Auditing For Dummies book cover

Auditing For Dummies

By: Maire Loughran Published: 07-06-2010

The easy way to master the art of auditing

Want to be an auditor and need to hone your investigating skills? Look no further. This friendly guide gives you an easy-to-understand explanation of auditing — from gathering financial statements and accounting information to analyzing a client's financial position. Packed with examples, it gives you everything you need to ace an auditing course and begin a career today.

  • Auditing 101 — get a crash course in the world of auditing and a description of the types of tasks you'll be expected to perform during a typical day on the job
  • It's risky business — find out about audit risk and arm yourself with the know-how to collect the right type of evidence to support your decisions
  • Auditing in the real world — dig into tons of sample business records to perform your first audit
  • Focus on finances — learn how both ends of the financial equation — balance sheet and income statement — need to be presented on your client's financial statements
  • Seal the deal — get the lowdown on how to wrap up your audit and write your opinion
  • After the audit — see the types of additional services that may be asked of you after you've issued your professional opinion

Articles From Auditing For Dummies

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115 results
115 results
Auditing For Dummies Cheat Sheet

Cheat Sheet / Updated 02-09-2022

Auditing is the process of investigating information that’s prepared by someone else — such as a company’s financial statements — to determine whether the information is fairly stated and free of material misstatement. Having a certified public accountant (CPA) perform an audit is a requirement of doing business for many companies because of regulatory- or compliance-related matters. For example, potential investors or lenders use audited financial statements to decide whether they want to purchase stock or loan money to a business.

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Important Auditing Vocabulary and Key Terms

Article / Updated 05-13-2016

Every profession has its own lexicon. To communicate with your audit peers and supervisors, you must know key auditing phrases. Knowing these buzzwords is also helpful if you’re a business owner, because auditors sometimes forget to switch from audit-geek talk to regular language when speaking with you. Audit evidence: Facts gathered during the audit procedures that provide a reasonable basis for forming an opinion regarding the financial statements under audit. Audit risk: The risk of forming an inappropriate opinion on the financial statements under audit. Control risk: The risk that a company’s internal controls won’t detect or prevent mistakes. Due professional care: Taking the time to gather reasonable audit evidence to support the fact that the financial statements are free of material misstatement. Generally accepted accounting principles (GAAP): Standard U.S. accounting guidelines for reporting financial statement transactions. Generally accepted auditing standards (GAAS): Standard U.S. auditing guidelines for planning, conducting, and reporting on audits. Going concern: The expectation that a business will remain operating for at least another 12 months. Independence: Having an arm’s-length relationship — meaning no special or close relationship — with the client under audit. Inherent risk: The likelihood of arriving at an inaccurate audit conclusion based on the nature of the client’s business. Internal controls: The operating standards a client uses to prevent or uncover mistakes. Management assertions: Representations the managers of a company make on the financial statements. Materiality: The importance placed on an area of financial reporting based on its overall significance. Objectivity: The ability to evaluate client records with no preconceived notions or prejudices. Professional skepticism: Approaching an audit with a questioning mind-set. Sampling: Selecting a small but pertinent and representative number of records to represent the entire population of records.

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Generally Accepted Auditing Standards

Article / Updated 03-26-2016

The generally accepted auditing standards (GAAS) are the standards you use for auditing private companies. GAAS come in three categories: general standards, standards of fieldwork, and standards of reporting. Keep in mind that the GAAS are the minimum standards you use for auditing private companies. Additionally, the Public Company Accounting Oversight Board (PCAOB) has adopted these standards for public (traded on the open market) companies. Each audit engagement you work on may require you to perform audit work beyond what’s specified in the GAAS in order to appropriately issue an opinion that a set of financial statements is fairly presented. You need to use professional judgment and exercise due care in following all standards. General standards: The first three GAAS are general standards that address your qualifications to be an auditor and the minimum standards for your work product: As an auditor, you must have both adequate training and proficiency. You are independent in both fact and appearance. You exercise due professional care in performing your auditing tasks. Standards of fieldwork: The next three GAAS govern how you actually do your job: Your work is adequately planned, and all assistants are properly supervised. You gain an understanding of the client and its environment, including internal controls, to assess the risk of material misstatement in the financial statements and to plan your audit. The evidence you gather during the audit is appropriate and sufficient to evaluate management’s assertions on the financial statements. Standards of reporting: The last four GAAS concern information you must consider prior to issuing your audit report: You have to state whether the financial statements are prepared using generally accepted accounting principles (GAAP). Just as important is to report whether GAAP are consistently applied for all financial accounting. Should this not be the case, you have to report any departures. You also have to make sure that disclosures — any additional information needed to explain the numbers on the financial statements — are provided. Lastly, you have to include your opinion as to whether the financial statements present fairly in all material respects the financial position of the company under audit.

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The Four Concepts of Audit Evidence

Article / Updated 03-26-2016

Audit evidence consists of the documents you use during an audit to substantiate your audit opinion. While working on an audit, you encounter many different types of evidence (written, oral, and so on). Documents can be prepared by employees of the client or by outside parties. To properly evaluate the strength of evidence you gather, you have to understand the four concepts of evidence: Nature: The form of the evidence — for example, oral, visual, or written. Appropriateness: The quality, relevancy, and reliability of the evidence. Sufficiency: The quantity of audit evidence — enough evidence to evaluate the audit client’s management assertions. Evaluation: A decision on whether the evidence is compelling enough to allow you to form an opinion.

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Gathering Audit Evidence

Article / Updated 03-26-2016

While you work on your client’s audit, you gather sufficient appropriate evidence to come to a determination on whatever it is you’re auditing. The methods you use to gather audit evidence aren’t one-size-fits-all. Part of your obligation to exercise due professional care is to select the most appropriate method(s) for the type of client and auditing task at hand. Analytical procedures: Comparing what’s on the client’s books to what’s expected to be on the books. Confirmations: Asking for independent verification supporting management assertions. Inspection of records: Asking the company for relevant documents in support of management assertions. Observation: Watching the client’s employees do their jobs to obtain an understanding of how each job is done. Recalculation: Verifying the mathematical accuracy of your client’s computations. Reperformance: Doing the client’s accounting or internal control procedure to make sure the company is following its own rules. Scanning: Looking over client transactions on the general ledger or other accounting reports. Client tour: Checking to make sure all assets shown on the client’s balance sheet exist.

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How to Tailor Your Audit to a Low-Risk Situation

Article / Updated 03-26-2016

After completing your risk assessment procedures and deciding if any misstatements are material, you need to evaluate your findings. You must decide if you can use normal audit procedures (for a low-risk assessment) or if you have to use extended procedures (for a high-risk assessment). After looking at major financial statement accounts or classes of transactions, if you decide the risk of material misstatement is relatively low, you design your audit procedures accordingly. Here are three characteristics of company transactions indicating low risk: Like transactions are handled in the same way: For example, all customers who purchase on account are set up in the accounts receivable subsidiary ledger, and the invoice amount due is immediately booked. The accounts receivable subsidiary ledger is a listing of all customers and is usually ordered alphabetically by customer name or by customer account numbers. The ledger also reports the current amount each customer owes. You encounter many recurring transactions: These types of transactions take place every month. For example, each month the company makes an accrual for payroll earned but not paid. The transactions are easy to measure: Straight-out revenue and expense transactions the company records when they happen are easy to measure. In contrast is revenue recorded under percentage of completion. This is a method of recognizing construction revenue and expenses in stages that can be very subjective and open to error. Many audit firms assign less experienced auditors to work low-risk engagements and save the big guns for the tough cases. That means that as a staff associate, you’ll more than likely have the pleasure of working these easier engagements early in your career. Also, in low-risk situations, sample sizes (the number of records you look at) will be set at normal levels. Normal levels of any audit criteria are usually set as firm policy, meaning that your senior associate will tell you what size samples to use. Professional skepticism is also set at normal levels, which simply means you’ll be more apt to take transactions at face value. In other words, you assume the transactions are correct unless you discover otherwise.

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Rules for Auditing Private Companies

Article / Updated 03-26-2016

Auditors of privately owned businesses must follow a code of conduct. As an auditor, you abide by your state’s code of conduct, but you also follow the code of conduct established by the American Institute of Certified Public Accountants (AICPA) — the national professional organization for all certified public accountants (CPAs). You don’t have to be a member of the AICPA to be a CPA. However, if you’re serious about your profession, membership has many rewards, such as automatically informing you about new accounting and auditing standards. The AICPA is responsible for establishing auditing and attestation standards for private companies in the United States and for enforcing a code of professional conduct for its members. You provide an attestation service when you issue a report on a subject that is the responsibility of another person or business. The AICPA code contains six principles: responsibilities, the public interest, integrity, independence and objectivity, due care, and the scope and nature of services. Responsibilities: As an auditor, you have the following responsibilities: To cooperate with other auditors and regulatory bodies to improve the field of accounting. To attend training seminars or actively seek out the information provided there. To participate in self-governance. The public interest: The public interest part of the AICPA code means that your work affects many entities in addition to your client. You’re responsible for creating an audit that will be used by banks and other businesses considering granting credit to your audit client, government agencies such as the Internal Revenue Service, and investors and other members of the business and financial communities who rely on the objectivity and integrity of CPAs. Integrity: In the world of accounting and auditing, integrity means that you serve your client to the best of your ability, keeping in mind that doing so may not be the same thing as completely agreeing with your client’s financial statement representations. You can’t be worried that the client is going to be mad at you or fire you if you disagree with the information in its financial statements. Accountants must follow specific rules, standards, or guidance. You must follow both the form and the spirit of technical and ethical standards. Independence and objectivity: The concept of independence/objectivity differs somewhat depending on whether you work in public accounting or private accounting. Although public accountants conducting audits must be both independent and objective, the standard for private accountants is only objectivity. Whether you’re a public or private accountant, you must also be objective, meaning impartial, intellectually honest, and free of conflicts of interest. Here’s a sketch of the three qualifications: Being impartial: You’re neutral and unbiased in all decision-making processes. You base your opinion and report only on the facts, not on any preconceived notions or prejudices. Remaining intellectually honest: You interpret rules and policies in a truthful and sincere manner, staying true to both the form and spirit. Avoiding conflicts of interest: You don’t perform services for any client with whom you have either a personal or non-audit-related business relationship. For example, if you have a significant financial interest with a major competitor of your client, your client may question whose best interests you have in mind while performing the accounting services. Due care: When providing services to your client, you must be competent and practice diligence. In addition, due care means you plan and supervise adequately any professional activity for which you’re responsible. Scope and nature of services: Scope defines the type and amount of procedures you do on each audit. For example, looking at one year’s worth of records versus two. Nature defines what type of work you perform for the client. If your firm believes that it can’t fulfill its responsibilities and serve the public trust while acting with integrity, independence, and due care, it shouldn’t accept an audit engagement.

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Rules for Auditing Public Companies

Article / Updated 03-26-2016

The standard of professional conduct for the audit of all publicly traded companies comes from the Public Company Accounting Oversight Board (PCAOB). The Audit Standards Board (ASB) used to be the one-stop shop for all standards for nongovernmental audits. However, when the U.S. Congress passed the Sarbanes-Oxley Act of 2002 (SOX), the authority over audits of public companies shifted to the newly formed PCAOB. If your audit client is a public company, you follow PCAOB standards rather than ASB standards. What’s the difference between the ASB and PCAOB standards? Not much — yet. In April 2003, the PCAOB adopted ASB standards on an interim, transitional basis. Frankly, it would have been an insurmountable task to immediately come up with a new set of standards. Although some interim standards have been superseded, PCAOB and ASB standards are still quite similar. Any differences between the two are spelled out in guidebooks that contain GAAS, which are listed in the next section of this chapter. Another resource is the PCAOB Web site. If you’ll be involved in auditing a public company, you need to keep the auditing standards cast of characters straight in your mind. Here’s a quick and dirty guide to the creation of SOX and the PCAOB: The bankruptcies of Enron Corporation and WorldCom, Inc. (and the subsequent billions of dollars of investor losses) prompted the U.S Congress to pass the Sarbanes-Oxley Act of 2002 (SOX) in an effort to renew investor confidence in the regulation of publicly traded companies. SOX in turn created a new watchdog of the public accounting and auditing profession: the PCAOB. The PCAOB is a private, nonprofit corporation charged with bringing a halt to the financial shenanigans on the part of corporate chief financial officers (CFOs) and chief executive officers (CEOs). As part of this effort, PCAOB requires CFOs and CEOs to attest to the correctness of their companies’ financial statements. The teeth in this attestation is that the CEOs and CFOs are now subject to criminal penalties for incorrect financial statement representation. Who oversees the PCAOB watchdog? The Securities and Exchange Commission (SEC) is charged with this task. The SEC’s mission is to make sure publicly traded companies tell the truth about their businesses and treat investors in a fair fashion by putting the needs of the investors before those of the company. The PCAOB Board of Directors consists of five members appointed by the SEC. SOX requires that all accounting firms preparing or issuing audit reports on U.S. public companies register with the PCAOB.

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What Does an Auditor Do?

Article / Updated 03-26-2016

The goal of a financial statement audit is for you (the auditor) to form an opinion regarding whether those statements are or aren’t free from error. To do so, you use your best professional judgment when assessing your client’s information and assertions. Although every company is different, and each audit you work on will vary, you can follow some common procedures. Here are a few of the tasks you want to accomplish while conducting your audits. Evaluate relevance and reliability You can’t issue an audit opinion unless you have sufficient, competent evidential matter. Relevance and reliability are two hallmarks of good evidence: Relevance means the evidence directly relates to the facts you’re trying to substantiate. For example, valuation of a checking account in U.S. dollars isn’t relevant, because the worth of a dollar is so straightforward. However, valuation is critical in determining what the correct ending inventory figure should be. Reliability means you can depend on the evidence to steer you in the right direction. For example, evidence is more reliable if it’s in written rather than oral form, or if a knowledgeable independent source from outside your audit client substantiates something the client told you. Test management assertions Your client’s management assertions must be presented on the financial statements using generally accepted accounting principles, or GAAP. Because you can’t prepare the financial0statements under audit, you need to know GAAP. It’s your responsibility to realize when GAAP aren’t being uniformly applied and to inform the client of that fact so it can correct the error. To help you get your feet wet, here are generic descriptions for various management assertions: Occurrence: The transactions management shows on the financial statements actually took place. For example, if the client records a sale of $5,000, you make sure a delivery of a good or service to a real-live customer actually happened. Completeness: Whatever event took place is recorded in its entirety. For example, the $5,000 sale is booked as revenue for the whole $5,000 and not for a lesser amount (because management doesn’t want to pay taxes on the entire sale amount). Classification: Management takes the transaction to the correct account. For example, the company records the $5,000 sale as revenue and not a loan from a shareholder. Cutoff: Transactions are on the financial statements for the correct period. For example, if the audit client has a calendar year-end of December 31, only sales taking place prior to close of business on December 31 are recorded on the current financial statements. Rights and obligations: The client owns or holds the rights to assets and is indeed responsible for the liabilities shown on the balance sheet. Examples of assets are cars, buildings, computers, and machinery. Examples of liabilities are accounts payables and loans taken out to buy the assets. Issue an opinion Well, after all the hard work you do during the auditing process, your firm is the expert that gives its professional opinion about how much reliance users can place on the audit topic at hand.

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Types of Auditing Careers

Article / Updated 03-26-2016

After you pass the CPA exam, you’ll probably be itching to get into the job market to start making some money! Chances are good that with a CPA license in hand, you can choose to do external auditing. If you choose to become an independent auditor you have no special relationship with or financial interest in the client that would cause you to disregard evidence and facts when evaluating your client. Obviously, being independent means you can’t both work for the client and be its external auditor. External auditors also conduct compliance, operational, and forensic audits. Opening your own one-person business probably isn’t the way to go if you plan to be an external auditor conducting financial statement audits. If you want to do financial statement audits, you may consider getting your CPA license and immediately opening your own one-person shop. However, doing so may not be the smartest choice. To do financial statement audits, you need two things that you can’t get working in a one-person firm: The solid, practical experience you need to put out a quality product: Textbook knowledge only takes you so far; learning by working for experienced CPAs is the logical complement to your classroom studies. A support staff that can sufficiently tackle the work involved: CPA firms have layers of employees, from the junior auditor to the partner, to review the work product before it goes to the client. Furthermore, maintaining a high-quality system for financial statement audits that meets the American Institute of Certified Public Accountants’ (AICPA) quality peer review process is almost impossible. Why? Catching mistakes in your own work is quite difficult. Additionally, each audit has such a significant volume of work that a sole member firm would have serious problems getting a quality audit completed in a timely fashion. Many boutique firms are one-person shops, and they can be very successful. However, if you’re a newer auditor, it is a good idea to work for a CPA firm to gain valuable experience. Indeed, you may have no choice because many states have an experience requirement that must be met prior to receiving your CPA license . As an auditor with your new CPA license in hand, you have a few options for finding a job, including the following: Large firms: CPA firms can be huge. The big four CPA firms — KPMG, Ernst & Young, Pricewaterhouse Coopers, and Deloitte — conduct the majority of all global audits of public companies (those that sell their stock on exchanges such as the NASDAQ). Small firms: Many audit firms consist of a sole practitioner with a professional staff of three or four members. These types of CPA firms audit financial statements of private companies — those whose stock is closely held by a small group of investors. Private and publicly traded companies: You can also find jobs working for private and publicly traded companies, usually in the capacity of an internal auditor (CPA license not mandatory). The government: You can get an auditing job working for local, state, and federal government — CPA license not mandatory as well. Although most CPAs look to do external auditing, other career options are available to auditors, including those who don’t have a CPA license. Here are some of these other options: Internal auditing: Internal auditors work for the company they audit and don’t have to be CPAs. Their job is to make sure the company runs efficiently and effectively; they perform financial, internal control, and compliance audits for the employer. Government auditing: Think your government is spending too much of your tax dollars on frivolous expenses? Then consider a career as a governmental auditor working for your local, state, or federal government. Forensic auditing: Forensic auditors often discover information that’s used as litigation support. A CPA license lends more validity when a forensic auditor testifies at trial, but it’s not mandatory. A forensic auditor looks at records and documents just like any other auditor.

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