What You Need to Understand About the Financial Audit Process
There are your traditional accounting procedures, and there’s the audit process. Both are necessary for running a good business and compliance with the IRS and other regulatory institutions.
Every business is expected to produce timely financial statements. Like the balance sheet, the income statement, the cash flow statements, and others. After all, those statements form the foundational data collection essential for getting information on health and performance. But, if you’re wondering about the accuracy of those financial statements, that’s where financial audits come in.
Keep on reading for our full breakdown of the audit process steps. We’ll start with the basics and make our way to the traditional timelines and everything you need to do.
Table of Contents
Let’s start our deep dive by ensuring that you have the foundational knowledge of what the financial or freight audit process is all about. Simply put, a financial audit, often known as a financial statement audit, is a thorough examination of your business’s financial statements. They are typically carried out once a year.
While financial audits may be performed internally (by an employee), most of your stakeholders prefer an audit done by a third party. As a result, you’ll almost certainly need to hire a company of Certified Public Accountants (CPAs) to perform your audit. A financial audit’s ultimate goal is to verify that your financial records accurately reflect your organization’s financial performance.
Generally speaking, there are three kinds of audits that you can perform.
First, there’s the external third party that conducts external audits. Because they are not susceptible to conflicts of interest, external sources offer more impartial views.
Second, we have internal audits. Internal audits are conducted by a company’s or organization’s internal personnel. They are seldom disseminated outside of the business and are thus mostly used internally.
Government organizations conduct audits to verify that the financial records produced do not misrepresent taxable income. Tax collectors perform audits, such as the Internal Revenue Service (IRS) in the United States and the Canada Revenue Agency (CRA) in Canada.
We know that an audit of your financial statements may cause you to feel like you’re being scrutinized. However, the procedure is designed to reassure your stakeholders. Specifically, that management has given a “true and fair” picture of the company’s financial condition.
This ensures that your company’s financial procedures are in order. It reduces the danger of fraud. As well as ensuring that accounting records aren’t concealing any financial mismanagement.
On the other hand, financial statement audits may provide value to your company. By finding controls or procedures that might be changed, thus improving the quality of your operations.
If you’ve chosen to hire a third party to do your financial statement audit, you’ll need to know what level of service you need. Compilations, reviews, and audits are the three kinds of assessments that CPA companies may conduct.
The least demanding alternative is a compilation. This refers to producing your company’s financial statements. So, what is the greatest choice for your company when it comes to financial audits vs. reviews?
It’s a straightforward process. Audits give “reasonable” confidence. While reviews provide “limited” assurance. However, it is essential to remember that a financial audit does not provide “absolute” certainty.
In a nutshell, reviews are less thorough and offer lower confidence than complete financial audits. But, they are typically less expensive. In the end, audits provide much more value. And it’s also worth noting that audits are sometimes required by law.
These are the first steps that most auditors do when they begin their work. At this stage, both the auditors and the clients work together to create and agree on the audit engagement terms.
There is the scope of the audit and the objective of the audit. Also, the reporting period, the audit fee, and the responsibilities should all be specified in the engagement letter.
It is important for auditors to be acquainted with your client’s procedures. It’ll help identify whether senior management and the client’s business are involved in money laundering or terrorist activity. If this is the case, the auditor should reject the client’s request for services.
Understanding the nature of the client’s organization is essential. It makes it easier to determine if the audit team has the necessary expertise and experience. After all, performing audit work in the client’s industry is no easy feat.
The auditor may refuse to accept the contract if they do not have the resources or competence to perform the task.
Prior to beginning audit work, it is important to establish who is responsible. The responsibility for financial statements is borne by the auditor. And, the duty for financial statements borne by the entity is two instances.
As is clear from the title, the auditor is responsible for reviewing an entity’s financial statements. In addition, they should provide an opinion on their preparation and presentation.
Developing adequate internal control over financial reporting is the responsibility of the entity. To ensure that financial statements are produced in accordance with industry standards. Besides, the risks of errors and fraud are reduced. And, that the statements are prepared and delivered on time are all met.
Before starting audit work, you should think about things like audit fees and logistical deadlines. The scope of the audit work should define the audit fee. The timeline should enable the auditor to deliver good audit results within the specified period.
One of the essential audit procedures is audit planning. A good audit plan will result in a good audit report. That the auditor has sufficient resources and time to carry out the audit strategy and procedures.
During the audit planning phase, auditors undertake a variety of tasks. Let’s take them one at a time.
So the auditor has agreed to audit the client’s financial statements. The audit planning process will begin depending on the timeframe and resources available.
The auditor assigns the appropriate audit team to each audit assignment. That implies they should have enough auditors on staff. This way they can complete audit processes, examine audit working papers, and produce reports promptly.
A team member should be capable of handling auditing tasks. For example, the engagement is with a building firm. The audit team should include someone who has already audited construction companies. All team members should be aware of the deadline and section assignment.
The auditor may examine the client’s internal control over financial reporting to determine whether it can identify or prevent risk mistakes or fraud that may significantly impact the financial statements.
Auditors must first know the client’s control environment and control activities to evaluate this. The outcome of the financial statement audit may impact the manner or method in which audit samplings are conducted.
Auditors must evaluate the risks associated with financial statements. Which will help determine if fraud or mistake is possible.
The auditor will need to concentrate on the details in high-risk regions. Whereas low-risk areas will get less attention.
The materiality of the planning process and the materiality of the performance process are often established during the planning phase.
The audit and management teams should verify conflicts of interest between the audit firm and the client.
If there is a conflict of interest, you should follow the appropriate guidelines to minimize the dangers. If you cannot reduce the dispute, the auditor should decline the engagement.
The single most essential thing you can do to guarantee a precise and effective audit is to make sure auditors have everything they need.
The papers covered by the “prepared/provided by the client” (PBC) list often contain, among other things:
Additional requests are likely to occur later as the auditors choose which tests to run and when issues emerge; but, by providing them with what they need in a timely way, you will assist them in completing the audit.
Of course, you’ll find that there are no identical timelines for different audits. However, they all tend to follow the same basic timeline.
Traditionally, the whole process should take about six weeks or so.
The audit team will use this time to plan the audit’s mechanics. Your audit team will have how many auditors?
Will they be based at your company’s offices, or will the auditing be done partly or completely remotely? Is there a primary point of contact who has been identified, informed, and introduced?
Things really start to heat up at this point!.. Auditor will examine and test all of the information you have provided throughout this time period. This involves selecting representative examples from the information you’ve provided.
During the course of the year, auditors are unable to analyze each and every transaction that occurs. Consequently, they use a sampling technique to determine the accuracy of the information provided.
You’ll want to ensure that all transactions are conducted during the year. This includes invoices, bank statements, shipping papers, contracts, and other documents. They need to be accurate and proper, auditors will need further help.
As a result, auditors will determine if transactions in the company’s financial statements have been correctly classified. Where does the disparity come from, if this is not the case? In order to have a full view, what more has to be looked at?
Any loose ends are tied up one by one, and the auditors give the final audit opinion, which is appended to the financial statements. The auditors also send out communication letters. Those outline the audit techniques, and scopes. Also, any findings and suggestions for future improvements to business processes and practices.
If you require a tax provision fulfilled, you’ll need to budget extra time. Using generally accepted accounting standards (GAAP), the tax provision procedure entails calculating the amount of income taxes that you will record on financial statements, as well as the associated required footnote disclosures.
The provision can’t be made until all audit adjustments have been added to the trial balance, and it requires the services of a tax expert unless you already have someone on staff who can handle it. If you require a tax provision, inform the auditors before they start the audit since it may cause the process to take longer.
We know how overwhelming it can be to begin your audit process, especially for young or smaller companies.
We hope that our guide has shed some light on the whole process. The main idea is not to take the audit personally and ensure that you’ve done your homework and have all of your documentation on hand. It doesn’t have to be as complex as rocket science. All you need to do is create a timeline and stick to your schedule.
And, if you liked this article, you can check out our additional tips and accounting strategies. All of our blogs will be available in our business section.
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