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The AICPA issued its AU-C 315 exposure draft in August 2020. AU-C 315, Understanding the Entity and its Environment and Assessing the Risks of Material Misstatements, has been with us several years. Now the AICPA is updating it.
Conceptually the exposure draft is not that different from the extant standard, but the details introduce some interesting changes. The proposed standard, if adopted, will have a significant impact on future audits.
Risk assessment provides the foundation for planning an audit. So it's critical that an auditor understand the entity and its environment, including controls, prior to assessing the risk of material misstatement.
The Auditing Standards Board (ASB) issued its original risk assessment standards in 2006 with SAS 109 being a part of that suite. Since that time auditors have done a much better job of understanding the entities they audit prior to planning. Even so, auditors continue to struggle with understanding internal controls. Additionally, some find it difficult to use that information in risk assessment and planning.
Since the issuance of SAS 109, auditors have asked questions such as:
These questions (and related misunderstandings) manifested themselves in peer reviews.
Firms are receiving peer review feedback saying there is a lack of documented understandings of the entity and its controls. Moreover, peer reviewers have found that auditors are, in some cases, not using the information--even when control understandings are documented--as a basis for risk assessment or planning.
So, the AICPA is, in this update, trying to lend a helping hand.
The ASB is addressing the following with this exposure draft:
This ASB has received feedback from practitioners and firms since the exposure draft was issued.
One of the things I see in the draft proposal is clarification regarding what's important in an audit (and how certain elements are defined), such as:
As I was reading the draft proposal, I kept thinking, this makes sense. I think you will too.
The effective date, if the standard is issued, is for periods ending on or after December 15, 2023.
Charles Hall is a practicing CPA and Certified Fraud Examiner. For the last thirty years, he has primarily audited governments, nonprofits, and small businesses. He is the author of The Little Book of Local Government Fraud Prevention and Preparation of Financial Statements & Compilation Engagements. He frequently speaks at continuing education events. Charles is the quality control partner for McNair, McLemore, Middlebrooks & Co. where he provides daily audit and accounting assistance to over 65 CPAs. In addition, he consults with other CPA firms, assisting them with auditing and accounting issues.
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