19-1
Chapter 19
Completing the Tests in the
Acquisition and Payment Cycle:
Verification of Selected Accounts
Concept Checks
P. 645
1. The reason for the emphasis on current period acquisitions in auditing
property, plant, and equipment is that there is an expectation that
show that all disposals have been recorded, additional testing of the prior
balance could be required. A first–year audit also necessitates tests of the
beginning balance.
2. In testing depreciation expense, the auditor is primarily concerned with
the accuracy balance–related objective, including whether the client has
followed a consistent policy from period to period.
P. 653
1. The evaluation of the adequacy of insurance is a test of reasonable
protection against the loss of existing assets. The verification of prepaid
insurance is performed to determine whether:
at actual cost.
Amortization or write–off is reasonable under the circumstances.
The evaluation of adequacy of insurance coverage is more
2. Property tax accruals take little audit time for most audits, and since
there are relatively few transactions to test and they are typically material
19-2
Concept Check, P. 645 (continued)
3. The analysis of expense accounts is a procedure by which selected
account analysis is on the occurrence of recorded amounts, accuracy,
and classification.
engagements are:
1. Legal expense
2. Travel and entertainment expense
3. Tax expense
4. Repair and maintenance expense
Review Questions
included in Table 19–1 on page 637.
19–2 Because the source of the debits in the asset account is the acquisitions
journal (or similar record), the current period acquisitions of property, plant, and
equipment have already been partially verified as part of the acquisition and
19–3 Many clients may accidentally or intentionally record purchases of
assets in the repair and maintenance account. The misstatement is caused by a
lack of understanding of accounting standards and some clients’ desire to
avoid income taxes. Repair and maintenance accounts are verified primarily to
and assets.
The auditor typically vouches the larger amounts debited to those
19-3
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19–4 The audit procedures that may be applied to determine that all property,
plant, and equipment retirements have been recorded are as follows:
1. Review whether newly acquired assets replace existing assets
the books.
2. Analyze gains on the disposal of assets and miscellaneous income
removed from the books.
4. Make inquiries of management and production personnel about
the disposal of assets.
19–5 In developing an expectation for depreciation expense, the auditor
multiplies the undepreciated balance by the appropriate depreciation rate. The
auditor may also need to consider additional factors to improve the precision of
the expectation, such as:
In most cases, the auditor can develop an expectation that is
sufficiently precise to reduce or eliminate the need for detailed tests of
depreciation expense. Although most detailed tests can be eliminated, the
19–6 Since the source of the debits to prepaid insurance is the acquisitions
journal or similar record (assuming all insurance premiums are charged to
prepaid insurance rather than insurance expense), the current period premiums
amount of audit time because:
1. The balance in prepaid insurance is normally immaterial;
2. There are ordinarily few transactions during the year and most
transactions are immaterial;
3. The transactions are ordinarily not complex.
19-4
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19–8 The audit of prepaid expenses differs from the audit of other asset
accounts, such as accounts receivable or property, plant, and equipment,
because prepaid expenses are often immaterial. Substantive analytical
procedures are often sufficient for auditing prepaid expenses, while tests of
details of balances are usually required for other accounts such as accounts
receivable and property, plant, and equipment.
19–9 Debits to accrued rent arise from the cash disbursements journal, which
is verified as a part of tests of controls and substantive tests of transactions for
cash disbursements. The credits typically arise from the general journal and
19–10 The following documents will be used to verify accrued property taxes
and related expense accounts:
1. Deeds to properties
2. Property tax returns
3. Cancelled checks
4. Invoices from the taxing authority
1. Property tax expense
2. Payroll expense
3. Rent expense
Three expense accounts that are not directly verified as part of either of
these cycles are:
and substantive tests of transactions as for expense account analysis.
The major differences are that tests of controls and substantive tests of
transactions are selected from all of the acquisitions and cash disbursements
journals for the entire period, whereas transactions examined for expense
account analysis is implied.
19-5
19–13 The approach for verifying depreciation expense should emphasize the
consistency of the method of depreciation used and the related computations,
themselves large or unusual is the normal audit approach followed.
The approach is different because in repairs and maintenance the primary
analyze an account balance are:
1. The analytical procedures indicate there is a high likelihood of
misstatement in an account.
2. The tests of controls and substantive tests of transactions indicate
there is a high likelihood of misstatement in an account.
or misstatement.
5. The analysis of the account might disclose a contingency.
6. Tax returns and the SEC require the disclosure of certain information,
which the account is likely to provide.
Multiple Choice Questions From CPA Examinations
19–15 a. (1) b. (3) c. (4)
19-6
Discussion Questions and Problems
19–19
ITEM
NO.
INTERNAL CONTROL
SUBSTANTIVE
AUDIT PROCEDURE
1
Have office manager periodically
report to the accounting department
whether or not there have been
abandonments or replacements.
Trace from equipment recorded
on the accounting records to the
equipment.
2
Internally verify charges for
depreciation expenses.
Compare depreciation expense
for administration and
manufacturing to previous
years.
3
Use of government study
depreciation tables.
Compare to government study
depreciation table.
4
Establish a policy for deciding which
items require capitalization and
establish an internal verification
procedure.
Test all expense charges to these
accounts that exceed a certain
amount.
5
Require internal verification in the
recording of property acquisitions.
Compare supporting
documentation on property
acquisitions to the recorded
value.
6
Require the deposit of all cash
directly into the bank account.
(1) Confirm loans with the bank
and perform other tests for
unrecorded loans.
(2) Examine plant asset additions
and agree to recorded
amounts and date.
7
Assign tools to individual foreman
and periodically count the tools.
Check the client’s physical count
of the tools.
19–20
a.
PURPOSE
b.
TEST OF CONTROL
TO TEST FOR
EXISTENCE OF CONTROL
c.
SUBSTANTIVE
PROCEDURE TO TEST
FOR MISSTATEMENTS
1. To minimize
accounting
classification
misstatements.
(Classification)
Verify that written policies
exist.
Examine supporting
documentation for
transactions to
determine if policies
are followed for
account classification.
2. To assure that
recording asset
misstatements are
minimized.
(Existence,
completeness)
Verify that master file exists
and is used.
Physically examine
fixed assets and trace
to master file. Vouch
items in the master
file to actual fixed
assets.
3. To minimize improper
purchases.
(Existence)
Examine a sample of
purchase invoices of fixed
assets in excess of
$50,000 for Board of
Directors’ approval.
Examine a sample of
purchase invoices of
fixed assets for
propriety and
reasonableness.
4. To provide a record of
fixed assets and
protect against their
loss. (Completeness
and existence)
Examine the company’s
physical count of
equipment that compares
tags on the equipment to
records of tags.
Trace a sample of
recorded equipment
to the related
equipment to make
sure it exists.
5. To minimize
depreciation
calculation and
recording
misstatements.
(Accuracy)
Examine records for
indication of periodic
verification of master file.
Test calculations and
postings of
depreciation charges.
19-8
19–21
ITEM
NO.
c. & d.
OBJECTIVE(S)
1
Occurrence
Accuracy
Classification
2
Occurrence
3
Completeness
Cutoff
Accuracy
4
Inspection of external
documentation
Test of control and
Substantive test of
transactions
Occurrence
Accuracy
Timing
Classification
5
Posting and
summarization
6
Existence
Completeness
Accuracy
Cutoff
7
Completeness
8
Existence
Realizable Value
9
Existence
Completeness
Accuracy
10
Completeness
Accuracy
11
Completeness
Timing
Accuracy
12
Accuracy
19-9
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19–22 a. The amounts listed in the beginning balance column would be
verified by examining the ending audited balances in the prior
year audit files. Each ending balance for land, building–office,
production equipment, office equipment, and IT hardware would
be verified in addition to the mathematical accuracy of the
beginning balance column.
b. To obtain evidence about the items in the additions column, the
auditor would obtain detailed information of what individual
additions comprise the additions amount for each account category.
approvals noted in board of director minutes or on purchase
orders. The auditor should be alert for whether an addition to
these accounts is associated with the disposal of an existing asset
that should be considered as part of the steps in c. below.
b. are included as disposals in this schedule.
d. The auditor would verify the mathematical accuracy of the
summation of the beginning balances plus additions less disposals
balance sheet.
e. The following accounts may be affected by additions and disposals
of property, plant, and equipment:
also impact interest and depreciation expense accounts.
19–10
19–22 (continued)
19–23
a.
PURPOSE
b.
EVALUATION OF ADEQUACY
1. To assure that the client’s detailed
schedule equals the total in the general
ledger. (Detail tie–in)
This procedure is necessary as a
starting point to perform detailed
tests.
2. To assure that taxes on property
included on the schedule of accrued
taxes are not over– or underpaid.
(Accuracy)
This procedure is adequate for its
purpose.
3. To assure that the accrued/prepaid
account is correctly stated. (Accuracy)
This procedure is adequate for its
purpose.
19–24
LIABILITY THAT
COULD BE UNCOVERED
AUDIT PROCEDURE
TO UNCOVER LIABILITY
a. Contingent liability related to a
lawsuit
Review minutes of the Board of
Directors’ meetings.
b. Building used as collateral for a loan
or a mortgage tied to the building’s
purchase
Examine documents of ownership to
determine if the loan is collateralized
and send confirmations to major banks.
c. Unrecorded lease
Examine lease agreements.
d. Note payable
Examine underlying records for loans
related to the interest expense and
send confirmations to major banks.
e. Loan by borrowing against an
insurance policy
Obtain a confirmation from the life
insurance company.
f. Note payable
Obtain confirmation from bank for loans.
g. Income taxes payable for
nondeductible expenses
Examine a sample of travel and
expense reports to make sure they
comply with IRS requirements.