The Clarity Project – Multiple Year Engagement Letters

If you have an existing multiple year audit engagement letter (e.g., letter covering 2011, 2012 and 2013), should you get a new letter to cover the requirements of the Clarity Project?

Yes (or at least create an addendum to your original letter).

Personally I prefer to create a new engagement letter. That way I know I’ve covered all the requisite elements of the new Clarity standards.

It’s cumbersome to create an addendum to the original engagement letter. In order to do so, you will need to compare your old letter with the new engagement letter from your audit materials provider (e.g. PPC, McGladrey, CCH) or the suggested language in the audit standards themselves; then you’ll need to craft an addendum sufficient for that particular client. It’s cleaner to create a new engagement letter. (I previously provided one example of a new engagement letter change.)

Either way, you will need to provide a full letter or addendum to the client.

New Requirement for Multiple Year Engagement Letters

And while we are talking about multiple year engagement letters, remember that under the Clarity standards certain communications are required for recurring audits. The auditor must assess whether circumstances require the terms of the audit engagement to be revised. If the auditor concludes that the terms of the engagement need not be revised, the auditor should remind the entity of the terms of the engagement by (1) providing a new engagement letter or (2)  providing a reminder, either written or oral, that the responsibilities outlined in the previous letter still apply. AU-C section 210 requires that the reminder, whether written or oral, be documented. Standards prior to the Clarity Project did not require the reminder.

Updated Governmental Audit Quality Center Reports

The AICPA Governmental Audit Quality Center has recently updated its example reports (including updated Clarity opinions and Yellow Book reports).

Click here to see the sample reports.

New reports include:

Government Auditing Standards Report Illustrations (Including a Financial Statement Report Illustration for a Government and a Not-for-Profit Entity)

Example No.

Title

4-1

Unmodified Opinions on Basic Financial Statements Accompanied by Required Supplementary Information and Other Information—State or Local Governmental Entity

4-2

Unmodified Opinion on Consolidated Financial Statements Accompanied by Other Information —Not-for-Profit Entity

4-3

Report on Internal Control Over Financial Reporting and on Compliance and Other Matters Based on an Audit of Financial Statements Performed in Accordance With Government Auditing Standards (for a Governmental Entity)

(No Material Weaknesses No Significant Deficiencies Identified, No Reportable Instances of Noncompliance or Other Matters)

4-4

Report on Internal Control Over Financial Reporting and on Compliance and Other Matters Based on an Audit of Financial Statements Performed in Accordance With Government Auditing Standards (for a Governmental Entity and With Reference to Audits by Other Auditors Using the Reference Option)

(No Material Weaknesses Identified, No Significant Deficiencies Identified, No Reportable Instances of Noncompliance or Other Matters Identified)

4-5

Report on Internal Control Over Financial Reporting and on Compliance and Other Matters Based on an Audit of Financial Statements Performed in Accordance With Government Auditing Standards (for a Governmental Entity)

(No Material Weaknesses Identified; Significant Deficiencies Identified; and Reportable Instances of Noncompliance and Other Matters Identified)

4-6

Report on Internal Control Over Financial Reporting and on Compliance and Other Matters Based on an Audit of Financial Statements Performed in Accordance With Government Auditing Standards (for a Governmental Entity and With Reference to Audits by Other Auditors Using the Inclusion Option)

(No Material Weaknesses Identified; Significant Deficiencies Identified; and Reportable Instances of Noncompliance and Other Matters Identified)

4-7

Report on Internal Control Over Financial Reporting and on Compliance and Other Matters Based on an Audit of Financial Statements Performed in Accordance With Government Auditing Standards (for a Governmental Entity)

(Material Weaknesses and Significant Deficiencies Identified; and Reportable Instances of Noncompliance and Other Matters Identified)

OMB Circular A-133 Report Illustrations

Example No.

Title

13-1

Report on Compliance for Each Major Federal Program; Report on Internal Control Over Compliance; and Report on Schedule of Expenditures of Federal Awards Required by OMB Circular A-133 (Unmodified Opinion on Compliance; No Material Weaknesses or Significant Deficiencies in Internal Control Over Compliance Identified)

13-2

Report on Compliance for Each Major Federal Program; Report on Internal Control Over Compliance; and Report on Schedule of Expenditures of Federal Awards Required by OMB Circular A-133  (Unmodified Opinion on Compliance for Each Major Federal Program; Significant Deficiencies in Internal Control Over Compliance Identified)

13-3

Report on Compliance for Each Major Federal Program; Report on Internal Control Over Compliance; and Report on Schedule of Expenditures of Federal Awards Required by OMB Circular A-133  (Qualified Opinion on Compliance for One Major Federal Program; Unmodified Opinion on Compliance on Each of the Other Major Federal Programs; Material Weaknesses and Significant Deficiencies in Internal Control Over Compliance Identified)

State and Local Government Financial Statement Report Illustrations

Example No.

Title

        A-1Unmodified Opinions on Basic Financial Statements Accompanied by Required Supplementary Information and Other Information

A-2

Unmodified Opinion on the Basic Financial Statements of a Special-Purpose Government That Has a Single Opinion Unit

A-5

Report on Basic Financial Statements That Includes Qualified Opinions on Major Governmental Funds Because of a GAAP Departure

A-9

Unmodified Opinions on Basic Financial Statements Accompanied by Required Supplementary Information and Other Information With Reference to an Audit by Another Auditor  

A-10

Report on Basic Financial Statements That Includes Multiple Opinion Modifications, Including an Adverse Opinion Because A Major Fund Is Omitted  

HUD Report Illustrations 

Report on Internal Control Over Financial Reporting and on Compliance and Other Matters Based on an Audit of Financial Statements Performed in Accordance With Government Auditing Standards

 

How to Detect and Prevent Bribes

A bribe is seen as a charm by the one who gives it; they think success will come at every turn. Proverbs 17:8

Recently the FBI performed a sting operation involving two mid-Georgia city council members. The Bureau’s court complaint alleges that two city council members contacted a city vendor requesting a bribe. The vendor, according to the complaint, had previously provided services to the city, but when the contract came up for renewal, the city officials sought monetary encouragement (also known as cash) to continue the arrangement.

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The vendor’s president, once aware of the proposed bribe, contacted the FBI which in turn conducted the sting. On the arranged date, the company CFO allegedly delivered $20,000 in cash to the city council members (the conversation was recorded by Bureau agents); thereafter, arrests were made.

Detecting Bribes

This case reminds me of how difficult it is to detect bribes, and that there are usually two factors in detecting and prosecuting corruption:

* A tip (usually from someone within the organization) and
* Assistance from law enforcement

Corruption is predominantly discovered by tips or by accident, though we will examine a couple of audit techniques below. The Association of Certified Examiner’s (ACFE) biennial fraud surveys reflect that over 60% of corruption-related frauds are unearthed by tips or by accident.

How common is corruption?

Very.

The ACFE’s 2012 Report to the Nation disclosed corruption was the root of 35% of all government fraud, and the percentages are much higher in other industries such as oil and gas, mining, real estate, and utilities.

How are organizations harmed?

Bribes harm organizations indirectly

Vendors usually don’t absorb the cost of the bribe; they pass the expense along to the organization in the form of increased invoice billings, or the vendor will, in some cases, provide substandard products or services. Either way, the organization loses and the bad guy walks away with cash or a free vacation or a free car or … well, you get the picture.

Auditor Techniques

One audit procedure that can be performed is to compare vendor costs over a period of time. I suggest the tests be performed and advertised (let everyone know) so that those tempted will think twice – the potential of detection is a strong deterrent.

How?

  1. Obtain the check register for multiple periods (e.g., three years)
  2. Sort the payments by vendor name, aggregate the total paid by vendor and period
  3. Compare the periodic vendor totals (e.g., annual vendor totals for each of the three years)
  4. Investigate unusual differences

Inflated invoices are a smoking gun. For unexplained increases, determine who approved the invoices.

Also inquire within departments about faulty or substandard products received (another smoking gun); then, if significant, see who approved the related purchases – especially if the deficient product is received repeatedly.

Mitigating Corruption

To mitigate corruption, implement these controls (there are others, but here are a few suggestions):

  • Require sealed bids that are opened in the presence of multiple people 
  • Implement a whistleblower program (include vendors)
  • Require announced periodic vendor audits
  • Implement a conflict of interest policy
  • Implement a bribery prevention policy (include gifts)
  • For significant construction contracts, monitor all phases of the project, including solicitation of bids, awarding of the bid, development of the contract, on-site construction and related billing, and contract change orders (don’t trust the builder to do this for you); consider hiring professional assistance such as Brian Felix

Your Thoughts

What are some of your corruption detection techniques and prevention strategies?

Seven Reasons for Unneeded Work Papers

I see two problems in most work paper files:

(1) Too much documentation, and
(2) Not enough documentation

Finding balance is the key.

Balance (rocks on see-saw)

This post will focus on: Too much documentation.

Over the last twenty-five years I have reviewed attestation files for CPA firms and have commonly asked this question: Why is this work paper in the file?

Here are a few common answers.

Seven Reasons for Unneeded Work Papers

1. It was there last year.

But is it relevant this year? Resist the temptation to just copy or bring forward work papers from the prior year. Performing a proper audit entails risk assessment (e.g., walkthroughs, analytics), planning (i.e., creating an audit plan), and execution (i.e., carrying out the audit plan). Likewise, compilations and reviews should reflect current year planning and performance.

2. The client gave it to me.

For some reason, young auditors have a tendency to put everything given to them in the engagement file. I believe they are thinking, “the CFO gave it to me, so it must be important.”

There is one reason to place documentation is the file: It addresses a step in the engagement plan.

3. I may need it next year.

Then save it (somewhere else) for next year. If the information does not provide current year engagement evidence, then it does not belong in the current year work paper file.

Consider setting up a file for next year and placing next year’s information in that file. Or create a folder in the current year file titled: next year’s work papers; then move this section from the current year file as you wrap up the engagement.

4. I might need it.

The engagement file is not a closet where unneeded items are tossed to the floor and hidden by the door.

Prior to going paperless (back in the days of moving work papers with a hand truck), I kept a manila folder titled: File 13. This was my temporary location for documents of unknown destination.

Now that my files are paperless, I create an electronic folder titled “Recycle Bin” that sits at the bottom of my file. If I receive information that is not relevant to the current year work, I move it to the recycle bin, and while I am wrapping up the engagement, I dispose of the entire folder.

5. It’s an earlier version of an existing work paper.

Move earlier versions of work papers (e.g., initial financial statements) to your recycle bin.

6. I need it for my tax work.

Then it belongs in the tax file (unless it’s related to your attestation work – e.g., deferred taxes).

7. We missed a fraud ten years ago, so we always include these work papers.

This is more of the same-as-last-year attitude. Fraud procedures (and all procedures for that matter) should reflect the current year audit risk assessment and planning.

Closing Comments

While this post has not addressed it, the most important reason for minimizing work paper content is to reduce your legal exposure. Excess work papers may provide an attorney ammunition. “Mr. Hall, here’s a work paper from your own audit file that clearly reveals fraud was occurring, and you didn’t see it?” (So don’t, for example, leave the full general ledger in your work papers.)

What are your thoughts on minimizing work paper documentation?