Question 1

Persuasive is a term used, in the context of misstatements, to describe the effects on the financial statements of misstatements or the possible effects on the financial statement of misstatements, if any, that are detected by obtaining sufficient appropriate audit evidence.

Accepted Answer

**Answer: FALSE**

The statement is incorrect. **Persuasive** is not the appropriate term used in audit standards to describe the effects on financial statements of misstatements. The correct terminology is **Materiality**. According to SA 320 (Materiality in Planning and Performing an Audit), information is material if its omission or misstatement could influence the economic decisions of users taken on the basis of the financial statements. The term "Persuasive" is used in the context of audit evidence (SA 500 - Audit Evidence) to describe the quality and reliability of evidence obtained, not the classification of misstatements. In SA 450 (Evaluation of Misstatements Identified During the Audit), misstatements are evaluated based on whether they are material or not to the financial statements as a whole.

Question 2

Audit findings and control deficiencies can be evaluated or assessed arbitrarily.

Accepted Answer

**Answer: FALSE**

Audit findings and control deficiencies cannot be evaluated or assessed arbitrarily. They must be evaluated systematically based on objective criteria and professional judgment within the framework of auditing standards.

Under **SA 265 (Communicating Deficiencies in Internal Control)**, auditors must evaluate deficiencies based on: (1) the nature of the control deficiency and the assertion involved, (2) the potential for misstatement to occur and not be prevented or detected, and (3) the likelihood of occurrence. Auditors must follow a structured, evidence-based approach to determine whether a deficiency is a significant deficiency or material weakness, not apply arbitrary judgment.

Question 3

Inappropriate management can override internal controls of any organization.

Accepted Answer

**Answer: TRUE**

Inappropriate management can indeed override internal controls of any organization. This is a fundamental principle recognized in auditing standards. **Management override of controls** is one of the most significant limitations of internal control systems, as management possesses the authority and access to bypass established control procedures. When management exhibits dishonest behavior, weak ethical standards, or pursues unauthorized objectives, they can deliberately circumvent or override even well-designed control mechanisms. SA 240 'The Auditor's Responsibilities Relating to Fraud in an Audit of Financial Statements' specifically identifies management override as a key fraud risk factor. The COSO Internal Control Framework also acknowledges that no control system can provide absolute assurance against management override. Therefore, the statement is correct—internal controls provide reasonable but not absolute assurance, and management, particularly when inappropriate or fraudulent, can override these controls to conceal irregularities.

Question 4

Once the audit plan has been drafted and communicated, it is obligatory on the auditor to follow the same.

Accepted Answer

**Answer: FALSE**

While the audit plan is a comprehensive document that provides the framework for conducting the audit, it is not absolutely obligatory for the auditor to follow it without any modifications. According to SA 300 (Planning an Audit of Financial Statements), the auditor may need to revise the audit strategy and audit plan based on circumstances that emerge during the audit. The auditor may encounter new information, changes in risk assessment, or unanticipated findings that necessitate modifications to the original plan. The auditor must exercise professional judgment and adapt the audit approach accordingly. Therefore, the statement is **overly absolute** and misleading in suggesting rigid adherence is mandatory.

Question 5

According to CARO 2020, the company auditor is required to state that whether the title deeds of all immovable properties held in the name of the company are disclosed in its financial statements.

Accepted Answer

**Answer: TRUE**

Under Clause 3 of the **Companies (Auditor's Report) Order, 2020 (CARO 2020)**, the auditor is explicitly required to report on immovable properties held in the name of the company. The auditor must state whether the title deeds of all such immovable properties are disclosed in the financial statements. If the title deeds are not disclosed in the financial statements, the auditor is required to mention the nature of title defects, if any. This is a mandatory reporting requirement under the auditor's report, making the given statement TRUE.

Question 6

SA 520 deals with the auditor's use of analytical procedures as 'substantive procedures' ('substantive analytical procedures'), and as procedures near the end of the audit, that assist the auditor in preparation of the financial statements.

Accepted Answer

**Answer: FALSE**

While the first part of the statement is correct, the second part is inaccurate. SA 520 - Analytical Procedures does deal with substantive analytical procedures used by the auditor during the audit. However, analytical procedures near the end of the audit (final analytical review) do not assist the auditor in preparation of the financial statements. Instead, they assist the auditor in drawing conclusions about whether the financial statements are consistent with the auditor's understanding of the entity and in identifying any unusual items or relationships requiring further investigation. The preparation of financial statements is the responsibility of management, not the auditor. The auditor's role is to audit and verify the financial statements already prepared by management, not to prepare them.

Question 7

Misappropriation of assets is often accompanied by false or misleading records or documents in order to conceal the fact that the assets are missing or have been pledged with proper authorization.

Accepted Answer

**Answer: True** Misappropriation of assets is indeed often accompanied by false or misleading records and documents. The perpetrator creates, alters, or falsifies financial records and supporting documentation to conceal the unauthorized taking of assets and to prevent detection. This concealment through fraudulent records is a characteristic feature of asset misappropriation schemes (also termed embezzlement). The falsified documentation may involve forged invoices, altered payment records, fictitious transactions, or manipulation of inventory records to hide the missing or diverted assets.

Question 8

Materiality is not a matter of size.

Accepted Answer

**Answer: True**

Materiality is not a matter of size alone. While quantitative factors such as the magnitude of a transaction or balance are important, materiality is a multifaceted concept that encompasses both **quantitative** and **qualitative** considerations.

According to SA 320 (Materiality in Planning and Performing an Audit), the auditor must consider both monetary thresholds and qualitative factors when determining materiality. An item may be immaterial in terms of amount but materially significant due to its qualitative nature, such as:

• **Nature and regulatory significance**: Violations of laws or regulations, even if small in amount, may be material.
• **Related party transactions**: Could influence economic decisions despite modest size.
• **Fraud**: Even minor amounts involving fraud are materially significant.
• **Impact on key metrics**: Items affecting critical financial ratios, performance indicators, or contractual covenants are material regardless of size.
• **Disclosure requirements**: Non-monetary items essential for fair presentation.
• **Liquidity and solvency**: Items affecting an entity's ability to meet obligations.

Therefore, professional judgment must be exercised to assess materiality considering the circumstances, context, and the likely influence on the economic decisions of financial statement users. Size alone is an insufficient criterion.

Question 9

G Pvt Ltd. had fully paid up Capital and Reserves of ₹ 1,20 crore as at the end of F.Y 2020-2021. During the F.Y 2021-2022, business was interrupted due to Covid restrictions and due to the company recording losses to the tune of ₹ 25 lacs. During the year, the company also borrowed ₹ 55 lakh each from a bank and a financial institution independently. It had a turnover of ₹ 850 lakh with after-tax turnover of ₹ 250 lakh from discontinuing operations). Ascertain whether CARO, 2020 is applicable to the company.

Accepted Answer

**CARO 2020 Applicability:**

CARO 2020 (Companies (Auditor's Report) Order, 2020) applies to every company which during a financial year or any of the three immediately preceding financial years has:

1. **Turnover exceeding ₹ 50 crore**, OR
2. **Capital and Reserves exceeding ₹ 1 crore**

**Analysis for G Pvt Ltd. (FY 2021-2022):**

**Turnover Test:** The turnover in FY 2021-2022 is ₹ 850 lakh (₹ 8.5 crore), which is **less than ₹ 50 crore**. No information is provided for preceding financial years, so this criterion cannot be confirmed from available data.

**Capital and Reserves Test:**
• Capital and Reserves at end of FY 2020-2021: ₹ 1,20 crore
• Less: Loss during FY 2021-2022: ₹ 25 lacs
• Capital and Reserves at end of FY 2021-2022: ₹ 1,19,75,00,000 (approx. ₹ 1,19.75 crore)

The Capital and Reserves **exceed ₹ 1 crore**, which satisfies the prescribed threshold.

**Additional Considerations:**
The borrowings of ₹ 55 lakh from the bank and ₹ 55 lakh from the financial institution (total ₹ 1.10 crore) are **not relevant** for determining CARO 2020 applicability, as the test is based on **Capital and Reserves**, not on borrowed funds or liabilities.

**Conclusion:** CARO 2020 **is applicable** to G Pvt Ltd. because its Capital and Reserves exceed ₹ 1 crore, satisfying one of the prescribed applicability criteria under CARO 2020.

Question 10

Tree Limited presented its financial statements for the F.Y. 2021-2022 to its auditor for expressing an opinion thereon. The auditor while carrying out the audit started comparing various items of profit and loss account of the year under audit with previous financial years. What is auditor trying to achieve by carrying out these comparisons?

Accepted Answer

The auditor conducting comparative analysis of profit and loss account items between the current financial year (2021-2022) and previous years is attempting to achieve the following key objectives:

**Identification of Unusual Trends and Significant Variations** - By comparing corresponding items across multiple years, the auditor seeks to identify significant, unusual or unexpected fluctuations in revenue, expenses, or other P&L items. These variations may signal potential errors, omissions, or irregularities requiring further investigation.

**Assessment of Reasonableness of Financial Figures** - The auditor uses comparative data to evaluate whether the current year's figures are reasonable and consistent with prior performance and known business circumstances. Figures that deviate significantly without logical explanation warrant deeper audit scrutiny.

**Risk Identification and Audit Planning** - Comparative analysis helps the auditor identify high-risk areas and unusual relationships between accounts that may contain errors or misstatements. This facilitates more targeted and efficient planning of audit procedures, allowing the auditor to direct resources toward areas of greatest concern.

**Understanding Business Performance and Industry Trends** - The comparison helps the auditor understand the entity's operational performance, profitability trends, and whether changes align with the industry environment and management's strategies. This provides context for assessing …

Question 11

CA N is the auditor of SR Ltd. The auditor expressed his opinion on the financial statements without ascertaining as to whether the financial statements as a whole were free from misstatements or not. In your opinion, whether CA N has complied with objectives of audit considering the applicability of relevant SA?

Accepted Answer

**No, CA N has NOT complied with the objectives of audit as per applicable Standards on Auditing.**

As per **SA 200 'Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with Standards on Auditing'**, the overall objectives of an auditor are: (i) to obtain reasonable assurance about whether the financial statements as a whole are free from material misstatement, whether due to fraud or error; and (ii) to report on the financial statements and communicate as required by the SAs in accordance with the auditor's findings.

The express obligation of an auditor is to **ascertain and determine whether the financial statements are free from material misstatement** before expressing an opinion. This ascertainment is the core objective of the audit function. By expressing an opinion on the financial statements without ascertaining whether they are free from misstatements, CA N has failed to perform the fundamental audit objective. An auditor's opinion is only valid when it is based on sufficient appropriate audit evidence obtained through planned audit procedures. The absence of this ascertainment means CA N has not fulfilled the mandatory requirement under SA 200 and has rendered an opinion without a proper basis, which constitutes a violation of audit standards. This approach exposes the auditor to significant audit risk and professional liability.

Question 12

Compute the Drawing Power for Cash Credit A/c of S Limited for the month of March 2022 with following information: Stock ₹ 50,000; Debtors ₹ 45,000 (Including Debtor of ₹ 5,000 for an invoiced dated 17.11.2021); Sundry creditors ₹ 15,000; Sanctioned Limit ₹ 45,000; Margin on stock is 20% and on debtors is 50%. Note: Debtors older than 3 months are ineligible for calculation of DP

Accepted Answer

**Drawing Power (DP) for Cash Credit A/c of S Limited — March 2022**

**Step 1 — Eligibility of Debtors:** The debtor of ₹5,000 with invoice dated 17.11.2021 is **older than 3 months** as on March 2022 (November 2021 to March 2022 = approx. 4+ months). Hence, this debtor is **ineligible** for DP computation.

**Eligible Debtors** = ₹45,000 − ₹5,000 = **₹40,000**

**Step 2 — Net Stock (after deducting Sundry Creditors):** Sundry Creditors represent the creditor-funded portion of stock and must be deducted before applying margin.

Net Stock = ₹50,000 − ₹15,000 = **₹35,000**

**Step 3 — DP on Stock:** Margin = 20%, so bank finances 80% of Net Stock.

DP on Stock = ₹35,000 × 80% = **₹28,000**

**Step 4 — DP on Debtors:** Margin = 50%, so bank finances 50% of eligible debtors.

DP on Debtors = ₹40,000 × 50% = **₹20,000**

**Step 5 — Gross Drawing Power:** ₹28,000 + ₹20,000 = **₹48,000**

**Step 6 — Final Drawing Power:** DP cannot exceed the **Sanctioned Limit** of ₹45,000.

**Drawing Power = ₹45,000** (lower of ₹48,000 and sanctioned limit of ₹45,000)

Question 13

P Ltd is a company from a business group 'ABCD' and is engaged in trading of garments. The promoters of the company are promoters and directors of some other group companies also. You have been appointed as an auditor of P Ltd. P Ltd has entered into various inter-company transactions (within group companies) during the year which are outside its normal course of business.

Accepted Answer

**Part (a): Duties of Auditor in Inter-Company Transactions**

As the auditor of P Ltd, the following duties must be performed with respect to inter-company transactions:

**1. Identification and Scrutiny:** The auditor must identify all inter-company transactions entered into during the year, especially those which are outside the normal course of business. Such transactions need heightened scrutiny as they may be used to manipulate financials or siphon funds.

**2. Related Party Transactions (SA 550):** Under **SA 550 – Related Parties**, the auditor must obtain sufficient appropriate audit evidence regarding the identification and disclosure of related party relationships and transactions. Since the promoters are also directors of other group companies, such companies qualify as related parties under **Section 2(76) of the Companies Act, 2013** and **AS 18 – Related Party Disclosures**.

**3. Verification of Terms:** The auditor must verify whether these transactions are at arm's length or conducted at preferential terms. Transactions outside normal business lacking commercial rationale are a red flag indicating possible fraud.

**4. Compliance with Section 188:** Under **Section 188 of the Companies Act, 2013**, related party transactions require prior approval of the Board and, if the company is listed or transactions exceed prescribed thresholds, approval of shareholders by ordinary resolution. The auditor must verify whether such approvals were obtained.

**5. Reportin…

Question 14

Various scenarios related to auditor responsibilities and audit procedures

Accepted Answer

**(a) Consequences for CA B under Companies Act, 2013**

CA B's conduct — acting unlawfully to deceive/gain advantage and abetting directors in committing crimes — attracts severe consequences under the **Companies Act, 2013**.

Under **Section 147(5) of the Companies Act, 2013**, if an auditor has, knowingly or willfully with intent to deceive, made or aided in making a false statement in any report or certificate, or has abetted any offence under the Act, such an auditor shall be **punishable under Section 447** (Punishment for Fraud). Accordingly:

- **Section 447** prescribes imprisonment for a term **not less than 6 months, extendable up to 10 years**, and a **fine not less than the amount involved in the fraud, extendable up to three times** such amount. Where the fraud involves public interest, minimum imprisonment is 3 years.
- The auditor shall also be **liable to refund the remuneration** received and **pay damages** to the company, statutory bodies or any other persons for loss suffered.
- Additionally, ICAI may initiate **disciplinary proceedings** under the Chartered Accountants Act, 1949, which may result in removal of name from the Register of Members.
- Under **Section 143(12)**, the auditor has a duty to report fraud to the Central Government; failure to do so compounds liability.

In essence, CA B faces criminal prosecution, financial penalties, civil liability for damages, and professional disqualification.

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**(b) Reasons Why Fraud is Committed — With …

Question 15

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

**Type of Error:** This is an **error of commission**, specifically a **posting error** or **error of wrong account classification**. The transaction was recorded but in the wrong personal account (Mr. B's instead of Mr. A's). This is a **two-sided error** because both debit and credit entries were made (maintaining trial balance balance), making it undetectable by trial balance verification.

**Why Trial Balance Will Not Detect This:** The error affects both sides of the double-entry system equally. The cash/bank account is correctly credited, but Mr. A's account is not debited (instead Mr. B's account is debited). Since total debits equal total credits, the trial balance will still tally, masking this error.

**Detection Method:** This error is detected through **account reconciliation**—specifically by matching the account statements provided by the respective parties with the company's records:

1. **Reconciliation with Mr. A's Statement:** Mr. A will report a credit due of ₹X that is not reflected in his account statement (since the amount was wrongly debited to Mr. B's account). This discrepancy revealed A's statement vs. company's books.

2. **Reconciliation with Mr. B's Statement:** Mr. B will receive a debit entry for an amount he never paid, creating a discrepancy in his statement.

3. **Source Document Verification:** Checking the original receipt/payment document against both account entries will reveal the mismatch.

**Example 1:** Recording a payment made to sup…

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