What Are the 7 Financial Statement Assertions? Explanation

Management assertions or financial statement assertions are the implicit or explicit assertions that the preparer of financial statements (management) is making to its users. These assertions are relevant to auditors performing a financial statement audit in two ways. In developing that conclusion, the auditor evaluates whether audit evidence corroborates or contradicts financial statement assertions. Second, auditors are required to consider the risk of material misstatement through understanding the entity and its environment, including the entity’s internal control. Testing assertions requires a blend of analytical skills, professional skepticism, and a deep understanding of the company’s operations and industry.

It is the third assertion type that can fall under both transaction-level assertions and account balance assertions. Data analytics tools enable auditors to analyze large volumes of data quickly and accurately, identifying anomalies that might not be apparent through traditional methods. For instance, using software like ACL or IDEA, auditors can perform complex data analyses to detect patterns indicative of fraud or errors. These tools also facilitate continuous auditing, allowing for real-time monitoring of financial transactions and enhancing the overall effectiveness of the audit process. It is important because these assertions tend to add a much-needed layer of security when it comes to these audit assertions. Therefore, with these audit assertions in place, the reliability of financial statements considerably increases.

The Importance of Financial Statement Assertions in Auditing

Existence – means that assets and liabilities really do exist and there has been no overstatement – for example, by the inclusion of fictitious receivables or inventory. When financial statements are being prepared, there are certain elements that need to be borne in mind by the accountants. The preparation itself requires certain claims that need to make pertaining to the preparation of financial statements. This is due to it is impractical for auditors to examine all items in the client’s record. For example, the auditor may perform an observation procedure by witnessing the counting of inventories by the client.

Common Misstatements and Their Impact

For this audit assertion, auditors may need to inspect the legal documents of the assets. Evidence gathered by formal or informal inquiry generally cannot stand alone as convincing. Hence, auditors usually perform other procedures together with the inquiry such as inspecting the supporting documents to ensure that the explanation provided by clients can be relied upon. Assertions related to presentation and disclosure ensure that financial information is appropriately classified, disclosed, and presented in accordance with applicable financial reporting frameworks. Audit assertions for accounts payable ensure that all liabilities are recorded correctly.

• This calls to ensure that inventory is only recorded as lower cost or net realizable value.
• It confirms that all have been classified correctly and presented clearly in such a manner that helps understand the information contained in the financial statements.
• At this stage the auditor will design substantive procedures to ensure that assurance has been gained over all relevant assertions.
• Audits help companies gain access to external financing and provide assurance to stakeholders.

How to Prepare An Internal Audit Program? Tips and Guidance

Any inventory held by the audit entity on account of another entity has not been recognized as part of inventory of the audit entity. It is the auditor’s responsibility to determine that these items are properly disclosed in the financial statements. If the auditor is unable to obtain a letter containing management assertions from the senior management of a client, the auditor is unlikely to proceed with audit activities. One reason for not proceeding with an audit is that the inability to obtain a management assertions letter could be an indicator that management has engaged in fraud in producing the financial statements.

The completeness assertion in auditing tests that all transactions and activities that should be recorded are reflected in the financial statements. If, for example, a corporation does not include a related expense or liability, this can substantially misinform users about the corporation’s finances. It refers to the fact that the assets, liabilities, and equity balances, which need to be recognized, have been recorded in financial statements. You need to note that leaving out any of the aspects of an account can lead to a false representation of the company’s financial health. Take the time to familiarize yourself with the different types of audit assertions and how analytical procedures used to test them helps establish the truthful disclosure of a company’s financial standing.

Management assertions are the claims or representations made by management in the financial statements. In contrast, audit assertions are the tools or lenses used by auditors to examine and test those claims. Both are fundamental to the audit process, with the former being the subject of the audit and the latter guiding the methodology of the audit. Applying these audit procedures and assertions lets the auditor say whether the inventory balance in financial statements is correct and reliable. If some assertion does not apply, an auditor will ask for adjustments or give a qualified audit opinion. For example, auditors examine whether financial statement notes include all necessary details about contingencies, related-party transactions, and accounting policies.

Impact of Technology on Assertions Testing

• Similar to existence, occurrence is used to verify that recorded transactions have actually occurred.
• They encompass various aspects of the financial data, ensuring that the information presented is both reliable and relevant for decision-making.
• They act as a framework that guides auditors in their evaluation of financial statements, ensuring that the information presented is both accurate and reliable.
• This risk-based approach ensures that auditors allocate their resources efficiently and effectively, concentrating on the areas that matter most.

IFRS developed ISA315, which includes categories and examples of assertions that may be used to test financial records. It should be ensured that the transactions and the events are properly clubbed , and clearly described. For example, salaries and wages expenses should be properly allocated between the respective heads. Basically, it ensures that the represented transactions in the Financial Statements include transactions that are only relevant to the current financial year. The audit client is asserting that the cash balance exists, that it’s accurate, and that only transactions within the period are included. In addition, he consults with other CPA firms, assisting them with auditing and accounting issues.

True and Fair View of Financial Statements

Auditors do this by physically inspecting inventory and verifying the valuation methods used. Similar to existence, occurrence is used to verify that recorded transactions have what are the 7 audit assertions actually occurred. Since financial statements cannot be held to a lie detector test to determine whether they are factual or not, other methods must be used to establish the truth of the financial statements.

Auditors employ a variety of techniques to test financial statement assertions, each tailored to address specific risks and ensure the accuracy of the financial data. These techniques are designed to gather sufficient and appropriate evidence, enabling auditors to form a reliable opinion on the financial statements. In this example, the auditor responds by adding a substantive test for detection of fictitious vendors. For an auditor, relevant assertions are those where a risk of material misstatement is reasonably possible. So, magnitude (is the risk related to a material amount?) and likelihood (is it reasonably possible?) are both considered.

Candidates should ensure that they know the assertions and can explain what they mean. Candidates should not simply memorise these tests but also ensure they understand the reasons why the test provides assurance about the particular assertion. Current assets are often agreed to purchase invoices although these are primarily used to confirm cost. Rights and obligations – means that the entity has a legal title or controls the rights to an asset or has an obligation to repay a liability. Relevant test – reperformance of calculations on invoices, payroll, etc, and the review of control account reconciliations are designed to provide assurance about accuracy. Items in the balance sheet have been appropriately evaluated and allocated to reflect their actual economic value.

Role of Assertions in Financial Audits

It also gets easier on the part of auditors because they know that the accountants have prepared these statements bearing in mind the above-mentioned clauses. Therefore, this holds tantamount importance from the point of view of not only the auditor but also from the general users of financial statements. As far as audit assertions are concerned, they can simply be defined as claims that establish whether the financial statements are fairly represented in the process of accounting or not. One of the primary purposes of these assertions is to establish a common ground between the preparers of financial statements and the auditors. By clearly defining what each assertion entails, both parties can work towards a mutual understanding of the expectations and responsibilities involved.