Understanding the function of a financial audit
The word “audit” can be thrown around often in workplace conversations. It could refer to a review of your organization’s digital media presence or the assessment of internal procedure effectiveness. However, when used by an accounting professional, the term “audit” has a precise meaning. Keep reading to learn more.
A financial audit is an official service designed to inspect an organization’s accounting records, technology, and processes. An audit can only be conducted by a licensed CPA who is independent of the organization, meaning that the CPA performing the audit must have no relationship with the organization, its owners, or its employees. This requirement exists to avoid any compromise to the audit or appearance of impropriety.
To conduct an audit, the CPA performs a set of tasks that review the company transactions, balances, and accounting processes, called an audit program. The audit program is custom-designed for the company based on the risks perceived by the audit team, the type of organization being audited, and other factors. Once the audit has been completed, the auditor will issue a formal report stating the findings of the audit. The report typically includes a letter, financial statements, and footnotes.
The auditor’s report can be utilized by the company’s management and third parties, such as lenders and stockholders.
While there are mandatory audit requirements for large public companies, government institutions, schools, and nonprofit organizations, these aren’t typically applicable for small businesses due to the expense. There are other assurance services that can be more helpful for small businesses. They include compilations, reviews, and agreed-upon procedures. Let’s learn more about them.
Other Assurance Services
An audit falls under assurance services in accounting, and it’s the most stringent of all. But there are other types of assurance services available, like:
Compilations. In this type of engagement, the CPA performs basic checks on your financial statements and puts them together with a cover letter. It basically tells a third party that you have a CPA, but it provides the least amount of assurance service.
Reviews. In a review, there are a few more checks, tests, and inquiries, that a CPA will perform before issuing financial statements. This service provides more assurance than a compilation but less than an audit.
Agreed-upon procedures. An engagement with agreed-upon procedures is a very specific engagement where one aspect of the business is reviewed in accordance with a specific goal.
When small businesses are asked for documents from an accountant by a bank or lender, they can often provide these lower-level assurance reports, and the reports will not only suffice but save money.
The term “audit” can also be used informally to define an inspection more narrow in scope, such as an audit performed on an organization by the IRS or a state agency. There is no assurance provided in this type of audit. This audit aims to produce whatever records the organization is asked for to verify the numbers it sent to the agency. These types of audits can occur randomly or as a result of suspected fraud.
Audits performed by the IRS or a state agency can be stressful and unpleasant experiences. Having your accountant support you along the way can be reassuring.