What is Auditing?
The purpose of auditing is to perform an objective examination and evaluation of the financial statements of an organization or an individual to make sure that their records are a fair and accurate representation of the transactions they claim to represent. An audit can be conducted internally by employees of a business or an outside firm. Having audits done by an outside party can be helpful as it removes any biases when it comes to the state of a company’s financials. Outside auditors can be candid about their findings without affecting daily work relationships.
In statements on a specific object, audits look for what is called a “material error”.
Audits are performed by the IRS to verify the accuracy of a taxpayer’s returns or other transactions. IRS audits usually carry a negative connotation and is seen as evidence of that the taxpayer did something wrong.
Most companies are audited once a year, while larger companies can receive monthly audits. With some companies, audits are legally required due to the compelling incentives intentionally misstate financial information in an attempt to commit fraud. For publicly traded companies, audits might be used as a resource to evaluate internal controls on financial reports.
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NOTE: FreshBooks Support team members are not certified income tax or accounting professionals and cannot provide advice in these areas, outside of supporting questions about FreshBooks. If you need income tax advice please contact an accountant in your area.
What Does a Financial Audit Consist Of?
Audits dig deep into a company’s financial situation by probing accounting records, internal controls, cash holdings and other sensitive financial areas. Understanding how to perform a financial audit on your own books can help you prepare for a possible external audit, keep your accounting records in order and discourage internal theft and fraud.
Here are the steps necessary to complete an audit.
1. Gather Financial Documents
Gather sales receipts, invoices and bank statements to forward to the accounting department for processing. Ensure you keep timely and reliable documentation because unreliable accounting records create discrepancies in a company’s financial records.
2. Examine Record-keeping
Review the company’s record-keeping policies to ensure records are being stored properly. Business should keep at least an electronic photocopy of cash register tapes, canceled checks, invoices and other financial documentation until the end of the current accounting period. Ensure that all archive records can be accessed quickly to shed light on any potential issues.
3. Review the Accounting System
Each element of a company’s accounting system, including individual T-accounts (debits and credits) journal entries, the general ledger and current financial statements all need to be identified and reviewed. Working through the accounting system systematically ensures that all necessary accounts are present, that T-accounts are posted to the general ledger in a timely manner and that the system has the ability to correct human errors, such as mathematical mistakes.
4. Review the Internal Control Policies
To gauge the level of protection a company provides against theft and fraud review their internal control policies. These policies include things like separation of accounting duties between different employees, locked safes for holding pending bank deposits and password-protected accounting software that tracks who does what and when.
5. Compare Internal and External Records
Look at internal records of cash holdings, income and expenses against external records. Review the company’s stored external records and compare selected transactions against internal records. Compare purchase receipts sent from suppliers for a certain month against internal purchase records. For example, compare cash register tapes against revenue recorded in your financial books.
6. Look at Tax Records
Take the time to analyze your company’s internal tax records and official tax returns. You should keep tax records for seven years to be safe. Browse your accounting records to compare tax receipts from the IRS against records of tax liabilities and taxes paid. Review the range of credits and deductions claimed on the most recent tax return and look for areas of uncertain reporting like inflated expense numbers.
What Exactly Does an Auditor Do?
Auditors prepare and examine financial records to ensure they are accurate and that taxes are paid properly and on time. They help businesses run more efficiently by assessing the financial operations of the business. In addition to examining and preparing financial documentation and written reports, auditors must explain their findings.
Auditors also do the following tasks:
- Make sure financial statements are accurate and comply with laws and regulations
- Calculates taxes owed, prepares tax returns and ensures that taxes are paid properly and on time
- Ensures account books and accounting systems are efficient and using accepted accounting practices
- Maintains and organizes financial records
- Assesses financial operations and suggests best-practice recommendations to management
There are many different types of auditors who work in specific organizations. Some specialize in assurance services or risk management. While others specialize in specific industries, such as healthcare.
What Is the Main Purpose of Auditing?
An audit’s purpose is to provide an objective independent examination of the financial statements of a business entity in accordance with applicable financial reporting frameworks like GAAP and IFRS. The findings of an auditor can enhance the credibility of the financial statements with users such as lenders, creditors and investors. Financial statements with a favorable audit are more likely to provide credit and funding for a business.