Auditing and Assurance Chapter 9: Audit of Items of Financial Statements
CA Inter Auditing and Assurance Chapter 9, Audit of Items of Financial Statements, Important Solved Questions for May 2021 & November 2021 Exams.
Question 1
How will you vouch/verify the following:
(a) Goods sent on consignment.
(b) Foreign travel expenses.
(c) Receipt of capital subsidy.
(d) Provision for income tax.
Solution
(a) Goods Sent on Consignment:
(i) Verify the accounts sales submitted by the consignee showing goods sold and inventory of goods in hand.
(ii) Reconcile the figure of the goods on hand, as given in the last accounts sales, with the Performa invoices and accounts sales received during the year. If any consignment inventory was in the hands of the consignee at the beginning of the year, the same should be taken into account in the reconciliation.
(iii) Obtain confirmation from the consignee for the goods held on consignment on the balance sheet date. Verify the terms of agreement between the consignor and the consignee to check the commission and other expenses debited to the consignment account and credited to the consignee’s account. The accounts sales also must be correspondingly checked.
(iv) Ensure that the quantity of goods in hand with the consignee has been valued at cost plus proportionate non-recurring expenses, e. g., freight, dock dues, customs due, etc., unless the value is lower. In case net realisable value is lower, the inventory in hand of the consignee should be valued at net realisable value. Also see that the allowance has been made for damaged and obsolete goods in making the valuation.
(v) See that goods in hand with the consignee have been shown separately under the head inventories.
(b) Foreign Travel Expenses:
(i) Examine Travelling Allowance bills submitted by the employees stating the details of tour, details of expenses, etc
(ii) Verify that the tour programme was properly authorised by the competent authority.
(iii) Check the T.A. bills along with accompanying supporting documents such as air tickets, travel agents bill and hotel bills with reference to the internal rules for entitlement of the employees and also make sure that the bills are properly passed.
(iv) See that the tour report accompanies the T.A. bill. The tour report will show the purpose of the tour. Satisfy that the purpose of the tour as shown by the tour report conforms to the authorisation for the tour.
(v) Check Reserve Bank of India’s permission, if necessary, for withdrawing the foreign exchange. For a company the amount of foreign exchange spent is to be disclosed separately in the accounts as per requirement of Schedule III to the Companies Act, 2013 and Accounting Standard 11 “The Effects of Changes in Foreign Exchange Rates”.
(c) Receipt of Capital Subsidy:
(i) Check the application made for the claim of subsidy to ascertain the purpose and the scheme under which the subsidy has been made available.
(ii) Examine documents for the grant of subsidy and note the conditions attached with the same relating to its use, etc.
(iii) Ensure that the conditions to be fulfilled and other terms especially whether the same is for a specific asset or is for setting up a factory at a specific location.
(iv) Check relevant entries for receipt of subsidy.
(v) Check compliance with requirements of AS 12 on “Accounting for Government Grants” i.e. whether it relates to specific amount or in the form of promoters’ contribution and accordingly accounted for as also compliance with the disclosure requirements.
(d) Provision for Income Tax:
(i) Obtain the computation of income and income tax prepared by the entity and verify whether it is as per the Income-tax Act, 1961 and Rules made thereunder.
(ii) Review adjustments, expenses, disallowed special rebates, etc. with particular reference to the last available completed assessment.
(iii) Examine relevant records and documents pertaining to advance tax, self-assessment tax and other demands.
(iv) Compute tax payable as per the latest applicable rates in the Finance Act.
(v) Ensure that overall provisions on the date of the balance sheet is adequate having regard to current year provision, advance tax paid, assessment orders, etc.
(vi) Ensure that the requirements of AS 22 on Accounting for Taxes on Income have been appropriately followed for the period under audit.
Question 2
ABC Ltd. has issued shares for cash at a premium of Rs 450, that is, at amount in excess of the nominal value of the shares which is Rs 10 for cash. Section 52 of the Companies Act, 2013 provides that a Company shall transfer the amount received by it as securities premium to securities premium account.
Advise the means in which the amount in the account can be applied.
Solution
Shares Issued at Premium: In case a company has issued shares at a premium, that is, at amount in excess of the nominal value of the shares, whether for cash or otherwise, section 52 of the Companies Act, 2013 provides that a Company shall transfer the amount received by it as securities premium to securities premium account and state the means in which the amount in the account can be applied. As per the section, where a company issues shares at a premium, whether for cash or otherwise, a sum equal to the aggregate amount of the premium received on those shares shall be transferred to a “securities premium account” and the provisions of this Act relating to reduction of share capital of a company shall apply as if the securities premium account were the paid-up share capital of the company.
Application of securities premium account: The securities premium account may be applied by the Company:
(a) towards the issue of unissued shares of the company to the members of the company as fully paid bonus shares;
(b) in writing off the preliminary expenses of the Company;
(c) in writing off the expenses of, or the commission paid or discount allowed on, any issue of shares or debentures of the company;
(d) in providing for the premium payable on the redemption of any redeemable preference shares or of any debentures of the company; or
(e) for the purchase of its own shares or other securities under section 68.
The auditor needs to verify whether the premium received on shares, if any, has been transferred to a “securities premium account” and whether the application of any amount out of the said “securities premium account” is only for the purposes mentioned above.
Question 3
How will you vouch and/or verify payment of taxes?
Solution
Vouching of Payment of Taxes:
(i) Payment on account of income-tax and other taxes consequent upon a regular assessment should be verified by reference to the copy of the assessment order, assessment form, notice of demand and the receipted challan.
(ii) Payments or advance payments of income-tax should also be verified with the notice of demand and the receipted challan acknowledging the amount paid.
(iii) The interest allowed on advance payments of income-tax should be included as income and penal interest charged for non-payment should be debited to the interest account.
(iv) Nowadays, electronic payment of taxes is also in trend. Electronic payment of taxes means payment of taxes by way of internet banking facility or credit or debit cards.
(v) The entity can make electronic payment of taxes also from the account of any other person. However, the challan for making such payment must clearly indicate the Permanent Account Number (PAN) of the assessee on whose behalf the payment is made. This should be checked by the auditor.
(vi) It is not necessary for the entity to make payment of taxes from his own account in an authorized bank. While vouching such e-payment, the auditor should cross verify the payments of taxes through the receipted challan along with PAN No /TAN No. etc.
Question 4
Write the audit Procedure for verification of existence of Trade Receivables.
Solution
For Verification of Existence of Trade Receivables, the auditor should check the following :
i. Check whether there are controls in place to ensure that invoices cannot be recorded more than once and receivable balances are automatically recorded in the general ledger from the original invoice.
Ask for a period-end accounts receivable aging report and trace the balance as per the report to the general ledger.
ii. Check whether realization is recorded invoice-wise or not. If not, check that money received from debtors is adjusted chronologically invoice-wise and on FIFO basis i.e. previous bill is adjusted first.
iii. If any large balance is due for a long time, auditor should ask for reasons and justification for the same.
iv. A list of trade receivables selected for confirmation should be given to the entity for preparing request letters for confirmation which should be properly addressed.
v. The auditor should maintain strict control to ensure the correctness and proper despatch of request letters. It should be ensured that confirmations as well as any undelivered letters are returned to the auditor and not to the client.
vi. Any discrepancies revealed by the confirmations received or by the additional tests carried out by the auditor may have a bearing on other accounts not included in the original sample. The Company should be asked to investigate and reconcile the discrepancies, if any.
vii. Where no reply is received, the auditor should perform alternate procedures regarding the balances. This could include:
- Agreeing the balance to cash received subsequently;
- Preparing a detailed analysis of the balance, ensuring it consists of identifiable transactions and confirming that these revenue transactions actually occurred. (examination in depth for those balances)
viii. If there are any related party receivables, review them for collectability as well as whether they were properly authorized and the value of such transactions were reasonable and at arm’s length.
ix. Check that receivables for other than sales or services are not included in the list.
x. Review a trend line of sales and accounts receivable, or a comparison of the two over time, to check if there are any unusual trends i.e. perform Analytical procedures.. Make inquiries about reasons for changes in trends with the management and document the same in audit work papers.
Question 5
How will you vouch and/or verify the following:
(a) Goods sent out on Sale or Return Basis.
(b) Borrowing from Banks.
Solution
(a) Goods Sent Out on Sale or Return Basis:
(i) Check whether a separate memoranda record of goods sent out on sale or return basis is maintained. The party accounts are debited only after the goods have been sold and the sales account is credited.
(ii) Verify that price of such goods is unloaded from the sales account and the trade receivables record. Check the memoranda record to confirm that on the receipt of acceptance from each party, his account has been debited and the sales account correspondingly credited.
(iii) Ensure that the goods in respect of which the period of approval has expired at the end of the year, have either been received back or customers’ accounts have been debited.
(iv) Confirm that the inventory of goods sent out on approval, the period of approval in respect of which had not expired till the end of the year lying with the party, has been included in the closing inventory.
(b) Borrowing from Banks: Borrowing from banks may be either in the form of overdraft limit or term loans. In each case, the borrowings should be verified as follows-
(i) Reconcile the balances in the overdrafts or loan accounts with that shown in the pass book(s) and confirm the last mentioned balance by obtaining a certificate from the bank showing the balance in the accounts as at the end of the year.
(ii) Obtain independent balance confirmation from the bank showing balances, particulars of securities deposited with the bank as security for the loans or of the charge created on an asset and confirm that the same has been correctly disclosed and duly registered with Registrar of Companies and recorded in the Register of charges.
(iii) Verify the authority under which the loan or draft has been raised. In the case of a company, only the Board of Directors is authorised to raise a loan or borrow from a bank.
(iv) Confirm, in the case of a company, that the restraint contained in Section 180 of the Companies Act, 2013 as regards the maximum amount of loan that the company can raise has not been contravened.
Ascertain the purpose for which loan has been raised and the manner in which it has been utilised and that this has not prejudicially affected the entity.
Question 6
The auditor A of ABC & Co.- firm of auditors is conducting the audit of XYZ Ltd and while performing testing of additions wanted to verify that all PPE (Property Pland and Equipment) purchase invoices are in the name of the entity he is auditing. For all additions to land, building in particular, the auditor desires to have concrete evidence about ownership. The auditor is worried about whether the entity has valid legal ownership rights over the PPE claimed to be held by the entity and recorded in the financial statements. Advise the auditor.
Solution
In addition to the procedures undertaken for verifying completeness of additions to PPE during the period under audit, the auditor while performing testing of additions should also verify that all PPE purchase invoices are in the name of the entity that entitles legal title of ownership to the respective entity. For all additions to land, building in particular, the auditor should obtain copies of conveyance deed/ sale deed to establish whether the entity is mentioned to be the legal and valid owner.
The auditor should insist and verify the original title deeds for all immoveable properties held as at the balance sheet date. In case the entity has given such immoveable property as security for any borrowings and the original title deeds are not available with the entity, the auditor should request the entity’s management for obtaining a confirmation from the respective lenders that they are holding the original title deeds of immoveable property as security. . In addition, the auditor should also verify the register of charges, available with the entity to assess that any charge has been created against the PPE.
Question 7
How would you vouch/verify the following:
(a) Advertisement Expenses.
(b) Sale of Scrap.
Solution
(a) Advertisement Expenses:
(i) Verify the bills/invoices from advertising agency to ensure that rates charged for different types of advertisement are as per the contract.
(ii) See that the advertisement relates to client’s business.
(iii) Inspect the receipt issued by the agency.
(iv) Ascertain the nature of expenditure – revenue or capital expenditure and see that it has been recorded properly.
(v) Ascertain the period for which payment is made and see that prepaid amount, if any, is carried to the balance sheet.
(vi) See that all outstanding advertisement bills have been provided for.
(b) Sale of Scrap:
(i) Review the internal control as regards generation, storage and disposal of scrap.
(ii) Check whether the organization is maintaining reasonable record for generation of scrap.
(iii) Analyze the raw material used, production and generation pattern of scrap and compare the same with figures of earlier year.
(iv) Check the rates at which scrap has been sold and compare the rate with previous year.
(v) Vouch sales, with invoices raised, advertisement for tender, rate contract with scrap dealers.
(vi) Ensure that there exists a proper control procedure to identify scrap and good units and they are not mixed up and sold as scrap.
(vii) Make an overall assessment of the value of realization from scrap as to its reasonableness.