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Dec 1989

The S&L crisis - putting things in perspective.

by Primoff, Walter M.

    Abstract- The Government Accounting Office (GAO) issued a report in Feb 1989 which was critical of the role of auditors in the savings and loan (S&L) crisis. The report stipulates that the deregulation of the S&L industry caused auditors to face a new environment characterized by: political considerations; deficiencies in the S&L management and structure; and fraud and insider abuse.The GAO criticized the conduct of independent audits on the basis of an inadequate assessment of past due and restructured loans. The report was also criticized real estate appraisal values by auditors and a lack of internal accounting controls for reporting. In addition, the GAO report noted that the S&L guide had not been revised on a timely basis and that there was a lack of communication between auditors and regulators.

The intent of this article is not to address or defend the specific audits which were cited by the GAO, nor to dispute the GAO's findings with respect to alleged audit failures. Rather, the primary purpose is to put the involvement of the auditor in the decline of the industry, and the GAO's allegations related thereto, into perspective.

Included is a discussion of:

* The effects of S&L deregulation;

* The audit environment following deregulation;

* The GAO Report and its findings;

* The adequacy of auditing standards in light of the GAO's recommendations made in the report;

* Differences between regulatory accounting principles (RAP) and generally accepted accounting principles (GAAP) which may have masked the financial condition of many beleaguered thrifts; and

* Action which the accounting profession might pursue to strengthen the audit and reporting process.

Setting the Stage

The last decade has been a turbulent period for both commercial banks (banks) and S&Ls (thrifts). When banks became insolvent, bank regulators quickly closed such institutions or provided assistance to their purchasers under closely supervised arrangements. In contrast, thrift regulators were slow or even resisted closing failed institutions due to massive industry losses and a gradually depleting insurance fund. (Table 1 provides an overview of the financial condition of insured banks and S&Ls at September 30, 1988.) Accordingly, the commercial banking industry and its insurer, the Federal Deposit Insurance Corporation (FDIC) remained relatively sound while the thrift industry and the Federal Savings and Loan Insurance Corporation (FSLIC) were saddled with substantial losses. According to recent calculations, FSLIC is presenting tax-payers with a bill exceeding an astonishing $150 billion dollars. What went wrong? The answer is a combination of deregulation, inadequate regulatory supervision, incompetence, bad luck and pure greed.

Historical Role of Thrifts

The original role of S&Ls was to provide long-term fixed rate home mortgages as a component of government policy in support of family home ownership. The thrifts were funded with federally insured savings accounts whose regulated interest rates were lower than the interest income earned on mortgages, thereby guaranteeing the S&Ls an acceptable profit. In an era before money market, ready asset or similar accounts were legally available, S&Ls were permitted to offer higher interest rates on savings accounts than commercial banks, encouraging most individuals to save with the thrifts. In return, the S&Ls were primarily required to invest in mortgages or related assets, and were prohibited from making commercial loans.

S&Ls thrived in this regulatory cocoon. Profits were built into the system, and the major expertise needed by thrift management was the ability to invest in home mortgages in a stable interest rate environment. Some used to joke that thrift management ran on the "3,6,3 rule," i.e., "borrow at 3%, lend at 6% and leave to play golf at 3."

In 1980, the cocoon was severely ruptured when Congress deregulated interest rates.


With the advent of deregulation, the thrifts' favorable interest rate differential disappeared, and with it the promise of guaranteed profits. Thrifts soon became strapped in a debilitating state of unfavorable interest rate sensitivity due to an extended period of extremely high inflation and interest rates. S&Ls found themselves stuck with asset portfolios principally invested in long-term mortgages whose returns were substantially less than the prevailing market interest rates thrifts had to pay to maintain depositors. Many weak thrifts were unable to manage such interest rate risk exposure.

The regulators' solution to the interest rate squeeze was to deregulate the thrifts even further. They were given sharply expanded powers both to engaged in commercial lending and to invest in high-risk, high-yield assets such as "junk bonds" to bolster earnings. Within a few years, S&Ls were deeply involved with a acquisition, development and construction loans (ADC loans), appreciation-dependent real estate loans, and a host of other speculative vehicles.

Unfortunately, many S&Ls did not possess the necessary competence in commercial lending or high-risk portfolio management to meet the challenge of deregulation. In general, they lacked the management expertise, the information systems, and the infrastructure to monitor and control their deregulated loan and investment portfolios. Weak regulatory oversight and supervision of these riskier activities compounded the issue. The thrifts were ripe for the picking because of incompetence, abuse, fraud, and, unfortunately, too much faith in the price of oil.

The Audit Environment Following Deregulation

Though its magnitude had not been predicted, the S&L crisis did not sneak up without warning. From the beginning of the Congressional deregulation debate until the S&L debacle recently became evident, many, including those in the accounting profession, expressed strong reservations over aspects of thrift operations under deregulation. Some had even questioned the need for a thrift industry in an atmosphere of deregulated interest rates and mortgage volatility. In the end, political judgment and overriden what many believed to make economic sense, and the thrifts were forced from their shelter of benevolent regulation to compete on their own in the "real' world.

Deregulation posed a major challenge for independent auditors. What once had been a stable audit environment had suddenly become highly charged by interrelated economic, regulatory and political factors including:

* Political considerations;

* Severe deficiencies in S&L management and structure, leading to negligence, abuse and ultimately fraud;

* Inadequate regulatory supervision, intensified by the dual role of the Federal Home Loan Bank Board (FHLBB) as both regulator and promoter of the thrift industry;

* Economic decline in the Southwest; and

* Consequences of tax reform.

In addition, the GAO Report alleged that, in certain instances, auditors did not properly identify or react to the changing conditions confronting them.

Political Considerations

While many factors led to the crisis, perhaps the most widespread was the political goodwill that the thrifts enjoyed. Unlike other financial institutions, S&Ls "belonged" to local communities. Their directors and managers have generally well respected citizens who were also active in local charitable and civic endeavors. Can anyone forget Jimmy Stewart's heartwarming portrayal of a thrift President forestalling a run on his bank, in the 1946 film, It's A Wonderful Life?

The thrifts were also a potent political force. Virtually all Congressmen had S&L in their districts. They provided jobs, mortgages and economic growth. In addition, the thrifts had a strong lobby that gave major campaign contributions to their Congressional supporters. Between the goodwill that the thrifts enjoyed back home and their political clout in Washington, Congress made it clear to all concerned that S&Ls were to remain a vibrant force in the economy. Following deregulation, it became common for elected officials to intercede with regulators on behalf of troubled thrifts. In addition, Congress passed legislation, the principal effect of which was to permit practices that, in some cases, masked the insolvency of bankrupt thrifts.

Thrift Management and Structure

Before deregulation, thrifts did not require highly sophisticated management information, internal control and other business systems. Deregulation sharply changed this picture. Increased competition, coupled with expanded thrift powers, often exceeded management's skills and existing information/control systems, which were not designed to meet such needs. In many instances, these shortcomings constituted significant control weaknesses, e.g., the absence of credit risk review systems or interstate risk models.

In certain cases, competent management coupled with sound operating procedures and controls were absent. Often, management's judgment, rather than independent credit reviews, was the sole basis for assessing loan collectibility. Inadequate segregation of duties and poor information systems also served to undermine basic internal controls.

Where there were shortcomings in management abilities or inadequate information systems and controls, auditors a and regulators were left to function without this first line of defense against business risk. This made them vulnerable to the existence fraud and insider abuse that later occurred.

Fraud and Insider Abuse

In a March 1988 report to Congres, the FLHBB cited fraud and insider abuse as the most pernicious of all factors leading to thrift insolvency. Collusion by management with borrowers and appraisers often concealed losses and liabilities. In certain criminal cases currently in the courts, management is alleged to have falsified delinquent loan and thrift records and misappropriated assets for their own use and benefit. The extent of fraudulent activities was so far-reaching that Congress passed a $65 million increase in the Department of Justice's budget to investigate and prosecute crimes against thrifts, as well as imposing stiff civil penalties. Rep. Carroll Hubbard (KY) aptly noted that in many cases independent auditors of S&Ls were "victims" because they received false and misleading information from the institutions they audited.

Inadequate Regulatory Supervision

Just as certain thrift management lacked the managerial expertise to meet their new challenges, the FHLBB also lacked the internal resources to adequately monitor S&Ls that were making highly speculative loans and investments. More serious, however, was the conflict of interest inherent in the structure of the FLHBB which acted both as the thrift industry's watchdog and as its chief promoter with the public and Congress. It was in the conflicting position of having to ferret out insolvency in its regulatory role while proclaiming the industry's solvency in its promotional role. This situation may have led the FHLBB to alter capital standards to salvage troubled thrifts, thereby muffling the serious warning signals being sent out by impending failures.

On the accounting, side, the FHLBB permitted the use of certain RAP that were far less stringent thatn GAAP. For example, in 1981, the FHLBB permitted S&Ls to defer losses from sales of assets with below market yields, contrary to GAPP. Another example was net worth certificates supplied to S&Ls by FSLIC in the form of "IOUs," which counted as capital. Despite the objections of the Financial Accounting Standards Board (FASB), which viewed such "IOUs" as nothing more than a thrift financing with the offset recognized as a receivable due from FSLIC, the regulators continued on this course. These and similar actions enabled weak institutions to continue operations, often at a loss, which led to the further deterioration of the industry.

Compounding the accounting forebearance that prevailed, the FHLBB ignored the warnings from independent auditors. Numerous audit reports for individual thrifts filed with the FHLBB contained significant qualifications that went unheeded. These reports should have led to quick action by regulators to prevent or stop unsafe or illegal practices. Instead, primarily due to manpower limitations, many of the reports were either not dealt with, or regulators prescribed costly and ineffective treatments hoping that borrowed time would cure terminally- ill thrifts.

It was not until late 1987, with a nearly insolvent FSLIC on their hands, that legislators became aware of these accounting abuses, and the Competitive Equality Banking Act was enacted. This act required the FHLBB to develop accounting standards which would follow GAAP. The provisions of this law became effective January 1, 1989, with total uniformity to be achieved by January 1, 1994. Audited financial statements were required to be on a GAAP basis as of January 1, 1989, and were required to show a reconciliation of GAAP capital to regulatory capital. All thrift financial reports and counter reports were required to be on a GAAP basis with two exceptions: unamortized deferred losses could still be reported as assets and liquid asset mutual funds could be carried at cost. After December 31, 1983, thrift financial and counter reports also were to be on a full GAAP basis.

The Financial Institutions Reform, Recovery and Enforcement Act of 1989 (FIRREA) takes the change in reporting requirements one step further. Under FIRREA, federally insured savings associations may be required to adopt various bank regulatory accounting practices that are more conservative than GAAP.

Between the political mandate of Congress, the inadequacies of S&L management, and lax regulation, the woodpile and tinder were in place for an ensuing blaze. All that was needed was the match that was struck by the economic decline in the Southwest.

Decline in the Oilpatch

Fueled by the high price of oil, almost every sector of the oilpatch economy was booming at the time of S&L deregulation. The S&Ls in this region, in need of high investment returns, became major players in speculative real estate and other oil price-dependent ventures. When oil prices fell, thrifts, whose portfolios were overly dependent on high oil prices, faced billions of dollars in losses. A prolonged economic depression in the oil and real estate markets soon caused widespread S&L insolvencies. Regional unemployment reached an all time high, and the spiral of regional economic failure confronted thrifts, along with massive defaults of home mortgages and other consumer loans.

The Consequences of Tax Reform

Tax reform legislation also contributed to the final cost of the thrift industry bailout. S&L insolvencies in the Southwest were largely driven by the collapse in the value of real estate related assets held in their portfolios. A large number of real estate loans and investments were made prior to the enactment of the Tax Reform Act of 1986 (TRA 86) and its passive loss rules. After TRA 86, many real estate projects, which had previously been viable as producers of tax deductions, suddenly became moribound in the eyes of investors, which led to many defaults. Further, as the federal government now begins to liquidate the real estate held by insolvent S&Ls, the amounts to be realized will most likely be substantially less than would have been realized before TRA 86.

The Auditors and Changing Conditions

During the 1960s, the FHLBB mandated that all thrifts have independent audits to augment the examinations performed by regulators. In its report, the GAO alleged that there were a number of deficient audits warranting serious concern by the accounting profession. The GAO alleged that, in certain cases, auditors had insufficient knowledge of high-risk audit areas such as land and ADC loans and they did not always respond to the dramatic changes in the financial operations of their individual client engagements or the industry, in general. Just as the S&L industry and regulators were caught off guard, the GAO Report alleges that, in certain cases, auditors also failed to react to the changing business climate by altering their audit strategies.

The GAO Report also alleged that certain auditors failed to independently verify management's oral assertions of loan collectibility and collateral values. Auditors acquiesced to management's concerns over cost constraints (particularly for those institutions already financially strapped) by not insisting on property appraisals for questionable loans.

While it is true that auditors have few weapons and no legal authorities or powers other than the threat of a qualified audit report, auditors must strengthen the audit process. This is particularly true in highly judgmental areas such as assessing the adequacy of the loan loss reserve. It was alleged that independent auditor evaluation and exercise of audit skepticism often were absent in such reviews.

The GAO Report on CPA Audit Quality

By 1987, the growing crisis could no longer be ignored. In preparation for Congressional hearings that would hopefully lead to a legislative solution, the GAO conducted a series of probes. An inquiry concerning auditor performance on S&L engagements was conducted at the request of the House Committee on Banking, Finance and Urban Affairs. The end product was a report evaluating the quality of independent audits performed on failed thrifts in the Dallas Federal Home Loan Bank District. The District, which encompasses Texas and its neighboring states, is the area where many of the major thrift failures occurred.

In February 1989, the GAO issued its report entitled CPA Audit Quality: Failures of CPA Audits to Identify and Report Significant Savings and Loan Problems (GAO Report). It was reprinted in its entirety in the March 1989 Journal of Accountancy. Within days, the GAO Report was the subject of House Banking Committee hearings which included testimony from representatives of the GAO, the AICPA and individual CPA firms.

The GAO Report contained a number of criticisms of both the accounting profession's S&L auditing standards and the conduct of the S&L audits it reviewed. In addition to specific audit findings cited, the GAO Report included corresponding recommendations. Table 2 provides a summary of pertinent characteristics of 26 of the 29 failed thrifts in the Dallas region, which were the initial group chosen by the GAO for review. No doubt, this particular group of thrifts was a troubled lot. The principal GAO assertions, with a brief commentary on each, are presented below:

* S&L Audit Guide. The AICPA Audit and Accounting Guide for Savings and Loan Institutions had not been revised on a timely basis and, therefore, did not provide current technical guidance on new accounting and auditing issues. The GAO seems to have singled out this situation as the most serious of the deficiencies it alleged.

* Acquisition, Development and Construction (ADC) Loans. There was a lack of timely guidance regarding certain high-risk real estate loans, especially ADC loans. In addition, the GAO alleged that auditors failed to evidence that they had adequately recognized and evaluated the financial risks that ADC projects posed to S&Ls. The GAO Report further states that in a high percentage of failed thrifts, effective underwriting controls and commercial real estate lending policies were nonexistent. Loan documentation, including borrower financial statements, tax returns, appraisals, engineering studies and loan-to- value ratios were often prepared poorly or inaccurately, hindering auditor review.

* Restructured and Past Due Loans. The GAO Report asserted that auditors did not make adequate assessments of the risks associated with past-due, nonaccrual and restructured loans, and geographic and industry concentrations.

When real estate values in the Southwest declined in the mid-1980s, many S&Ls were unable to collect on their ADC loans. Many ADC loans provided for balloon payments under which the entire principal and interest became due at once, several years after the loan was granted. In other cases, thrifts provided an "interest reserve" to borrowers so that debt service payments could be made out of loan proceeds for a period of time. S&Ls eagerly restructured or renewed such loans to avoid default. The GAO Report alleged that auditors did not always identify or adequately evaluate the financial effect or risk of these restructured loans.

Often, loan payments were made equal to property cash flows, thereby masking the true financial condition of the property until a reappraisal was demanded by auditors or regulators.

* Real Estate Appraisals. The GAO Report asserted that auditors did not properly substantiate appraisal values for real estate properties, made inadequate reviews of appraisals and failed to obtain independent verification of appraisal values.

Appraisals were a prime area of abuse for failed thrifts. In many instances appraisal reports were based on methodologies that resulted in values which were grossly inflated. Therefore, when auditors reviewed the loan file, the appraisals improperly indicated that the value exceeded the recorded loan amount. Auditors also relied on appraisals that were prepared by internal appraisal departments or may have been fraudulently prepared. Clearly, fraud of this type is very difficult for the auditor to detect. Present auditing standards state that an auditor is not required to authenticat documents, nor is an auditor trained to do so.

* Communication Between Auditors and Regulators. The GAO Report aserted that there was inadequate communication between independent auditors and bank regulators and examiners, including the assessment of regulatory violations, regulatory actions and examination findings.

Specifically, the GAO alleged that auditors did not adequately report regulatory actions and violations, such as excessive loans to single borrowers and related parties. In addition, the GAO alleges that auditors did not evidence that they had adequately followed up on problems identified by federal examiners. However, only now, through FIRREA, are the restrictions preventing the free flow of information between regulators and auditors being lifted.

* Internal Accounting Controls. The GAO Report asserted that there were inadequacies in the assessment of internal accounting control deficiencies and the reporting thereof to management and to directors or trustees.

Management and internal control weaknesses have been cited as a leading cause of thrift failures. The GAO Report asserted that although certain auditors were aware of material internal control problems at thrifts, they often failed to report them, or if they did, did not characterize them as material.

The initial reaction to the GAO Report was extremely disparaging to the accounting profession. However, at the House Banking Committee hearings the GAO Report came under fire. Committee members and other critics questioned aspects of the GAO Report, especially the GAO's methodology and fairness.

Regardless of any possible bias in the GAO's Report or the shortcomings noted above, the GAO Report contains some important and worthwhile findings that CPAs should seriously consider and that require corrective action. Table 3 highlights the specific audit deficiencies identified in the GAO Report, along with the related authoritative auditing guidance which address these concerns.

The GAO's Approach

A reading of the GAO Report's transmittal letter and related press material (primary sources for the media) may lead to the misconception that more than 50% of CPAs' audits of S&Ls were inadequate and that the AICPA did not provide sufficient technical guidance to "ensure that S&L audits are performed in a quality manner." That possible misconception could arise if the specific procedures followed in choosing the audits were not understood.

Using FSLIC records, the GAO determined that between January 1, 1985, and September 30, 1987, the Dallas District had 29 S&L failures. The most recent audits of 11 of these failed thrifts were the subject of the detailed GAO review. The GAO noted that the audit reports of the other 18 failed thrifts "generally identified problems with loan collectibility or other factors affecting the S&Ls ability to continue in business." Nine of the 11 audits were selected based on three criteria:

* High growth in the S&L's assets in the three- to four-year period before failing;

* The S&L's financial statements did not adequately reflect relatively large loan losses; and

* The audit reports for the S&Ls did not question the extent of loan losses.

Of the 11 audits reviewed, the GAO has asserted that 6 were deficient.

It has been universally acknowledged that valid inferences can only be drawn from random samples. The methods employed by the GAO in choosing the 11 audits reviewed were biased and not a representative sample. The sampling method, therefore, lacks the statistical validity to draw general conclusions from which to develop sound public policy. In that perspective, the methodology must be considered seriously flawed. While even a single audit failure is cause for concern, it is clear that no valid general inferences as to the industry-wide performances of auditors can be drawn from the GAO's study of the audits of 11 specifically chosen thrifts.

The GAO Report should have emphasized that only a small fraction of S&L audits were studied and that the study was conducted in an economically depressed region. Instead, the GAO highlighted its assertion that 6 of 11 audits studied were deficient, leading many to erroneously conclude that more than half of all S&L audits were inadequate.

In his testimony before the House Banking Committee, AICPA President Philip Chenok noted that the number of cases alleging audit failure involved only four-tenths of 1% of all audits of public companies performed over the last six years. The GAO Report has produced no reliable findings to dispute Mr. Chenok's assertion that if the sample would include the entire 3,000 FHLBB regulated S&Ls, it would likely substantiate the overall high quality work performed by independent auditors. However, the S&L crisis provides valuable lessons that can help the profession improve audit quality.

Professional Standards and the Role of AICPA Audit


Although the list of relevant authoritative literature is quite extensive, much of the on-point guidance came too late, being issued after the thrift industry had already gone into a downward tailspin. Additionally, revision of the S&L Audit Guide (Guide)(last revision in 1979) is, at this writing, long overdue. The accounting profession must determine how to respond with more timely and effective auditing and accounting guidance during periods of rapid change in particular industries or economic areas which cause an increase in audit and reporting risks.

The process of developing timely professional audit guidance must be improved, and some suggestions are presented later in this article to accelerate the issuance of technical audit guidance. However, the GAO overstated its case when declaring that insufficient audit guidance was the main contributor to what it asserted were audit failures.

The GAO Report placed special emphasis on the lack of up-to-date guidance in the Guide. This document is not and was never intended to be the only source of guidance for S&L audit and accounting issues. CPAs do not rely on a single source of professional literature in conducting an audit. Moreover, audit guides are used only as tools in the development of sound audit procedures. Instead, detailed audit programs and procedures, tailored by auditors for each engagement, are the underpinnings of a properly planned and executed audit.

The process of providing professional guidance is continually being improved. AICPA President Philip Chenok stated before the House Banking Committee that it would be a mistake to conclude that practitioners have been without guidance or professional support since the Guide was last revised. He noted that over the last five years, the AICPA issued seven statements of position, 12 notices to practitioners, five practice bulletins, 17 new or revised auditing standards and 12 audit guides. Much of this guidance was directly related to financial institutions, including S&Ls. Likewise, the FASB has issued numerous statements and technical bulletins, while the FASB's Emerging Issues Task Force (EITF) has been heavily involved in issues pertinent to financial institutions and innovative financial instruments.

Summary of the GAO Report on CPA Audit Quality

The GAO Report fails to place the role of independent auditors in proper perspective. Its worthwhile observations are overshadowed by a misunderstanding of the sources and role of the accounting profession's auditing standards. The thrift crisis was not caused by auditors, but by the combination of environmental, regulatory and human factors previously discussed. However, this does not excuse the accounting profession from its responsibilities to conduct quality audits.

Strenghthening the Audit Process

With the advent of deregulation, the S&L industry became a much more complex and risky business dealing in fiercely competitive markets and requiring product innovation and active management participation. However, the dissemination of knowledge to auditors regarding this changing environment has, at times, not kept pace with the rate of these changes. An example is the need to update the S&L Audit Guide. Ways to mitigate such lapses and improve the quality and conduct of all audits in changing environments must be found.

EITF for Auditors

While accounting firms, professional journals, continuing education and other forums provided timely, unofficial guidance for auditors throughout the S&L crisis, important authoritative guidance was delayed. Part of the problem is due to the extensive due process procedures required to promulgate auditing standards. In addition, most of this work is performed by technical committees whose volunteer members have primary obligations to their clients, firms and employers. To meet the demands of the quickening pace of business, independent auditors would benefit from a mechanism similar to the EITF for accounting standards, which is designed to address accounting matters more timely than the FASB. Like the FASB, the AICPA issues auditor guidance only after adequate due process. An auditing EITF, however, could possibly reach consensus on technical auditing matters more swiftly, perhaps within a few weeks or months after the emergence of a new situation confronting the auditor.

Improve Communication Between Auditors and


The public accounting profession should also strive to open and enhance lines of communication between independent auditors and regulators. This area is of particular concern in light of the numerous qualified audit reports submitted to thrift regulators which went unheeded. William Seidman, Director of the FDIC, strongly advocates auditor access to all regulatory reports. In addition, a better process should be established so audit reports filed with regulatory agencies are followed-up on a timely basis and corrective action taken. Improved cooperation would benefit all parties. The means for improved communication has become part of the legislative remedies recently enacted in FIRREA. (See sidebar to this article). Hopefully, that corrective action will create the atmosphere for constructive, positive interaction between auditor and regulator.

Auditor Skepticism

Several critics have accused thrift auditors of too easily agreeing with managements' assertions and failing to demonstrate the professional skepticism, conservatism, objectivity, and independence that are the very cornerstones of the profession. In addition, the auditor must be vigilantly alert to new business circumstances. Changes are rapid and occur in unsuspected ways. Auditors must adhere to the highest standards of practice to maintain the public's confidence and trust.


Murphy's law was rampant during the period of decline in the S&L industry. The cost of the lessons learned may be unparalleled in American business. However, lessons have been learned. FIRREA, at the cost of a return to more regulation, seems to have much of what is needed to bail out the industry and create an environment for stability and safety.

The public accounting profession is also responding by providing more timely guidance to emerging practice issues. In addition, the AICPA will soon publish a revised S&L Audit Guide, incorporating substantial updates on thrift business activities, related risks and current accounting and auditing matters.

There is, however, still an expectation gap to be bridged. The public must be further educated that the auditor is an historian and not a fortune teller or guarantor. An audit tests, validates, and assesses transactions which have already occurred. It is not oriented toward predicting future events. Nevetheless, the public continues to expect the auditor to predict future business failures. Only when the public understands the role of the auditor and the limitations of an independent audit will auditors be fairly evaluated and held accountable for the services they are engaged to perform.

Mary B. Molloy, CPA, is Chairperson of the NYSSCPA Banks and Savings Institutions Accounting Committee and a member of that society and the AICPA, She and members of the committee are experienced in the financial services industry either in the practice of public accounting or as members practicing in industry.

Walter M. Primoff, CPA, is consulting editor of The CPA Journal and Director of Professional Programs and Tax Policy of the NYSSCPA.

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