Microlesson · 5-min read

SA 550 - Related Parties

# SA 550 – Related Parties

## What is a Related Party (RP)?

A Related Party is a party that is either:

1. A Related Party as defined in the Applicable Financial Reporting Framework (AFRF), OR

2. Where the AFRF establishes no RP requirements —

An entity having control or significant influence, directly or indirectly (through intermediaries), over the reporting entity.
Another entity over which the reporting entity has control or significant influence, directly or indirectly.
Another entity under common control through:
Common controlling ownership.
Owners who are close family members.
Common Key Management.

### Exception

Entities under common control by a State (Government) are NOT considered related, UNLESS they engage in significant transactions or share significant resources with one another.

## Control vs. Significant Influence

Concept	Definition
Control	Power to govern the financial and operating policies of an entity.
Significant Influence	Power to participate in financial and operating policy decisions of an entity, but NOT control over those policies.

## Indicators of Control or Significant Influence

The existence of any of the following may indicate control/significant influence:

1. Direct or indirect equity holdings in the entity.

2. The entity's holdings of direct or indirect equity in other entities.

3. Being part of TCWG or Key Management.

4. Being a close family member of any person in (3).

5. Having a significant business relationship with any person in (3).

## Why RP Matters – Higher ROMM

Nature of RP relationships and transactions may give rise to higher ROMM than transactions with unrelated parties because:

RP may operate through an extensive and complex range of relationships and structures.
Information systems may be ineffective at identifying RP transactions and balances.
RP transactions may NOT be conducted under normal market terms and conditions (i.e., not at arm's length).

## Understanding the Entity's RP Relationships & Transactions

### Inquiries of Management About:

1. Identity of the entity's RPs (including changes from prior period).

2. Nature of relationships between entity and RPs.

3. Whether the entity entered into any transactions with RPs during the period — including type and purpose.

### Inquiries About Controls

The auditor inquires about controls management has established to:

1. Identify and disclose RP relationships and transactions per AFRF.

2. Authorise and approve significant transactions and arrangements with RPs.

3. Authorise and approve significant transactions and arrangements outside the normal course of business.

## How to Verify Existence of RP Relationships & Transactions

The auditor should remain alert for RP information when reviewing records and documents. The auditor may inspect:

Document	What to Look For
Entity's tax returns	RP disclosures, transactions
Info supplied to regulatory authorities	RP details
Docs filed with securities regulators	Disclosures of related-party dealings
Shareholder registers	Principal shareholders
Records of entity's investments	Subsidiaries, associates, JVs
Contracts with key mgt and TCWG	Compensation, conflicts
Significant contracts outside ordinary course	Unusual arrangements
Internal auditors' reports	Flagged RP issues
Statements of conflict of interest from Mgt & TCWG	Self-declarations
Specific invoices and correspondence from professional advisors	Legal/tax advice on RP matters
Life insurance policies acquired by the entity	Key-man insurance benefiting RPs
Significant contracts re-negotiated by the entity	Changes in terms with RPs

## Quick Memory Aid

Why RP matters? Remember 'Complex-Hidden-Off-market': Complex structures, Hidden by weak IS, Off-market terms.

Indicators of RP: EEC-CB – Equity holdings in entity, Equity holdings in others, CWG/Key Mgt membership, Close family ties, Business relationships.

Worked example

### Example 1

Example 1 – Identifying RP through Family Ties

Mr. A is the MD of ABC Ltd and owns 60% of XYZ Pvt Ltd. His wife, Mrs. A, is on the board of PQR Ltd. Under SA 550:

XYZ Pvt Ltd is an RP of ABC Ltd (Mr. A has control over XYZ and is Key Mgt of ABC).
PQR Ltd is an RP of ABC Ltd (Mrs. A is a close family member of Mr. A who is Key Mgt of ABC; she is also TCWG of PQR).

The auditor must inquire about transactions among these entities and assess whether they were on arm's-length terms.

### Example 2

Example 2 – Government-Controlled Entities Exception

A Ltd and B Ltd are both 100% owned by the Government of India. Normally, common control = RP. However, per SA 550, entities under common State control are NOT related — UNLESS they engage in significant transactions or share significant resources. If A Ltd sells goods worth Rs. 500 crore to B Ltd, the exception breaks and they ARE treated as RPs requiring full disclosure.

### Example 3

Example 3 – Detecting Undisclosed RP

During audit of XYZ Ltd, the auditor reviews the shareholder register and notices that 'Sunrise Holdings' owns 35% — the same address as the MD's residence. Cross-checking with the MD's conflict-of-interest statement (which did NOT disclose Sunrise Holdings), the auditor flags this as an undisclosed RP. The auditor then:

Examines transactions with Sunrise Holdings.
Discusses with TCWG.
Considers whether management has not disclosed RPs intentionally → potential fraud risk.
Considers implications for the auditor's report.

### Example 4

Example 4 – Off-Market Transaction with RP

ABC Ltd sold land worth Rs. 10 crore (fair market value) to a subsidiary for Rs. 4 crore. The auditor:

Identifies this as an RP transaction NOT on arm's-length terms.
Verifies authorisation and approval (controls inquiry).
Assesses whether disclosure per AFRF is adequate.
Considers whether the under-pricing indicates earnings manipulation or another ROMM.

⚠️ Common exam mistakes

Assuming only equity holdings create RP relationships — common Key Management, close family members, and significant business relationships also create RP status.
Forgetting the government-controlled exception — entities under common state control are NOT automatically RPs.
Confusing control (govern policies) with significant influence (participate in policy decisions without controlling them).
Relying solely on management's RP list — the auditor must independently inspect documents (tax returns, registers, contracts, etc.) to identify undisclosed RPs.
Forgetting that RP transactions carry higher ROMM — they should be flagged as a risk area even if disclosed.
Not inquiring about controls management has established to authorise RP transactions — students often only inquire about RP identity.
Treating RP transactions as inherently improper — they are not, but arm's-length terms and proper disclosure must be verified.
Forgetting that 'close family members' is a route to RP classification — focusing only on direct entity-to-entity relationships misses this.

Bare-Act text SA 550 · ICAI Standards on Auditing · click to expand

SA 550 – Related Parties. Related party – A party that is either: (i) a related party as defined in the applicable financial reporting framework; or (ii) Where the applicable financial reporting framework establishes minimal or no related party requirements: (a) A person or other entity that has control or significant influence, directly or indirectly through one or more intermediaries, over the reporting entity; (b) Another entity over which the reporting entity has control or significant influence, directly or indirectly through one or more intermediaries; or (c) Another entity that is under common control with the reporting entity through having: (i) Common controlling ownership; (ii) Owners who are close family members; or (iii) Common key management. However, entities that are under common control by a state (i.e., a national, regional or local government) are not considered related unless they engage in significant transactions or share resources to a significant extent with one another. The auditor shall inquire of management regarding: (a) the identity of the entity's related parties, including changes from the prior period; (b) the nature of the relationships between the entity and these related parties; and (c) whether the entity entered into any transactions with these related parties during the period and, if so, the type and purpose of the transactions.

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