Last week, the International Auditing and Assurance Standards Board (IAASB) proposed significantly strengthened standards on auditors’ responsibilities relating to fraud.

The IAASB said “recent corporate failures throughout the world have underscored the benefits of clarifying and enhancing the role of auditors in responding to fraud and suspected fraud as a means of enhancing public trust in financial reporting”.

IAASB Chair Tom Seidenstein emphasized that the proposed revisions define the expectations in relation to fraud, delineate more robust procedures, and increase transparency about the auditors’ responsibilities and fraud-related procedures in the auditor’s report.

“By catching and communicating noncompliance sooner, auditors can help companies course correct and better protect investors from risk.”

Erica Y Williams, Chair, PCAOB

“While many participants in the financial reporting ecosystem, particularly management and those charged with governance, have a role in preventing fraud, our standard focuses on the key role that auditors play. While auditors are not policemen, they can and must play a role in identifying and responding to material misstatements of the financial statements due to fraud and communicating their work to users. This proposed standard is an important step forward,” said Seidenstein.

Key changes in the proposed revisions

The proposed revisions to The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial Statements, include:

1. Clarified auditor responsibilities relating to fraud in an audit.
2. Emphasized professional skepticism to ensure auditors remain alert to possible fraud and exercise professional skepticism throughout an audit.
3. Strengthened identification and assessment of risks of material misstatement due to fraud.
4. Clarified response to fraud or suspected fraud identified during the audit.
5. Increased ongoing communication with management and those charged with governance about fraud.
6. Increased transparency about auditors’ responsibilities and fraud-related procedures in the auditor’s report.
7. Enhanced audit documentation requirements about fraud-related procedures.

Management and “those charged with governance” have primary responsibility for preventing and identifying fraud, the IAASB said in its proposal. At the same time, the board said it “believes that the focus of an auditing standard relating to fraud in an audit of financial statements should be on the role and responsibilities of the auditor”.

Auditors should remain alert for fraud throughout the full course of their work, the IAASB said. Vigilance is especially important “near the end of the audit when time pressures to complete the audit engagement may exist that may impede the appropriate exercise of professional skepticism”. After detecting signs of fraud, auditors should pursue “robust, two-way communication” with management or others with governance roles, assigning responsibility to specific members of the engagement team, IAASB said.

The proposed changes to responsibilities in identifying fraud also aim to improve an auditor’s ability to determine which types of revenue, revenue transactions or assertions highlight risks of material restatement because of bogus bookkeeping. And by setting international standards, the IAASB seeks to align global and national rules and ensure both quality and consistency, the board said.

Comments on the proposal are due by June 5.

Enhanced auditor obligations

The IAASB develops auditing and assurance standards and guidance for use by all professional accountants under a shared standard-setting process involving the Public Interest Oversight Board (PCAOB) – the US-based agency that oversees the activities of the internationally-focused IAASB.

In June, the PCAOB proposed new standards seek to enhance auditor obligations related to a company’s noncompliance with laws and regulations by establishing (among other things) specific requirements for auditors to proactively identify the laws and regulations that are applicable to the company and that could have a material effect on the financial statements. The proposal also makes explicit that financial statement fraud is a type of noncompliance with laws and regulations.

“By catching and communicating noncompliance sooner, auditors can help companies course correct and better protect investors from risk,” said the PCAOB Chair Erica Y Williams as the regulator issued the proposal for public comment.