Question 1

State with reasons whether the following statements are correct or incorrect. (Answer any seven)

Accepted Answer

**(a) INCORRECT.** The definition of "pervasive" is inaccurate. While pervasive is indeed a term used in the context of misstatements (per **SA 450**), it describes the **extent or scope of effect** on financial statements—whether misstatements are confined to specific elements or are widespread—not the process of detecting them through audit evidence. Linking pervasiveness to "obtained audit evidence" conflates conceptually distinct ideas.

**(b) INCORRECT.** According to **SA 265**, control deficiencies must be evaluated and assessed systematically based on defined criteria—the nature, magnitude, and potential effect on the audit. Arbitrary evaluation would violate the requirement for sufficient and appropriate audit evidence and professional judgment.

**(c) CORRECT.** Management override of internal controls is a recognized and significant audit risk, particularly when management acts dishonestly. Inappropriate management can deliberately circumvent even well-designed controls to manipulate financial statements or misappropriate assets, as acknowledged in **SA 250** and **SA 330**.

**(d) INCORRECT.** While the auditor should follow the audit plan as documented (per **SA 300**), modification is permissible and often necessary. Circumstances may change, new risks may emerge, or additional information gathered during the audit may necessitate plan revision. Rigid adherence without flexibility would compromise audit effectiveness.

**(e) CORRECT.** **CARO 2020, Clause 3(f)**…

Question 2

CA B, an auditor of DBF Limited engaged in the manufacturing and trading of hardware products, while auditing got aware of some scoop of the company. The auditor acted in an unbiased way in order to deceive or gain an advantage over others and also be encouraged and assisted dissidents to do something wrong, in particular to commit crime. Now company has requested you to guide it as to how such acts as per revised audit Companies Act, 2013 and what consequences auditor may face?

Accepted Answer

**Auditor Conduct and Statutory Obligations under Companies Act, 2013**

The conduct described by CA B constitutes a serious breach of auditor independence and statutory duties. Under the Companies Act, 2013, auditors are mandated to maintain objectivity and integrity while discharging their responsibilities.

**Statutory Provisions Governing Auditor Conduct:**

**Section 141 of the Companies Act, 2013** prescribes eligibility criteria for auditors. Auditors must not be disqualified under Section 141(3), which includes scenarios where they breach professional ethics or independence standards. An auditor assisting in wrongdoing or encouraging crimes would violate the foundational qualification standards.

**Section 143(12) of the Companies Act, 2013** imposes a critical duty: auditors shall report any fraud involving management or employees to the Audit Committee/Board of Directors. If the auditor becomes aware of scope of wrongdoing ("scoop") during audit, the statutory obligation is to report immediately, not to suppress or assist in concealment.

**Section 147 of the Companies Act, 2013** specifically addresses auditor responsibility regarding frauds. The auditor must report fraudulent transactions to the Audit Committee and, in certain cases, to the Central Government if the fraud is of significant value.

**Section 224 of the Companies Act, 2013** provides for removal of auditors. Misconduct, breach of duty, or acting in manner detrimental to the company's interests forms…

Question 3

The auditor of RMP Limited has identified a fraud that, in his opinion, reciyes a material misstatement in the financial statements. Management personnel in higher management cadre are associated with misappropriation of accounts of the company. But he auditor has not been able to understand as to why this type of fraud is generally committed. Guide him with some reasons.

Accepted Answer

**Why Management Commits Fraud – Key Reasons for Auditors**

Management-level fraud typically stems from three interconnected categories of motivations that auditors must understand to enhance audit effectiveness.

**Pressure and Financial Incentives:** Senior management faces substantial pressure to achieve financial targets, maintain profitability, and meet stakeholder expectations. Compensation structures tied to earnings—including bonuses, profit-sharing, and stock options—create strong incentives to manipulate financial results. Management may feel pressure to maintain or improve the company's share price, secure loans from financial institutions, or meet covenants imposed by lenders. In RMP Limited's case, such pressures may have driven the misappropriation as a means to enhance reported financial performance or secure personal financial benefits.

**Opportunity and Position of Trust:** Higher management possesses unique advantages unavailable to lower-level employees. They have direct access to accounting records, authority to approve transactions, ability to create or modify journal entries, and power to override internal controls. This position of trust allows them to suppress audit evidence, delete records, or authorize fraudulent transactions without immediate detection. The organizational structure often prevents adequate scrutiny of management's own transactions, creating a critical control weakness.

**Rationalization and Ethical Flexibility:** Management may ra…

Question 4

SPR Ltd has been into the media business since 1990. During the F.Y 2021-2022 many notices were received by the company for hurting public sentiments and financial claims were filed against the company. As an auditor of the company, you requested the management for arranging the meeting with company's external legal counsel. Management is of the view that such meetings are necessary in some certain circumstances only. Can you list down those certain circumstances?

Accepted Answer

The circumstances when an auditor should meet with the company's external legal counsel are:

**1. Existence of Pending or Threatened Litigation and Claims**: When the company faces legal disputes, notices, or claims that could materially affect its financial position. In SPR Ltd's case, the notices received for hurting public sentiments and financial claims filed during FY 2021-2022 directly trigger this requirement.

**2. Assessment of Provisions and Contingent Liabilities**: The auditor must determine the appropriate accounting treatment as per Ind AS 37. The legal counsel's input is essential to establish whether the matter should be provided for as a recognized liability in the financial statements, disclosed as a contingent liability in notes, or not disclosed at all.

**3. Material Uncertainty Regarding Outcomes**: When there is uncertainty about the legal outcome and the potential financial impact is material to the financial statements, consultation with external legal counsel becomes necessary to assess the probability of loss and estimated amount.

**4. Verification of Complete Disclosure**: To ensure that management has identified and disclosed all material litigation, claims, and assessments in the financial statements and related notes, the auditor should independently verify this with the company's external legal counsel.

**5. Evaluation of Going Concern**: When legal matters create doubts about the company's ability to continue as a going concern or meet its …

Question 5

After becoming Chartered Accountant, you have got your first assignment as an auditor of a bank branch dealing in various types of advances. What are the areas which you will be looking for obtaining sufficient appropriate evidence (for advances) based on the risk, scope and evaluating internal control?

Accepted Answer

As an auditor of a bank's advance portfolio, obtaining sufficient appropriate evidence requires a structured approach integrating risk assessment, scope determination, and internal control evaluation.

**Areas Based on Risk Assessment:**
The auditor should identify high-risk advances requiring extensive evidence: (1) Large and significant advances in terms of materiality, (2) Unsecured or inadequately secured advances, (3) Advances to related parties, (4) Advances to sensitive sectors with regulatory restrictions, (5) Overdue and doubtful advances/NPA accounts, and (6) Advances with unusual terms, complex documentation, or concentration in single borrower/sector. Risk assessment per SA 315 determines the nature, timing, and extent of audit procedures.

**Areas Based on Scope Determination:**
The scope of audit work should reflect materiality and risk-based stratification: (1) 100% verification of high-risk and large advances, (2) Stratified random sampling for medium-risk advances based on materiality thresholds, (3) Full coverage of NPA accounts and overdue advances, and (4) Selective testing of routine performing advances. This ensures adequate representation across advance categories (term loans, overdrafts, bills discounted) and risk profiles.

**Areas Based on Internal Control Evaluation:**
Auditor should evaluate controls over: (1) **Authorization**: Loan sanction authority limits compliance and approval hierarchy, (2) **Credit appraisal**: Adequacy of credit evaluation…

Question 6

CA G, auditor of Sports Ltd., while auditing documented all the papers. He retained some of the documents of the company on which he has not worked along with the documents which were his working papers saying that as he was the auditor of the Company, so he has the right to retain all the documents as he may require for future references. Comment on the action of the auditor.

Accepted Answer

**The action of CA G is INCORRECT.** While auditors possess certain rights regarding documents during an audit, these rights are strictly limited and do not permit retention of all company documents.

**Auditor's Rights—Limited Scope:** Under **Section 143 of the Companies Act, 2013**, an auditor has the right to access company books, records, documents, and vouchers for the purpose of conducting the audit. However, this right of access does NOT translate into an unrestricted right of retention.

**Documents the Auditor CAN Retain:** An auditor is entitled to retain (1) his own working papers prepared during the audit, which are the auditor's property and represent the evidence and procedures performed, and (2) company documents that are directly relevant to matters on which he has performed audit work and which support his audit conclusions.

**Documents the Auditor MUST Return:** Company documents that are NOT directly relevant to the audit work performed and on which the auditor has not worked must be returned to the company after the audit is completed. These documents remain the property of the company.

**Issue with CA G's Action:** CA G's retention of documents "on which he has not worked" is impermissible because (1) these documents do not form part of his audit evidence or working papers, (2) his justification of "future reference" does not constitute a valid audit purpose under **SA 230 (Audit Documentation)**, and (3) he is effectively preventing the company from a…

Question 7

Proceedings have been initiated against False Limited for holding benami property under the Benami Transactions (Prohibition) Act, 1988 (45 of 1988) and the rules made thereunder, but such property is not recorded in books of accounts. As a consultant to the company, what will you advise to the company as far as disclosure requirements are concerned in relation to said proceedings?

Accepted Answer

**Disclosure Treatment**: Even though the property is not recorded in the books of accounts, the proceedings initiated under the Benami Transactions (Prohibition) Act, 1988 represent a potential legal obligation and must be disclosed in the financial statements. The company should not ignore this matter merely because the asset was not capitalized.

**Classification as Contingent Liability or Provision**: First, obtain a legal opinion regarding the probability and estimated financial impact of the proceedings. If the outflow of resources is **probable** and the amount can be reliably estimated, recognize a **provision** in the balance sheet. If the outflow is **possible** but not probable, or the amount cannot be reliably estimated, disclose it as a **contingent liability** in the notes.

**Specific Disclosures Required**: In the notes to the balance sheet (as per Schedule 6 of the Companies Act, 2013 and AS 4 / Ind AS 37), disclose: (a) the nature and details of the proceedings (case name, initiating authority, date of initiation); (b) the description and nature of the benami property involved; (c) the relief sought or claim amount, if any; (d) management's assessment of the likely outcome based on legal advice; (e) the estimated financial effect on the company's resources; and (f) any material uncertainties affecting the quantum or timing of outflow.

**Accounting Standards Compliance**: Reference **AS 4 (Contingencies and Events Occurring After the Balance Sheet Date)** or…

Question 8

The approach to audit and extent of checking are undergoing a progressive change in favour of more attention towards the opinions of principle and controls with a curtailment of non-consequential routine checking. Discuss the given statement.

Accepted Answer

**Modern Audit Approach – Risk-Based and Principles-Focused**

The statement accurately reflects the evolution of auditing methodology from transaction-focused, mechanical checking to a risk-centric, principles-based approach as per Standards on Auditing (SA).

**Shift from Routine to Risk-Based Approach:**
Traditional auditing relied on extensive substantive testing of all transactions. Modern auditing, per SA 315 (Understanding the Entity and Its Environment) and SA 330 (Performing Audit Procedures in Response to Assessed Risks), first assesses risks before determining the extent of checking. Non-consequential routine checking is curtailed because: (i) Not all transactions are equally risky; (ii) Materiality limits focus only to significant items; (iii) Audit sampling replaces 100% checking; (iv) Routine transactions with low risk require minimal substantive testing.

**Emphasis on Controls and Professional Judgment:**
The modern approach emphasizes control evaluation over assumption of control failure. Where internal controls operate effectively, auditors place reliance and reduce substantive procedures. This is formalized under CARO 2020 for listed entities, requiring auditors to test control design and operating effectiveness. The "opinions of principle" refer to auditors exercising professional judgment on: (i) Compliance with accounting standards (AS/Ind AS); (ii) Appropriateness of accounting policies; (iii) Adequacy of disclosures; (iv) Fair presentation overall. Thi…

Question 9

M/s T & Co. Chartered Accountants, a partnership firm, is appointed as an auditor of Treatment Hospital run by Smile Foundation, a charitable trust. Over and above the receipts of treatment of patients, during the year trust has received donations from various donors to treat COVID-19 patients and also incurred some additional expenditure for further development of the hospital. On some of the investment income, income tax has been deducted. What are the special points to be considered by M/s T & Co. while auditing such transactions of Treatment Hospital?

Accepted Answer

While auditing Treatment Hospital run by Smile Foundation, a charitable trust, M/s T & Co. should focus on the following special audit points:

**1. Verification of Charitable Status and Exemption:** The auditor must verify the current registration of the trust as a charitable entity and its exemption status under Section 12A of the Income Tax Act, 1961. This is fundamental as it determines the tax treatment of all donations, income, and exemptions applicable to the trust's operations.

**2. Audit of Donations Received for COVID-19 Relief:** Donations received specifically for treating COVID-19 patients require special attention. The auditor should verify: (a) proper documentation and evidence of donations received; (b) segregation of COVID-19 relief donations from other receipts; (c) use of restricted funds only for the stated purpose with no diversion; (d) whether donors are entitled to deduction under Section 80G and if records are maintained accordingly; and (e) compliance with compliance with Section 139(4A) regarding filing requirements for charitable trusts.

**3. Audit of Investment Income and TDS:** The auditor must verify and reconcile TDS certificates received with amounts deducted from investment income and those shown in the accounts. Additionally, verify that the trust is correctly claiming deductions or refunds of TDS in its income tax return as per the exemption provisions applicable to charitable trusts.

**4. Audit of Development Expenditure:** Expenditure i…

Question 10

OPTION 1: D Ltd. is a company engaged in publishing business magazines. CA P is the statutory auditor of the company. The company takes property in the barter deal from its real estate customers against publication of their advertisements. The properties obtained during the year through such barter deal have been considered in the balance of accounts on the basis of possession letter only and have been included in PPE in the financial statements. Considering this matter of such importance is fundamental to the users understanding, CA P has decided to communicate the same in his report. CA P seeks your guidance in reporting this matter in his audit report.

OPTION 2: Internal audit not only analyses the effectiveness with which the internal control of a company is operating but also improve…

Accepted Answer

**OPTION 1: Audit Reporting on Barter Transactions as Key Audit Matter**

CA P should communicate this matter as a **Key Audit Matter (KAM)** in accordance with **SA 701: Communicating Key Audit Matters in the Auditor's Report**. Since the matter is fundamental to users' understanding, it requires explicit disclosure in the audit report.

**Why This is a Key Audit Matter:**

The matter qualifies as KAM because: (1) It involves significant judgment in determining fair value of assets received and advertisements given; (2) The basis of recognition—possession letter only—lacks adequate supporting documentation; (3) It involves non-routine transactions outside the normal publishing business; (4) It is material to the financial statements and asset valuation; (5) Users need transparency on how such unusual transactions are handled and valued.

**Communication Framework under SA 701:**

**Description:** The audit report must disclose the nature of barter transactions (properties received for publication of advertisements), the weak documentation basis (possession letter only), and the impact on PPE classification in the balance sheet.

**Significance and Audit Approach:** The report should explain why this matters—the inherent uncertainty in fair value determination of both the property and the publication right exchanged. The auditor must describe procedures performed: examination of possession letters, assessment of fair value methodology applied, verification of subsequent use o…

Question 11

The senior member of the firm Kase & Associates, Chartered Accountants, informed to its auditing staff that at the time of audit reporting regarding corresponding figures, when corresponding figures are presented, the auditor's opinion shall refer to the corresponding figures except in specified circumstances. What are those exceptional circumstances?

Accepted Answer

According to **SA 710 (Comparative Information — Corresponding Figures and Comparative Financial Statements)**, the auditor's opinion shall refer to corresponding figures except in the following specified exceptional circumstances:

**1. Corresponding Figures Were Not Audited**
When the prior year financial statements were not audited (e.g., first year of audit, no audit requirement in the prior year, or predecessor auditor declined the engagement), the auditor cannot express an opinion on those corresponding figures. The auditor must clearly disclose in the audit report that the corresponding figures are 'unaudited' or 'not covered by the auditor's opinion.'

**2. Corresponding Figures Audited by Predecessor but Current Auditor Cannot Obtain Sufficient Appropriate Audit Evidence**
When a predecessor auditor audited the prior year but the current auditor has not been able to obtain sufficient appropriate audit evidence regarding the corresponding figures due to limitations (inadequate access to prior period working papers, incomplete documentation, or inability to re-perform procedures), the auditor should not include those figures in the audit opinion. A clear scope limitation must be disclosed.

**3. Scope Limitation Regarding Opening Balances and Prior Year Transactions**
If the current auditor encounters restrictions on the scope of the audit affecting the corresponding figures or opening balances that materially impact the current year figures, the auditor may need to ex…

Question 12

When the company is working in an automated environment, it is not necessary for the auditor to understand its automated environment and depends upon the professional judgement of the auditor as to whether gaining knowledge of company's IT systems is required or not. Do you agree with this statement?

Accepted Answer

**I disagree with the statement.** The auditor is required to obtain an understanding of the entity's IT environment as a mandatory part of the audit process, and professional judgment cannot be used to bypass this requirement.

**Understanding IT is Mandatory:** SA 315 (Revised 2019) - Identifying and Assessing the Risks of Material Misstatement explicitly requires the auditor to obtain an understanding of the entity and its environment, which includes the Information Technology (IT) systems and controls. This is not discretionary but a fundamental requirement of the audit process.

**Why IT Understanding is Essential:** In an automated environment, transactions are processed, recorded, and reported through IT systems. The effectiveness and reliability of internal controls depend significantly on IT controls. Without understanding the IT environment, the auditor cannot accurately assess control risks, identify potential misstatements, or design effective audit procedures. The auditor may miss automated controls or detect areas of high risk that require special attention.

**Role of Professional Judgment:** While professional judgment is important in determining the **extent and depth** of IT knowledge required based on the complexity and significance of IT systems to the audit, it does not allow the auditor to decide whether to obtain knowledge of IT systems at all. The auditor must always gain some level of understanding of how IT systems affect the processing of transactio…

Question 13

The accountant of CHB Limited observed that amount received from Mr. A has been recorded in the account of Mr. B and this mistake was found at the time of tallying account statement provided by Mr. A. What type of error is this? Can you give two more examples of such error and how the same will be detected?

Accepted Answer

The error described is an **error of commission**. This occurs when a transaction is recorded with correct debit and credit entries but is posted to an incorrect account. Here, the amount received from Mr. A was properly recognized as a receipt but mistakenly credited to Mr. B's personal account instead of Mr. A's account.

**Example 1: Posting Error in Creditor Accounts** - Recording a purchase invoice from Supplier X mistakenly in Supplier Y's account. The debit to purchases and credit to payables are correct entries, but the wrong supplier's personal ledger account is credited.

**Detection Method**: Reconciliation of the personal ledger account with the supplier's statement. When Supplier X's statement is compared with CHB Limited's books, the outstanding balance will not match, immediately revealing the error. Similarly, direct confirmation with the supplier will highlight the discrepancy.

**Example 2: Posting Error in Customer Accounts** - Recording a cheque received from Customer M incorrectly in Customer N's account in the sales ledger. The debit to cash and credit to receivables are correct, but the amount is posted to the wrong customer's account.

**Detection Method**: Customer statement reconciliation or direct confirmation with the customer. When the customer statement received from M is reconciled with CHB's books, the outstanding balance will not match. Additionally, bank reconciliation comparing the bank statement with the cash book will show discrepancies be…

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