CA Inter Audit & Ethics — Question Paper — January 2021

Answer: Analysis of eight statements (any seven to be answered)

(a) INCORRECT. Determination of business environment complexity is NOT solely dependent on automation levels. While automation may enhance efficiency, business complexity is multifaceted and depends on factors such as: operational scope, transaction diversity, geographic presence, regulatory environment, market volatility, and product/service range. Highly automated systems can introduce additional complexities in cybersecurity, system controls, and data integrity management. Therefore, increased automation does not necessarily correlate with reduced business complexity.

(b) INCORRECT. SA 200 on Overall Objectives of the Independent Auditor explicitly states that auditors provide reasonable assurance, not absolute assurance. Audit risk cannot be reduced to zero. Audit risk comprises inherent risk, control risk, and detection risk. The auditor's scope is to detect material misstatements, but there remains an acceptable risk level that material misstatements may not be identified. Thus, the auditor cannot wholly absorb assurance of freedom from material misstatement.

(c) CORRECT. SA 320 on Materiality to Financial Statements unambiguously requires that determining materiality involves exercise of professional judgment. The determination is not mechanical or purely quantitative but requires consideration of both quantitative benchmarks (revenue, profit, equity, etc.) and qualitative factors relevant to the specific entity and engagement. Each audit requires individualized assessment of materiality thresholds.

(d) INCORRECT. Internal audit functions have a broader scope than merely evaluating internal controls. Per SA 610 and established internal audit standards, internal audit's objectives encompass: risk management assessment, governance evaluation, operational effectiveness, compliance monitoring, IT audit, and process improvement recommendations. Internal controls evaluation is only one component of the internal audit function's wider mandate.

(e) CORRECT. SA 500 on Audit Evidence confirms that when the auditor has not obtained sufficient evidence regarding existence or valuation of accounts payable, testing recorded accounts payable becomes a relevant and necessary audit procedure. Testing recorded amounts helps gather additional evidence to address the deficiency. This is a standard procedure to obtain adequate audit evidence for liability assertions.

(f) INCORRECT. Section 139(8) of the Companies Act, 2013 addresses filling casual vacancies in the auditor's office. While the provision requires companies (other than those with CAG-appointed auditors) to fill vacancies within 30 days, the additional condition "where no cost audit is conducted" is not a statutory qualifier in this section. Cost audit provisions are addressed separately under Section 148, and Section 139(8) does not make the filling of casual auditor vacancies conditional upon absence of cost audit.

(g) CORRECT. SA 500 on Audit Evidence defines sufficiency as the measure of the quantity (amount) of audit evidence required, while relevance addresses the quality (applicability to specific assertions). Sufficiency ensures the auditor has obtained adequate volume of evidence, while relevance ensures the evidence addresses the relevant audit objectives and financial statement assertions being tested.

(h) INCORRECT. SA 701 on Communication of Key Audit Matters establishes that KAM communication is a requirement, not a discretionary matter. For audits of financial statements of listed entities, communicating Key Audit Matters in the audit report is mandatory. KAM communication is not limited to modified audit opinions—it is required regardless of the audit opinion expressed. Additionally, KAM communication applies as a standard practice for listed entities, not as a subjective choice in specific circumstances.

Auditor's Key Attributes to Verify for Depreciation and Amortisation:

Existence and Ownership – The auditor must verify that all assets for which depreciation/amortisation is being charged actually exist and are owned by the entity. This involves physical verification of assets and confirmation through supporting documents like purchase invoices, title deeds, and registration certificates.

Completeness – Ensure that depreciation has been charged on all depreciable and amortizable assets in the register. Verify that no assets have been omitted from the depreciation calculation. Cross-check the fixed asset register with the depreciation schedule to identify any gaps.

Valuation of Assets – Verify the cost of acquisition of assets as recorded, including all attributable costs of bringing the asset to its working condition. Confirm that historical cost records are accurate and properly supported by documentation. For revalued assets, ensure revaluation has been done by competent professionals.

Useful Life and Residual Value – Examine the useful life estimates assigned to different categories of assets and assess their reasonableness based on industry norms, past experience, and technical obsolescence factors. Verify that residual values have been properly estimated and are not excessively high compared to the asset's nature.

Depreciation Method – Confirm that the depreciation method chosen (straight-line method, written-down value method, units of production method, etc.) is appropriate for the type of asset and is being consistently applied. Verify calculations are mathematically accurate and in accordance with the stated policy.

Consistency of Application – Check that depreciation policies have been consistently applied across the current and prior years. Any changes in depreciation method, useful life, or residual value should be identified, properly accounted for as per Ind AS 8, and adequately disclosed.

Cut-off – Verify that depreciation on assets acquired during the year has been calculated from the date of acquisition (or when the asset became available for use), and depreciation on disposed assets has been calculated only up to the date of disposal. Ensure proper treatment in transition periods.

Allocation and Classification – Ensure depreciation is properly allocated to appropriate cost centers, departments, or profit centers as per the entity's accounting system. Verify correct classification in the income statement (e.g., cost of goods sold, administrative expenses, selling expenses).

Accounting Standards Compliance – Confirm that depreciation is calculated and presented in accordance with Ind AS 16 (Property, Plant and Equipment) and Ind AS 38 (Intangible Assets). Verify compliance with the entity's stated accounting policies.

Disclosure – Review the financial statements for adequate disclosure of depreciation policies, useful lives assigned to different asset categories, depreciation methods, accumulated depreciation, and any changes in estimates. Ensure disclosures comply with relevant accounting standards.

Internal Financial Control (IFC) and Internal Controls over Financial Reporting (ICFR) are two distinct but related concepts within an organization's control environment.

Internal Financial Control is a broader system of controls designed to ensure the effectiveness and efficiency of all financial operations and processes within an organization. It encompasses controls over the entire financial management cycle, including planning, execution, monitoring, and safeguarding of assets. IFC aims to provide reasonable assurance regarding the achievement of objectives related to operational efficiency, safeguarding of resources, accuracy of financial data, and compliance with laws and regulations. It includes controls over cash management, payroll, inventory, procurement, expenditure authorization, asset protection, and all other financial processes.

Internal Controls over Financial Reporting (ICFR) is a narrower and more specific subset of controls that are designed to ensure the reliability and accuracy of financial statements and disclosures. ICFR focuses specifically on those controls that prevent or detect errors in financial data at the transaction level and ensure that financial statements are prepared in accordance with applicable accounting standards. These controls address the completeness and accuracy of financial information used in the preparation of published financial statements.

Key Differences:

Scope: IFC has a wider scope covering all financial operations and processes, while ICFR is restricted specifically to those controls that impact the financial reporting process and financial statement assertions.

Objective: IFC aims to achieve multiple objectives including operational effectiveness, asset safeguarding, regulatory compliance, and data accuracy. ICFR has a single primary objective—to ensure the reliability of financial reporting and the accuracy of financial statements.

Coverage: IFC includes controls over operational decisions, risk management, resource allocation, and efficiency improvements. ICFR is limited to controls that directly affect the financial statements or the underlying accounting records and transactions.

Regulatory Emphasis: Under the Companies Act 2013, Section 143(3)(i) (as amended), auditors are required to report on the adequacy of internal controls over financial reporting specifically. CARO 2020 requires auditors to comment on the internal control environment over financial statements. However, the broader concept of IFC is relevant to overall governance and risk management.

Examples to Illustrate: A control ensuring that purchase invoices are matched with goods receipts is both an IFC control (for operational efficiency) and an ICFR control (as it prevents overstatement of expenses). Conversely, a control over inventory management systems that tracks stock efficiently may be an IFC control but not necessarily an ICFR control unless it directly impacts financial statement values.

Conclusion: While all ICFR controls are part of IFC, not all IFC controls are part of ICFR. ICFR represents the essential controls that directly contribute to reliable financial reporting, whereas IFC represents the complete internal control architecture of an organization.

As an auditor of XYZ Bank Limited, the assessment of fraud risk including money laundering should follow SA 240 framework.

Risk Assessment Framework: First, understand the bank's environment, regulatory landscape (RBI guidelines, PMLA framework), and inherent risks. Identify fraud risk factors across three dimensions: (i) incentives/motivation—manipulation of deposits, unauthorized loans, asset misappropriation; (ii) opportunity—weak controls, system access, inadequate segregation of duties; (iii) attitude/rationalization—management override, culture issues. SA 240 presumes management override as a risk requiring assessment.

Money Laundering Risk Identification: Specifically assess: (a) Customer risk—verify customer due diligence (CDD), beneficial ownership verification, KYC compliance against RBI norms; (b) Transaction risk—identify suspicious patterns deviating from customer's normal profile, unusual cash deposits, round-tripping, structuring, and high-value transfers without business rationale; (c) Product/service risk—evaluate high-risk banking products, remittance services, and third-party transactions.

Audit Procedures: (i) Make inquiries of management regarding anti-fraud and AML policies, whistleblower mechanisms, and monitoring procedures; (ii) Review Suspicious Transaction Reports (STRs) filed with FIU and RBI inspection reports; (iii) Test customer identification documents and ongoing transaction monitoring; (iv) Examine high-value and unusual transactions for business justification; (v) Assess effectiveness of AML controls and their operating effectiveness; (vi) Review internal audit and compliance findings on fraud and money laundering risk; (vii) Evaluate management's assessment of fraud risk.

Professional Skepticism and Communication: Maintain professional skepticism throughout audit. Document all identified fraud and money laundering risks. Communicate significant findings to the audit committee and management. Assess whether uncorrected misstatements or control gaps indicate fraud.

As Statutory Auditor, the key objective is to verify that WIP of ₹1,80 lakhs is stated at lower of cost or Net Realizable Value (NRV), prepared consistently with prior years and in accordance with generally accepted accounting policies, specifically AS 2 (Valuation of Inventories).

Physical Verification and Observation: Conduct physical inventory count as at or near March 31, 2020. Observe the count process to verify that WIP items are properly identified, segregated, and counted. Ensure count sheets are prepared systematically and any defects or obsolescence are noted. Verify completeness by tracing count sheets to the final inventory listing.

Verification of Valuation Method and Cost Allocation: Ascertain the company's WIP valuation method (e.g., standard costing, actual costing, or job costing). Confirm that cost includes raw materials, direct labor, and proportionate manufacturing overheads, excluding selling and administrative expenses. Review the basis and reasonableness of overhead allocation and verify consistency with prior year practices. Test a sample of WIP items by tracing costs to supporting purchase invoices and payroll records.

Assessment of Stage of Completion: For each WIP item, verify the percentage of completion claimed by the company. Examine production records, work orders, and documentation to corroborate the stage of completion. Ensure that items substantially complete as at year-end are appropriately classified and not understated. Review for any items that should be reclassified as finished goods.

Testing for Net Realizable Value: Review post year-end sales prices of similar finished goods to assess whether NRV is lower than cost. Inquire about any obsolete, slow-moving, or damaged WIP items. Verify that adequate provisions or write-downs have been made where NRV is below carrying value. Review the aging of WIP to identify potential obsolescence.

Cut-off and Post Year-End Review: Verify that purchases received before March 31, 2020 are included in WIP and those received after are excluded. Trace a sample of purchases around year-end to ensure proper cutoff. Review any WIP items that were completed and sold immediately after year-end to validate the valuation and completion status as at March 31, 2020.

Accounting Policy Compliance and Disclosure: Confirm that the accounting policy for inventory valuation is consistent with AS 2 and disclosed adequately in the financial statements. Verify that the valuation method and any changes from prior year are clearly documented. Ensure all material WIP components are reflected in the balance sheet and related notes.

Provisions of AS-17 'Segment Reporting' regarding Reportable Segments:

AS-17, issued by ICAI, prescribes the criteria for identifying reportable segments. A business segment or geographical segment is identified as a reportable segment if it meets any ONE of the following three thresholds:

1. Revenue Test: The segment's revenue (external + inter-segment) is 10% or more of the combined revenue of all segments.

2. Result Test: The absolute amount of the segment's result (profit or loss) is 10% or more of the greater of: (a) combined result of all profit-making segments, or (b) combined result of all loss-making segments.

3. Asset Test: The segment's assets are 10% or more of the total assets of all segments.

The 75% Rule — The Critical Provision:

AS-17 further mandates the 75% Rule: If the total external revenue attributable to reportable segments (i.e., those identified by the 10% tests) is less than 75% of total enterprise revenue, additional segments must be identified as reportable segments — even if they individually fail all three 10% thresholds — until the aggregate external revenue of reportable segments reaches at least 75% of total enterprise revenue.

Examination of the Senior Accountant's Opinion:

The Senior Accountant's view that Segment 'P' alone should be reported would be justified only if both conditions are simultaneously satisfied:

(a) Segment 'P' qualifies as a reportable segment by meeting at least one of the three 10% threshold tests, and

(b) The external revenue of Segment 'P' alone constitutes 75% or more of total enterprise external revenue, thereby satisfying the 75% rule without requiring any other segment to be reported.

If Segment 'P' meets one or more 10% tests but its external revenue is below 75% of total enterprise revenue, then the Senior Accountant is not justified — additional segments must be added until the 75% coverage is achieved.

Conclusion: The opinion of the Senior Accountant is justified only if Segment 'P' individually covers at least 75% of total external revenue. If this condition is not met, reporting Segment 'P' alone would be non-compliant with AS-17, and other segments must be included as reportable segments to satisfy the 75% threshold requirement.

Dissolution of Ananya Enterprises — Piecemeal Distribution

Profit Sharing Ratio: A : B : C = 5 : 3 : 2

Step 1 — Treatment of Loans to Partners

The items 'Loan A ₹25,00,000' and 'Loan B ₹30,00,000' appear on the Assets side of the Balance Sheet. These represent advances/loans given by the firm to Partners A and B respectively. During dissolution, these are recovered by adjusting against the respective partners' Capital Accounts:
- Dr. Capital A ₹25,00,000; Cr. Loan to A ₹25,00,000
- Dr. Capital B ₹30,00,000; Cr. Loan to B ₹30,00,000

This gives the Adjusted (Net) Capital Balances:
- A: ₹95,00,000 − ₹25,00,000 = ₹70,00,000
- B: ₹75,00,000 − ₹30,00,000 = ₹45,00,000
- C: ₹30,00,000 = ₹30,00,000
- Total Adjusted Capitals: ₹1,45,00,000

Step 2 — Order of Payment (Section 48, Indian Partnership Act, 1932)

On dissolution, available cash must be applied in the following order:
1. Firm's debts to third parties — Sundry Creditors ₹11,00,000
2. Partners' loans/advances to the firm (none here; loans are owed to the firm)
3. Partners' capital balances (in adjusted amounts)

Existing cash ₹7,00,000 is first used to partly pay Sundry Creditors, leaving a balance of ₹4,00,000 to be paid from the first month's realisations.

Step 3 — Surplus Capital Method (Maximum Loss Method) for Piecemeal Distribution

Since asset realisations occur monthly, the Surplus Capital Method is applied to determine which partner(s) receive payment first, ensuring no partner is overpaid at any stage.

Capital per profit-sharing unit:
- A: ₹70,00,000 ÷ 5 = ₹14,00,000 per unit
- B: ₹45,00,000 ÷ 3 = ₹15,00,000 per unit
- C: ₹30,00,000 ÷ 2 = ₹15,00,000 per unit

A has the lowest per-unit capital (₹14,00,000). B and C have surplus capitals relative to A. Their surpluses must be paid out before any proportionate distribution.

Surplus Payment (First Priority among partners):
- B's surplus: (₹15,00,000 − ₹14,00,000) × 3 = ₹3,00,000
- C's surplus: (₹15,00,000 − ₹14,00,000) × 2 = ₹2,00,000
- Total Surplus Payout: ₹5,00,000 (B gets ₹3,00,000; C gets ₹2,00,000)

After this payout, capitals stand in ratio 70 : 42 : 28 = 5 : 3 : 2 ✓

Step 4 — Statement of Piecemeal Distribution

| Particulars | Total (₹) | A (₹) | B (₹) | C (₹) |
|---|---|---|---|---|
| Adjusted Net Capitals | 1,45,00,000 | 70,00,000 | 45,00,000 | 30,00,000 |
| Priority 1: Surplus to B & C (before A gets anything) | 5,00,000 | — | 3,00,000 | 2,00,000 |
| Balance (now in 5:3:2) | 1,40,00,000 | 70,00,000 | 42,00,000 | 28,00,000 |
| Priority 2: Balance distributed in 5:3:2 | 1,40,00,000 | 70,00,000 | 42,00,000 | 28,00,000 |
| Total Paid to Partners | 1,45,00,000 | 70,00,000 | 45,00,000 | 30,00,000 |

Step 5 — Realization Account (Framework)

Dr. side — Assets at Book Value: Land & Buildings ₹45,00,000 + Plant & Machinery ₹65,00,000 + Furniture & Fixtures ₹18,00,000 + Stock ₹13,50,000 + Sundry Debtors ₹7,50,000 = ₹1,49,00,000 (loans to partners already adjusted against capitals).

Cr. side — Sundry Creditors ₹11,00,000 + Cash/Bank (actual realisations) + Profit or Loss on Realisation transferred to partners in 5:3:2.

Step 6 — Cash Flow Summary (assuming realisation at book value)

Total physical asset realisations: ₹1,49,00,000
Less: Sundry Creditors paid: ₹(11,00,000)
Net from realisations: ₹1,38,00,000
Add: Existing cash: ₹7,00,000
Total available for partners: ₹1,45,00,000 ✓ (matches adjusted capitals)

This confirms the Balance Sheet is self-consistent and no surplus or deficit arises if assets are realised at book values. Any variation in actual realisations will generate a profit or loss on the Realization Account, to be shared in 5:3:2.

Conclusion: The guiding rule is — pay outside creditors first, then pay B ₹3,00,000 and C ₹2,00,000 as surplus capitals (A receives nothing until this is done), and thereafter distribute all remaining realisations to A, B, C in 5 : 3 : 2 until their adjusted capitals of ₹70,00,000, ₹45,00,000, and ₹30,00,000 respectively are fully paid.

Sampling Risk is the risk that the auditor's conclusion based on an audit sample may be different from the conclusion that would be reached if the entire population were subjected to the same audit procedure. It arises because the auditor examines only a portion of the population. Sampling risk comprises two components: (1) Risk of Incorrect Acceptance (Beta Risk) — the risk that the sample does not contain sufficient misstatements, leading the auditor to conclude that the population is not materially misstated when, in fact, it is; and (2) Risk of Incorrect Rejection (Alpha Risk) — the risk that the sample contains misstatements, causing the auditor to conclude the population is materially misstated when it is actually not.

Non-Sampling Risk is the risk of drawing an incorrect conclusion from audit sample results for any reason not attributable to sampling risk. It includes risks such as the auditor's failure to identify misstatements in the items actually examined, application of inappropriate audit procedures, misunderstanding the nature of audit evidence, or incorrect evaluation of the results. Non-sampling risk depends on factors within the auditor's control, such as the quality of audit work, professional judgment, and the competence and diligence of the auditor. Unlike sampling risk, non-sampling risk is not directly related to sample size and cannot be reduced through statistical methods alone.

Key Distinction: Sampling risk can be controlled and quantified through proper sample design and determination of appropriate sample sizes. Non-sampling risk is managed through audit quality control measures, auditor training, application of rigorous audit procedures, and proper supervision of the audit work.

When auditing in an automated environment, the auditor employs various methodologies to gather sufficient and appropriate audit evidence and assess control effectiveness, as required by SA 330 (The Auditor's Response to Assessed Risks).

1. Embedded Audit Modules (EAM)
These are audit-specific routines embedded within the client's application that continuously capture and extract audit-relevant data and control exceptions in real-time. EAM flags transactions violating predefined criteria, enabling the auditor to monitor control performance throughout the period without disrupting normal processing.

2. Integrated Test Facility (ITF)
This method involves processing test transactions (typically fictitious) through the client's systems using the same processes and controls applied to actual transactions. The auditor compares expected results with actual output to assess control effectiveness. Post-testing, these transactions must be reversed to prevent contaminating production data.

3. Parallel Simulation
The auditor reprocesses actual client data using the auditor's independently developed program that replicates the client's processing logic. Results from the auditor's simulation are compared with the client's actual output to identify variances and validate accurate data processing. This method is particularly effective for mathematical and logical applications.

4. Audit Data Analytics (ADA)
This involves using specialized audit software to analyze large volumes of transaction data, identify patterns, anomalies, and exceptions. ADA enables substantive testing on entire populations rather than samples, enhancing audit effectiveness in accordance with SA 500 (Audit Evidence) principles.

5. System Control and Audit Review File (SCARF)
SCARF is an integrated audit trail mechanism that automatically captures control deviations, exception transactions, and user activities. The accumulated data provides a comprehensive log of system activities and control failures throughout the audit period for auditor review.

6. Snapshot Technique
This method captures snapshots of application data at specified points in time or for specific transactions, recording data state before and after processing. This enables tracing individual transactions through the system for verification purposes.

Selection of Method: As per SA 315 (Understanding the Entity and Its Environment), the auditor's choice of testing method depends on assessed risks, degree of automation, system nature, availability of audit tools, and cost-benefit considerations. The selected methods should be proportionate to the risk profile and control environment complexity.

Audit Procedures for Recognition of Other Income

I. Interest Income from Fixed Deposits

1. Verification of FDs: Obtain bank confirmations or statements showing fixed deposits held as on beginning and end of financial year; verify principal amount, tenure, and interest rate.

2. Interest Calculation: Compute expected interest income based on principal amount, rate of interest, and tenure; reconcile with amount recorded in books.

3. Receipt Verification: Verify interest actually received by examining bank statements and deposit confirmations; ensure amounts match recorded interest income.

4. Cutoff Testing: Check that interest accrued up to year-end date is properly recognized in the current period and interest accrued in subsequent period is not included; verify whether any accrued but unclaimed interest is properly provided.

5. TDS Verification: Check if Tax Deducted at Source (TDS) is applicable and properly deducted and accounted for.

II. Dividend Income

1. Investment Verification: Obtain list of equity shares/debentures/mutual funds held and verify with bank statements, DPs statement, or custodian confirmations.

2. Dividend Tracing: Obtain dividend advices/payment letters from companies or brokers; verify dividend per share, number of shares held, and ex-dividend date.

3. Amount Reconciliation: Compute expected dividend income and compare with actual dividend received as shown in bank statements.

4. TDS Compliance: Verify whether dividend attracts TDS under relevant provisions; check that TDS is properly deducted and accounted for in the financial statements.

5. Cutoff Verification: Ensure dividend relating to financial year is recorded in that period; verify ex-dividend date lies within the financial year; check for any unclaimed dividends.

III. Gain/(Loss) on Sale of Investment in Mutual Funds

1. Investment Records: Obtain statements showing units of mutual funds purchased and sold during the year; verify with DP statement or fund house confirmations.

2. Cost and Proceeds Verification: Verify cost of units sold (with purchase invoices/NAV) and sale proceeds (with sale confirmations/NAV); calculate gain or loss.

3. Recording Check: Verify that gain/loss is properly calculated as difference between sale proceeds and cost basis and correctly recorded in books.

4. Bank Deposits: Trace sale proceeds to bank deposits to confirm amounts received;

5. Cutoff and Classification: Ensure transaction is recorded in the correct financial period (date of actual sale); verify if applicable, whether holding period criteria are satisfied for classification as short-term or long-term for tax purposes.

Cash receipts can be suppressed through several fraudulent methods. Three common ways are:

1. Non-recording of Sales Transactions: Sales and cash receipts are completely omitted from the accounting records. Goods may be sold and cash received, but no entry is made in the cash book or sales register. This is typically done by not issuing formal invoices or receipts, keeping these transactions entirely off the books and undetectable unless the auditor performs detailed bank reconciliation or cash count procedures.

2. Diversion of Cash for Personal Use: Cash received from customers or sales is diverted to personal, domestic, or unauthorized purposes instead of being recorded in the books or deposited to the business bank account. The receipts are suppressed from the accounts, and the cash is misappropriated. This method creates a gap between actual cash received and cash recorded in the books.

3. Under-recording of Receipt Amounts: Receipts are recorded in the books at amounts substantially less than what was actually received. For instance, if ₹50,000 is received from a customer but only ₹40,000 is recorded in the cash book, the difference of ₹10,000 represents suppressed receipts that are diverted or embezzled.

Deferred Tax Impact under AS-22 (Accounting Standard 22 — Accounting for Taxes on Income) for HS Ltd. as on 31-3-2020

Opening Balances (31-3-2019):
Deferred Tax Liability (Cr.) = ₹60.00 lakhs; Deferred Tax Asset (Dr.) = ₹30.00 lakhs

Item 1 — Depreciation Difference (Book ₹160 lakhs vs. Tax ₹140 lakhs):
Book depreciation exceeds tax depreciation by ₹20 lakhs. This means taxable income is higher than accounting income by ₹20 lakhs — a deductible timing difference. Since there are no additions to fixed assets, this represents a reversal of the existing Deferred Tax Liability (which was built up in prior years when tax depreciation exceeded book depreciation). Effect: DTL decreases by ₹20 × 30% = ₹6 lakhs.

Item 2 — Items disallowed in 2018-19 but allowed in 2019-20 (₹20 lakhs):
In 2018-19, these items were disallowed for tax, causing taxable income to exceed book income — a DTA was created at that time. In 2019-20, these items are allowed for tax, so taxable income is now lower — the earlier timing difference reverses. Effect: DTA decreases by ₹20 × 30% = ₹6 lakhs.

Item 3 — Donation to Private Trust (₹20 lakhs):
Donation to a private trust is a permanent difference — it is never allowed as a deduction under the Income Tax Act 1961 and will not reverse in any future period. Permanent differences do not give rise to Deferred Tax Assets or Liabilities under AS-22. No impact on DTA or DTL.

Closing Balances (31-3-2020):
Deferred Tax Liability = ₹60 − ₹6 = ₹54.00 lakhs (Cr.)
Deferred Tax Asset = ₹30 − ₹6 = ₹24.00 lakhs (Dr.)
Net Deferred Tax Liability = ₹54 − ₹24 = ₹30.00 lakhs (unchanged from opening — the two adjustments offset each other, resulting in nil net P&L impact for deferred tax in 2019-20).

Note on source data: The question as presented contains apparent transcription errors. For H Ltd.'s balance sheet to balance at ₹25,20,000, its Profit & Loss Account must be ₹2,40,000 (not NIL as stated). For S Ltd.'s balance sheet to balance at ₹6,16,800, its P&L Account must be ₹60,000 (not ₹6,00,000 as stated — likely a decimal shift error). All workings proceed with these corrected figures.

Consolidated Balance Sheet of H Ltd. and its Subsidiary S Ltd. as at 31st March, 2020
(Prepared in accordance with AS 21 — Consolidated Financial Statements)

EQUITY AND LIABILITIES

Shareholders' Funds:
Share Capital — Equity Shares of ₹10 each, fully paid: ₹13,40,000
Reserves & Surplus (Working Note 7): ₹8,27,040

Minority Interest (Working Note 6): ₹1,15,560

Secured Loans:
12% Debentures: ₹1,00,000

Current Liabilities:
Trade Payables (2,00,000 + 1,22,000): ₹3,22,000
Bank Overdraft: ₹1,00,000
Bills Payable (Working Note 8): ₹62,800

Total: ₹28,67,400

---

ASSETS

Non-Current Assets:
Goodwill on Consolidation (Working Note 4): ₹28,800
Property, Plant & Equipment:
— Machinery (Working Note 3): ₹10,44,000
— Furniture (Working Note 3): ₹3,90,600

Current Assets:
Inventories (6,00,000 + 2,00,000): ₹8,00,000
Trade Receivables (3,00,000 + 90,000): ₹3,90,000
Bill Receivables (Working Note 8): ₹1,18,000
Cash at Bank (56,000 + 40,000): ₹96,000

Total: ₹28,67,400

The Consolidated Balance Sheet balances at ₹28,67,400.

Going Concern is a fundamental accounting assumption that presumes an entity will continue its business operations in the foreseeable future and will not be forced to liquidate assets or curtail operations significantly. Management's assessment of going concern must evaluate whether the entity can meet its obligations and sustain operations given the inherently uncertain nature of future events.

Relevant Factors for Going Concern Assessment:

Financial Factors: Management should assess negative trends such as recurring losses, adverse changes in working capital, inability to service debt obligations on schedule, and denial of credit facilities by banks or financial institutions. Key indicators include negative cash flows from operating activities, high ratio of debt to equity, restricted access to capital markets, and adverse financial ratios indicating insolvency risks.

Operational Factors: These include loss of major customers or suppliers, breakdown of critical operational systems, loss of key management personnel without succession planning, inability to obtain essential supplies or materials, decline in market share, increased competition, and technological obsolescence of products or services.

External Factors: Management must consider legal or regulatory changes that materially impact business viability, such as loss of operating licenses, significant litigation with uncertain outcomes where potential liability exceeds assets, environmental liabilities, and changes in government policies affecting the industry.

Other Indicators: Natural disasters or catastrophic events causing uninsured losses, changes in ownership or management control that affect business continuity, restrictions on cash flow or capital transfers, and excessive dependence on few sources of revenue or customer concentration.

Assessment Framework: Management's evaluation should consider whether mitigating factors exist that reduce going concern risks. These may include availability of financing, plans to restructure operations, management's strategic plans for recovery, and the time horizon over which the entity is expected to continue operations.

The assessment must recognize that while management prepares financial statements on a going concern basis as a fundamental accounting principle, this is ultimately a management judgment based on available information as of the balance sheet date. The inherently uncertain future outcomes mean that even with careful assessment, unexpected events or significantly adverse conditions may emerge. However, management is responsible for making informed judgments based on a comprehensive analysis of all available evidence of financial, operational, and external factors affecting the entity's ability to continue as a going concern.

Basis for Opinion Section – Contents: The auditor should state in the 'Basis for Opinion' section that: (1) the audit was conducted in accordance with the Standards on Auditing (SAs) issued by the Institute of Chartered Accountants of India (ICAI); (2) the auditor is independent of the entity in accordance with the Code of Ethics issued by ICAI and has fulfilled other ethical responsibilities; (3) the auditor believes the audit evidence obtained is sufficient and appropriate to provide a basis for the opinion; (4) the audit was designed to obtain reasonable assurance about whether the financial statements are free from material misstatement; and (5) where applicable, reference to the going concern assessment.

When Auditor Modifies Opinion: When the auditor modifies the opinion due to limitations in the scope of the audit or due to disagreements with management regarding the financial statements, the following amendments should be made in the Basis for Opinion section:

For Qualified Opinion (Scope Limitation or Disagreement): The Basis for Opinion section should clearly explain the reason for modification, describing the nature and extent of the limitation or disagreement that led to the qualified opinion. It should specify which account, amount, or disclosure is affected and the quantifiable impact if material. A separate paragraph should be inserted before the Opinion section stating 'Basis for Qualified Opinion' or 'Matter Giving Rise to Qualified Opinion'.

For Adverse Opinion: The Basis for Opinion section should provide clear and detailed explanation of the reasons for the adverse opinion. It should describe the nature of the misstatement, the quantifiable effect, and why it is so pervasive that it affects the overall fair presentation of the financial statements.

For Disclaimer of Opinion: The Basis for Opinion section should explain the nature and extent of the limitation that prevents the auditor from obtaining sufficient appropriate audit evidence. The auditor should state that due to the significance of the limitation, the auditor cannot form and express an opinion on the financial statements.

General Amendments: In all modification cases, the independence and ethical statements remain unchanged. The emphasis of matter or other matter paragraphs (if any) should be placed after the Opinion section but before Key Audit Matters. The structure of the auditor's report should clearly segregate the reasons for modification from the standard basis statements.

Substantive Analytical Procedures (SAP) are audit techniques that examine plausible relationships among data to assess whether account balances or classes of transactions are reasonable.

The key techniques available are:

1. Trend Analysis – Comparing current year figures with one or more prior years to identify unusual trends, fluctuations, or patterns. For example, analyzing sales trends over 3–5 years, examining cost of goods sold as a percentage of sales, or monitoring operating expense movements helps detect anomalies requiring investigation.

2. Ratio Analysis – Calculating and analyzing key financial ratios such as gross profit ratio, current ratio, debt-to-equity ratio, return on assets, or inventory turnover. Unexpected deviations from prior years or industry benchmarks indicate potential errors or unusual transactions requiring further audit procedures.

3. Reasonableness Tests – Estimating what an account balance should be based on known relationships and comparing it with the recorded amount. Examples include estimating interest expense (average rate × average debt), payroll expense (number of employees × average salary), or depreciation (asset cost × rate).

4. Regression Analysis – A statistical technique establishing mathematical relationships between variables to predict expected values. The auditor compares predicted amounts with actual recorded amounts, such as predicting sales based on advertising expenditure, customer count, or seasonal factors.

5. Comparative Analysis (Benchmarking) – Comparing actual results against: (a) prior period figures, (b) budgeted or forecasted amounts, (c) industry averages or peer benchmarks, and (d) internal targets or standards. Significant variations warrant investigation.

6. Percentage Analysis – Computing percentage changes year-over-year or preparing common-size financial statements to analyze the composition of account balances. Unusual shifts in percentages highlight potential misstatements.

7. Simple Period-to-Period Comparison – Direct comparison of corresponding items between current and prior periods, typically with predetermined thresholds for investigation. Fluctuations exceeding these thresholds are examined further.

These techniques are most effective when reliable underlying data exists, the relationships are stable and predictable, and the auditor possesses sufficient knowledge of the business and industry.

Prohibited Services for Auditors under the Companies Act, 2013

Under the Companies Act, 2013 and the Companies (Audit and Auditors) Rules, 2014, auditors are strictly prohibited from providing certain non-audit services. These prohibitions are designed to ensure auditor independence, prevent conflicts of interest, and maintain professional integrity in the audit function.

The Prohibited Non-Audit Services include:

1. Bookkeeping and Accounting Records: Services involving bookkeeping, preparation of accounting records, accounting manuals, or preparation of financial statements.

2. Payroll Services: Services related to processing or administration of payroll or employee benefit services.

3. Valuation Services: Services relating to valuation of financial instruments, fairness opinions, contribution-in-kind reports, and other valuation services.

4. Internal Audit Services: Services related to internal audit functions or activities of the company.

5. Financial Information System Design and Implementation: Design and implementation of financial information systems, including e-governance systems.

6. Expert Opinions and Litigation Support: Rendering expert opinions, litigation support services, or acting as an expert witness in legal proceedings.

7. Actuarial Services: Services related to actuarial valuations and actuarial opinions.

8. Human Resources Services: Services related to recruitment, staffing, compensation and benefits administration, and other HR functions.

9. Promotional Services: Services involving advertising, promotion, or marketing activities.

10. Management Functions: Services involving any management function or activity, or performing duties of a member of management.

Rationale: These prohibitions are essential to preserve the auditor's objectivity and independence. If auditors provided these services, they would essentially audit their own work, creating an inherent conflict of interest. This would compromise their ability to make impartial judgments regarding the company's financial statements and internal controls.

Note on Question Reconstruction: The question task (sub-questions) is not visible in the image. Based on balance sheet analysis, Galaxy Ltd.'s balance sheet has an asset shortfall of ₹3,30,000 (assumed to be Goodwill ₹3,30,000 not listed) and Glory Ltd. has a liability shortfall of ₹3,30,000 (assumed to be 6% Debentures ₹3,30,000 not listed). These assumptions are explicitly stated. The question is solved as a standard Amalgamation in the Nature of Purchase under AS 14 – Accounting for Amalgamations covering: (a) Purchase Consideration, (b) Realisation Account of Galaxy Ltd., (c) Realisation Account of Glory Ltd., (d) Opening Balance Sheet of Globus Ltd.

Assumptions Made:
1. Galaxy Ltd. has Goodwill ₹3,30,000 (to balance Balance Sheet to ₹21,50,000).
2. Glory Ltd. has 6% Debentures ₹3,30,000 (to balance Balance Sheet to ₹10,80,000).
3. Motor Vehicles (₹56,000) of Galaxy Ltd. are an exception — NOT transferred to Globus Ltd. Sold at book value ₹56,000; proceeds distributed to shareholders.
4. Goodwill of Galaxy Ltd. is NOT transferred — written off as loss on realisation.
5. All remaining assets and liabilities transferred at book values.
6. Globus Ltd. issues equity shares of ₹10 each, fully paid as purchase consideration.
7. Both sets of 6% Debentures are assumed by Globus Ltd.

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(a) Purchase Consideration

For Galaxy Ltd.: Assets transferred = Total Assets ₹21,50,000 − Goodwill ₹3,30,000 − Motor Vehicles ₹56,000 = ₹17,64,000. Liabilities assumed by Globus = 6% Debentures ₹3,30,000 + Trade Payables ₹4,20,000 = ₹7,50,000. Purchase Consideration (Galaxy) = ₹10,14,000, satisfied by issue of 1,01,400 equity shares of ₹10 each.

For Glory Ltd.: Assets transferred = ₹10,80,000 (all assets). Liabilities assumed = 6% Debentures ₹3,30,000 + Trade Payables ₹1,83,000 = ₹5,13,000. Purchase Consideration (Glory) = ₹5,67,000, satisfied by issue of 56,700 equity shares of ₹10 each.

Total shares issued by Globus Ltd. = 1,01,400 + 56,700 = 1,58,100 shares (Share Capital = ₹15,81,000).

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(b) Realisation Account — Galaxy Ltd.

All assets of Galaxy Ltd. are debited to Realisation Account. Liabilities taken over by Globus, Motor Vehicles cash proceeds, and the Purchase Consideration from Globus are credited. The Loss on Realisation = ₹3,30,000 (representing Goodwill not transferred and not realised), which is borne by Galaxy's shareholders and debited to their Capital Accounts in proportion to their shareholding.

Verification: Galaxy's equity = ₹8,40,000 + ₹4,48,000 + ₹1,12,000 = ₹14,00,000. Less: Loss ₹3,30,000 = ₹10,70,000. Received: Globus shares ₹10,14,000 + Cash (Motor Vehicles) ₹56,000 = ₹10,70,000. Reconciled.

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(c) Realisation Account — Glory Ltd.

All assets of Glory Ltd. (₹10,80,000) are debited. Liabilities (₹5,13,000) and Purchase Consideration from Globus (₹5,67,000) are credited. No profit or loss on realisation (all at book value). Glory's equity = ₹4,55,000 + ₹40,000 + ₹72,000 = ₹5,67,000 = PC received. Reconciled.

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(d) Opening Balance Sheet of Globus Ltd. (as at 1st April, 2020)

Under the Purchase Method (AS 14, para 35), assets and liabilities of transferor companies are incorporated at their existing carrying amounts. No reserves of transferors are carried forward. Since PC equals net assets in both cases, no Goodwill or Capital Reserve arises in Globus's books.

Equity & Liabilities: Share Capital ₹15,81,000 | 6% Debentures ₹6,60,000 | Trade Payables ₹6,03,000 | Total ₹28,44,000

Assets: Property, Plant & Equipment ₹9,24,000 | Leasehold Property ₹2,24,000 | Inventories ₹7,74,000 | Trade Receivables ₹5,80,000 | Cash at Bank ₹3,42,000 | Total ₹28,44,000

Balance Sheet balances at ₹28,44,000.

Note: The question as presented is incomplete — the Balance Sheets of Galaxy Ltd. and Glory Ltd. as on 31st March 2020 have not been provided. Without the original book values of assets and liabilities, the exact share-issue calculation and the post-amalgamation Balance Sheet of Glorious Ltd. cannot be numerically derived. The methodology and treatment of each stipulated adjustment is provided below in full, which can be applied once the balance sheet data is available.

Applicable Standard: This amalgamation is governed by AS 14 – Accounting for Amalgamations (ICAI). Since assets and liabilities are taken over (with adjustments) and shareholders of both transferor companies receive shares in the transferee company (Glorious Ltd.), the nature of amalgamation determines whether the Pooling of Interests or Purchase Method applies.

Sub-part (1): Number of Shares to be Issued

To compute shares issued to shareholders of Galaxy Ltd. and Glory Ltd., the Purchase Consideration for each company must first be determined.

Step A – Net Assets at Agreed Values:
For each transferor company, compute: Agreed Value of Assets − Agreed Value of Liabilities taken over = Net Assets (Purchase Consideration if paid entirely in shares).

Key agreed-value adjustments:
- Plant & Machinery of Galaxy Ltd.: Replace book value with ₹2,52,000.
- Goodwill of Galaxy Ltd.: ₹4,48,000; Goodwill of Glory Ltd.: ₹1,68,000 (replace book values).
- Debentures of Glory Ltd.: Discharged by 8% Debentures of Glorious Ltd. at a 10% premium. This means: if Glory's debentures = ₹X, the face value of new debentures issued = ₹X ÷ 1.10, since issue price (at 10% premium) must equal liability discharged. These debentures are a non-share consideration and are excluded from share-based purchase consideration.
- Liquidator of Glory Ltd.: The net cash remitted to Glorious Ltd. (after collections, payments, and commission) forms part of assets taken over. Calculation: Cash collected ₹1,10,000 − Commission on collection (5% × ₹1,10,000 = ₹5,500) − Commission on payments (2.5% × ₹1,80,000 = ₹4,500) + Opening cash balance of Glory Ltd. (book value) − Payments to creditors ₹1,80,000 = Net cash transferred.

Step B – Purchase Consideration (shares only):
Purchase Consideration = Net agreed assets − any non-share discharge (debentures issued, cash retained by liquidator, etc.)

Step C – Number of Shares:
Number of shares = Purchase Consideration ÷ ₹10 (nominal value of each share of Glorious Ltd.)

If shares are issued at a premium, the number of shares = Purchase Consideration ÷ Issue Price per share.

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Sub-part (2): Balance Sheet of Glorious Ltd. as on 1st April 2020

The Balance Sheet is prepared as per Schedule III of the Companies Act, 2013.

Share Capital: Shares issued to Galaxy Ltd. shareholders + Shares issued to Glory Ltd. shareholders (computed above × ₹10 nominal value).

Reserves & Surplus: Capital Reserve (if Purchase Method) = Excess of net assets taken over at agreed values over purchase consideration paid; OR Securities Premium if shares issued at premium.

Non-current Liabilities: 8% Debentures of Glorious Ltd. issued to discharge Glory's debentures (face value as computed).

Current Liabilities: Trade Creditors of Galaxy Ltd. at book value (Glory's creditors were settled by Liquidator).

Non-current Assets:
- Goodwill: ₹4,48,000 (Galaxy) + ₹1,68,000 (Glory) = ₹6,16,000
- Plant & Machinery: ₹2,52,000 (Galaxy, agreed value) + Glory's P&M at book value
- Other fixed assets of both companies at book value

Current Assets: Stocks, Debtors, Cash — of Galaxy at book value; of Glory — only the net cash remitted by Liquidator is taken over (trade debtors and creditors settled by Liquidator).

Liquidator's Commission (Glory Ltd.) – Treatment in Glorious Ltd.'s books: The commission paid to the Liquidator reduces the cash asset taken over from Glory Ltd. It is a cost of acquisition, absorbed within the purchase consideration computation.

Classification of Capital Funds into Tier I and Tier II Capital

As per RBI Guidelines on Capital Adequacy (Basel III Framework), capital funds are segregated into Tier I (going concern capital) and Tier II (gone concern capital).

Tier I Capital consists of Common Equity Tier 1 (CET1) and Additional Tier 1 (AT1). CET1 includes paid-up equity share capital, statutory reserves, capital reserves arising from sale of assets (not revaluation), and securities premium. AT1 includes Perpetual Non-Cumulative Preference Shares (PNCPS), which qualify as Additional Tier 1 because they are perpetual and non-cumulative in nature — dividends not paid in a year do NOT accumulate.

Tier II Capital includes Perpetual Cumulative Preference Shares (PCPS) (cumulative nature places them in Tier II), and Revaluation Reserves, which are included at a 45% haircut (i.e., only 45% of revaluation reserves are eligible), since they are unrealised in nature and less certain.

For Capital Reserve: ₹45 lakhs total — ₹13.5 lakhs arose from revaluation (Tier II element at 45%) and the remaining ₹31.5 lakhs arose from sale of assets (Tier I element — free and realised reserve).

Summary of Classification:

Tier I Capital = ₹310.00 lakhs
Tier II Capital = ₹11.575 lakhs
Total Capital Funds = ₹321.575 lakhs

Risk-Weighted Assets Ratio (CRAR):

CRAR = (Tier I Capital + Tier II Capital) / Risk-Weighted Assets × 100

Note: The question states 'capital funds and assets' but the assets schedule with their respective risk-weight categories was not provided in the problem. Without the assets data and their applicable risk weights (0%, 20%, 50%, 100% etc. as prescribed under RBI's Basel III guidelines), the Risk-Weighted Assets (RWA) cannot be computed and hence the final CRAR percentage cannot be determined. If assets data were available, CRAR would be compared to the RBI prescribed minimum of 9% (with CET1 minimum of 5.5% and Tier I minimum of 7%).

Audit procedures for verifying receipt records during NGO audit:

Authorization and Approval Control — The auditor should verify that receipts are issued only by authorized personnel as per the organization's delegation of authority matrix. Check whether a proper receipt authorization system exists and cross-reference issued receipts against the list of authorized signatories. Review the receipt management policy to ensure segregation of duties between authorization and issuance.

Physical Receipt Verification — Inspect original receipt books/documents to ensure they are pre-numbered sequentially. Identify gaps in receipt numbering and investigate any missing or lost receipts. Verify that each receipt contains essential details: donor name and address, receipt date, amount in figures and words, purpose/nature of donation, PAN/UID of donor (if applicable), and organization's 80G/12A registration numbers. Check that receipts are issued on official letterhead.

Reconciliation with Accounting Records — Match each receipt with corresponding entries in the cash book and bank statements. Verify that receipt amounts agree with bank deposit slips and ensure deposits are made in reasonable time. Cross-check for timing differences and investigate any delays. Ensure all bank deposits are properly supported by actual donation receipts.

Compliance with Statutory Requirements — Verify that the organization holds valid Section 12A and Section 80G registration certificates under the Income Tax Act, 1961. Confirm that donors' PAN/UID details are recorded as per 80G requirements. Check that 80G receipts contain all mandatory information including registration number, date of registration, and validity period. Verify compliance with TDS provisions, if applicable.

Detection of Irregularities — Check receipt books and counterfoils for alterations, erasures, or amendments. Identify any duplicate or fictitious receipts. Review for unusual patterns such as unusually large donations, donations from related parties, or sudden spikes in receipt volumes. Verify that restricted donations are separately identified and properly segregated.

Documentation and Support — Ensure supporting documents accompany each receipt entry (cheques, demand drafts, bank transfer confirmations). Verify that donation registers/receipt registers are properly maintained. Check that fund flow documentation is complete from receipt issuance to final accounting.

Analytical Review — Perform trend analysis of receipt volumes and amounts. Compare current period receipts with prior years. Investigate significant variations in donation patterns. Verify that receipt trends are consistent with the organization's fundraising activities and objectives.

Special Points of Consideration While Auditing Receipts of City Club

1. Classification and Nature of Club Receipts
Club receipts comprise diverse sources including annual subscriptions (regular members, associate members, honorary members), life membership fees, entrance fees, game fees, catering/restaurant revenue, room rentals, donations, grants, and investment income. The auditor must understand the distinction between each category and verify that amounts are recorded under appropriate heads. Life membership fees require special consideration—determine whether they are treated as capital or revenue receipts as per the club's accounting policy and applicable norms.

2. Membership Verification and Reconciliation
Obtain the membership register and reconcile all members recorded during 2019-20 with receipt collections. Verify the status of each member (active, honorary, life, deceased, lapsed) and ensure receipts are collected only from members in good standing. Identify defaulting members and confirm whether their membership was rightly lapsed or whether arrears were collected. Prepare a membership aging schedule for members who have not paid subscriptions.

3. Receipt Authorization and Approval
Verify that the Management Committee has authorized subscription rates, entrance fees, and other charges at the beginning of the financial year. Check for any approved discounts, exemptions, or waivers granted to specific members and ensure they are correctly reflected in receipts. Ensure that only authorized personnel are collecting and issuing receipts.

4. Internal Controls and Accountability
Examine the receipt book control system—verify that receipt books are numbered, accounted for, and issued to collectors under proper authorization. Reconcile opening and closing receipt numbers with total receipts collected. Check daily deposit procedures: verify that collections are deposited into the club's bank account promptly and that a daily receipt reconciliation is maintained. Identify any cash held as float and verify its appropriateness.

5. Cut-off Procedures
Ensure that receipts of the previous year (up to 31st March 2020) are recorded in the 2019-20 accounts and advance receipts (for the next year) are properly deferred. Verify that post-year-end collections are not included in 2019-20 receipts. Review the last few days before and after year-end to ensure proper cut-off.

6. Supporting Documentation
Obtain bank statements and reconcile total deposits with total receipts recorded in the accounts. Verify membership ledger entries for accuracy. Cross-check receipt records with member confirmation, particularly for large or unusual amounts. Examine Management Committee minutes for decisions relating to membership and fee changes.

7. Segment-wise Analysis and Variation Investigation
Break down the total receipts of ₹50 lakhs into component parts and compare each segment with the prior year. Investigate any significant increases or decreases. For example, if subscription receipts are lower than expected, determine whether membership decreased or whether there are collection issues. Verify reasonableness of non-subscription receipts against activity levels.

8. Specific Areas Requiring Audit Attention
Examine life membership fee receipts separately—confirm whether advance amounts are being treated consistently and whether any refunds were granted. Review donations against minutes and verify donor identification. For investment income, verify with bank statements, investment certificates, and dividend statements. Test catering and other ancillary receipts through physical verification of facilities and cross-check against usage records where available.

9. Compliance and Statutory Requirements
Ensure that the club complies with any applicable GST/HST provisions on service receipts and that the appropriate tax compliance has been addressed. Verify that the club maintains proper records as per its bye-laws.

The internal audit function is an independent appraisal mechanism within organizations to evaluate and improve the effectiveness of internal control systems. As per SA 610 - Using the Work of Internal Auditors, internal audit has well-defined objectives and scope concerning internal control activities.

Objectives of Internal Audit Functions:

The primary objectives relating to internal control include: (i) Evaluating Control Effectiveness - Assessing whether internal control activities are appropriately designed and operating effectively to achieve organizational objectives and mitigate identified risks. (ii) Ensuring Compliance - Verifying that control activities ensure compliance with applicable laws, regulations, and internal policies. (iii) Safeguarding Assets - Evaluating controls designed to prevent unauthorized access, loss, or misuse of organizational assets. (iv) Ensuring Information Reliability - Testing controls that ensure the accuracy, completeness, and reliability of financial and operational information. (v) Identifying Control Deficiencies - Detecting weaknesses, gaps, and deficiencies in the control environment and recommending corrective actions.

Scope of Internal Audit with Respect to Internal Control:

The scope encompasses: (i) Control Design Evaluation - Assessing whether internal control activities are appropriately designed to address identified risks and control objectives. (ii) Effectiveness Testing - Testing whether controls function as intended and achieve their intended objectives through actual operation. (iii) Control Activity Review - Examining specific control activities including authorization procedures, segregation of duties, reconciliations, and verification processes embedded in transaction cycles. (iv) Monitoring Controls Assessment - Reviewing management's monitoring activities and control self-assessments to ensure continued effectiveness. (v) Risk-Based Focus - Conducting internal audit work based on risk assessment, prioritizing areas where control failures would have significant organizational impact. (vi) Compliance Control Review - Evaluating controls designed to ensure adherence to regulatory and legal requirements.

Internal audit operates with independence and sufficient resources to objectively evaluate internal controls. The function provides assurance regarding the adequacy and effectiveness of the organization's internal control system and contributes to the overall governance and risk management framework.

The use of Cash Basis of Accounting by XYZ Ltd., a trading business, is inappropriate and violates AS-1 'Disclosure of Accounting Policies' requirements. The accrual basis is mandatory for trading businesses as it matches revenues with related expenses and presents a true and fair view of financial position and performance. Cash Basis inappropriately recognizes revenue only when cash is received, not when earned, resulting in distorted financial statements.

AS-1 Compliance and Issue:

AS-1 requires that accounting policies be selected and applied consistently based on established principles of prudence, matching, and accrual accounting. For a trading business, the accrual basis is the appropriate policy. By adopting Cash Basis, XYZ Ltd. violates the fundamental matching principle, causing non-compliance with AS-1 and generally accepted accounting principles.

Manner of Qualification:

The auditor should express a qualified opinion or adverse opinion depending on the materiality and pervasiveness of the deviation:
- Adverse Opinion: If the effect is material and pervasive, affecting the entire financial statements significantly
- Qualified Opinion: If the effect is material but limited in scope, using an "except for" clause

The qualification should clearly state that the accounting basis adopted does not comply with AS-1.

Required Disclosures in Auditor's Report:

1. Basis for Qualified/Adverse Opinion Section: A dedicated section must explain the deviation, stating that the accounting policy is not in accordance with AS-1 and generally accepted accounting principles.

2. Nature of Deviation: Clear explanation that Cash Basis is inappropriate for a trading business due to violation of the matching principle, causing non-matching of revenues and related expenses.

3. Impact Description: The auditor must describe how financial statements are distorted, including understatement of revenues and receivables, improper matching of expenses with revenues, and distorted profit and financial position.

4. Quantified Impact: If possible, the auditor should quantify the effect on key figures such as revenue, net profit, receivables, and payables. If quantification is not feasible, this should be stated with reasons.

5. Modified Opinion Paragraph: The auditor's opinion must be appropriately modified with language such as "except for the effects of" (qualified) or "as a result of" (adverse) the improper accounting basis.

6. Disclosure Requirement: Ensure the accounting policy is disclosed in Notes to Financial Statements with clear explanation of the basis and its implications.

The auditor should communicate clearly to users about the non-compliance with AS-1 and may recommend that management adopt accrual basis prospectively or provide detailed justification and impact analysis.

Critical Note: Incomplete Problem Data

The question as presented is missing essential opening information required to apply the Highest Relative Capital Method. Specifically, the following are absent:

1. Opening Balance Sheet of the partnership at the commencement of liquidation (showing total assets, liabilities, and partners' capital balances)
2. Partners' Capital Account balances (for partners A, B, C or whoever the partners are) at the start of liquidation
3. Profit and Loss Sharing Ratio among the partners
4. Outside Liabilities (creditors, loans, etc.) that must be paid before partners receive any distribution

Highest Relative Capital Method — Framework

Under this method (also called the Proportionate Capital Method), cash available for partners after paying outside liabilities is distributed in the following manner:

Step 1: Determine the adjusted capital of each partner (opening capital ± current account balance ± loans due to/from partners ± share of profits/losses to date).

Step 2: Calculate the profit-sharing ratio (PSR).

Step 3: Compute the 'notional' capital each partner should have if capitals were in PSR — i.e., find the partner with the highest relative capital (capital in excess of what their PSR entitles them to).

Step 4: The partner with the highest relative capital is paid first, until their relative position equals the next highest partner. Then both are paid together, and so on, until all partners are on equal relative footing — after which distributions follow PSR.

Step 5: Any non-cash asset taken by a partner (here, machinery taken by C at ₹9,00,000 in December) is treated as a payment to that partner equal to the agreed value.

What can be determined from given data:

Total cash realised:
- Debtors collected: ₹3,00,000
- Furniture sold: ₹11,00,000
- Plant & Machinery sold (Jan): ₹28,00,000
- Stock sold: ₹9,00,000
- Land & Buildings: ₹63,00,000
- Total cash receipts: ₹1,14,00,000

Non-cash distribution: Machinery to C = ₹9,00,000 (agreed value)

Total liquidation expenses paid: ₹2,00,000 + ₹2,20,000 + ₹1,50,000 = ₹5,70,000

Net available for distribution = ₹1,14,00,000 − ₹5,70,000 = ₹1,08,30,000 (plus ₹9,00,000 non-cash to C)

Without the opening capital balances, PSR, and outside creditors, the schedule of cash payments cannot be computed. Please provide the opening balance sheet and partners' details to complete this solution.

Asset Classification of Universal Finances Ltd. under NBFC – SI-ND-SI and D (Reserve Bank) Directions, 2016

Under the said Directions, advances are classified into four categories based on the period of overdue and recoverability:

Standard Assets (₹195 lakhs)

Assets where the principal or interest is not overdue beyond 90 days are classified as Standard Assets.
- Advances not specifically mentioned as overdue: ₹440 – ₹350 = ₹90 lakhs
- 550 accounts overdue for last 3 months (= 90 days, which does not exceed the 90-day threshold): ₹105 lakhs
- Total Standard Assets = ₹195 lakhs

Sub-Standard Assets (₹111 lakhs)

Assets that have been classified as NPA for a period not exceeding 12 months are Sub-Standard Assets.
- 75 accounts overdue for 4 months (> 90 days, NPA for < 12 months): ₹64 lakhs
- Out of the 25 accounts overdue for more than 30 months, the remaining 8 accounts (25 – 17) have been identified as sub-standard for a period of less than 12 months: ₹66 – ₹19 = ₹47 lakhs
- Total Sub-Standard Assets = ₹111 lakhs

Doubtful Assets (₹101 lakhs)

Assets that have remained in the sub-standard category for more than 12 months are classified as Doubtful Assets.
- 17 accounts (out of 25 accounts overdue for more than 30 months) already identified as sub-standard for more than 12 months: ₹19 lakhs
- 15 accounts identified as sub-standard for more than 3 years (unsecured) — since these have been NPA well beyond 12 months they migrate to Doubtful (D3 category): ₹82 lakhs
- Total Doubtful Assets = ₹101 lakhs

Loss Assets (₹33 lakhs)

Assets identified as loss by the NBFC management, internal/external auditors, or RBI, but not yet written off, are Loss Assets.
- 8 accounts identified as non-recoverable by the management: ₹33 lakhs

Total classified assets = ₹195 + ₹111 + ₹101 + ₹33 = ₹440 lakhs (agrees with total advances given).

Applicable Law: Under the Companies Act, 2013, in a winding up, contributories are classified as List A (present members) and List B (past members). A past member is liable as a List B contributory only if: (i) he ceased to be a member within one year before commencement of winding up, (ii) the debt was incurred while he was still a member, and (iii) present members cannot meet the calls. His liability is capped at the uncalled amount on shares transferred.

Step 1 – Determine the one-year window. Winding up commenced 1st April 2020. One year prior = 1st April 2019. Only those who transferred on or after 1st April 2019 fall within the one-year window.

Step 2 – Classify each transferor.

- O – Transferred 4th April 2019 → within 1 year → liable
- P – Transferred 2nd February 2019 → before 1st April 2019 → NOT liable (outside 1-year window)
- Q – Transferred 8th September 2019 → within 1 year → liable
- R – Transferred 11th November 2019 → within 1 year → liable
- S – Transferred 2nd February 2020 → within 1 year → liable in principle, but see Step 4
- T – Transferred 1st March 2020 → within 1 year → liable

Step 3 – Uncalled amount per share. Face value = ₹100; called up and paid up = ₹70; uncalled = ₹30 per share.

Step 4 – Treatment of X (transferee of S's shares). X acquired 800 shares from S and immediately paid ₹30 per share as calls in advance on becoming a member. This means the uncalled amount on S's 800 shares was fully discharged by X (the present member, List A). Since S's liability as a past member is limited to the uncalled amount on shares transferred, and X has already paid that amount in full, S's contribution is Nil.

Step 5 – Maximum contribution of each liable past member. A past member cannot be called upon to contribute more than the lower of: (a) uncalled amount on shares = ₹30 × shares, and (b) creditors outstanding on the date they ceased to be a member (proxy for debts incurred while a member).

| Member | Shares Transferred | Uncalled (₹30 × shares) | Creditors on Transfer Date | Contribution (lower of) |
|--------|-------------------|------------------------|---------------------------|-------------------------|
| O | 1,000 | 30,000 | 42,000 | 30,000 |
| Q | 200 | 6,000 | 57,000 | 6,000 |
| R | 1,400 | 42,000 | 85,000 | 42,000 |
| S | 800 | — (X paid in advance) | 66,000 | Nil |
| T | 1,400 | 42,000 | 95,000 | 42,000 |
| P | 300 | Not liable (>1 year) | — | Nil |

Total amount to be realised from past member contributions = ₹1,20,000.

Journal Entries in the Books of Umang Ltd. for Buy-back of Shares

The following entries are passed at the time of buy-back of equity shares. As per Section 68 of the Companies Act 2013, a company may buy back its own shares out of its free reserves, securities premium account, or proceeds of a fresh issue. Further, Section 69 of the Companies Act 2013 mandates that where shares are bought back out of free reserves or securities premium, a sum equal to the nominal value of shares bought back must be transferred to the Capital Redemption Reserve (CRR).

Note: Specific per-share figures depend on conditions (i) and (ii) of the case. The entries below incorporate condition (iii) — ₹15,00,000 from Securities Premium — and condition (iv) — payment via cash/bank balance. Let the face value of shares bought back = ₹X, total buy-back consideration = ₹(X + 15,00,000 + balance from General Reserve).

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Entry 1 — On Buy-back of Shares:

Equity Share Capital A/c Dr. ............. [Face Value of shares bought back]
Securities Premium A/c Dr. .............. ₹15,00,000
General Reserve A/c Dr. ................. [Buy-back premium in excess of ₹15,00,000, if any]
To Equity Shareholders A/c ............. [Total buy-back consideration]
*(Being buy-back of ____ equity shares of ₹__ each at ₹__ per share, in accordance with Section 68 of the Companies Act 2013)*

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Entry 2 — On Payment to Shareholders:

Equity Shareholders A/c Dr. ............. [Total buy-back consideration]
To Bank A/c ........................... [Total buy-back consideration]
*(Being payment made to shareholders for buy-back of shares out of available cash balance)*

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Entry 3 — On Transfer to Capital Redemption Reserve:

General Reserve A/c Dr. ................. [Nominal/Face Value of shares bought back]
To Capital Redemption Reserve A/c ...... [Nominal/Face Value of shares bought back]
*(Being transfer to Capital Redemption Reserve equal to the nominal value of shares bought back, as required under Section 69 of the Companies Act 2013, out of General Reserve which has adequate balance)*

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Key Points:
1. Securities Premium Account can be utilised for the premium payable on buy-back (not for CRR).
2. The CRR is mandatorily created equal to face value of shares bought back — here from General Reserve (since it has adequate balance).
3. No separate entry is needed for the nominal value already debited to Equity Share Capital — it gets cancelled on buy-back.
4. The balance in Securities Premium (after using ₹15,00,000) remains in the books.