During the audit, the auditor needs to obtain audit evidence that is sufficient and appropriate to provide a reasonable basis for their opinion on whether the financial statements give an accurate and fair view of an entity’s financial position and performance by applicable regulations.
Confirmations are one type of external audit evidence that the auditor may obtain. External audit evidence is deemed to be more reliable given that this is received by the auditor directly from third parties, independent from the audit client.
International Standard on Auditing (ISA) 505 deals with the auditor’s use of external confirmation procedures to obtain audit evidence by ISA 330 and ISA 500. External confirmation is defined by ISA 505 as being “audit evidence obtained as a direct written response to the auditor from a third party (the confirming party), in paper form, or by electronic or another medium.”
The auditor shall maintain control over external confirmation requests, including determining the information to be confirmed or requested, selecting the appropriate confirming party, designing the confirmation requests, and sending the requests to the confirming party. If management refuses to allow the auditor to send a confirmation request, the auditor shall inquire about the reasons for refusal and seek audit evidence regarding their validity and reasonableness. The auditor shall also evaluate the implications of management’s refusal of risk assessment and the nature, timing, and extent of other audit procedures.
External confirmation procedures are primarily performed to confirm or request information regarding account balances and their elements.
Common examples of confirmation letters include:
- Bank confirmation letter – This involves verification of bank balances held at year-end by the audit client, including any contingent liabilities, special interests, and overdraft limits. This letter also informs the auditor of all accounts owned and closed during the year under review.
- Debtor circularisation letter – The auditor selects a sample of debtor balances and seeks confirmation of these balances directly from the customers.
- Creditor circularisation letter – Similar to the above, confirmation of balances due by the audit client to its suppliers is obtained directly from the creditors.
- Inventory confirmation letter – Used to obtain comfort on the quantity and condition of any stock held by third parties on behalf of the entity being audited.
- Related party confirmation letter confirms balances and terms of significant transactions between the audit client and associated parties, such as directors, shareholders, or the ultimate beneficial owner.
- Legal letter – This is sent to the auditee’s legal advisor to confirm the status and details of any ongoing litigations.
External confirmation letters may be either a positive or negative request or a combination, depending on the auditor’s professional judgment.
- Positive confirmation request – requires the confirming party to confirm the information provided within the confirmation letter or provide data.
- Negative confirmation request – requires the confirming party to reply to the confirmation letter only in case of disagreement with the information presented.
Depending on the results of external confirmation procedures, the auditor assesses whether sufficient and appropriate audit evidence has been obtained or whether further audit evidence is necessary.
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Article was written by Christine Portelli