Which is the best audit procedure to discover unrecorded liabilities at year

You might also be interested in...How to test the completeness assertion for expenses?

The primary concern for expenses is that the company has not recorded all expenses in the financial statements. By not recording certain expenses, the company can inflate profit. The audit team can trace invoices or cash disbursements to the general ledger (i.e. the search for unrecorded liabilities).

To ensure completeness of reported liabilities at year end, a useful test is a subsequent search for unrecorded liabilities. Within Audit Accelerator, you can complete the search for recorded liabilities using the drill-down function within Bank Accounts to see payment activity subsequent to year end. 

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• Auditing Accounts Payable and Expenses — An Overview
• Primary Accounts Payable and Expense Assertions
• Accounts Payable and Expense Walkthroughs
• Directional Risk for Accounts Payable and Expenses
• Primary Risks for Accounts Payable and Expenses
• Common Payable and Expense Control Deficiencies
• Risks of Material Misstatement for Payables and Expenses
• Search for Unrecorded Liabilities
• Auditing for Fraud
• Substantive Procedures for Accounts Payable and Expenses
• Typical Payable and Expense Work Papers
• Get Your Copy of the Why and How of Auditing
• How do you test for unrecorded liabilities?
• What is the best audit procedure for determining the existence of unrecorded liabilities?
• How do auditors verify liabilities?
• How do you perform an audit test?

To access unrecorded liabilities, do the following: 

1. Click on Bank on the left-hand side of your client Audit Accelerator portal to expand the available banking reports. Then, click Bank Accounts.

1. A list of all of the client's bank accounts will appear. First, select the appropriate date for your search. As this is a subsequent search of unrecorded liabilities, ensure that your date is the period after the audit year end, and up until the upload date. 

1. The report is now showing all banking accounts and the activity in those accounts that occurred after year end. Select the bank account to perform your search for unrecorded liabilities. 

1. This view will give you all activity within the bank account. Clicking the download button will export the report into Microsoft® Excel®. Within Excel®, you are able to filter for different types of payments and manual entries made directly into the bank account ledger. 

Accounts payable is usually one of the more important audit areas. Why? Risk. First, it’s easy to increase net income by not recording period-end payables. Second, many forms of theft occur in the accounts payable area.

In smaller entities, it is common to have the following control deficiencies:

• One person performs two or more of the following:
• Approves purchases,
• Enters invoices in the accounts payable system,
• Issues checks or makes electronic payments, 
• Reconciles the accounts payable bank account,
• Adds new vendors to the accounts payable system
• A second person does not review payments before issuance
• No one performs surprise audits of accounts payable and expenses 
• Bidding procedures are weak or absent
• No one reconciles the accounts payable detail to the general ledger
• New vendors are not vetted for appropriateness
• The company does not create a budget
• No one compares expenses to the budget
• Electronic payments can be made by one person (with no second-person approval or involvement)
• The bank account is not reconciled on a timely basis
• When bank accounts are reconciled, no one examines the canceled checks for appropriate payees (the dollar amount on the bank statement is agreed to the general ledger but no one compares the payee name on the cleared check to the vendor name in the general ledger)

When segregation of duties is lacking, consider whether someone can use the expense cycle to steal funds. How? By making payments to fictitious vendors, for example. Or intentionally paying a vendor twice--and then stealing the second check. (See the section titled Auditing for Fraud below.)

Risks of Material Misstatement for Payables and Expenses

In smaller engagements, I usually assess control risk at high for each assertion. When I assess control risk at less than high, I have to test controls to support the lower risk assessment. Therefore, assessing risks at high is usually more efficient (than testing controls).

When control risk is assessed at high, inherent risk becomes the driver of the risk of material misstatement (control risk X inherent risk = risk of material misstatement). The assertions that concern me the most are completeness, occurrence, and cutoff. So my RMM for these assertions is usually moderate to high.

My response to higher risk assessments is to perform certain substantive procedures: namely, a search for unrecorded liabilities and detailed expense analyses. The particular expense accounts that I examine are often the result of my preliminary planning analytics. 

Search for Unrecorded Liabilities

How does one perform a search for unrecorded liabilities? Use these steps:

1. Obtain a complete check register for the period subsequent to your audit period
2. Pick a dollar threshold ($10,000) for the examination of subsequent payments
3. Examine the subsequent payments (above the threshold) and related invoices to determine if the payables are suitably included or excluded from the period-end accounts payable detail
4. Inquire about any unrecorded invoices

As the RMM for completeness increases, vouch payments at a lower dollar threshold.

How should you perform a detailed analysis of expense accounts? First, compare your expenses to budget—if the entity has one—or to prior year balances. If you note any significant variances (that can’t be explained), then obtain a detail of those particular expense accounts and investigate the cause.

Theft can occur in numerous ways—such as fictitious vendors or duplicate payments. If control weaknesses are present, consider performing fraud-related procedures. When fraud-related control weaknesses exist, assess the RMM for the occurrence assertion at high. Why? There is a risk that the expense (the occurrence) is fraudulent. 

So, how should you respond to such risks?

Auditing for Fraud

An example of a fraud-related test is one for duplicate payments. How?

• Obtain a check register in Excel
• Sort by the vendor
• Scan the check register for payments made to the same vendor for the same amount
• Inquire about payments made to the same vendor for the same amount

In a duplicate payment fraud, the thief intentionally pays an invoice twice. He steals the second check and converts it to cash.

This is just one example of expense fraud. There are dozens of such schemes. 

(See White Collar Crime is Knocking at Your Door: Are You Prepared?)

Substantive Procedures for Accounts Payable and Expenses

My customary audit tests are as follows:

1. Vouch subsequent payments to invoices using the steps listed above (in Search for Unrecorded Liabilities)
2. Compare expenses to budget and examine any unexplained variances
3. When control weaknesses are present, design and perform fraud detection procedures

If there are going concern issues, you may need to examine the aged payables listing. Why? Management can fraudulently shorten invoice due dates. Doing so makes the company appear more current. For example, suppose the business has three unpaid invoices totaling $1.3 million that were due over ninety days ago. The company changes the due dates in the accounts payable system, causing the invoices to appear as though they were due just thirty days ago. Now the aged payables listing looks better than it would have. 

Typical Payable and Expense Work Papers

My accounts payable and expense work papers usually include the following:

• An understanding of internal controls as they relate to accounts payable and expenses
• Risk assessment of accounts payable and expenses at the assertion level
• Documentation of any accounts payable and expense control deficiencies
• Accounts payable and expense audit program
• An aged accounts payable detail at period-end
• A search for unrecorded liabilities work paper
• Budget to actual expense reports and, if unexpected variances are noted, a detailed analysis of those accounts 
• Fraud-related expense work papers (if significant control weaknesses are present)

So, now you learned about auditing accounts payable. My next post addresses auditing payroll.

In some entities such as governments, payroll makes up over 50% of total expenses. Consequently, knowing how to audit payroll expenses is of great importance. My next post is titled The Why and How of Auditing Payroll. So, stay tuned.

See my prior posts in The Why and How of Auditing.

Get Your Copy of the Why and How of Auditing

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How do you test for unrecorded liabilities?

Search for unrecorded liabilities involves reviewing payment vouchers issued after year-end and unpaid supplier invoices as at the date of audit to check that all material liabilities relating to the financial year have been recorded as at year-end.

What is the best audit procedure for determining the existence of unrecorded liabilities?

Examining selected cash disbursements in the period subsequent to the year-end is the best audit procedure for determining the existence of unrecorded liabilities. All liabilities must eventually be paid, and will therefore be reflected in the accounts when paid if not when incurred.

How do auditors verify liabilities?

Verification and Valuation of Liabilities.

Auditor should collect schedule of creditors and that should tally with ledger balances..

Purchase ledger should be checked and verified with purchase register, purchase invoices and debit notes etc..

Auditor should verify the discount received or receivable from creditors..

How do you perform an audit test?

There are five main methods to walk through and test each control in place at the service organization. These methods include (listed in order of complexity from lowest to highest): inquiry, observation, examination or inspection of evidence, re-performance, and computer assisted audit technique (CAAT)

What is the best audit procedure for determining the existence of unrecorded liabilities?

What assertion does search for unrecorded liabilities?

Which of the following is the most efficient audit procedure for the detection of unrecorded liabilities at the balance sheet date?

When searching for unrecorded liabilities at year end an auditor most likely would examine?