The Legal Framework of Internal Auditing in Greek LGOs Before and After the COVID-19 Era: Pros and Cons ^†

Abstract

In Greece, Local Government Organizations (LGOs) are under the responsibility of the General Government. Before the COVID-19 pandemic, in the above-mentioned organizations, internal audit was exercised following Law 4270/2014 (Article 168). Overall guidance and supervision were provided by the General Accounting Office. However, the number of municipalities and regions that established internal audit departments was very low. According to the post-COVID-19 Law 4795/2021, internal audit is now mandatory. The pros and cons of the new legal system compared to the old one are highlighted in this study through interviews with financial officers, elected officials, and internal auditors.

1. Introduction

The economic crisis of the 2010–2020 decade and, ultimately, the COVID-19 pandemic that affected human societies worldwide changed everything [1,2,3,4,5,6]. In particular, COVID-19 changed the way we think, the way we act, and the way we behave in the private [7,8,9] and public spheres [10]. At the same time, sweeping changes are taking place in the mechanisms that have to operate in a coordinated way in both private business and the public sector. The pandemic years have highlighted the need to implement the principles of corporate governance and, above all, the implementation of internal control in the public sector.

Corporate governance is an excellent way for a public organization [11,12] to achieve good governance, transparency, and accountability as essential elements of its operation [13,14,15,16] promoted by the principles of New Public Management [17,18,19]. Within corporate governance, internal auditing is a global business partner that operates as an independent reviewer [20] or in any case, is an organizational policeman and security guard [21], a modern “Talos” (a giant mythological automaton made of bronze to protect Europa in Crete from pirates and invaders) for the protection of public entities of all levels [22,23,24].

In Greek reality, the word “governance” is mentioned 29 times in the Development Plan for the Greek Economy—Interim Report [25], which was delivered to the Greek Government in 2020. It may be a simple observation, but it has more depth. The above committee highlights governance as the biggest problem of the Greek economy: both the governance of the state and its institutions (public sector), as well as the lack of governance in the business sector of the country. According to the above report, “… the way that the public administration and many institutions function is ineffective in practice. The causes for this are a lack of transparency, absence of effective performance evaluation, absence of clear targets set, and generally a structure that has not adapted to modern forms of governance and public administration”.

In the Greek public sector, as part of the revised National Strategic Plan for the Fight against Corruption 2018–2021 [26], the General Secretariat for the Fight against Corruption received technical assistance from Expertise France for the implementation of actions to strengthen internal control in local government. Specifically, the establishment and functioning of internal audit units in local governments was supported in two phases: experimental and pilot. The first phase, the experimental one, began in December 2017 with the participation of five entities (the municipalities of Athens, Thessaloniki, Piraeus, the Region of Attica, and the Decentralized Administration of Attica) and ended in November 2018, while the second stage, the pilot stage, began in December 2018 and was piloted by 16 stakeholders.

The present study highlights the advantages and disadvantages of the new post-COVID-19 Greek internal auditing legal framework in comparison to the previous COVID-19 one through interviews with LGOs’ financial officers, elected officials, and internal auditors.

2. The Legal Framework of Internal Auditing in Greek LGOs Before and After the COVID-19 Era

2.1. The Legal Framework of Internal Auditing in Greek LGOs Before the COVID-19 Era

Before the COVID-19 era, two laws were passed by the Greek parliament to achieve good governance in the public sector following international auditing standards, Law 3492/2006 [27] entitled “Organization of the control system to ensure sound financial management of the State Budget and entities outside the State Budget and other provisions” and Law 3871/2010 [28] entitled “Fiscal Management and Accountability”, which amended a large number of articles of Law 2362/1995 [29].

Among the public bodies to which the above laws were applied are the first (municipalities) and second (regions) degree Local Government Organizations (LGOs). LGOs, according to Article 1B (paragraphs 1, 2, and 6) of Law 2362/1995 (as added by Law 3871/2010) titled “Definitions” are municipalities and regions, which are first and second-degree Local Government Organizations (LGOs) belonging to the General Government. Moreover, LGOs, according to Article 14 titled “Definitions” [articles 2 and 6 (2) of Directive 2011/85/EU] of Law 4270/2014 [30] are a sub-sector of the General Government of the public sector and include (aa) local governments, which consist of municipalities (LGOs A’ degree) and regions (LGOs B’ degree), and (bb) legal entities under private law and legal entities under public law that are owned, controlled, or financed by Local Government Organizations.

Specifically, Article 4 of Law 3492/2006 explicitly states in paragraphs 2, 3, and 4 the definitions of internal audit, the internal audit unit, and the internal control system, respectively, namely “… 2. Internal audit is the independent audit—the advisory activity of assuring the adequacy of an entity’s management and control systems, to improve its operations and achieve its objectives, using systemic and structured methodologies. These methodologies are mainly aimed at improving the effectiveness of the processes governing its operations, risk management processes, and control procedures. 3. An internal audit unit is the independent audit-advisory service that will assure the adequacy of an organization’s management and control systems. 4. Internal control system is the overall system of management and other controls, including controls over the organizational structure, methodologies, procedures, and internal audit, that management has applied to the entity’s operations to support the achievement of its objectives in an efficient, effective, and economic manner. The internal control system ensures compliance with management’s policies, safeguards the assets and resources of the entity by certifying the completeness and accuracy of accounting records and statements, and provides timely and reliable financial and management information”.

Additionally, Article 25A of Law 2362/1995 which was added by Article 25 of Law 3871/2010 explicitly states that “Internal audit is carried out in all general government bodies, as defined in paragraph 2 of Article 4 of Law No. 3492/2006 [27], which is assigned to the internal audit units established by Article 12 of the same law, under the overall guidance and supervision of the General Accounting Office of the State”. The provisions of Articles 1 to 108 and Article 110 of Law 2362/1995 were repealed by paragraph 1 of Article 177 of Law 4270/2014, [30].

Furthermore, Law 4270/2014 [30] titled “Principles of financial management and supervision (incorporation of Directive 2011/85/EU)—public accounting and other provisions” established internal audits in all general government bodies. Article 168 [Internal control (Article 3 (1) of Directive 2011/85/EU)] of the above law, stipulated that “1. Internal control is carried out in all the bodies of the General Government, as defined in paragraph 2 of Article 4 of law 3492/2006. Internal audit is assigned to the Internal Audit Services established by Article 12 of the same law under the general guidance and supervision of the General Accounting Office of the State”. The above article was repealed by Article 83 of Law 4795/2021 [31] with effect from 17/4/2021.

2.2. The Legal Framework of Internal Auditing in Greek LGOs After the COVID-19 Era

The era of COVID-19 brought changes in several issues on a global level and could not leave the governance in the Greek public sector unaffected. In the first quarter of 2021, the Greek parliament passed Law 4795/2021 [31] entitled “Public Sector Internal Audit System, Integrity Advisor in Public Administration and other provisions for public administration and local government”, which amended Bylaw 4940/2022 [32], Law 5013/2023 [33], and Law 5027/2023 [34]. The aim of the above law, according to the report of the Greek parliament’s scientific service, is to strengthen the accountability mechanisms within each public administration body by defining the Internal Audit System, creating internal audit units throughout the public sector, and uniformly regulating issues related to the provision and operation of internal audit. Additionally, the new law introduces the role of the Integrity Advisor, whose main goal is to guarantee a cogent framework for the effective protection of employees who witness, suffer the consequences of, or wish to report breaches of integrity, as well as to offer them support, information, and guidance on matters of ethics and integrity at work [35].

Furthermore, paragraphs 2–6 of Article 9 of Law 4795/2021, as amended by Article 40 (1) and (2) of Law 4940/2022 [32], define the establishment and organization of the internal audit unit. More specifically, five types of organization of the internal audit unit are defined; namely, the unit is controlled by the body that set it up, the unit is controlled by two or more bodies that set it up, the support of the unit is entrusted to a natural or legal person under an independent service contract, the body is subordinated to the internal audit unit of the supervising body, and in exceptional cases the internal audit function may be entrusted to a natural or legal person under an independent service contract.

In particular, paragraph 2 states that “in the first and second-degree local government organizations, an Internal Audit Unit shall be established, provided that the criteria of the number of employees serving in the body and the amount of its budget are met….”, paragraph 3 states that “Two or more entities that are not able to set up their own Internal Audit Unit, based on the criteria of par. 2, may set up a joint Internal Audit Capability”, paragraph 4 states that “If the establishment of an Internal Audit Unit is feasible but the assistance of professionals with expertise and skills that do not exist within the entity is deemed necessary for its effective operation, then the support of the Internal Audit Unit may, following a prior reasoned decision of the head of the entity, be entrusted to a natural or legal person, under an independent service contract, for the support of the Internal Audit Unit”.

Moreover, paragraph 5 of the above law states that “If the establishment or operation of the Internal Audit Unit is not feasible by par. 2 to 4, the bodies referred to in paragraphs 2 to 4 shall not be subject to the provisions of paragraphs 2 to 4. 2 shall be subject to the Internal Audit Unit of their supervisory body”, and paragraph 6 states that “In exceptional cases and only following a prior reasoned decision of the head of the body referred to in par. 2, which establishes the impossibility of establishing “or operating” an Internal Audit Unit in application of par. 2 to “5”, the internal audit function may be entrusted to a natural or legal person under an independent service contract. Specifically, for first-degree local authorities, the internal audit function may be entrusted to a natural or legal person, under an independent service contract, following a prior reasoned decision of the head of these authorities, which establishes the impossibility of establishing or operating an Internal Audit Unit…”.

3. Methodology

To the best of our knowledge, no research has been conducted on the internal auditing legal framework in Greek LGOs before and after the period of the COVID-19 pandemic. In the present study, after presenting the internal auditing legal framework before and after the COVID-19 era, we adopted an interview approach [36]. We addressed several questions (unstructured interviews) to eleven (11) LGO executives and internal auditors in LGOs of the sub-region of Serres—Greece from October 2023 to January 2024.

Eleven (11) interviews were conducted with experts in the field (officers of financial departments, elected officials with financial responsibility and control responsibilities, and internal auditors) to highlight the pros and cons of the new COVID-19 era legal framework of internal auditing in Greek LGOs compared with the legal framework before the COVID-19 era.

4. Results and Discussion

Based on the material obtained from the interviews, the results of our research are as follows: officers of the financial departments of the LGOs emphasize that the Greek legal framework of internal audit before the COVID-19 era was in disuse and that with the new legal regime after COVID-19, processes are underway to make internal audit a reality in LGOs. They also stress the lack of staff in their departments as an explanation for the inability to staff the internal audit unit. Another point of their responses focuses on the need for specialized training in internal audit for LGO staff, not only by the competent National Centre for Public Administration and Local Government but also by experienced professionals from the private sector, so that the internal audit unit is not only created but also made effective.

Moreover, elected officials with financial responsibility and audit powers feel that the pre-COVID-19 Greek legal regime was insufficient and offered little in terms of achieving good governance. They also consider the new post-COVID-19 legal regime to be in the right direction, although they believe that assigning internal auditing to certified internal auditors and specialized firms with certified internal auditors should have been the norm rather than the exception in the new law. In any case, they emphasize the importance of establishing an umbrella internal audit unit in every sub-region to assist and guide each LGO’s internal audit unit.

Furthermore, internal auditors judge the legal framework of internal audit in LGOs before COVID-19 as non-existent, impractical, and cumbersome. They recognize that the new post-COVID-19 law is heading in the right direction, as it establishes mandatory internal auditing in the public sector and particularly in LGOs. Nevertheless, they insist that the new post-COVID-19 law should have required LGOs to assign internal auditing to certified internal auditors and exceptionally provide for the establishment of an internal audit department under strict conditions. In addition, they point out that few employees have the requisite expertise to serve in internal audit units, and few employees would leave important positions in an LGO’s hierarchy for a position in an internal audit unit without a bonus and with a responsibility for auditing their colleagues. With the latter remark, the internal auditors interviewed raise strong questions about the integrity and independence of the internal auditor, as they will be auditing their colleagues, especially in small LGOs. Finally, they criticize the choice in Article 14 of the new law to have the audit program approved by the head of the body rather than the audit committee, which is incorrect given that the head is also audited.

All interviewees agree that the legal framework in Greece before the COVID-19 era, in particular Law 3492/2006 and Law 3871/2010, which amended a large number of the articles of Law 2362/1995 and Law 4270/2014, failed miserably to achieve even the minimal objectives set for effective internal audits throughout the public sector. It was a vague, general legal framework, a mere formal adoption of the European Directive 2011/85/EU in the internal audit part. In addition, proof that the above legal framework was an empty letter is that very few of all LGOs had set up an internal audit unit before the COVID-19 era. All interviewees agree that the new legal framework in Greece after the COVID-19 era, in particular Law 4795/2021 as amended by Law 4940/2022, Law 5013/2023, and Law 5027/2023 is promising, although it is still in the early stages of its implementation.

5. Conclusions

This study thoroughly examines the legal environment for internal auditing in Greek LGOs both before and after the COVID-19 pandemic. We gathered replies outlining the benefits and drawbacks of the legislative frameworks before and following the COVID-19 epidemic through interviews. Responses to our interviews highlight important factors that impact internal auditing systems’ efficacy, particularly in Greece’s municipalities and regions. Furthermore, the results of our study demonstrate that public sector entities, particularly LGOs in Greece, were not required to conduct internal audits as part of the pre-COVID-19 legal framework. The pre-COVID-19 legal framework is seen by interviewees as being too broad, ambiguous, and impractical. This contrasts with the comprehensive and encouraging new post-COVID-19 legal framework, which requires internal auditing to be implemented by all general government entities.

In an era where the COVID-19 pandemic appears to be over, it is more important than ever for corporate governance principles and, in particular, internal auditing to advance to help and direct Local Government Organizations (LGOs) in Greece toward financial performance, good governance, transparency, and positive outcomes for local communities. The Greek government must be alert to opportunities to enhance the legal framework in response to COVID-19, taking into account the needs of local government organizations. In any event, it must be in continual communication with financial officers, elected officials, and internal auditors, who are on the ground all the time and can offer valuable insights, observations, and above all suggestions to enhance the execution of internal auditing in LGOs.

Finally, future versions of this research could examine a larger sample of municipal or regional financial officers, elected officials, and internal auditors, which could include LGOs from different regions of Greece or other member states of Europe.