CA Inter FM + SM

STATEMENT (a) – INCORRECT

When financial statements are misstated and such misstatement is material and pervasive, the auditor should issue an adverse opinion, not a qualified opinion. Per SA 705 (Standards on Auditing 705) on Modifications to the Opinion in the Independent Auditor's Report, the nature of the misstatement determines the type of modification: (i) Qualified Opinion – issued when the misstatement is material but not pervasive, affecting only a specific area or component. (ii) Adverse Opinion – issued when the misstatement is both material and pervasive, rendering the financial statements fundamentally unreliable and not presenting a true and fair view. Since the question specifies the misstatement is both material and pervasive, the correct audit opinion is adverse, not qualified. The statement conflates two distinct situations and is therefore incorrect.

STATEMENT (b) – INCORRECT

Under Section 134(1) of the Companies Act, 2013, the financial statements of a company must be approved and signed by at least two directors (or one director if the company has only one director). However, the Act does not mandate that one of these directors must be the Managing Director. The statutory requirement is simply that two directors must approve the statements; the composition can be any two directors, whether independent, executive, or otherwise. The statement is overly restrictive and misrepresents the legal position by imposing an unnecessary condition about the MD's involvement. The actual requirement is flexible as to which specific directors sign, provided the minimum number requirement is met.

Vouching and Verification of Assets and Liabilities

(a) Trademarks and Copyrights

Trademarks and copyrights are intangible assets and require careful verification both for existence and valuation.

Existence and Ownership: The auditor should inspect the registration certificates issued by the Registrar of Trademarks (under the Trade Marks Act, 1999) or the Copyright Office (under the Copyright Act, 1957). Verify that the entity is the registered owner or has a valid assignment/license agreement.

Validity: Check the renewal dates — trademarks are valid for 10 years and must be renewed; copyrights have varying periods. Confirm that no trademark has lapsed or is subject to cancellation proceedings.

Valuation: Verify that the assets are recorded at cost of acquisition or development costs per AS 26 (Intangible Assets). If purchased, vouch the purchase agreement, legal fees, and registration fees. Examine whether amortisation policy is consistent and appropriate.

Impairment: Check whether any impairment review has been carried out where there are indicators of impairment.

Legal Disputes: Review minutes of board meetings and legal opinions to determine if any trademark/copyright is under litigation, which may affect carrying value.

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(b) Investment Income in the Case of Charitable Institutions

Charitable institutions enjoy tax exemptions under Section 11 and Section 12 of the Income Tax Act, 1961, subject to conditions. The auditor must verify that investment income is properly accounted for and applied to charitable objects.

Verification of Investments: Physically inspect or confirm with custodians the investment certificates, fixed deposit receipts, bond certificates, and demat statements as at year-end. Reconcile with the investment register.

Income Verification: Vouch interest income against bank statements, interest warrants, TDS certificates (Form 26AS). For dividend income, cross-check with dividend warrants and company announcements. Verify accrual of interest on fixed deposits.

Application of Income: Under Section 11, at least 85% of income must be applied toward charitable objects in India. Verify that the institution has applied the required proportion or has set apart amounts with a valid notice to the Assessing Officer.

Investments Permitted: Check that investments are made only in modes specified under Section 11(5) of the Income Tax Act, 1961 (e.g., government securities, scheduled banks, post office savings). Investments outside these modes may result in loss of exemption.

Audit Report: If the auditor is conducting a tax audit under Section 12A/12AA, the report in Form 10B must be verified for accuracy.

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(c) Contingent Liabilities

Contingent liabilities are not recorded in the books but must be disclosed as per AS 29 (Provisions, Contingent Liabilities and Contingent Assets). Verification is critical to ensure completeness of disclosure.

Enquiry from Management: Obtain a management representation letter confirming all known contingent liabilities. Enquire from management about pending legal cases, disputed tax demands, guarantees given, and bills discounted.

Review of Legal Cases: Obtain a list of all pending litigation. Correspond directly with the entity's lawyers and legal counsel to assess the probability and likely amount of any adverse outcome.

Review of Tax Assessments: Check notices received from Income Tax, GST, Customs, or Excise authorities for demands under dispute. Verify the amounts and the stage of appeals.

Bank Guarantees and Letters of Credit: Confirm outstanding bank guarantees and letters of credit with bankers. Review the register of guarantees given on behalf of subsidiaries or third parties.

Bills Discounted: Obtain a certificate from the bank of bills discounted but not yet matured.

Disclosure: Verify that the nature, estimate, and uncertainties of each contingent liability are properly disclosed in the notes to accounts as required by AS 29.

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(d) Leasehold Rights

Leasehold rights represent the right to use an asset for a specified period under a lease agreement and must be verified for existence, valuation, and proper accounting.

Title and Agreement: Inspect the original lease agreement/deed and confirm it is duly stamped and registered where required. Note the lease period, rental terms, renewal options, and any restrictions on the lessee.

Existence: Physically verify the leasehold property (land or building) or obtain confirmation from the lessor. Ensure the entity is in actual possession and the lease has not been terminated or surrendered.

Valuation and Amortisation: Verify that leasehold rights are recorded at cost (premium paid plus legal charges) and are being amortised over the lease period per AS 26. The amortisation rate and method should be consistent year to year.

Lease Rentals: Vouch lease rental payments against the lease deed terms, payment receipts, and bank statements. Confirm there are no arrears in rent that could lead to forfeiture.

Ind AS Consideration: If the entity applies Ind AS 116 (Leases), verify the recognition of a right-of-use (ROU) asset and corresponding lease liability and ensure subsequent measurement (depreciation + interest) is correctly done.

Renewal and Expiry: Examine whether the lease is nearing expiry and whether renewal is assured. If the lease cannot be renewed, assess whether impairment or write-down is necessary.

Audit Programme for Government Grant of ₹2,40,000 received by National College

Objective: To verify that the grant of ₹2,40,000 received from Government nodal agencies for a research project on rural health systems has been properly received, accounted for, utilised for the intended purpose, and reported in accordance with the terms and conditions of the grant.

1. Preliminary Steps

Obtain and study the grant agreement/sanction letter issued by the Government nodal agency. Understand the terms, conditions, and objectives of the project. Review the budget approved under the grant to identify specific heads of expenditure permitted. Ascertain the reporting obligations and utilisation certificate requirements imposed by the funding agency.

2. Receipt of Grant

Verify the sanction order to confirm the sanctioned amount of ₹2,40,000, the instalment schedule, and conditions precedent to release. Trace the receipt of grant money into the bank account of the college by examining bank statements and cash book entries. Confirm that the amount received matches the sanctioned/released amount and that no deductions were made at source. Check whether the grant was credited to a separate earmarked fund account or project account as required by the terms.

3. Opening and Maintenance of Separate Accounts

Verify that a separate project account or fund account has been maintained exclusively for this grant, as is required for government-funded projects. Check whether the college has opened a separate bank account for the grant proceeds (if stipulated in the grant agreement). Confirm that general college funds have not been mixed with grant funds (commingling of funds must not have occurred).

4. Accounting and Booking of Expenditure

Review the project ledger and ensure all expenditure is classified under the approved budget heads (e.g., salaries/remuneration of research staff, field survey expenses, data collection costs, stationery, travel, equipment, etc.). Vouch all payments made from the grant by examining vouchers, bills, invoices, and supporting documents. Verify that expenditure is incurred only on items permitted under the grant agreement. Check that each payment is authorised by the appropriate authority (Project Coordinator/Principal/Trust). Ensure that expenditure incurred but not yet paid is accounted for as a liability (accruals basis if applicable).

5. Verification of Specific Expenditure Heads

- Salaries and Remuneration: Verify appointment letters, attendance records, and payment vouchers for research staff. Confirm salary rates are within sanctioned limits.
- Travel and Field Expenses: Examine travel claims with supporting tickets, bills; verify they relate to project-related fieldwork in rural areas.
- Equipment and Assets: Check purchase orders, invoices, and physical existence of equipment. Verify whether assets purchased from grant funds are required to be returned or transferred to the Government after project completion, as per grant terms.
- Overheads/Indirect Costs: Confirm that overhead charges allocated to the project do not exceed the percentage permitted under the grant terms.

6. Unspent Balance and Refund

Compute the balance of unspent grant money, if any. Verify whether such balance has been refunded to the Government or carried forward as per the grant agreement. Check whether interest earned (if any) on grant money kept in a bank account has been separately accounted for and reported, as often required under government grants.

7. Compliance and Utilisation Certificate

Verify whether a Utilisation Certificate in the prescribed format (as required by the funding agency) has been prepared and submitted. Confirm the certificate correctly states the amount received, the amount utilised, and the unspent balance. Check compliance with General Financial Rules (GFR) or other applicable government guidelines if the grant is from a Central Government nodal agency. Ensure compliance with Foreign Contribution (Regulation) Act, 2010 (FCRA) if any portion of the grant is foreign-funded.

8. Reconciliation

Reconcile total grants received with total expenditure charged to the project plus unspent balance. Reconcile bank statement balances with the project cash book/ledger.

9. Disclosure and Reporting

Verify that the grant and related expenditure are disclosed in the financial statements of the college/trust in accordance with applicable accounting principles. Check the Trustees' Report or Annual Report for disclosure of the project, its objectives, progress, and financial position.

10. Other Matters

Ascertain whether any prior approval was required (and obtained) for budget re-appropriation between heads. Check whether the project activities have actually been carried out — examine progress reports, field visit records, and publications/outputs if any, as utilisation must be substantive and not merely on paper.

Conclusion: The audit programme should ensure that ₹2,40,000 has been received intact, spent only for the permitted purpose of research on rural health systems, properly accounted for in separate books, and reported to the Government nodal agency through a valid Utilisation Certificate.