Appointment of Auditors (Section 139, Sub-section (1))

Initial Appointment & Tenure

Every company is required to appoint an individual or a firm as its auditor at the first annual general meeting (AGM). The auditor so appointed holds office from the conclusion of that meeting until the conclusion of the sixth AGM, and thereafter until the conclusion of every sixth AGM. The selection procedure is governed by rules as may be prescribed.

Key Procedural Requirements:

• Written Consent: Before the appointment is made, the written consent of the proposed auditor must be obtained.

• Certification: The auditor must issue a certificate confirming that, if appointed, the appointment will be in accordance with prescribed conditions.

• Section 141 Compliance: The certificate must also indicate whether the auditor satisfies the eligibility criteria laid down under Section 141 (Eligibility, Qualifications and Disqualifications of Auditors).

• Notice to Registrar: The company must inform the auditor of the appointment and file a notice with the Registrar of Companies (RoC) within fifteen (15) days of the meeting in which the appointment is made. The notice is to be filed in Form ADT-1 as per Rule 4(2).

• Explanation — Scope of “Appointment”: For the purposes of Chapter X, the term “appointment” includes reappointment.

Conditions for Appointment & Notice to Registrar (Rule 4 — Companies (Appointment and Qualifications of Auditors) Rules, 2014)

Rule 4 operationalises the proviso to Section 139(1) by specifying the contents of the certificate that an auditor appointed under Rule 3 must furnish.

Rule 4(1) — Certificate Requirements:

(a) Eligibility: The individual or firm is eligible for appointment and is not disqualified under the Companies Act, 2013, the Chartered Accountants Act, 1949, and any rules or regulations thereunder.

(b) Term Compliance: The proposed appointment is as per the term provided under the Act (i.e., consistent with the five-year / ten-year rotation limits in Section 139(2)).

(c) Limit Compliance: The proposed appointment is within the limits laid down by or under the authority of the Act (cap on number of companies an auditor may audit).

(d) Pending Proceedings: The list of proceedings pending against the auditor or audit firm or any partner with respect to professional matters of conduct, as disclosed in the certificate, is true and correct.

Rule 4(2) — Notice to Registrar:

The notice to the Registrar regarding the appointment of the auditor under the fourth proviso to Section 139(1) shall be filed in Form ADT-1. This notice must be filed within 15 days of the AGM.

Term Limits & Rotation (Section 139, Sub-section (2) — Consecutive Term Restrictions)

Sub-section (2) applies to every listed company or a company belonging to the class of companies prescribed under Rule 5. It imposes mandatory rotation of auditors as follows:

Term Ceiling Summary:

Cooling-Off Period & Common Partner Restriction (Provisos to Section 139(2)):

• Individual — 5-Year Cooling-Off: An individual auditor who completes the maximum term under clause (a) shall not be eligible for re-appointment in the same company for five years from the completion of such term.

• Firm — 5-Year Cooling-Off: An audit firm which completes the maximum term under clause (b) shall not be eligible for re-appointment in the same company for five years from the completion of such term.

• Common Partner Bar: No audit firm having a common partner with the outgoing audit firm (whose tenure has just expired) shall be appointed as auditor of the same company for a period of five years.

• Rights Preserved: Nothing in Sub-section (2) shall prejudice the right of the company to remove an auditor, or the right of the auditor to resign from such office.

Class of Companies Subject to Rotation (Rule 5 — Companies (Appointment and Qualifications of Auditors) Rules, 2014)

Rule 5 defines the class of companies to which the rotation requirements of Section 139(2) apply. One Person Companies (OPCs) and Small Companies are excluded.

Manner of Rotation (Rule 6 — Companies (Appointment and Qualifications of Auditors) Rules, 2014)

Rule 6 prescribes the procedure and methodology for implementing auditor rotation upon expiry of the incumbent’s term.

Rule 6(1) & (2) — Recommendation & Board Consideration:

• Where an Audit Committee exists, it shall recommend to the Board the name of the incoming auditor (individual or firm) to replace the outgoing auditor.

• Where no Audit Committee is constituted, the Board of Directors itself shall consider the rotation and make its recommendation to the members for appointment at the AGM.

Rule 6(3) — Calculation of Tenure & Network Restriction:

• Prior Tenure Counting: The period for which the individual or firm held office as auditor prior to the commencement of the Act shall be taken into account when calculating the aggregate period of five or ten consecutive years.

• Network Restriction: The incoming auditor or audit firm shall not be eligible if it is associated with the outgoing auditor or firm under the same network of audit firms.

Rule 6(4) — Joint Auditors:

Where a company has appointed two or more joint auditors, the company may stagger their rotation so that all joint auditors do not complete their terms in the same year.

Rotation Illustrations

The following illustrations (as prescribed in the Rules) demonstrate the transitional tenure calculations for companies already having an auditor at the commencement of Section 139(2). “Consecutive years” means all preceding financial years for which the auditor served without a break of five years or more.

Illustration 1 — Individual Auditor:

Note: Individual auditor includes other individuals or firms whose name, trademark, or brand is used by such individual.

Illustration 2 — Audit Firm:

Note: Audit Firm includes other firms whose name, trademark, or brand is used by the firm or any of its partners.

Prohibition on Certain Services (Section 144 — Auditor Not to Render Certain Services)

Section 144 imposes a negative list of services that an appointed auditor shall not provide to the company, its holding company, or any subsidiary — whether directly or indirectly. Any other service not on this list must be approved by the Board of Directors or the Audit Committee, as the case may be.

Prohibited Services — Section 144, Clauses (a) through (i):

Explanation — Scope of “Directly or Indirectly”:

Individual Auditor: Rendering by the auditor himself, through a relative, any connected or associated person, or any entity in which the individual has significant influence or control, or whose name/trademark/brand is used.

Audit Firm: Rendering by the firm itself, through any partner, or through its parent, subsidiary, or associate entity, or any other entity in which the firm or any partner has significant influence or control, or whose name/trademark/brand is used.

Proviso — Transitional Compliance:

Any auditor or audit firm providing non-audit services on or before the commencement of the Act must comply with Section 144 before the closure of the first financial year after the date of commencement of the Act.

Penalty & Punishment

If any of the provisions from Section 139-146 are contravened, the company shall be punishable with fine which shall not be less than twenty-five thousand rupees but which may extend to five lakh rupees and every officer of the company who is in default shall be punishable with fine which shall not be less than ten thousand rupees but which may extend to one lakh rupees.

If an auditor of a company contravenes the provisions of Section 144, the auditor shall be punishable with fine which shall not be less than twenty-five thousand rupees but which may extend to five lakh rupees or four times the remuneration of the auditor, whichever is less. Provided that if an auditor has contravened such provisions knowingly or wilfully with the intention to deceive the company or its shareholders or creditors or tax authorities, he shall be punishable with imprisonment for a term which may extend to one year and with fine which shall not be less than fifty thousand rupees but which may extend to twenty-five lakh rupees or eight times the remuneration of the auditor, whichever is less.

Detailed procedure for the Appointment of First Auditor in a Company: https://1-comply.com/procedure-for-the-appointment-of-first-auditor-in-a-company/