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What is the difference between an error vs fraud?
- An error is an unintentional misstatement or omission of an amount or disclosure, or misapplication of accounting principle or estimate that affects the FS.
- Fraud is the intentional / purposeful act with the same result.
What are the 3 types of fraud?
- Fraudulent financial reporting (lying)
- Misappropriation of assets (stealing)
- Corruption (cheating) [violation of laws and regulation]
True / False: Fraudulent financial reporting includes the purposeful manipulation or alteration of supporting documents
What is another term that means misappropriation of assets
True / False: Misappropriation of assets includes any and all theft of assets.
- Only when the theft has an effect causes the financial statements not to be presented in conformity with GAAP
True / False: Misappropriation of assets includes having the entity pay for something that has not been received
What are the 3 fraud risk factors
- An incentive or pressure
- An opportunity, such as lack of effective controls
- A rationalization to justify the behavior
- **** rationalization is less likely to occur when employees are infused with ethics, integrity, and the negative impact of fraud
True / False: When expressing an audit opinion, the auditor provides absolute assurance that the FS are free of material misstatement resulting from errors or fraud.
- The auditor provides reasonable assurance, not absolute, because the auditor doesn't audit every piece of information and those committing fraud work diligently to cover it up.
What is management's responsibility with regard to creating FS that are free of material misstatement?
Management is responsible for designing and implementing programs and controls to prevent, deter, and detect fraud and errors.
What is the auditor's responsibility with regard to providing assurance that the FS are free of material misstatement?
The auditor is responsible to plan and perform the audit to obtain reasonable assurance.
True / False: Since this is the 4th audit performed with this client, and the client has performed impecably in previous years, the auditor may reduce the level of materiality, or amount of substantiating procedures.
- The auditor should be concerned about fraud risk every single year, and perform the audit as if this were the first year with this client.
What are the 6 procedures the auditor should perform specifically regarding fraud
- Open the D-O-R-E to uncovering fraud...
- Discuss fraud risk with engagement personnel
- Obtain info to identify specific fraud risks
- Assess fraud risk and develop an appropriate response
- Evaluate audit evidence regarding fraud
- Make appropriate communications about fraud
- Document the auditor's consideration of fraud.
A discussion of the potential for material misstatement as the result of fraud is [recommended / required ] as part of planning the audit
When interviewing personnel regarding their understanding of fraud and the fraud prevention process, what types of responses might indicate a need for additional evidence?
- Responses that are...
- lackadaisical attitude toward fraud
The performance of analytical procedures [ recommended / required ] during which stage(s) of the audit process
- Planning and at Final Review
Analytical procedures are required for which specific account type?
What are the 4 attributes of risk?
- Type: fraudulent financial reporting or misappropriation of assets
- Sigificance: can it lead to a material misstatement
- Likelihood: what are the odds it would occur
- Pervasiveness: does it affect one account, a few transactions, the whole FS?
What are the 2 risks assumed to exist at all times and must be addressed by auditor in evaluating the overall fraud risk
- The risk of improper revenue recognition
- The risk that occurs due to management override of controls
Items are more susceptible to manipulation when they involve...
- A high degree of management judgment or subjectivity
- Highly complex accounting principles
What are the 3 required levels of response to fraud risk
- Overall, general response
- Specific audit procedures
- Risks related to management override
What activities should the auditor perform when addressing the overall, general response to fraud risk
- Which personnel to assign to the engagement
- What level of supervision of the personnel is required
- Incorporating an appropriate level of unpredictability in the selection of audit procedures
- Evaluating mgmt's selection and application of accting principles
What activities should the auditor perform when addressing the specific audit procedures risk?
By tailoring the NET of audit procedures to specifically identified fraud risk
What activities should the auditor perform when addressing the risks related to management override?
- Exaamine journal entries and other adjustments, looking for nonstandard or unusual entries
- Review accting estimates for bias. Compare a retrospective review by comparing prior period estimates to actual subsequent events.
- Evaluate the business purpose of significant unusual transactions (overly complex)
What activities should the auditor identify as potential indicators of fraud
- Discrepancies in the accting records
- Conflicting or missing evidential matter
- Problematic relationships between the auditor and mgmt
- Objections by mgmt when the auditor meets privately with the audit committee
- Accting policies that appear inconsistent with industry practices that are widely recognized and prevalent
- Frequent changes in accting estimates not related to changing circumstances
- Tolerance of violations of the company's code of conduct
True / False: Any indication of fraud should initially be discussed with the person for whom the fraud is suspected in order to gain clarification
- It should be discussed with a level of management at least one level above those involved.
- If it causes a material misstatement of the FS, discuss with senior mgmt and report directly to those charged with governance
- Any fraud involving sr. mgmt should be reported directly to those charged with governance.
When and to which parties outside the entity is it the auditor's duty to disclose potential fraud
- To comply with certain legal or regulatory requirements (e.g., 8-K)
- To the successor auditor when given permission from the client
- To a funding or other government agency in accordance with requirements for the audit of those receiving government financial assistance
- In response to a subpoena
- To authorities when the entity fails to take corrective action
What documentation is required regarding the fraud risk assessment and response?
- Engagement Team Discussion: personnel involved, how and when the discussion occurred, the subject matter discussed
- Procedures Performed
- Specific Identified Risks
- Evidence for or against improper revenue recognition
- Evidence for or against improper management override of controls
- Situations and the response for specific items that warranted further audit work
- The nature of communications made about fraud.
Interesting Fact from COSO Study: For those companies with internal audit, their risk of fraud was cut in half.
For those companies with internal audit that did surprise or unpredictable audits their risk of fraud was cut in half yet again.
REMINDER: The Skills Practice viseo for A3-M1 provided a nice summary of risk analysis and response.
rewatch the video