Annual Audit Manual
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9014 Communication and correction of misstatements
Apr-2018
In This Section
Overview
This topic explains:
- communicating misstatements to management,
- necessary actions when management refuses corrections, and
- communicating to those charged with governance.
CAS Requirement
The auditor shall communicate, unless prohibited by law or regulation, on a timely basis all misstatements accumulated during the audit with the appropriate level of management. The auditor shall request management to correct those misstatements (CAS 450.8).
CAS Guidance
Timely communication of misstatements to the appropriate level of management is important as it enables management to evaluate whether the classes of transactions, account balances and disclosures are misstated, inform the auditor if it disagrees, and take action as necessary. Ordinarily, the appropriate level of management is the one that has responsibility and authority to evaluate the misstatements and to take the necessary action (CAS 450.A10).
In some jurisdictions, law or regulation may restrict the auditor’s communication of certain misstatements to management, or others, within the entity. Law or regulation may specifically prohibit a communication, or other action, that might prejudice an investigation by an appropriate authority into an actual, or suspected, illegal act, including alerting the entity, for example, when the auditor is required to report identified or suspected non-compliance with law or regulation to an appropriate authority pursuant to anti-money laundering legislation. In these circumstances, the issues considered by the auditor may be complex and the auditor may consider it appropriate to obtain legal advice (CAS 450.A11).
The correction by management of all misstatements, including those communicated by the auditor, enables management to maintain accurate accounting books and records and reduces the risks of material misstatement of future financial statements because of the cumulative effect of immaterial uncorrected misstatements related to prior periods (CAS 450.A12).
OAG Guidance
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Audit Tip We communicate all misstatements to the appropriate level of management on a timely basis, unless they fall below the de minimis SUM posting level, and hence are clearly trivial individually and when aggregated. This limits surprises towards the completion of the audit. Make sure misstatements have been discussed at the appropriate levels in the entity, gathering all facts and listening to points of view. This will allow the process owners an opportunity to consider their response internally within the entity when the issue is raised at higher levels. By taking early accountability for resolving these difficult issues, the client’s confidence in our judgments and our handling of difficult issues will be enhanced. |
When communicating details of misstatements, we ordinarily distinguish between factual, judgmental and projected misstatements (see OAG Audit 9012).
Where we propose correcting entries, state the precise accounts to be corrected or reclassified and support them by a clear and complete description of the nature, cause (if known) and reason for the adjustment or reclassification. It is the responsibility of the entity to decide whether these proposed entries are reflected in the financial statements.
When communicating identified misstatements to management and others within the entity, where necessary explain the audit and financial reporting context and what is meant by the term misstatement, so as to avoid any misunderstanding about the considerations relevant to whether or not correction is appropriate and management’s and our responsibilities for the financial statements. It may be helpful to explain the benefits of correcting the entity’s accounting records for the misstatements identified.
When discussing with the entity whether to correct a misstatement, if necessary explain the likely impact on our audit report. It may also help to explain any laws and regulations relevant in the jurisdiction on the need for restatement or withdrawal of the financial statements at a future time if it is judged that the financial statements issued contained a material misstatement.
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Audit Tip When discussing the summary of uncorrected misstatements consider whether there are any potential themes which may point to a breakdown in controls, lack of knowledge or may be as a consequence of a particular element of the culture of the organization. Look to use this information as a way to share insights and observations when discussing with management and reporting to those charged with governance. |
For further guidance on communications, refer to OAG Audit 2200.
CAS Requirement
If management refuses to correct some or all of the misstatements communicated by the auditor, the auditor shall obtain an understanding of management’s reasons for not making the corrections and shall take that understanding into account when evaluating whether the financial statements as a whole are free from material misstatement (CAS 450.9).
CAS Guidance
CAS 700, requires the auditor to evaluate whether the financial statements are prepared and presented, in all material respects, in accordance with the requirements of the applicable financial reporting framework. This evaluation includes consideration of the qualitative aspects of the entity’s accounting practices, including indicators of possible bias in management’s judgments, which may be affected by the auditor’s understanding of management’s reasons for not making the corrections (CAS 450.A13).
OAG Guidance
Management’s reasons for not adjusting immaterial misstatements may be valid and reasonable, particularly where none of the key qualitative factors is present, including:
- The cost and/or delay that would be caused by making the adjustment outweighing the benefits.
- The risk of accidentally introducing other unintentional errors in the financial statements at the last minute that may remain undetected.
However, adopt a fairly low tolerance for allowing entities not to book items that represent factual misstatements.
If management refuses to adjust the financial statements and the results of extended audit procedures do not enable us to conclude that the aggregate of uncorrected misstatements is immaterial, consider the appropriate modification to the audit report (see OAG Audit 8013).
If we believe that management has deliberately created misstatements in the financial statements and elects not to correct them on the basis of materiality, the engagement team should consult in accordance with OAG Audit 3081.
CAS Requirement
The auditor shall communicate with those charged with governance uncorrected misstatements and the effect that they, individually or in aggregate, may have on the opinion in the auditor’s report, unless prohibited by law or regulation. The auditor’s communication shall identify material uncorrected misstatements individually. The auditor shall request that uncorrected misstatements be corrected (CAS 450.12).
The auditor shall also communicate with those charged with governance the effect of uncorrected misstatements related to prior periods on the relevant classes of transactions, account balances or disclosures, and the financial statements as a whole (CAS 450.13).
CAS Guidance
If uncorrected misstatements have been communicated with person(s) with management responsibilities, and those person(s) also have governance responsibilities, they need not be communicated again with those same person(s) in their governance role. The auditor nonetheless has to be satisfied that communication with person(s) with management responsibilities adequately informs all of those with whom the auditor would otherwise communicate in their governance capacity (CAS 450.A26).
Where there is a large number of individual immaterial uncorrected misstatements, the auditor may communicate the number and overall monetary effect of the uncorrected misstatements, rather than the details of each individual uncorrected misstatement (CAS 450.A27).
CAS 260, requires the auditor to communicate with those charged with governance the written representations the auditor is requesting (see paragraph 14 of CAS 450). The auditor may discuss with those charged with governance the reasons for, and the implications of, a failure to correct misstatements, having regard to the size and nature of the misstatement judged in the surrounding circumstances, and possible implications in relation to future financial statements (CAS 450.A28).
OAG Guidance
Take into account the guidance above on considerations relevant to communicating identified misstatements to management when communicating with those charged with governance.
For further guidance on communications with those charged with governance see OAG Audit 2210.