are anticipating that this will not just be the big four or the bigger four and three bidding—which I think got us to seven before—and that there will be increasing competition. We believe that there should be plenty of smaller companies available, once local authorities start to appoint their own auditors.

I hope that has picked up the points on the register and those made by CIPFA. I know that it is involved in what is going on to ensure that these regulations and qualifications are satisfactory.

[Lord McKenzie of Luton]

I thank the Minister for a very full reply. It is very helpful to have that on the record. I also thank the noble Lord, Lord Tope, for his support for this line of enquiry. I note that the register will not be available until 2016, but it is good that the draft regulations will be available when the Bill goes into the Commons. I think we shall have to see the outcome of that and how many local firms end up in a competitive position in the market. One of the fears is that those firms that are active in the local audit market currently do it through specialist divisions. They have the financial clout to invest in the training in these sorts of arrangements. I think we would have common cause in wanting there to be a number of firms in the market—certainly it should be expanded from the existing base. I am somewhat sceptical about whether that would be achieved. In the mean time, I beg leave to withdraw the amendment.

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[Lord McKenzie of Luton]

My Lords, Clause 20 covers the general duties of auditors of a health service body and sets down the areas on which the auditor must be satisfied. These include that the body has made proper arrangements for securing economy, efficiency and effectiveness in the use of its resources. Clause 20(4) precludes the auditor’s opinion on the accounts making any reference to this requirement unless he is not satisfied in that matter, so the auditor cannot positively state that he is satisfied that the body has made proper arrangements for securing economy, efficiency and effectiveness in the use of its resources. Obviously, an informed reader of the auditor’s report would be able to interpret what appears to be silence on this, but it seems an odd restriction. Perhaps someone could explain its purpose. I beg to move.

[Baroness Hanham]

My Lords, either my noble friend Lord Wallace or I will reply to the amendments. In this case it is me.

The amendment would remove the provision for auditors to report on value for money only when they are not satisfied that the authority has made arrangements for securing value for money. This would result in every audit report containing a specific conclusion on value-for-money arrangements.

I hope that it will help the Committee if I start by setting out why the Bill provides for value-for-money conclusions to be included only where the auditor is not satisfied about the arrangements. The provision relates only to the reporting of the results of the audit. The local auditor will still be required to carry out work to confirm that the arrangements for securing that value-for-money arrangements are made. The technical standards for that work will be set out by the National Audit Office in the code of audit practice that it will produce.

The report of the auditor is a detailed and technical document. The Government are of the view that for health bodies—in this clause we are referring only to health bodies—the audit report should contain those matters that are most important to the reader. We consider them to be: the opinion on the true and fair nature of the accounts; for those bodies that are directly funded from resources provided by Parliament—which includes all bodies that are now part of the health service—to confirm that the funds have been used for authorised purposes; and any cases where arrangements to secure value for money are not appropriate. This approach would provide for greater focus and attention where value-for-money arrangements are not in place.

The provision in the Bill also aims to bring consistency for all health bodies. Currently, the audit opinions of health commissioning bodies and NHS trusts contain a specific opinion on value-for-money arrangements. The audits of foundation trusts do not, so we are taking the opportunity to bring all reporting into line and to improve the clarity of auditor reporting in the health service. I stress that the work carried out by the auditors is the same, whatever the reported opinion.

I hope that that provides greater understanding of what we are doing and that the noble Lord will withdraw his amendment. If not, I look forward to what he is going to say.

[Lord McKenzie of Luton]

My Lords, I am grateful to the Minister, as ever, for her explanation. I remain somewhat bemused about why there could not be positive reporting in this area, although it is not a matter that I intend to pursue. I accept that, whatever the outcome, the nature of the work and the task in hand would be undertaken in any event.

The Minister said that the opportunity had been taken to align foundation trusts and other health bodies’ provisions, presumably, from what she said, in favour of the foundation trust formulation. Is that right?

[Baroness Hanham]

Yes, my Lords. At present the other parts of the health service are required to have value-for-money audit reports. Foundation trusts do not. The noble Lord is correct that it is being amalgamated under the foundation trust umbrella.

[Lord McKenzie of Luton]

I am grateful for that further explanation. I am bound to say that it did not give me much greater comfort. Given what has gone on with some foundation trusts—I think we will come on to them later—and how many reports there have been about the nature of their financial circumstances, they do not seem to be a good precedent on which to focus an alignment of practice. Perhaps we will pick up that issue later in our proceedings. In the mean time, I beg leave to withdraw the amendment.

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[Lord McKenzie of Luton]

My Lords, the pre-legislative scrutiny committee reminds us that in many instances serious cases of financial or governance failure are not identified through the audit itself but are brought to the attention of the appropriate authorities by individual whistleblowers. This matter could hardly be more topical. It is vital that robust protections are available for individuals in all relevant bodies, including health bodies.

So far as whistleblowers are concerned, currently the Audit Commission is a prescribed person under the 1998 public interest disclosure provisions. Its appointed auditors are also prescribed persons. The Public Interest Disclosure Act protects from recriminations employees who make disclosures about a range of subjects. Whistleblowers can claim protection by disclosing their concerns either to an employer or, if they prefer, to another organisation authorised to receive disclosures—a prescribed person. The commission provides a confidential public interest disclosure line for employees of councils and NHS bodies where they are unable or unwilling to report internally. Once employees contact the commission, the commission alerts the relevant auditors.

The Bill makes no mention of whistleblowers, and this is an area that needs to be strengthened. We believe that, while appointed auditors should remain a prescribed person, there should also be another prescribed body which could pass on information to an auditor—for example, in cases where employees are unable to contact the auditor directly or where, as the ad hoc draft Bill committee suggested, they may not be comfortable approaching a private auditing firm that has a commercial relationship with the local body or council.

The draft Bill committee recommended that the Comptroller and Auditor-General should take on this role in the future, and that is what the amendment provides for. We may be at one with the Government on this issue and the NAO can provide a hotline for whistleblowers. If the Government are to provide this by order, what requirements will be placed on the NAO as to what it does with the information provided? The Audit Commission would currently, as I said, forward any disclosures to the relevant auditor. I beg to move.

[Baroness Hanham]

My Lords, I shall respond briefly, but I can also pick up some extra points that the noble Lord raised.

The Government, in response to the committee that undertook the scrutiny of the draft local audit Bill, have already indicated their intention to make the Comptroller and Auditor-General a prescribed person under the Public Interest Disclosure (Prescribed Persons) Order 1999. It is not necessary to include this in the Bill, as we intend to do it by making an amendment to the order following the closure of the Audit Commission.

On the powers of the NAO, at present it is the auditor that considers a disclosure in the context of the existing statutory powers and duties—for example, in relation to considering whether to make a public interest report on the matter. We do not think that it is necessary or appropriate to duplicate this by giving additional powers to the Comptroller and Auditor-General. This mirrors the current arrangements.

The noble Lord also asked why the Bill did not say anything about whistleblowing. We do not believe that it is necessary for the Bill to include provisions around that matter, because that is covered in other legislation. The Audit Commission and its auditors are included as prescribed persons in the Public Interest Disclosure (Prescribed Persons) Order 1999. Amendments will be made to that order to designate local auditors and the Comptroller and Auditor-General as prescribed people—that is, the people to whom whistleblowers can go. The Comptroller and Auditor-General will not necessarily have a duty to investigate those concerns as a disclosure in the context of the existing statutory powers and duties—for example, in considering whether to make a public interest report on the matter. We do not think that it is necessary or appropriate to duplicate this by giving extra powers to the Comptroller and Auditor-General, as I said.

I hope that it is clear that we are not in any way trying to reduce the role of whistleblowers or to put them under any sense of restriction from acting in such a way. There will be a very clear route concerning to whom whistleblowers can go, and they will be protected, as they are at the moment, from any retribution if they do that. I hope that that gives the noble Lord a satisfactory explanation.

[Lord McKenzie of Luton]

My Lords, again, I thank the Minister. I accept entirely that there is no attempt to dumb down the role of whistleblowers and that that will be fully supported. What is it that the Comptroller and Auditor-General is expected to do with information provided to it as a prescribed person which does not go to the local auditor?

[Baroness Hanham]

My Lords, exactly as happens at the moment, the Audit Commission directs whistleblowers to the relevant auditor, who is the person in power to take appropriate action. Whistleblowers will continue to be able to go directly to the auditor, as I said, and we extend that to the Comptroller and Auditor-General, who will refer it back again to the local auditor to take up.

[Lord McKenzie of Luton]

I am grateful for that and beg leave to withdraw the amendment.

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It is accepted that the process of issuing a public interest report will be covered in the audit code, which, it is understood, will become the responsibility of the National Audit Office, but this amendment requires explicit acknowledgement that the NAO should be empowered and resourced to support local auditors during the process. I beg to move.

[Baroness Hanham]

My Lords, the Bill retains the auditor’s duty to consider whether there are any issues on which he or she should make a public interest report, and auditors will use their professional judgment to decide whether to do so, as they do now. The auditor must inform the auditor panel before issuing a public interest report.

These two amendments would change the auditors’ consideration of whether to issue a public interest report. Amendment 17B would require the auditor to inform the independent auditor panel at the same time as, rather than before, issuing a public interest report. Amendment 17C would place a duty on the National Audit Office to provide advice and support to the auditor, if asked, before and during the issue of a public interest report. The noble Lord made that very clear in his opening remarks.

I understand the intent behind these amendments but do not consider them to be necessary. First, regarding the requirement on the auditor to inform the auditor panel, I should explain that we have refined this requirement in the light of the pre-legislative scrutiny committee’s recommendations. The draft Bill required the auditor to consult the auditor panel before making a public interest report, but the Bill now requires the auditor only to inform the panel before issuing a public interest report.

As we have discussed, an auditor panel has a key role in overseeing the independence of the relationship between the auditor and the relevant authority. We believe that this requirement on the auditor to inform the panel supports the panel’s role in overseeing the independent relationship between the auditor and the audited body. We would not expect the panel to try to influence the auditor in the discharge of his or her functions or on whether to issue the report. In practice, auditors will often need or wish to discuss issues with persons within the relevant authority when investigating the matters under consideration to ensure a full understanding of the situation and to gather the evidence. I therefore do not believe that it is necessary or particularly desirable to make this change.

Secondly, on the role of the National Audit Office, the Bill already places a duty on the Comptroller and Auditor-General to produce and maintain the code of audit practice and provides a power to issue guidance in support of the code. These will support auditors to undertake their full range of functions under the Bill, including the issue of public interest reports. We do not believe that placing a duty on the National Audit Office to provide guidance is the right approach. Auditors are accountable for their actions and will exercise their professional judgment when deciding how to undertake their functions. Individual auditors will base decisions on their professional judgment, supported by their firms. This is how it operates now. The Audit Commission issues guidance but does not seek to influence the auditor’s judgment. I think it would be fair to say that the Comptroller and Auditor-General would stand behind the auditor. The guidance will be there, and I am certain that under it if the auditor wished to seek further clarification, it would be perfectly possible under this legislation for them to do so from the National Audit Office or the Comptroller and Auditor-General.

Auditors will still have a statutory duty to consider whether they need to make a public interest report. That will occur at the time of informing the panel or subsequently, and they do not need to do anything more than inform it and tell it they are going to do it, although they may discuss it if necessary. Their professional judgment will decide whether a public interest report is necessary. Nothing will change in that respect, and the Bill provides for auditors to recover reasonable costs.

Finally, the noble Lord raised foundation trusts, which appoint their own auditors but have a regulator. Monitor said to the draft Bill scrutiny committee that there is a rigorous monitoring system which detects problems early and tiered support and intervention from Monitor to help resolve problems before they escalate, so the system is different. Also, auditors have qualified accounts of foundation trusts which demonstrate that they are not reluctant to give bad news or to raise issues as necessary.

I hope that the noble Lord will be satisfied with those responses and will feel able to withdraw his amendment.

[Lord McKenzie of Luton]

I thank the Minister for her reply. The point that I was trying to make was that, since foundation trusts have appointed their own auditors, the lack of public interest reporting has been equated with concerns about how independent auditors are and whether they feel that they have the strength and support to issue those reports. I take the point that some of them may well have had their accounts qualified, although I do not know on what grounds. I think that it may help to put the issue in context if we could have a note on how many foundation trusts have had their accounts qualified and in what respect.

I accept entirely that the Bill as it stands is a considerable improvement on where the draft Bill was on these issues. In a sense, the amendments that I was seeking to press are relatively minor, although I suggest that they are important. The noble Baroness made reference to the importance of the auditor panel being informed before the report is issued. I am a bit unclear as to what it is then expected that the auditor panel will do. I think that in a lot of instances there will, as the Minister said, be engagement along the way before we get to the final document. However, the difference between it being done when the report is issued and before that suggests that there is a perceived role for the auditor panel before the document is finally issued. It is another hurdle, and that is what I was seeking to avoid with this amendment.

I well understand the point about the NAO and the code of practice, and that that will be the route. However, from what has been said, whether it will replicate the sort of sounding board that the Audit Commission has and currently exercises for auditors who are contemplating developing thoughts around public interest reporting, I am not sure. I do not think that I got the sense from the Minister’s reply that that more proactive engagement was expected. If it were not, that would be a loss, but perhaps the Minister will follow up on that.

[Baroness Hanham]

My Lords, I am sorry if I did not make it clear that the NAO, while issuing the guidance, will also be behind the auditor, who will be able to discuss issues with it and receive support. The Audit Commission will, as in the past, provide the backbone to the auditor and clarify how to go ahead. That will not change, and I think that there will be strength in that.

We have not really covered this but the noble Lord’s amendment would effectively mean that the auditor about to issue a public interest report would not have discussed it with anybody outside. He would have to issue the report to the panel and the council at the same time. The ability to go to the auditor panel and say, “This is what we are about to do, this is what we think is wrong.”, would, first, probably just give the auditor panel responsible an opportunity to know that something was coming up which it would need to be aware of. Secondly, it would possibly give the auditor the ability to discuss a particular issue with someone independent of the council. I do not think that that would in any way be a retrograde step; it would give strength to the auditor.

[Lord McKenzie of Luton]

I thought that I said when moving the amendment that I recognised that in many instances there would be engagement with the auditor panel or the audit committee, or whatever the final formulation might be, but that I was keen to ensure that there was not another loop in the process at the point that the auditor concluded what he or she needed to do. There might be no engagement at all. It might be an issue that affects the relationship between the auditor panel and the authority involved. It was a case of not wanting to put in an additional loop right at the end of the process without in any way restricting or precluding the opportunity of engagement along the way, which I imagine would be the norm.

There was one other point. If the Minister covered the issue of indemnities, I was at fault and missed it. I should be interested in the Government’s view on that issue.

[Baroness Hanham]

The noble Lord is right that the new framework does not replicate the Audit Commission’s indemnity scheme, which funds legal expenses faced by auditors as a result of their exercising their functions. We believe that it is appropriate for private audit companies to bear the risks and costs for any consequences resulting from the exercise of their functions, covering by definition anybody who is employed by them. Furthermore, we do not believe that this will unduly deter auditors from exercising their functions. The Audit Commission’s indemnity has very rarely been called upon.

[Lord McKenzie of Luton]

I understand that; we have been through that before. I can see that it would not be the norm, but if there is no ability to give indemnity on some basis, what if we have a repeat of risks of the Westminster council sort, and 14 years of litigation? I accept that we are in a different era, but on technically complex issues, will that not discourage auditors from issuing that report?

[Lord Beecham]

If I might add to my noble Friend’s question, will that not deter smaller firms from engaging in the tendering process?

[Baroness Hanham]

My Lords, I am not sure that the Westminster case is very helpful now. We are a very long way down the line. As others will know, it was not a straightforward case by any stretch of the imagination. The legal action was taken to recover the surcharge, so it was not only to do with the report, but with trying to surcharge the councillors.

If the company concerned appoints an auditor, it has to stand behind them as well. That would be the expectation of indemnity in this case. I am sure it will not be unique to a company to have to do that. With regard to small auditors, the situation would remain the same. They would presumably cover themselves for the risks.

I hope the explanation is sufficient. If not, and the noble Lord has other points that I have missed, perhaps we can pick them up by correspondence.

[Lord McKenzie of Luton]

I am grateful for those further points. I do not think we are a million miles apart on this; our differences are perhaps fairly narrow. I shall reflect on our discussion. In the mean time, I beg leave to withdraw Amendment 17B.

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[Lord McKenzie of Luton]

My Lords, Clause 26 draws on Section 16 of the Audit Commission Act. This allows a local government elector for an area to make objections in respect of matters where the auditor could make a public interest report, or where the auditor could seek a declaration that an item of account is unlawful. Where objections are received, the auditor must decide whether to take action under these powers.

The purpose of the amendment is to open up some debate around the circumstances where the auditor does not need to consider an objection, circumstances which do not appear to be spelled out in the Audit Commission Act. The amendment introduces a slightly higher threshold for the auditor not to consider an objection, by adding that the auditor must have reasonable grounds for considering that exemptions apply. The Minister may say that this is implied by the current wording. We have no problem with the auditor being able to ignore frivolous or vexatious objections, or indeed an objection that has already been considered. The reason of disproportionate cost is somewhat more problematic and requires potentially more refined judgment—especially when it may involve governance issues rather than considerable sums of public money. Of course, there is a get-out clause in that these provisions cannot be used to avoid the action of an auditor who has serious concerns as to how an authority is managed. Is it envisaged that there would be guidance on this matter—part of the audit code, perhaps? Would the Minister expand on the Government’s views of the parameters of this particular provision?

[Baroness Hanham]

My Lords, the Bill retains the rights of local government electors to question the auditor, as the noble Lord, Lord McKenzie, has said. They can raise objections, if they think that there are matters that the auditor should report on in the public interest, or items that they think constitute unlawful expenditure. The auditor can decide not to investigate an objection—and noble Lords have mentioned the frivolous or unconstitutional—if he or she thinks that it meets certain criteria.

Amendment 17D replaces the basis for an auditor not to consider an objection from “thinks that” to “reasonable grounds for considering”. This means that an auditor would be required to meet a reasonableness test before being able to decide not to investigate an objection. Following consultation, the Government decided to modify the objection process. The Bill, therefore, gives an auditor the discretion not to consider an objection in certain circumstances—where the auditor thinks that the objection is frivolous or vexatious, or it repeats an objection previously considered. The auditor has further discretion to not consider an objection if the financial value is disproportionately small when compared to the cost of the auditor’s time in investigating the issue, as long as the auditor does not think that the objection might raise concerns about serious failures of leadership or management within the organisation.

These specific exclusions are new and we think that providing the auditor with discretion not to consider objections as outlined can help to avoid circumstances where an authority—and therefore the taxpayer—incurs significant additional costs for auditors’ time in investigating an objection which is vexatious, or for the other reasons I have mentioned. Auditors will continue to use their professional judgment in exercising this discretion, as they do now for all their functions. We believe that this amendment would add an additional burden and cost in that an auditor would need to meet a reasonableness test before deciding not to investigate an objection. The auditor’s independence and professional exercise of duties is sufficient to ensure that this will be undertaken properly.

I hope that the noble Lord will accept the explanation and withdraw his amendment.

[Lord McKenzie of Luton]

My Lords, I will not pursue the issue. I was with the noble Baroness until the end, when the comments about a reasonableness test being an extra burden were outlined. If it is envisaged that undertaking a reasonableness test is a significant event, then that is all the more reason to have it because, presumably, it is a meaningful process. I beg leave to withdraw.

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[Lord McKenzie of Luton]

My Lords, this amendment concerns the declaration that an item of account is unlawful. It draws on Section 17 of the Audit Commission Act 1998, which contains similar provisions, although this Bill does not give the Secretary of State power to sanction an item of account which is contrary to law—unless it is tucked away somewhere else in the Bill, in which case perhaps the Minister would let us know. However, the Audit Commission Act does give power to the court to order a person responsible for incurring or authorising unlawful expenditure to repay it in whole or in part to the body affected. It can order that the person is disqualified from serving as a member of a local authority for a specified period. These powers seem to be missing from Clause 27, and the amendment simply seeks to rectify the omission by using the wording from Section 17. The Minister will doubtless say that it is blindingly obvious that these powers are covered elsewhere. If they are, it would be helpful to know where—and, if not, why the exclusion?

[Baroness Hanham]

My Lords, there is a sort of déjà vu about this amendment. The power of surcharge, as the noble Lord said, enables auditors to recover money from individuals whose actions caused losses to their councils, and was taken out in 2000. It was first introduced in the 19th century, and it is felt to be quite unnecessary in modern local government. In its 1997 report on standards in public life, the Nolan committee concluded that surcharge was an “archaic penalty”; what was archaic in 1997 is surely even more so today. Moreover, surcharge was unfair because of the technical difficulties in calculating the relevant sums, which could be well beyond the means of the individuals involved and bore no relation to people’s ability to pay. This could result in damage to families as property and assets were disposed of to pay the surcharge.

I note that this amendment offers no protection to those who act in the belief that the expenditure that they were authorising was lawful, meaning that, as it stands, the amendment might result in councillors or officials having to make a substantial payment as a result of a decision that they make in good faith. Following the abolition of surcharge, the Standards Board regime was introduced to prevent personal misconduct by councillors in office. Unfortunately, the Standards Board regime became a vehicle for petty and malicious complaints so, in 2012, we abolished it and put in place new arrangements for the conduct of councillors. These new arrangements include tough new rules to prevent genuine, wilful corruption, with councillors having to be transparent about their pecuniary interests. The auditor can himself, or after a concern has been expressed, raise the issue of a public interest report, as we have just discussed. We have backed up these rules with a criminal penalty for the wilful disregard of pecuniary interests, giving the courts the power to impose a fine of up to £5,000 and to disqualify a guilty councillor from office.

Surcharge is archaic but, what is more, it is unnecessary. I hope, with my reassurance and a reminder of things as they stand, the noble Lord will withdraw his amendment.

[Lord McKenzie of Luton]

My Lords, I think that I had better move swiftly on. I am grateful for that explanation and a bit of a history lesson, and I beg leave to withdraw the amendment.

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[Lord McKenzie of Luton]

My Lords, in moving the amendment, I shall speak also to Amendment 17FA. I have now noticed that the point that it seeks to cover is, I think, dealt with in Clause 7(7). Clause 27 is concerned with advisory notices and who can issue them. Under Clause 7(7) it seems clear that, in the case of joint appointments, it can be done jointly or by either one of the joint auditors, which was the point that I sought to cover. The same point comes up with regard to who can make an application for judicial review, although I notice that, in Clause 30, the reference is to the Senior Courts Act 1981. The Audit Commission Act, unless it has been amended since, makes reference to the Supreme Court Act 1981. I ask for confirmation on those points and beg to move.

[Baroness Hanham]

My Lords, the noble Lord is correct that Clause 7 dealt with this. However, I think he has a winner coming, because the amendment has raised concerns about its exact correctness. We will ask parliamentary counsel to have a look at this before the next stage. We will probably, or may, return to it and I will advise the noble Lord, in which case, which way. It clearly needs a tweak. I hope the noble Lord will be happy that he has moved us in one direction and will be willing to withdraw the amendment, although, as I say, I think we will be looking at it again at the next stage.

[Lord McKenzie of Luton]

I am grateful to the Minister. I knew there was some reason why I moved this amendment. Can the Minister deal with the point about the reference to the Senior Courts Act and the Supreme Court Act? What is the difference there? Something has happened along the way, I guess, to make each of those separate expressions meaningful in its context. It may be that the Ministers would wish to write on that, unless there is a meaningful note from the Box

[Baroness Hanham]

My Lords, I will certainly write, but I also think we will check. That seems to be the first thing to do. The noble Lord has raised yet another interesting point on this amendment and, if I may, we will come back on both those aspects.

[Lord McKenzie of Luton]

I beg leave to withdraw.

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[Lord McKenzie of Luton]

My Lords, this is a probing amendment concerning advisory notices. It would appear that this regime has replaced the prohibition order regime contained in the Audit Commission Act 1998, but with some key differences. Advisory notices can be served if an auditor considers an authority is about to make a decision that would be unlawful or lead to unlawful expenditure. Under the advisory notice regime, the decision or course of action would be unlawful unless the authority, having reflected, considers it appropriate to proceed. This would appear to contrast with the prohibition order procedure, whereby, unless the order revokes it, the action or decision remains unlawful subject to an appeal to the High Court. Is that correct? Presumably, the risk of proceeding when faced with an advisory notice is that the order would seek a determination from the court that the expenditure involved is unlawful, so the onus has been switched from the local authority to the auditor. Can the Government explain this changed approach?

Our specific amendment was to delete the protection given to auditors from any loss of damage alleged to have been caused by the issuing of the advisory notice, which was issued in good faith. This mirrors the protection given in respect of prohibition notices and raises the question of who is to suffer the loss if there is one. Obviously, this is not without its importance given the difficult financial times that local government is in.

Can the Minister also take the opportunity to spell out for us the difference of treatment of health service bodies where the duty of the auditor is just to refer equivalent circumstances to the Secretary of State and the National Health Service Commissioning Board? What follows from this? I beg to move.

[Baroness Hanham]

My Lords, my note is rather short; it is getting briefer by the minute. The Government think it is important to retain this exemption in order to support the auditor’s ability to undertake the important function according to their professional judgment without fear of facing a damages claim, which, even were it not upheld, would be costly and time-consuming to defend.

Auditors generally report on things that have happened, their opinions on the accounts and the issue of public interest reports, and apply to the court for a declaration that there has been unlawful expenditure. The power to issue an advisory notice is forward-looking, seeking to prevent the authority taking some action that could be unlawful. It is possible, therefore, that auditors will have to act quickly and action may be based on partial evidence. The limitation of liability is to give the auditor some protection to enable them to use their professional judgment. We think it would be right to continue the protection.

With regard to the noble Lord’s questions, the Audit Commission Act includes advisory notices. No major changes have been made to the power to issue an advisory notice. It is still there. This mirrors existing provisions under which the auditor can issue an advisory notice if he thinks that the authority or an officer has undertaken or is about to undertake an unlawful action: a decision on carrying unlawful expenditure, unlawful action or entering an unlawful item of account. There are detailed requirements about the contents of the advisory notice and how it should be served. Within seven days of issuing an advisory notice—this may be something that requires quick action—the local authority is going to have to serve a statement of its reasons for putting forward the advisory notice.

The noble Lord asked me about the difference from the health service. I think I may be able to answer that question—it would seem that I will be writing to the noble Lord to clarify this point on health service bodies, except that I can tell that him that the clause contains the current requirement for local authorities. An equivalent requirement for health bodies has not existed previously and is not required because the governance arrangements for health bodies are different. Health bodies are consolidated into the accounts of the Department of Health and are covered by the requirements of Managing Public Money issued by Her Majesty’s Treasury. As such, they are accountable to Parliament for their expenditure, not to local people. The difference between the two is in the process. Under those circumstances, I may not need to say that I will write to the noble Lord on health service bodies. He will tell me whether he thinks I have answered his question and the others. I hope that I have given him a satisfactory explanation.

[Lord McKenzie of Luton]

Indeed, the Minister has given me satisfactory explanations. It appears that my copy of the Audit Commission Act is not quite up to date because it certainly has references to prohibition orders. I imagine that, somewhere along the way, that was adjusted to advisory notices.

[Baroness Hanham]

My Lords, we will check the matter the noble Lord has raised. I will write to him about that. He will tell me whether he is happy about the health services bodies, in which case, I will not need to write to him.

[Lord McKenzie of Luton]

I can exempt the Minister from writing on health service bodies. I am happy with the explanation and to receive a note on the broader drafting point. I beg leave to withdraw the amendment.