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California CPA Magazine

Welcome to your backstage pass to exclusive interviews with industry leaders—plus, the latest updates on tax laws, financial regulations, accounting standards, and game-changing technology that's reshaping the financial and California landscape. 

For tax professionals who has ever had to review a client’s expenses for repair, acquisition or production of tangible property, the question of whether to capitalize or expense continues to stump even the most experienced CPAs due to the subjectivity involved and heavy reliance on facts and circumstances.

Thousands of dollars of expenses may need to be capitalized in one situation, while the same amount may be deducted in another. This article addresses this issue along with some key points CPAs and taxpayers should consider. It briefly explains the benefits of expensing, limitations on capitalizing, and the application of two useful safe harbors: the 

 safe harbor and the safe harbor for routine maintenance.

The benefit of expensing an item versus capitalizing it is readily apparent, but there are other factors to consider. If the amounts are below the 

 threshold, the taxpayer will need to have documentation only to substantiate the amount paid. The taxpayer’s adviser and preparer will not need to spend time analyzing the support for, or nature of, the expenses, and there will never be an issue of recapture.

With bonus depreciation phasing out and scheduled to be eliminated by the end of 2026, the impact of capitalizing an expense becomes greater. Even with bonus depreciation, taxpayers run the risk of dealing with depreciation recapture (where they must report previously taken depreciation as ordinary income) if an asset is disposed of before the end of its useful life.

The Sec. 179 deduction is also available in many instances but has its own complexities and limitations: which assets qualify; the maximum threshold to deduct; and most important, the inability of the Sec. 179 deduction to reduce the bottom-line income to a loss position. Granted, an excess Sec. 179 deduction carries over to future years, but it is not an immediate deduction in the year the expense is incurred.

Another pitfall of the Sec. 179 deduction that many CPAs may not be aware of is that trusts and estates cannot claim it. Therefore, a client with a pass-through entity with a trust or estate as a partner should be aware that any Sec. 179 deduction allocated to such a partner will be a nondeductible expense for that partner.

Regs. Sec. 1.162-4 provides that a taxpayer may deduct amounts paid to acquire or produce tangible property if the amounts paid are not otherwise required to be capitalized. One of the easiest ways to answer the oft-vexing question of whether to capitalize an expense is the 

 safe harbor election under Regs. Sec. 1.263(a)-1(f).

This election allows taxpayers to expense an item immediately, with no need to substantiate why it is not being capitalized.

It is important to note that the dollar threshold is applied per invoice (or per item as substantiated by the invoice). Therefore, even though taxpayers are not required to keep detailed documentation for items expensed under this election, taxpayers who purchase multiple items on one invoice should retain a copy of the itemized invoice. The election applies to the acquisition or production of a unit of tangible property (Regs. Sec. 1.263(a)-2), materials or supplies (Regs. Sec. 1.162-3) and additional categories discussed in this article.

 safe harbor is elected under Regs. Sec. 1.263(a)-1(f), it must be applied to all materials and supplies that meet the requirements of 

, except for those the taxpayer elects to capitalize and depreciate or uses the optional method of accounting for rotable and temporary spare parts, under Regs. Secs. 1.162-3(d) and (e), respectively. This election does not apply to amounts paid for land; property that is intended to be included as inventory; or any rotable, temporary, or standby emergency spare parts that the taxpayer has elected to capitalize under Regs. Sec. 1.162-3(d).

 election is made annually by attaching a statement to the taxpayer’s timely filed original federal tax return (including extensions) for the tax year in which the amounts were paid. Most, if not all, tax software programs can produce this election statement. The taxpayer is also required to have an accounting procedure (in written form if the taxpayer has an applicable financial statement (AFS)) indicating that it will expense any item below the threshold and treat the amount paid as an expense on its financial statements and books.

 Expensing Policy,” for an example of a written accounting policy for purposes of qualifying for the 

 threshold amounts depending on whether the taxpayer has an AFS. An AFS includes any of the following:

 threshold is $5,000. If the taxpayer does not have an AFS, the threshold is $2,500 (Regs. Sec. 1.263(a)-1(f)(1)(ii)(D), as amended by Notice 2015-82). Regs. Sec. 1.263(a)-1(f)(7) also provides several helpful examples addressing different scenarios. Example 3 is a good illustration of the threshold being used for individual items in an invoice where the 

 safe harbor applies and a taxpayer has an AFS. Following is a summary of that example:

Company C has a written accounting policy at the beginning of year 1, which C follows, to expense amounts paid for property costing $5,000 or less. In year 1, C pays $6,250,000 to purchase 1,250 computers at $5,000 each. C receives an invoice from its supplier indicating the total amount due ($6,250,000) and the price per item ($5,000). Assume that each computer is a unit of property under Regs. Sec. 1.263(a)-3(e). The amounts paid for the computers meet the requirements for the 

 safe harbor; C must expense the purchases pursuant to C’s accounting policy; and C may make a 

 safe-harbor election for year 1 and deduct the entire amount in year 1 for tax purposes.

Another safe harbor that can help taxpayers avoid the uncertainty of expensing versus capitalizing an item is the safe harbor for routine maintenance under Regs. Sec. 1.263(a)-3(i). This is more complex and has more criteria for eligibility compared to the 

 election, but the scope of eligible maintenance costs that can be expensed is significantly broader.

The term “routine maintenance” refers to costs incurred on a unit of tangible property or a building that are deemed not to improve that unit of property or building.

To apply this safe harbor, assuming it deviates from how the taxpayer has been accounting for such costs, the taxpayer will need to file a request for an accounting method change via Form 3115, Application for Change in Accounting Method, with designated change number 184. This is an automatic method change, so completing Form 3115 is relatively straightforward.

Also, this is a one-time election that will apply to all subsequent years unless the taxpayer later decides to request another method change, unlike the 

 election, which is an annual election and binding only for the tax year made.

Under the safe harbor for routine maintenance, the amounts incurred can be expensed if the purpose for incurring the expense is related to an ongoing activity to keep the unit of property or building structure or building system at or close to its original or efficient operating condition. The expense cannot improve the unit of property or building structure or system.

Keep in mind that part of this requirement is that the wear and tear of the unit of property or building structure or system results from the taxpayer’s using it for its intended purpose. Expenses incurred related to scheduled maintenance shortly after the unit of property or building structure or system is purchased and/or placed into service would thus not qualify.

What does it mean for an activity to be “routine” in nature? This can be open to interpretation. Regs. Sec. 1.263(a)- 3(i)(1)(ii) provides an explanation as to what is routine in nature as well as some examples, which are not all inclusive. Routine maintenance may be performed at any time during the class life of the unit of property or building structure or system (discussed below). However, the activities are routine only if, at the time the taxpayer places the unit of property or building structure or system into service, the taxpayer reasonably expects to perform the routine activity more than once during its class life.

There is no clear answer as to what a routine expense is, but the regulations provide some examples and explanations regarding the requirement: The inspection, cleaning or testing of the unit of property or building structure or system and/or the replacement of damaged or worn parts of the unit of property or building structure or system with comparable and commercially available replacement parts are all types of expenses that do not ultimately improve the unit of property or building structure or building system and therefore qualify as routine maintenance eligible to be expensed. Besides the examples provided in the regulations, other costs can be expensed, depending on a client’s specific circumstances.

A taxpayer’s expectation of performing the routine maintenance will not be deemed unreasonable simply because the taxpayer did not perform the maintenance more than once during the class life of the unit of property or building structure or system. The expectation would still be considered reasonable, provided the taxpayer can substantiate that, when the property or building structure or system was placed in service, it was reasonable to expect to perform maintenance more than once during its class life.

Sec. 168(e) provides a table that indicates the class life for each category of property when determining the depreciable life for tax purposes. Secs. 168(g)(2) and 168(g)(3)(B) go further into detail about the class life to be used when determining the “routine activity performed more than once during its class life” criteria. Sec. 168 also details other specific class lives for qualified improvement property, qualified technological equipment, automobiles, and certain real property that should be reviewed when applying this election.

Regs. Secs. 1.263(a)-3(i)(1)(i) and (ii) also identify key factors in determining whether the maintenance is routine and reasonable. According to these regulation sections, the taxpayer should consider the recurring nature of the activity, industry practice, the manufacturer’s recommendations, and the taxpayer’s experience and history with similar or identical property.

Regs. Sec. 1.263(a)-3(i)(6) provides several examples that clarify the application of the safe harbor for routine maintenance. Example 1 provides a great illustration of how certain costs required by the manufacturer or a governing agency can be expensed if the item is a recurring one, does not improve the unit of property, and is within the class life of that unit of property.

Regs. Sec. 1.263(a)-3(k)(6) addresses the replacement of a major component or a substantial structural part of a unit of property. This type of expense can qualify for the routine maintenance safe harbor if the unit of property has not deteriorated to an unusable condition and the replacement is part of routine maintenance and recurs more than once during its class life. However, if the unit of property is being restored and thus improved, the taxpayer must capitalize the replacement’s cost.

A major component is a part or combination of parts that perform a discrete and critical function in the operation of the unit of property (Regs. Sec. 1.263(a)-3(k)(6)(i)(A)). A substantial structural part is defined as a part, or combination of parts, that comprises a large portion of the physical structure of the unit of property, a definition that is open to interpretation (Regs. Sec. 1.263(a)-3(k)(6)(i)(B).

Examples 25, 26, and 27 under subparagraph (7) in this regulation provide valuable illustrations of how these rules operate with respect to replacing windows on a building. This may be helpful to taxpayers who own residential or commercial buildings, and the concept can be applied to other aspects of the building structure or its systems.

These three examples involving the replacement of windows give useful insight into what the IRS views as a major component and substantial structural part. It is clear that windows are considered a major component of a building and can be a substantial structural part of the building. But what is important to note about these examples is whether a “significant portion” of the major component or substantial structural part has been replaced.

Example 25 illustrates when there is not a replacement of a major component or a substantial structural part. In it, a building has 300 windows that comprise only 25 percent of the surface of the building, and 100 out of the 300 windows were replaced. The example states that 25 percent of the building structure is not a substantial structural part of the building structure.

Further, while the windows perform a discrete and critical function in the operation of the building structure and are a major component of the building structure, 33% of the windows does not comprise a significant portion of this major component. The cost of the window replacements therefore can be expensed.

In contrast, Example 26 shows that 200 out of 300 windows (approximately 67 percent) is considered a significant portion of the major component, and therefore the cost of replacing 200 of the windows must be capitalized.

Example 27 illustrates a unique scenario where the windows would need to be capitalized. According to the example, the 300 exterior windows, which represent 90 percent of the total surface area of the building, perform a discrete and critical function in the operation of the building structure and are, therefore, a major component of the building structure.

However, the 100 windows replaced do not comprise a significant portion of this major component of the building. The example states that they do, however, comprise a substantial structural part of the building structure.

Even though only 100 out of the 300 windows were replaced (approximately 33 percent), the windows replaced comprise a significant portion of the of the building structure. Thus, the amount paid to replace them must be treated as a restoration that must be capitalized.

None of these percentages in the examples are part of the actual regulations. However, these examples show that there is room for interpretation as to what constitutes a significant portion of a unit of property while also providing some guidelines.

The de minimis safe-harbor election can simplify the decision-making process and provides more certainty for immediately expensing certain items, subject to dollar limitations. This method can save both time and administrative burden. However, it is crucial to remember that this election does not apply to land, inventory, or certain specialized spare parts (Regs. Sec. 1.263(a)-1(f)(2).

On the other hand, the safe harbor for routine maintenance provides a broader ability to expense costs incurred to maintain property, so long as the property’s value is not enhanced. It may require filing Form 3115 for a method change, but this is relatively simple.

The “routine” aspect of the maintenance is open to interpretation, so it is important to discuss this with your client to determine the best course of action.

The question of whether an expense must be capitalized or can be expensed is a critical issue that often perplexes CPAs and taxpayers alike. However, the de minimis and routine maintenance safe harbors are at the disposal of taxpayers and their advisers to help address this quandary.

These two essential safe harbors offer distinct approaches in addressing this dilemma and will help taxpayers navigate the complex maze of the repair regulations. They provide tax advisers with the means to make informed decisions and better serve their clients.

As the tax landscape evolves, this knowledge will prove indispensable, ensuring tax professionals are well prepared to handle repair expenses with confidence.

This accounting policy establishes the minimum cost (capitalization amount) that shall be used to determine the capital assets to be recorded in our books and financial statements.

2. Capital asset definition and thresholds

A “capital asset” is a unit of property with a useful life exceeding one year and a per-unit acquisition cost exceeding $2,500/$5,000*. Capital assets will be capitalized and depreciated over their useful lives. We will expense the full acquisition cost of tangible personal property below these thresholds in the year purchased.

All capital assets are recorded at historical cost as of the date acquired. Tangible assets costing below the aforementioned threshold amount are recorded as an expense for our annual financial statements (or books). In addition, assets with an economic useful life of 12 months or less must be expensed for both book and financial reporting purposes.

Invoices substantiating the acquisition cost of each unit of property are to be retained for a minimum of seven (7) years.

*Tax capitalization threshold: The permissible ceiling for deducting otherwise capitalizable expenditures is $5,000 when our business has applicable financial statements. The threshold is limited to $2,500 in the absence of applicable financial statements.

Signature  __________________________ Date ________________

Reprinted with permission from The Tax Adviser.

The De Minimis and Routine Maintenance Safe Harbors

For tax professionals who have had to review a client’s expenses for repair, acquisition or production of tangible property, the question of whether to capitalize or expense is one 
that continues to stump even the most experienced CPAs.


Safe Harbor

With at least two years post-implementation of the largest change to lease accounting, all of us have hopefully explained the nuances of FASB ASC 842 to our clients, have perfected Excel templates for computing right-of-use assets and liabilities, and explained to users of the financial statements that the recognition practices for both operating and finance leases “really have not changed much.”

However, the “fix-it and forget-it” Excel templates aren’t the end of the discussion. Times change, and leases change, and the changes to the terms and features of existing leases, called “lease modifications” remain.

Understanding the challenges of how to assess and account for lease modifications is crucial for companies to ensure compliance and accurate financial reporting. “Lease modification” can refer to any of the following changes:

ASC 842 categorizes lease modifications into two types: those that result in a separate contract and those that do not. The key is determining which modifications result in treating as a separate contract (e.g. a new lease) and which are treated as modifications to an existing lease (e.g. keep the old lease but recompute the ROU assets and liabilities).

The existence of both of the following two conditions gives rise to the separate contract (e.g. new lease) scenario:

If both conditions are met, the modification is treated as a new lease and the existing lease remains unaffected. Both the lessee and the lessor recognize a new lease contract, and the lessee recognizes a new right-of-use asset and a corresponding lease liability, while the lessor recognizes a new lease receivable or investment in the lease (depending on whether the lease is a finance or operating lease). Both lessee and lessor recognize a new lease component, without adjusting the original lease.

When there are modifications that are not treated as a separate lease, these are accounted for as a change to an existing lease. This requires the remeasurement of the existing lease liability and ROU asset. The accounting treatment depends on whether the modification is considered a change in the lease scope or a change in the lease payments. Examples include:

Generally, this reassessment occurs at the time of a triggering event, which is the date that the modifications are recorded. Examples of triggering events:

What You Need to do Depends on the Type of Modification

 If the modification partially or fully terminates the lease, the lessee will reduce the carrying amount of the ROU asset and lease liability to reflect the revised lease term or scope. Any difference between net carrying amount reduced and the consideration paid (received) for termination is recognized on the income statement as a gain or loss on lease modification.

For modifications that amend the lease term, payments or other terms without terminating the lease, the lessee must remeasure the lease liability using a revised discount rate as of the effective date of the modification. The revised lease liability reflects the present value of the remaining lease payments under the modified lease terms. The lessee adjusts the ROU asset by the difference between the previous lease liability and the remeasured lease liability.

Change in Scope Without a New Lease Component:

 If a modification changes the scope of the lease (e.g., adding or removing the right to use a portion of the leased asset) without adding a new lease component, the lessee must reallocate the consideration in the contract to the modified lease components. The lease liability is remeasured, and the ROU asset is adjusted accordingly. If the remeasurement results in a reduction of the ROU asset to zero, any excess is recognized in profit or loss.

The following chart illustrates what changes when the remeasurement or modification accounting is required:

The accounting treatment for lease modifications differs between lessees and lessors. Lessors must also consider whether the modification results in a separate lease or a continuation of the existing lease.

For lessors with operating leases, if the modification is not accounted for as a separate lease, the lessor continues to recognize the lease income under the modified terms. The lessor will reassess the lease classification if the modification results in a substantial change to the lease.

 For lessors with finance leases, modifications that do not create a separate lease are accounted for by adjusting the net investment in the lease and recognizing any impact in profit or loss. The lessor must reassess the lease classification under the modified terms to determine if it remains a finance lease or should be reclassified.

ASC 842 requires companies to disclose the nature and financial impact of lease modifications in their financial statements.

When reassessing modifications, keep in mind:

Evaluating lease modifications under FASB ASC 842 requires diligent assessment and evaluation of new lease accounting terms. Look to FASB ASC 842-10-55-159 through 254 for guidance on how to account for lease modifications.

FASB ASC 842, Leases

Understand the challenges of how to assess and account for lease modifications is crucial for companies to ensure compliance. 

Emerging technologies, evolving regulations and a talent shortage. You don’t need to spend much time in the profession to recognize these, among other, challenges—or opportunities, depending on how you look at it—that exist in today’s dynamic and complex business environment. How you address these issues can go a long way toward determining what success will look like for your firm or clients. 

Adopting innovative thinking and embracing creativity are not just nice to haves—they are a must for CPAs to survive and thrive. Innovative framing means challenging the status quo, questioning assumptions and exploring new possibilities. It also means being open-minded, curious and adaptable to change. And while this is likely uncomfortable and feels like a massive undertaking, some simple steps can help start the process:

. Asking open-ended and probing questions is a powerful way to challenge assumptions, gain insights and spark curiosity. Such a question might be, “What would it look like if we incorporate AI into our workflow? What opportunities would that open to provide other services of value to clients?” I use a set of question prompts when I am looking to expand my thinking and move me beyond my comfort zone.

. Ever notice how perspectives vary from person to person and situation to situation? Look for diversity in your teams, networks and sources of information. You never know when something will spark from these conversations or research.

. Go ahead and experiment with new ideas, methods and tools—or allow your staff the freedom to do—and learn from the outcomes. As entrepreneur Tim Ferris said, “It isn’t enough to think outside the box. Thinking is passive. Get used to acting outside the box.“

At CalCPA, we know we’re not immune to these changes. You’ll see this new way of thinking reflected in our education, where we look at things like learning to be mindful and finding balance in our lives; decoding generations; and learning how to thrive in a hybrid/remote workforce.

We also recently launched CAL Talks, a dynamic peer-to-peer knowledge exchange where members can share their insights and experiences on tech, firm management and mentorship—basically, topics that matter most to you. Find more info on how to participate 

And on the profession front, the National Pipeline Advisory Group issued 

recommendations to address the accounting talent shortage

 and the California Board of Accountancy has advanced alternative paths to licensure to address the time and cost constraints many candidates face when working toward licensure. Getting to this point has meant tackling these issues with a new perspective, rather than using the same approaches we’ve used in the past.

Thinking beyond the usual boundaries keeps the profession relevant and empowers each of us to unlock our full potential.

Outside the Box

To survive and thrive in today’s dynamic environment, CPAs need to think beyond their comfort zones and embrace innovation and creativity to increase their value. 

October 2024: Outside the Box

The AICPA’s Code of Professional Conduct covers the U.S. auditor’s ethical responsibilities for integrity, public interest, loyalty, independence and due care.

The CPA performs audits by using professional skepticism. The continuous and updated detailed auditing standards from the various authorities—including the PCAOB—have increased the responsibilities on the outside CPA firms at the same time pricing pressure on the audit has made the audit profession challenging.

Coupling this pressure is the retirement of older CPAs and the lack of a pipeline of younger generations entering the field, which have created cost and time pressure on the CPA performing audits. With the latest round of PCAOB audits, we are seeing more deficiencies in the audit workpapers and especially in the testing documentation.

The AICPA’s NOCLAR interpretations (ET Sec. 1.180.010 and ET Sec. 2.180.010) have the objective to harmonize the international rules with the U.S. rules and to clarify the process for the auditor after finding non-compliance at the audit client. The tension is not about the ideological goal of the NOCLAR proposal, but the practical application and additional pressure on the auditor in the field.

The intent of NOCLAR interpretation is that the auditors would not just withdraw from an engagement when a noncompliance item is found.

This article uses two examples to show how the Interpretations might be implemented in near real-life examples. These are not authoritative application of the interpretations but illustrations to promote thoughtful consideration of how NOCLAR could affect your practice as a CPA.

It’s important to note that while providing services to clients or as an employee and you encounter an issue of noncompliance, you should seek guidance regarding your responsibilities under professional standards, state board rules and potentially seek legal advice as well. Currently, state boards may not have adopted the interpretations and there may other issues regarding client confidentiality. There may also be other prohibitions in laws and regulations, which potentially creates a trap for the unwary.

If you are reporting to the appropriate authority, it should be considered an exceptional circumstance with consideration of whether this would not be a breach of confidentiality but a good faith acting in the public interest.

Let’s take a hypothetical audit of Theranos as an example of how NOCLAR’s requirements could have played out with a client that had a product failure that was noncompliant with the FDA rules.

The auditors are to take the following steps:

During the audit, the audit staff member, John, notices significant discrepancies between the reported capabilities of Theranos’ blood-testing technology and the actual performance results from test samples. He also identifies unusual financial transactions and revenue figures that do match with typical industry practices.

John conducts a preliminary assessment and gathers evidence of misrepresentation and potential fraud. He reviews internal documents, emails and performance reports, and compares them with industry benchmarks. John raises his concerns with the audit engagement partner and the audit firm’s risk management team. He documents the findings and highlights the potential for significant non-compliance and fraud.

The audit engagement partner escalates the issue to Theranos’ management and the audit committee, insisting on a more thorough investigation. John meticulously documents all findings, communications and actions taken regarding the suspected non-compliance. This includes detailed notes from meetings, emails and copies of relevant financial and performance reports.

The audit firm seeks guidance from its legal team and consults with external experts in medical technology and fraud detection to understand the implications and appropriate actions. John ensures that all actions taken align with professional auditing standards and the International Ethics Standards Board for Accountants (IESBA) Code of Ethics.

The audit firm decides to perform additional audit procedures, including more in-depth testing of the technology and financial transactions. An independent review by specialists in medical technology and forensic accounting is initiated to validate the findings.

The audit firm communicates its concerns and findings to Theranos’ management and the audit committee and recommends immediate corrective actions.

Depending on the severity and the response from Theranos, the audit firm may consider disclosing the matter to regulatory authorities such as the SEC and FDA. The audit firm has a policy to protect employees who report non-compliance. John is assured of protection against any retaliation for his disclosures. He ensures that information is shared only with those who need to know, balancing the duty of confidentiality with the requirement to act in the public interest.

In this hypothetical audit, the hope is that the NOCLAR rules would cause an independent review and additional audit procedures confirming significant fraud and misrepresentation in Theranos’ technology and financial performance.

Regulatory authorities, informed by the audit firm’s findings, take appropriate action against Theranos, including fines, sanctions and criminal charges against responsible executives. The audit firm issues a modified audit opinion, clearly stating the identified issues and the potential impact on financial statements.

The case serves as a wake-up call for the entire industry, leading to stricter regulations and oversight in medical technology and financial reporting.

The problem with this example can be at the beginning and all the processes along the way. The client was infamous in their secrecy and were zealots in litigation against dissenters. The identification and assessment would probably fool John in the accuracy. Theranos had investors in that took blood samples and watched them go into the machine, then ate lunch and came back for the results from the machine after lunch. In the meantime, the blood was taken out and run on different machines in the basement.

The right answer was given to the investors.

If John was included or had a demo like this, there would be nothing that came to his attention. In reality, Theranos did not have audited financials since the audit firms had concluded that the books and records were not ready for an audit. Not having an audit did not stop this type of fraud.

In a standard audit, John would not be a Columbo-type investigator with a notepad wandering around the company asking key questions to find out from divergent responses what the likelihood that the client is lying about the efficacy of their product. The auditor would be out of the scope of their technical expertise and would not have the time and budget to fund this type of investigation.

Based on what has been reported there was a history of fraudulent account creation and a problematic culture of noncompliance with rules and regulations with the bank.

The whistleblower lines showed the issues to the client and the client defended its high number of issues by saying that they encouraged reporting. The outside auditor saw the noncompliance and made the professional judgement that Wells 

Fargo Bank was working on fixing the isolated problems. 

The idealistic goal is that this noncompliance would have been sorted out by the auditor escalating it or refusing to complete the audit. Historically, if the auditor made a professional judgement based on management’s representations that it only had a minor impact, then why would the outcome be different after implementing NOCLAR?

The management and audit committee may show the plan for sorting out the issues and the auditor consider this a normal business issue. There are no perfect businesses that have perfect compliance on all matters. The auditor is always looking at a business that is a work in process with shifting priorities and strategic challenges.

Companies can have compliance officers and fill out checklists and answer inquiries regarding their compliance with rules and regulations. These additional procedures will increase cost and time for the company to complete and increase administrative burden for any new products or operation expansions. The cost of the audit and the time frame for reporting would increase. And the burden on the auditors may accelerate the number of CPAs retiring and deter more potential accounting candidates from the audit field.

One of the challenges with the NOCLAR interpretations is the auditor’s requirement to address and resolve noncompliance issues. Historically this was not clearly an auditor’s responsibility outside the scope of being a CPA.

Legal and regulatory compliance outside of the financial statements is outside of the auditor’s professional competence and would require outside experts. In addition, the auditor relies on the company for disclosure of legal and regulatory issues and the magnitude of the potential financial outcomes.

The outside auditor can test for reasonableness, but businesses fail all the time for inherent risks that they did not attend to properly or just changes in the economic environment. Having an outside financial audit does not guarantee that the business does not have fraud or other problematic issues with their products or processes. The NOCLAR interpretations burden the outside auditor with responsibilities that properly belong to the company.

A Year Later

The practical application and additional pressure on the auditor in the field are important considerations of how NOCLAR could affect your practice as a CPA.

At its September board meeting, the CBA advanced legislative proposals aimed at modernizing CPA mobility and licensing statutes. These changes reflect the CBA’s commitment to adapting to address the CPA pipeline challenges and ensure the long-term success of CPAs and the consumers they serve.

One significant proposed update to the CBA’s mobility framework involves separating it from rigid licensing requirements. Historically, the CPA profession has built an interstate practice system that allows CPAs to serve clients and the public across state lines, regardless of where their economic interests are based, while maintaining strong consumer protections.

However, the current challenge is that interstate licensing rules are tied to these strict licensure requirements. This has made it difficult to introduce new pathways or reforms without disrupting how CPAs practice across state lines.

The CBA’s proposal addresses this challenge by modernizing the interstate practice framework and detaching it from inflexible licensing rules. This separation gives states the freedom to explore new, more inclusive licensure pathways that better align with the profession’s evolving needs—without causing major disruptions to cross-border practice.

Specifically, the CBA is moving toward an “automatic mobility” framework, which is already in use in several states and is consistent with California’s “four-in-10” mobility rule.

Under this system, CPAs can continue practicing across state lines based solely on their existing license, regardless of where they are licensed or the specific licensure pathway they followed. This flexible model allows for future changes in licensure requirements and maintains robust consumer protections. The CBA will continue to regulate and oversee services provided to California consumers, ensuring that public protection remains a priority, regardless of where the CPA is licensed.

The CBA is also proposing to modernize its licensure requirements by introducing alternative pathways to CPA licensure that do not solely rely on the completion of 150-semester units. These new pathways are designed to increase flexibility while upholding competency standards essential to the profession.

The CBA has proposed two new licensure options:

This shift moves from a strict unit-based education requirement toward a focus on degree completion. It also creates a more adaptable and sustainable framework as education systems continue to evolve and clarifies and streamlines the licensing process for both candidates and CBA staff.

By taking these steps, the CBA is ensuring that California’s CPA profession remains adaptable, competitive and prepared for future changes in both education and licensing frameworks, all while continuing to protect consumers and maintain the highest standards.

Now that the CBA has approved legislative language, it will begin to work to introduce legislation in 2025. Once a bill is introduced, it will need to work through the traditional legislative process over the course of next year. Should it pass and be signed by the governor, the provisions would take place Jan. 1, 2026. However, the licensing related changes are likely to have a delayed effective date until later in 2026 or early 2027 to allow for sufficient time for the CBA and candidates to prepare for the changes.

AICPA & NASBA Release Licensing Exposure Draft

While CalCPA, the CBA and several other states are working on practical licensing changes within their respective jurisdictions, the AICPA and NASBA have released an exposure draft proposing a new national pathway to meet CPA licensure requirements.

Based on an initial review, a key difference between California’s proposal and the national draft lies in the experience requirements.

California chose to stick with the existing general experience framework to maintain a straightforward and flexible path for candidates. The national exposure draft suggests a pathway with a new experience framework built around one year of general experience along with an additional year of experience that is focused on embedded professional and technical competencies.

The competency-based framework in the national proposal emphasizes a mix of seven professional and three technical competencies. CPA candidates would need to demonstrate all seven professional competencies—such as ethical behavior, critical thinking, business acumen and communication—and at least one of the three technical competencies: audit and assurance, tax, and financial reporting.

These competencies would be assessed and verified by one or more CPA evaluators within the candidate’s organization.

When developing its own proposal, the CBA was mindful of ongoing national discussions regarding experience requirements and built in flexibility to allow for future adjustments. This flexibility ensures that California can consider incorporating competency-based elements if they align with the state’s licensing needs.

CalCPA is reviewing the national exposure draft and will provide feedback to ensure the proposed pathway supports practical licensure options while preserving a unified interstate practice system as states modify their requirements.

Once CalCPA’s feedback is finalized, it will be shared with members and stakeholders, along with resources like webinars and FAQs to help explain the implications of these licensure changes. These resources will ensure that members have everything they need to provide informed input on the national proposal.

Capitol Beat: Mobility & Licensing

CalCPA Capitol Beat

The CBA advanced legislative proposals aimed at modernizing CPA mobility and licensing statutes. These changes reflect the CBA’s commitment to adapting to address the CPA pipeline challenges.

California CPA Magazine

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