In: Accounting
Describe these two types of audit testing: Substantive Testing and Testing of Internal Controls. Questions to address: What are the goals of each type of testing? When is each type of testing required? How is the testing documented? What is the impact when the auditor finds and 'error' or a 'deviation'?
Address this to a business owner that is about to be subjected to a financial statement audit.
Substantive Testing:
It is an audit procedure that examines the financial statements and supporting documentation to see if they contain errors. These tests are needed as to create evidence that an auditor assembles to support the assertion that there are no material misstatements in regard to the completeness, validity, and accuracy of the financial records of the entity .Thus, substantive procedures are performed by an auditor to detect whether there are any material misstatements in accounting transactions .
Requirement of Substantive testing:-
It is required at execution stage after auditor prepared audit planning. After auditor understands client internal control, test of control, then auditor will assess whether they can rely on the control or not. If auditor could rely on, then there is less works to do in the substantive testing. But, the auditor concluded that the control could not rely on. Then the testing might be up to 100%.
When error or deviation found:
Misstatements discovered in conducting substantive procedures may cause the auditor to modify the previous assessment of control risk. Perform additional audit procedures subject to nature, timing and extent of the audit.
For Example:- An auditor may physically examine the inventories as evidence that inventory shown in the accounting records actually exists: inspect supporting documents like invoice to confirm sale that occur.
Testing of Internal Controls:-
Internal controls are a system consisting of specific policies and procedures designed to provide management with reasonable assurance that the goals and objectives it believes important to the entity will be met.
According to Standards on Accounting SA -315 its objective is to ensure the orderly and efficient conduct of its business, including adherence to management policies, the safeguarding of the assets, the prevention and detection of fraud and error, the accuracy and completeness of the accounting records, and the timely preparation of reliable financial information.
Objectives of Internal Control:
Are determined by the management after considering the nature of business, scale operations etc. Objectives of Internal control relating to accounting system are:
Impact when auditor find error or deviation:-
As per SA 265- "Communicating Deficiencies in Internal Control to those charged with governance and management ". It deals that auditor should communicate internal deficiencies found in the control system in an audit of financial statements.