What’s on the CPA Exam - dummies

What’s on the CPA Exam

By Kenneth W. Boyd

The CPA exam consists of four separate tests, which mirror the types of tasks a CPA may have to perform. For example, some accountants perform audits and other third-party reviews of financial statements, and those tasks are tested in the auditing and attestation (AUD) test. The following sections provide an overview of each of the four tests.

The AICPA’s document “Content and Skill Specifications for the Uniform CPA Examination” explains the tests in detail, listing the percentage of test questions for each particular topic. For example, the document explains that “engagement acceptance and understanding the assignment” questions make up 12 to 16 percent of the AUD test.

Knowing which areas have the most questions can help you study effectively. You can schedule each test individually, and you can take the tests in any order. To search for and download the document, visit the AICPA website.

You register for each test individually, and you can decide the order in which to take the tests. Each test takes 3 or 4 hours, so you don’t take all four tests in the same day.

Financial accounting and reporting

One test covers financial accounting and reporting (FAR). Accountants have guidelines on how to record accounting transactions and present financial statements. The process of creating financial statements is called financial reporting.

For example, suppose you have a bank loan. The loan requires you to repay a part of the $10,000 of the principal amount (the original amount borrowed) each year. Financial reporting requires you to separate the amount due within a year (a current liability) from the remaining loan balance (a long-term liability).

Now the financial-statement reader can make a more informed decision about the company’s debt position. If a large amount of the principal is due within a year, that might put a strain on the company’s available cash.

The FAR part of the exam frequently tests your ability to

  • Prepare and review source documents and post activity in the accounting records (source documents are the original records that support an accounting transaction, such as an invoice from a client or a shipping document)

  • Identify which financial accounting and reporting methods are appropriate for a given situation

  • Perform financial analysis, including variance and trend analysis

  • Produce financial reports to meet regulatory requirements

Auditing and attestation

The auditing and attestation (AUD) test involves concepts that are related to auditing financial statements and other engagements. An engagement is the work that a client hires an accountant to perform. An audit takes place when a CPA firm performs procedures on a company’s financial statements. Based on those procedures, the auditing firm provides an audit opinion.

Here are some of the frequently tested areas in the AUD part of the exam:

  • Accepting the audit or attestation engagement

  • Understanding the entity and the entity’s controls over accounting procedures

  • Performing audit procedures and assessing audit evidence

  • Evaluating audit findings and writing the audit report

Regulation

The regulation (REG) test covers the ethics and professional responsibilities of a CPA. It also addresses business law and federal taxation.

Here, the exam describes business situations and asks whether the accountant’s behavior is ethical, based on professional standards. For example, suppose a CPA who is performing an audit of Acme Company also owns a business that sells raw materials to Acme. Professional standards require that a CPA performing an audit be independent of the client.

Independence means that the CPA’s only business relationship with the company is the audit work being performed. Because the CPA has an additional business relationship with Acme Company, the CPA is not independent. The accountant should resign from the audit.

The REG test also addresses the behavior of clients. Say that Timberrr Lumber has a policy that sales revenue is posted to the accounting records when goods are shipped to a customer. Timberrr is having a poor sales month and wants to post as many sales in the last few days of the month as possible.

On the 29th day of the month, the lumber company receives a $5,000 order from a customer and posts that amount as sales revenue. Because that transaction isn’t consistent with Timberrr’s revenue recognition policy (the $5,000 order hasn’t been shipped yet), a CPA performing an audit on Timberrr should insist that the $5,000 sales revenue be removed from the accounting records.

Financial statements are the responsibility of company management. A company accountant or outside CPA firm can recommend changes to the accounting records. However, management is ultimately responsible for generating financial statements that fairly present the company’s financial position.

Completing the tax portion of the REG test is similar to the process of preparing tax returns. The candidate needs to know many of the rules for both individual and corporate taxation. The exam provides details about a tax client, and you have to calculate the tax impact of those details.

Finally, the REG test covers your basic knowledge of business law. It includes topics such as contracts, the relationship between agents and principals, and the Uniform Commercial Code (UCC).

Business environment and concepts

The business environment and concepts (BEC) test focuses on general topics that a college business major learns in undergraduate coursework. This section is less about specific accounting and more about the skills needed to manage a business.

One area tested is corporate governance, which deals with the duties and responsibilities of company executives. This includes corporate officers, such as the chief financial officer, as well as company employees (those workers who are not in management). Corporate governance also covers the responsibilities of the board of directors.

For example, a majority of the firm’s board of directors should be independent. In this case, independence means that the board member’s only relationship with the company is the fee he or she receives as a board member. The individual isn’t a company employee or supplier.

The BEC test also tests economic concepts and analysis. You may see questions on the impact of globalization, including the risk of converting from one type of currency to another. You’re also tested on the concept of business cycles as well as interest risk.

Another area of emphasis is financial decision-making. For example, companies often have to consider whether to lease a piece of machinery or buy it. To make an intelligent decision, potential purchasers consider the cash required to buy the machine — and they consider the source of that cash.

If the firm borrows funds for the purchase, the borrowers need to consider the interest expense on the loan. When a company issues stock, they need to consider how much ownership is being sold to outside investors. Those investors will now have a say in major company decisions. To succeed on this part of the exam, you need to understand the financial tools needed to make business decisions.