Planning an Audit
AU-C Section 200, Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with Generally Accepted Auditing Standards, paragraph 20, requires an auditor to comply with all applicable AU-C sections when performing an audit. AU-C Section 315, Understanding the Entity and Its Environment and Assessing the Risks of Material Misstatement, paragraph 12c, requires the auditor to obtain an understanding of an entity's selection and application of accounting policies. These requirements apply to all financial reporting frameworks, including special purpose frameworks.
This series of articles will focus both on general audit requirements applicable to all financial reporting frameworks as well as specific requirements relevant to two special purpose frameworks – the income tax basis and the AICPA's FRF for SMEs basis.
Because an auditor is required to understand the applicable financial reporting framework used by an entity as part of engagement planning, summaries of the basic accounting policies for these two special purpose frameworks will be presented to illustrate the first step of the planning process. This part includes some of the significant tax basis policies, which are summarized below.
Summary of Some Basic Principles for the Tax Basis of Accounting
|ACCOUNT CLASSIFICATION||ACCOUNTING POLICIES|
|Accounts Receivable||The specific charge-off method is required for uncollectible trade and notes receivable. Uncollectible balances are charged to bad debt expense when they are considered worthless, ordinarily when no more collection efforts are possible.|
|Inventories||Inventories are generally valued at cost using the lower of cost or market method or the retail method. Most cost flow methods can be used with a reasonable allocation of manufacturing overhead to inventories. Losses are recognized when incurred.|
|Investments||The cost basis is used for investments in equity and debt securities. Dividends are included in income when received and the equity method is not permitted.|
|Prepaid expenses||Advance payments of expenses generally are deductible in the period to which they apply, unless the related services will be consumed within twelve months of the date of payment or within the next tax year.|
More accounting policies for the income tax basis of accounting will be presented in Part 3 of this series. Since this series will cover all commonly applicable requirements of the auditing standards applicable to all financial reporting frameworks, with emphasis on special purpose frameworks, the materials will be useful for reference. Storing each of the articles in electronic or hard copy format will facilitate their use as non-authoritative, practical guidance for auditing engagements. Some practitioners may also find them useful for internal discussions or training within their CPA firms.
As you read along with me through this series, I invite your questions and comments, either in the comment box or directed to my personal e-mail address, [email protected]. Thank you for joining me in this experience!
About the author:
Larry Perry, CPA, has over forty years' experience as a CPA practitioner, author of accounting and auditing manuals, author and presenter of live staff training seminars, and author of webcast and self-study CPE programs. He is cofounder of CPA Firm Support Services, LLC (www.cpafirmsupport.com), an organization providing resources, training, and consulting to smaller CPA firms. Larry has been writing his AccountingWEB blog since 2009. He is currently developing documentation manuals and handbooks for small audits, reviews and compilations, and related electronic practice aids.