Fraudulent financial reporting generally involves the recording of fraudulent journal entries, particularly those involving post-closing adjustments and other types of nonstandard journal entries.Auditors’ responsibility with respect to fraud, as presented in AU Section 316, Consideration of Fraud in a Financial Statement Audit, requires auditors to presume that the risk of management override of controls is always present and to test journal entries and other adjustments for indications of possible material misstatements due to fraud.

Describes fraud and its characteristics.

SAS 99 defines fraud as an intentional act that results in a material misstatement that are done financial statements. There are two types of fraud considered: misstatements arising from fraudulent financial reporting and misstatements arising from misappropriation of assets . The standard describes the fraud triangle. Generally, the three ‘fraud triangle’ conditions are present when fraud occurs. First, there is an incentive or pressure that provides a reason to commit fraud. Second, there is an opportunity for fraud to be perpetrated (e.g. absence of controls, ineffective controls, or the ability of management to override controls.) Third, the individuals committing the fraud possess an attitude that enables them to rationalize the fraud.

Requires sessions to discuss how and where the entity’s financial statements might be susceptible to material misstatement due to fraud.

This requirement is a new concept in audit standards and it has two primary objectives. The first objective is so the engagement team will have an opportunity for the seasoned team members to share their experiences with the client and how a fraud might be perpetrated and concealed. The second objective is to set the proper “tone at the top” for conducting the engagement. The brainstorming session is to be conducted in a manner that models the proper degree of professional skepticism and sets the culture for the entire audit.

The following steps involved in testing journal entries and other adjustments are addressed in this Practice Aid and generally occur in the following order:

Step 1: Consider the risks of material misstatement due to fraud identified in planning the engagement and their effect on the nature and extent of journal entry testing.

Step 2: Obtain an understanding of the entity’s financial reporting processes and the controls over journal entries and other adjustments.

Step 3: Perform audit procedures to determine the completeness of the population of journal entries and other adjustments.

Step 4: Identify and select journal entries and other adjustments for testing.

Step 5: Perform journal entry audit procedures, gather sufficient evidence, and document results.

The auditor should gather information necessary to identify risks of material misstatement due to fraud by the following

• Making inquiries of management and others within the entity
• Considering the results of analytical procedures performed in planning the audit.
• Considering fraud risk factors.
• Considering certain other information

SAS 99 requires auditors to ask management questions about their awareness and understanding of fraud. Auditors will then make a decision as to whether they need to ‘educate’ management about fraud and the types of controls that will deter and detect fraud. The standard also requires auditors to make inquiries of the audit committee, internal audit personnel and others within the entity.

SAS 99 provides specific examples of programs and controls for both large and small businesses. The auditor should consider which controls mitigate the identified fraud risks.

SAS 99 provides specific examples of programs and controls for both large and small businesses. The auditor should consider which controls mitigate the identified fraud risks.

SAS 99 provides specific examples of programs and controls for both large and small businesses. The auditor should consider which controls mitigate the identified fraud risks.

SAS 99 provides specific examples of programs and controls for both large and small businesses. The auditor should consider which controls mitigate the identified fraud risks.

SAS 99 provides specific examples of programs and controls for both large and small businesses. The auditor should consider which controls mitigate the identified fraud risks.

Importance of Internal Controls

It is important to emphasize that a company’s internal controls surrounding the journal entry process will It is important to emphasize that a company’s internal controls surrounding the journal entry process will adjustments. Indeed, assessment of controls is often an integral component of the journal entry testing process. Internal controls that are commonly evaluated regarding journal entries are:

• Segregation of duties regarding the authorizing, posting, reviewing and reconciling of journal entries;

• Access rights controlling who is authorized – and not authorized – to record and approve journal entriesin a company’s accounting system;

• Oversight of the journal entry-posting process by members of management, internal auditors, or others, including post-entry review;

• Regular testing of controls, including those surrounding journal entries, by the company’s internal auditors, if any.

Provides guidance regarding the auditor’s communications about fraud to management, the audit committee, and others.

The standard requires that any evidence that fraud may exist must be communicated to management and others. The level of severity is insignificant.

Describes documentation requirements.

SAS 99 significantly extends the documentation requirements of the previous standard. Auditors must document: (1) how and when the brainstorming session occurred and who participated, (2) procedures performed to obtain information to identify and assess fraud risk, (3) specific risks of material misstatement due to fraud (must specifically include discussion of revenue recognition) and the auditor’s response to those risks, (4) results of the procedures performed to address the risk of management override of controls, (5) conditions and analytical relationships that led to additional audit procedures or other responses, and (6) nature of communications about fraud made to management and others.