Special Features Of Audit Of Different Types Of Entities PDF

CHAPTER 9 SPECIAL FEATURES OF AUDIT OF DIFFERENT TYPES OF ENTITIES LEARNING OUTCOMES After studying this chapter, you would be able to: ♦ Understand about Government audit, duties of the Comptroller and Auditor General of India ♦ Understand the procedures to be adopted for auditing of Not-for-profit Organizations (NGOs), Charitable Institutions. ♦ Gain knowledge of auditing procedure of sole trader, firm, educational institutions, hospitals, clubs, cinema, hotels, etc. ♦ Learn the audit procedure of hire purchase and leasing company accounts. ♦ Identify the audit procedures of Government, Local Bodies, Cooperative Societies, LLPs, Trusts & Societies. ♦ Understand practicality of above concepts using examples and case studies. © The Institute of Chartered Accountants of India 9.2 AUDITING AND ETHICS CHAPTER OVERVIEW Government Audit Trusts & NGOs Societies Co-operative Local Society Bodies Hire Purchase Sole & Leasing Trader Companies Special Features of Audit of Charitable Different types Firm Institutions of Entities Hospital LLP Educational Hotel Institutions Cinema Club Hall © The Institute of Chartered Accountants of India Examine the constitution of the organisation Examine the bye laws or rules and regulations or trust deed Examine the powers of the members of the organisation management and other officers Constitution of the Examine the minute books of managing committees and of members general meeting as the case may be © The Institute of Chartered Accountants of India Hospital etc., are Evaluate the internal Control System in the organisation TYPES OF ENTITIES Audit of Different Entities SPECIAL FEATURES OF AUDIT OF DIFFERENT Examine the accounting policies followed and the accounting records maintained Check the various receipts of the organisation in the 9.3 form of fees, rent, income on investment, donations and (major points that must be kept in mind while performing the audit of Educational Institution, Charitable Institutions, Cinema, grants Check the various expenditures of the organization like Salary, Rent, General Expenses etc. Verification of assets and liabilities 9.4 AUDITING AND ETHICS Scrambling for his television remote one day, Sameer accidentally pushed button of “Sansad TV”. Although not fond of keenly watching Parliamentary debates, his attention was drawn to pandemonium being caused in one Houses of Parliament over a report of the Comptroller and Auditor General of India (CAG). Anxious to know about importance of reports of CAG, he wanted to first know about this constitutional office. What is nature of duties of Comptroller and Auditor General of India as envisaged in Constitution of India? What makes position of CAG unique? Astonished to learn that Comptroller and Auditor General is known as “Supreme Audit Institution of India”, he wanted to know more about scope of duties performed by such an important institution. Not only audits of receipts and expenditure of Union of India and States are performed by CAG of India, this institution is also responsible for audit of receipts and expenditure of bodies mainly financed by Union or State Revenues. Besides above, it is responsible for ensuring that public funds are being collected and used effectively and efficiently. Does CAG have a role to play in audits of government companies? What are law provisions in this regard? He was also thinking that Constitution must have included provisions to ensure independence of such an institution. What are such provisions? Knowing importance of local bodies governing cities, Sameer also wanted to know how control over expenditure of local bodies is exercised. Who exercises such control and what are main objectives of such an audit? How financial administration of such urban local bodies is run? Are there some other sets of entities which merit special audit considerations by virtue of their nature or structure? For example, an NGO works in a totally different environment. It may work in social or environmental areas. What critical points are to be kept in mind by auditor of an NGO? Similarly, clubs, hotels and hospitals may involve audit considerations peculiar to their nature of working. Sameer had also noticed sign boards of some organizations with LLP written at the end. What does it denote? How does it differ from a partnership firm? What are regulatory requirements in respect of LLP? As an auditor, what special considerations apply in case of audit of LLP? © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.5 TYPES OF ENTITIES 1. GOVERNMENT AUDIT 1.1 Background Government Audit is as old as organised governments and has fairly long pedigree even in developing countries. The concept, content and scope of government audit have developed in tune with the political, social and economic development of the countries. It has also responded to the needs of the administration. It aims to ensure accountability of the executive in respect of public revenue and expenditure. Primarily, the Parliament and in case of States, the State legislatures control all government expenditure through insistence upon demand for grants. The main idea underlying this control is that no expenditure can be incurred unless it has been voted upon by the Parliament or State Legislatures and funds for every such expenditure must be provided from out of the Consolidated Fund of India or of the State. (As per Article 266, the Consolidated Fund of India consists of all the revenue received from direct and indirect taxes, all the loans taken by the Govt. of India and all the amount of repayment of loans received by the Govt. of India) After the expenditure has been incurred and the accounts are closed, the Appropriation Accounts are prepared which are scrutinised by the Public Accounts Committee (The Public Accounts Committee (PAC) is a committee of selected members of parliament, constituted by the Parliament of India, for the purpose of auditing the revenue and the expenditure of the Government of India). Thus, Parliamentary or Legislative control is exercised before spending and after the expenditure is actually incurred. Since independence there has been a tremendous spurt in governmental activities with the attendant increase in expenditure, revenue and capital, and in receipts and borrowings to match the expenditure. Government has entered the business ﬁeld and government in business is not the same as government administering law and order and attending to regulatory functions. Independent India witnessed a steady growth of state commercial enterprise. The change in the character of government and the complex nature of its activities, including regulatory functions in an international environment called for a change in the nature and scope of audit. Audit has evolved from accountancy and regularity check to evaluation of the end results of the operations of government. © The Institute of Chartered Accountants of India 9.6 AUDITING AND ETHICS Initially, government auditing in India as elsewhere was primarily expenditure- oriented. Gradually, audit of receipts-tax and non-tax was taken up. With the rapid growth of public enterprises, another major area of specialisation, i.e., commercial audit, came into being. There are also a large number of non-commercial autonomous bodies ﬁnanced by government in diverse ﬁelds of development and of academic study and scientiﬁc or social research which are also required to be audited from the viewpoint of public accountability. Government audit has not only adopted the basic essentials of auditing as known and practised in the profession to suit the requirements of governmental transactions but has also added new concepts, techniques and procedures to the audit profession. The U.N. Handbook on Government Auditing and Developing Countries deﬁnes government auditing in a comprehensive manner which is as follows: Government auditing is ♦ the objective, systematic, professional and independent examination ♦ of ﬁnancial, administrative and other operations ♦ of a public entity ♦ made subsequently to their execution ♦ for the purpose of evaluating and verifying them, ♦ presenting a report containing explanatory comments on audit ﬁndings together with conclusions and recommendations for future actions ♦ by the responsible oﬃcials ♦ and in the case of examination of ﬁnancial statements, expressing the appropriate professional opinion regarding the fairness of the presentation. OBJECTIVES :- (a) Accounting for Public Funds:-Government audit serves as a mechanism or process for public accounting of government funds. (b) Appraisal of Government policies:-It also provides public accounting of the operational, management, programme and policy aspects of public administration as well as accountability of the oﬃcials administering them. © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.7 TYPES OF ENTITIES (c) Base for Corrective actions:-Audit observations based on factual data collection also serve to highlight the lapses of the lower hierarchy, thus helping supervisory level oﬃcers to take corrective measures. Administrative accountability:-Government audit is neither equipped nor intended to function as an investigating agency, to pursue every irregularity or misdemeanour to its logical end. The main objective of audit is a combination of ensuring accountability of administration to legislature and functioning as an aid to administration. In India, the function of Government Audit is discharged by the independent statutory authority of the Comptroller and Auditor General through the agency of the Indian Audit and Accounts Department. Audit is a necessary function to ensure accountability of the executive to Parliament, and within the executives of the spending agencies to the sanctioning or controlling authorities. The purpose or objectives of audit need to be tested at the touchstone of public accountability. The Comptroller and Auditor General (C&AG), in the discharge of his functions, watches that the various authorities act in regard to ﬁnancial matters in accordance with the Constitution and the laws made by Parliament, and conform to the rules or orders made thereunder. 1.2 Legal Framework and Comptroller & Auditor General The Constitution of India contains speciﬁc provisions regarding the appointment, salary and duties and powers of the C&AG. 1. APPOINTMENT & REMOVAL The Constitution guarantees the independence of the C&AG of India by prescribing that he shall be appointed by the President of India and shall not be removed from oﬃce except on the ground of proven mis-behaviour or incapacity. As in the case of a Judge of the Supreme Court, he can be removed only when each House of Parliament decides to do so by a majority of not less than 2/3rd of the members of the House present and voting. The Parliament is competent to make laws to determine salary and other conditions of service and they cannot be varied to his disadvantage after his appointment. The Constitution further provides that the conditions of service of person serving in the Indian Audit and Accounts Department and the administrative powers of the C&AG shall be determined by the President after consultation with him. © The Institute of Chartered Accountants of India 9.8 AUDITING AND ETHICS 2. TENURE The Comptroller & Auditor General’s (Duties, Powers and Conditions of Service) Act, 1971 passed in pursuance of the provisions of the Constitution lays down a ﬁxed tenure of the oﬃce prescribing that he shall be paid a salary which is equal to the salary of the Judge of the Supreme Court thereby further strengthening his independence. 3. VARIOUS CONSTITUTIONAL PROVISIONS i. Article 149 states that the C&AG shall perform such duties and exercise such powers in relation to the accounts of the Union and of the States and of any other authority or body as may be prescribed by or under any law made by the Parliament. The Comptroller & Auditor General’s (Duties, Powers and Conditions of Service) Act, 1971 deﬁnes these functions and powers in detail. ii. Article 150 of the Constitution provides that the accounts of the Union and of the States shall be kept in such form as the President may on the advice of the C&AG prescribe. iii. Article 151 requires that the reports of the C&AG relating to the accounts of the Union/State shall be submitted to the President/Governor who shall cause them to be laid before House of Parliament/State Legislature. 1.3 Comptroller and Auditor General’s — Duties and Powers The Comptroller & Auditor General’s (Duties, Powers and Conditions of Service) Act, 1971 deﬁnes functions and powers in detail. The relevant provisions are discussed hereunder— Duties of the C&AG: (i) Compile and submit Accounts of Union and States - The Comptroller and Auditor General shall be responsible for compiling the accounts of the Union and of each State from the initial and subsidiary accounts rendered to the audit and accounts oﬃces under his control by treasuries, oﬃces or departments responsible for the keeping of such account. The Comptroller and Auditor General shall, from the accounts compiled by him or [by the © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.9 TYPES OF ENTITIES Government or any other person responsible in that behalf] prepare in each accounts (including, in the case of accounts compiled by him, appropriation accounts) showing under the respective heads the annual receipts and disbursements for the purpose of the Union, of each State and of each Union Territory having a Legislative Assembly, and shall submit those accounts to the President or the Governor of a State or Administrator of the Union Territory having a Legislative Assembly, as the case may be, on or before such dates as he may, with the concurrence of the Government concerned, determine. NOTE :- The C&AG Act of 1971 has provisions for relieving him of this responsibility to give information and render assistance to the Union and States: The Comptroller and Auditor General shall, in so far as the accounts, for the compilation or keeping of which he is responsible, enable him so to do, give to the Union Government, to the State Government or to the Governments of Union Territories having Legislative Assemblies, as the case may be, such information as they may, from time to time, require and render such assistance in the preparation of the annual ﬁnancial statements as they may reasonably ask for. (ii) General Provisions Relating to Audit - It shall be the duty of the Comptroller and Auditor General— (a) to audit and report on all expenditure from the Consolidated Fund of India and of each State and of each Union Territory having a Legislative Assembly and to ascertain whether the moneys shown in the accounts as having been disbursed were legally available for and applicable to the service or purpose to which they have been applied or charged and whether the expenditure conforms to the authority which governs it; (b) to audit and report all transactions of the Union and of the States relating to Contingency Funds and Public Accounts; (c) to audit and report on all trading, manufacturing and proﬁt and loss accounts and balance-sheets and other subsidiary accounts kept in any department of the Union or of a State. (iii) Audit of Receipts and Expenditure - Where anybody or authority is substantially ﬁnanced by grants or loans from the Consolidated Fund of © The Institute of Chartered Accountants of India 9.10 AUDITING AND ETHICS India or of any State or of any Union Territory having a Legislative Assembly, the Comptroller and Auditor General shall, subject to the provisions of any law for the time being in force applicable to the body or authority, as the case may be, audit all receipts and expenditure of that body or authority and to report on the receipts and expenditure audited by him. Meaning of Substantially financed :- Where the grant or loan to a body or authority from the Consolidated Fund of India or of any State or of any Union Territory having a Legislative Assembly in a ﬁnancial year is not less than ` 25 lakhs and the amount of such grant or loan is not less than 75% of the total expenditure of that body or authority, such body or authority shall be deemed, for this purpose to be substantially ﬁnanced by such grants or loans as the case may be. (iv) Audit of Grants or Loans - Where any grant or loan is given for any speciﬁc purpose from the Consolidated Fund of India or of any State or of any Union Territory having a Legislative Assembly to any authority or body, not being a foreign State or international organisation, the Comptroller and Auditor General shall scrutinise the procedures by which the sanctioning authority satisﬁes itself as to the fulﬁllment of the conditions subject to which such grants or loans were given and shall for this purpose have right of access, after giving reasonable previous notice, to the books and accounts of that authority or body. (v) Audit of Receipts of Union or States - It shall be the duty of the Comptroller and Auditor General to audit all receipts which are payable into the Consolidated Fund of India and of each State and of each Union Territory having a Legislative Assembly and to satisfy himself that the rules and procedures in that behalf are designed to secure an eﬀective check on the assessment, collection and proper allocation of revenue and are being duly observed and to make for this purpose such examination of the accounts as he thinks ﬁt and report thereon. (vi) Audit of Accounts of Stores and Inventory - The Comptroller and Auditor General shall have authority to audit and report on the accounts of stores and inventory kept in any oﬃce or department of the Union or of a State. (vii) Audit of Government Companies and Corporations - The duties and powers of the Comptroller and Auditor General in relation to the audit of the © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.11 TYPES OF ENTITIES accounts of government companies shall be performed and exercised by him in accordance with the provisions of the Companies Act, 2013. The Comptroller and Auditor- General of India shall appoint the auditor under section 139(5) or 139(7) (i.e. appointment of First Auditor or Subsequent Auditor) and direct such auditor the manner in which the accounts of the Government company are required to be audited and thereupon the auditor so appointed shall submit a copy of the audit report to the Comptroller and Auditor-General of India which, among other things, include the directions, if any, issued by the Comptroller and Auditor-General of India, the action taken thereon and its impact on the accounts and ﬁnancial statement of the company. Powers of C&AG The C&AG Act gives the following powers to the C&AG in connection with the performance of his duties- (a) To inspect any oﬃce of accounts under the control of the Union or a State Government including oﬃce responsible for the creation of the initial or subsidiary accounts. (b) To require that any accounts, books, papers and other documents which deal with or are otherwise relevant to the transactions under audit, be sent to speciﬁed places. (c) To put such questions or make such observations as he may consider necessary to the person in charge of the oﬃce and to call for such information as he may require for the preparation of any account or report which is his duty to prepare. (d) In carrying out the audit, the C&AG has the power to dispense with any part of detailed audit of any accounts or class of transactions and to apply such limited checks in relation to such accounts or transactions as he may determine. 1.4 Expenditure Audit The audit of government expenditure is one of the major components of government audit. The basic standards set for audit of expenditure are to ensure that there is provision of funds authorised by competent authority ﬁxing the limits © The Institute of Chartered Accountants of India 9.12 AUDITING AND ETHICS within which ex-penditure can be incurred. These standards are— (i) that the expenditure incurred conforms to the relevant provisions of the statutory enactment and in accordance with the Financial Rules and Regulations framed by the competent authority. Such an audit is called as the audit against ‘rules and orders’. (ii) that there is sanction, either special or general, accorded by competent authority authorising the expenditure. Such an audit is called as the audit of sanctions. (iii) that there is a provision of funds out of which expenditure can be incurred and the same has been authorised by competent authority. Such an audit is called as audit against provision of funds. (iv) that the expenditure is incurred with due regard to broad and general principles of ﬁnancial propriety. Such an audit is also called as propriety audit. (v) that the various programmes, schemes and projects where large ﬁnancial expenditure has been incurred are being run economically and are yielding results expected of them. Such an audit is termed as the performance audit. Each of the above audits is discussed in detail in the following paragraphs. (1) Audit against Rules & Orders - Audit against rules and orders aims to ensure that the expenditure conforms to the relevant provisions of the Constitution and of the laws and rules made thereunder. It also seeks to satisfy that the expenditure is in accordance with the ﬁnancial rules, regulations and orders issued by a competent authority. Audit of expenditure against regularity is of a quasi-judicial type of work performed by the audit authorities. It involves interpretation of the Constitution, statutes, rules, regulations and orders. The ﬁnal power of interpretation of these, however, does not vest with the C&AG. These rules, regulations and orders against which regularity audit is conducted mainly fall under the following categories: (i) Rules and orders regulating the powers to incur and sanction expenditure from the Consolidated Fund of India or of a State (and the Contingency Fund of India or of a State); (ii) Rules and orders dealing with the mode of presentation of claims against government, withdrawing moneys from the Consolidated Fund, Contingency Fund and Public Accounts of the Government of the India and of the States, and in general the ﬁnancial rules prescribing the detailed procedure to be © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.13 TYPES OF ENTITIES followed by government servants in dealing with government transactions; and (iii) Rules and orders regulating the conditions of service, pay and allowances, and pensions of government servants. It is the function of the executive government to frame rules, regulations and orders, which are to be observed by its subordinate authorities. The job of audit is to see that these rules, regulations and orders are applied properly by the subordinate authorities. It is, however, not the function of audit to prescribe what such rules, regulations and orders shall be. But, it is the function of audit to carry out examination of the various rules, regulations and orders issued by the executive authorities to see that: (a) they are not inconsistent with any provisions of the Constitution or any laws made thereunder; (b) they are consistent with the essential requirements of audit and accounts as determined by the C&AG; (c) they do not come in conﬂict with the orders of, or rules made by, any higher authority; and (d) in case they have not been separately approved by competent authority, the issuing authority possesses the necessary rule-making power. (2) Audit of sanctions - The auditor has to ensure that each item of expenditure is covered by a sanction, either general or special, of the competent authority. The audit of sanctions is directed both in respect of ensuring that the expenditure is properly covered by a sanction, and also to satisfy that the authority sanctioning it is competent for the purpose by virtue of the powers vested in it by the provisions of the Constitution and of the law, rules or orders made thereunder, or by the rules of delegation of ﬁnancial powers made by an authority competent to do so. (3) Audit against provision of funds - Audit against provision of funds aims at ascertaining that the expenditure incurred has been on the purpose for which the grant and appropriation had been provided and that the amount of such expenditure does not exceed the appropriation made. © The Institute of Chartered Accountants of India 9.14 AUDITING AND ETHICS (4) Propriety audit - According to ‘Propriety audit’, the auditors try to bring out cases of improper, avoidable, or ineffective expenditure even though the expenditure has been incurred in conformity with the existing rules and regulations. With the passage of time, it was felt that regularity audit alone was not suﬃcient to protect properly the public interest in the spending of money by the executive authorities. A transaction may satisfy all the requirements of regularity audit insofar as the various formalities regarding rules and regulations are concerned, but may still be highly wasteful. e.g.:- A building may be constructed for installing a telephone exchange but may not be used for the same purpose resulting in unproductive expenditure or a school building may be constructed but used after ﬁve years of its completion is a case of avoidable expenditure. Audit should, therefore, try to secure a reasonably high standard of public ﬁnancial morality by looking into the wisdom, faithfulness and economy of transactions. These considerations have led to the evolution of audit against propriety which is now being combined by the audit authorities with their routine function of regularity audit. It is hard to frame any precise rules for regulating the course of audit against propriety. Such an objective of audit depends for its acceptance on its appeal to the common sense and straight logic of the auditors and of those whose ﬁnancial transactions are subjected to propriety audit. However, some general principles have been laid down in the Audit Code, which have for long been recognised as standards of ﬁnancial propriety. Audit against propriety seeks to ensure that expenditure conforms to these principles which have been stated as follows: (a) The expenditure should not be prima facie more than the occasion demands. Every public oﬃcer is expected to exercise the same vigilance in respect of expenditure incurred from public moneys as a person of ordinary prudence would exercise in respect of expenditure of his own money. (b) No authority should exercise its powers of sanctioning expenditure to pass an order which will be directly or indirectly to its own advantage. (c) Public moneys should not be utilised for the beneﬁt of a particular person or section of the community unless: (i) the amount of expenditure involved is insigniﬁcant; or (ii) a claim for the amount could be enforced in a Court of law; or © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.15 TYPES OF ENTITIES (iii) the expenditure is in pursuance of a recognised policy or custom; and (iv) the amount of allowances, such as travelling allowances, granted to meet expenditure of a particular type should be so regulated that the allowances are not, on the whole, sources of proﬁt to the recipients. Note :- It is the responsibility of the executive departments to enforce economy in public expenditure. The function of audit is to bring to the notice of the proper authorities of wastefulness in public administration and cases of improper, avoidable and ineffective/unproductive expenditure (5) Performance audit - The scope of audit has been extended to cover eﬃciency, economy and eﬀectiveness audit or performance audit, or full scope audit:- Eﬃciency audit looks into whether the various schemes/projects are executed and their operations conducted economically and whether they are yielding the results © The Institute of Chartered Accountants of India 9.16 AUDITING AND ETHICS expected of them, i.e., the relationship between goods and services produced and resources used to produce them; and examination aimed to ﬁnd out the extent to which operations are carried out in an economical and eﬃcient manner. Economy audit looks into whether government have acquired the ﬁnancial, human and physical resources in an economical manner, and whether the sanctioning and spending authorities have observed economy. Eﬀectiveness audit is an appraisal of the performance of programmes, schemes, projects with reference to the overall targeted objectives as well as eﬃciency of the means adopted for the attainment of the objectives. Eﬃciency- cum-performance audit, wherever used, is an objective examination of the ﬁnancial and operational performance of an organisation, programme, authority or function and is oriented towards identifying opportunities for greater economy, and eﬀectiveness. The procedure for conducting performance audit covers ♦ identiﬁcation of topic, ♦ preliminary study, ♦ planning , ♦ execution of audit, and ♦ reporting. 1.5 Audit of Receipts The audit of receipts is neither all pervasive or as old as audit of expenditure but has come to stay in some countries. Such an audit provides for checking; (i) whether all revenues or other debts due to government have been correctly assessed, realised and credited to government account by the designated authorities; (ii) whether adequate regulations and procedures have been framed by the department/agency concerned to secure an eﬀective check on assessment, collection and proper allocation of cases; (iii) whether such regulations and procedures are actually being carried out; © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.17 TYPES OF ENTITIES (iv) whether adequate checks are imposed to ensure the prompt detection and investigation of irregularities, double refunds, fraudulent or forged refund vouchers or other loss of revenue through fraud or willful omission or negligence to levy or collect taxes or to issue refunds; and (v) review of systems and procedures to see that the internal procedures adequately secure correct and regular accounting of demands collection and refunds and pursuant of dues up to ﬁnal settlement and to suggest improvement. The basic principle of audit of receipts is that it is more important to look at the general than on the particular, though individual cases of assessment, demand, collection, refund, etc. are important within the area of test check. A review of the judicial decisions taken by tax authorities is done to judge the eﬀectiveness of the assessment procedure. (vi) The extent and quantum of audit required to be done under each category of audit are determined by the C&AG. These are neither negotiable nor questioned. The prescribed extent and quantum of audit are structured in accordance with the design of test check, random sampling, general review, in-depth study of speciﬁed areas, etc. as may be warranted by the nature of transactions, its importance in the scheme of activities of a department and the totality of its transactions, the frequency of check and total plan of audit to be executed during a period. Institutional mechanism provides for primary check by the auditor, test check by the supervisor and control and direction by the group leader. Planning, executing and reporting of work is directed and monitored at middle and top levels of the audit hierarchy. There are built-in arrangements within the C&AG to ensure that the work assigned to each employee is carried out as prescribed. The audit is conducted both centrally where accounts and original vouchers are kept and locally where the drawing and disbursing functions are performed depending on the organisational and institutional arrangements obtaining. 1.6 Audit of Stores and Inventories Audit of the accounts of stores and inventories has been developed as a part of expenditure audit with reference to the duties and responsibilities entrusted to C&AG. Audit is conducted :- © The Institute of Chartered Accountants of India 9.18 AUDITING AND ETHICS ♦ to ascertain whether the Regulations governing purchase, receipt and issue, custody, sale and inventory taking of stores are well devised and properly carried out. ♦ to bring to the notice of the government any deﬁciencies in quantities of stores held or any defects in the system of control. ♦ to verify that the purchases are properly sanctioned, made economical and in accordance with the Rules for purchase laid down by the competent authority. ♦ to ensure that the prices paid are reasonable and are in agreement with those shown in the contract for the supply of stores, and that the certiﬁcates of quality and quantity are furnished by the inspecting and receiving units. Cases of uneconomical purchase of stores and losses attributable to defective or inferior quality of stores are speciﬁcally brought by the audit. ♦ to check the accounts of receipts, issues and balances regarding accuracy, correctness and reasonableness of balances in inventories with particular reference to the speciﬁed norms for level of consumption of inventory holding. Any excess or idle inventory is speciﬁcally mentioned in the report and periodical veriﬁcation of inventory is also conducted to ensure their existence. When priced accounts are maintained, the auditor should see that the prices charged are reasonable and have been reviewed from time to time. The valuation of the inventories is seen carefully so that the value accounts tally with the physical accounts and that adjustment of proﬁts or losses due to revaluation, inventory taking or other causes is carried out. 1.7 Audit of Commercial Accounts Public enterprises are required to maintain commercial accounts and are generally classiﬁed under three categories— (a) departmental enterprises engaged in commercial and trading operations, which are subject to the same laws, ﬁnancial and other regulations as other government departments and agencies; (b) statutory bodies, corporations, created by speciﬁc statutes mostly ﬁnanced by government in the form of loans, grants, etc.; and (c) government companies set up under the Companies Act, 2013. © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.19 TYPES OF ENTITIES The audit of :- departmental concerns is undertaken in the same manner as any department of government where commercial accounts are kept. statutory bodies or corporations depends on the nature and type of the statute governing the bodies or corporations. Financial / accounts audit is conducted by the C&AG, and where compilation of accounts is vested with the C&AG, functions, norms and standards of works usually followed by the professional auditors are adopted mutatis mutandis. government companies is conducted by their own auditors under the statute appointed by C&AG. In addition, the C&AG conducts a supplementary test audit of the accounts, as well as periodical ﬁnancial audit and appraisal of performance. The C&AG also issues direction to the company auditors for reporting on speciﬁc aspects of their audit work. These are reviewed, and condensed in the audit reports to the government/legislatures. C&AG has adopted the mechanism of an Audit Board-comprising of representatives of the audit and nominees of government including functional specialists to process reviews or appraisals on performance. Role of C&AG is prescribed under sub section (5), (6) and (7) of section 143 of the Companies Act, 2013. (1) Power to appoint Government Company Auditor :- Section 143(5) of the Act states that, in the case of a Government company or any other company owned or controlled, directly or indirectly, by the Central Government, or by any State Government or Governments, or partly by the Central Government and partly by one or more State Governments, the comptroller and Auditor-General of India shall appoint the auditor under sub-section (5) or sub-section (7) of section 139 i.e. appointment of First Auditor or Subsequent Auditor and direct such auditor the manner in which the accounts of the Government company are required to be audited and thereupon the auditor so appointed shall submit a copy of the audit report to the Comptroller and Auditor-General of India which, among other things, include the directions, if any, issued by the Comptroller and Auditor-General of India, the action taken thereon and its impact on the accounts and ﬁnancial statement of the company. © The Institute of Chartered Accountants of India 9.20 AUDITING AND ETHICS (2) Power to conduct Supplementary Audit & comment thereupon :-The Comptroller and Auditor-General of India shall within 60 days from the date of receipt of the audit report have a right to, (a) conduct a supplementary audit under section 143(6)(a), of the ﬁnancial statement of the company by such person or persons as he may authorize in this behalf; and for the purposes of such audit, require information or additional information to be furnished to any person or persons, so authorised, on such matters, by such person or persons, and in such form, as the Comptroller and Auditor-General of India may direct; and (b) comment upon or supplement such audit report under section 143(6)(b). Any comments given by the Comptroller and Auditor-General of India upon, or supplement to, the audit report shall be sent by the company to every person entitled to copies of audited ﬁnancial statements under sub-section of section 136 i.e. every member of the company, to every trustee for the debenture-holder of any debentures issued by the company, and to all persons other than such member or trustee, being the person so entitled and also be placed before the annual general meeting of the company at the same time and in the same manner as the audit report. (3) Test Audit: Further, without prejudice to the provisions relating to audit and auditor, the Comptroller and Auditor- General of India may, in case of any company covered under sub-section (5) or sub-section (7) of section 139, if he considers necessary, by an order, cause test audit to be conducted of the accounts of such company and the provisions of section 19A of the Comptroller and Auditor- General’s (Duties, Powers and Conditions of Service) Act, 1971, shall apply to the report of such test audit. As stated above, in the case of a government company, audit is conducted by professional auditors appointed on the advice of the C&AG and the later is authorised under section 143 of the Companies Act, 2013 to conduct supplementary or test audit. The C&AG shall direct the manner in which the company’s accounts shall be audited by the statutory auditors and give such auditors instructions in regard to any matter relating to the performance of his functions as such. The directions under section 143(6) broadly covers the system of book-keeping and accounts, internal control etc. © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.21 TYPES OF ENTITIES The C&AG has power to conduct a supplementary or test audit of the company’s accounts by such person as he may authorise in this behalf and for the purposes of such audit require information or additional information to be furnished to any person or persons so authorised on such matters by such person or persons and in such form as the C&AG may by general or special order, direct. The statutory auditors shall submit a copy of their audit report to the C&AG who shall have a right to comment upon or supplement the audit report submitted by the statutory auditors in such manner as he may think ﬁt. Section 134(3) of the Companies Act, 2013 imposes a duty on the board of directors of a company to give an explanation or comments on every reservation, or adverse remarks or disclaimer contained in the auditors’ report and secretarial audit report of the Company Secretary in practice. In the absence of similar provisions requiring the company to give reply on the reservation made by the C&AG, the board of directors of such a company is not bound to give information or explanation in respect of such comments. The general standards, principles, techniques and procedures for audit adopted by the C&AG are a mixture of government audit and commercial audit as known and practiced by professional auditors. The concepts of autonomy and accountability of the institution / bodies / corporations / companies have inﬂuenced the nature and scope of audit in applying the conventional audit from the angle of economy, eﬃciency and eﬀectiveness. 1.8 Reporting Procedures The eﬀectiveness of an audit depends on reporting results to the proper authority so that appropriate action may be taken to rectify the irregularities or impropriety where possible or to prevent re-occurrence. The right as also the obligation to report on the results of audit ﬁndings is inherent to the institution of the Auditor General and is usually safeguarded in the Constitution and related enactments. Article 151 of the Indian Constitution enjoins that the C&AG shall report on the accounts of the Union and of each of the States to the President or the Governor concern and the latter shall cause the report to be laid before the legislatures. The reports should not only be presented to the legislatures but thereafter also publicised adequately in order to create a proper climate of public opinion for taking remedial action where necessary, on the ﬁndings of the Auditor General. This © The Institute of Chartered Accountants of India 9.22 AUDITING AND ETHICS may also constitute a more eﬀective safeguard in the future. In India, the reporting is factual and the conclusions are left to be drawn by the reader. This is presumably to ensure total objectivity. Nothing debars C&AG from making recommendations in the audit report but traditionally this has been left to be done by the Public Accounts Committee. Test Your Understanding 1 It is the duty of Comptroller and Auditor General of India to audit and report on all expenditure from the Consolidated Fund of India and of each State and of each Union Territory having a Legislative Assembly and to ascertain whether the moneys shown in the accounts as having been disbursed were legally available for and applicable to the service or purpose to which they have been applied or charged and whether the expenditure conforms to the authority which governs it. Discuss, in above context, what is understood by “Consolidated Fund of India”? What is its importance? 2. AUDIT OF LOCAL BODIES 2.1 Background (1) A Municipality can be deﬁned as a unit of local self-government in an urban area. By the term ‘local self-government’ is ordinarily understood the administration of a locality – a village, a town, a city or any other area smaller than a state – by a body representing the local inhabitants, possessing fairly large autonomy, raising at least a part of its revenue through local taxation and spending its income on services which are regarded as local and, therefore, distinct from state and central services. The discussion in following paragraphs is based on an article “Audit of Municipal Administration” by R. Chandra Sekharan. By 1947, the year of independence of India, most of the urban and semi-urban areas had been constituted into municipalities of one kind or another. Among them were the premier corporations of Mumbai, Chennai and Kolkata each with a special kind of constitutional structure, better ﬁnancial resources and subject to less state control than other municipal bodies. The service which the local bodies had to render © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.23 TYPES OF ENTITIES was restricted to education, public health, sanitation, medical relief, roads and a few public works. This was so because these bodies were considered to be ineﬃcient and they lacked adequate ﬁnancial resources. These bodies derived their revenues from a number of sources – taxes on property, taxes on trade, taxes on persons; fees and licences, non- tax resources such as rent of land, houses, income from commercial undertakings; government grants, etc. (2) Municipal government in India covers ﬁve distinct types of urban local authorities- ♦ the municipal corporations, ♦ the municipal councils, ♦ the notiﬁed area committees, ♦ the town area committees and ♦ the cantonment committees. (3) Municipal authorities are endowed with speciﬁc local functions covering (a) regulatory, (b) maintenance and (c) development activities. (4) Expenditure incurred by the municipalities and corporations can be broadly classiﬁed under the following heads: (a) general administration and revenue collection, (b) public health, (c) public safety, (d) education, (e) public works, and (f) others such as interest payments, etc. (5) Property taxes and octroi are the major sources of revenue of the municipal authorities; other municipal taxes are profession tax, non-mechanised vehicles tax, taxes on advertisements, taxes on animals and boats, tolls, show-tax, © The Institute of Chartered Accountants of India 9.24 AUDITING AND ETHICS etc. The taxation powers of the corporations are conﬁned to a few items and are of a generally compulsive nature; on the other hand, the tax powers of other types of urban local authorities cover a wider range, optional in nature and subject to a procedure for their imposition requiring the ﬁnal sanction of the state governments. (6) Local bodies may receive diﬀerent types of grants from the state administration as well. Broadly, the revenue grants are of three categories: (a) General purpose grants: These are primarily intended to substantially bridge the gap between the needs and resources of the local bodies. (b) Specific purpose grants: These grants which are tied to the provision of certain services or performance of certain tasks. (c) Statutory and compensatory grants: These grants, under various enactments, are given to local bodies as compensation on account of loss of any revenue on taking over a tax by state government from local government. 2.2 Financial Administration It would be imminent on the part of the auditor to understand ﬁnancial administration of local bodies before embarking upon the audit. Some of the aspects are as under: (a) Budgetary Procedure: This is geared to subserve the twin considerations of ﬁnancial accountability and control of expenditure. The main objective is to ensure that funds are raised and moneys are spent by the executive departments in accordance with the rules and regulations and within the limits of sanction and authorisation by the legislature or council. Budget preparation is usually the occasion for determining the levels of taxation and rates and the ceilings on expenditure. Municipal budget formats and heads of accounts vary from state to state. There are variations between the corporation and municipalities. One important feature of the municipal budgets is that there is no strict separation between revenue and capital items; usually there is a ‘head’ called extraordinary items which cover most of the capital transactions. There are, however, a number of special funds (e.g. roads) or in some cases separate budgets for speciﬁc municipal functions (e.g. education) or enterprise activities (e.g., water supply and sanitation, transport, electricity, etc.) © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.25 TYPES OF ENTITIES (b) Expenditure Control: The system of ﬁnancial control existing in the state and central government level is conditioned by the fact that there is a clear demarcation between the legislature and executive. The integration of legislation and executive powers in the municipal council makes it diﬃcult for its executive to function as its inquisitorial body as well. Moreover the separation of executive powers and functions in municipal government cannot accommodate the existence of an independent ﬁnance oﬃcer responsible to the municipal council or its executive committee. This leaves the system of external audit by state government as the only instrument of controlling municipal expenditure. (c) Accounting System: Municipal accounting and budget format have been criticised as neither simple nor comprehensible, sometimes providing inadequate information and at other times a surfeit of information. Both these situations are not conducive to a proper system of management information. 2.3 Objective of Audit of Local Bodies The external control of municipal expenditure is exercised by the state governments through the appointment of auditors to examine municipal accounts. However, the municipal corporations of Delhi, Mumbai and a few others have powers to appoint their own auditors for regular external audit. The important objectives of audit are: (a) reporting on the fairness of the content and presentation of ﬁnancial statements; (b) reporting upon the strengths and weaknesses of systems of ﬁnancial control; (c) reporting on the adherence to legal and/or administrative requirements; (d) reporting upon whether value is being fully received on money spent; and (e) detection and prevention of error, fraud and misuse of resources. Audit is another method of ﬁnancial control on local governments. This provision is coupled with the privilege of ultra vires. An action of the local authority if it is beyond legal authority can result in ‘surcharge’ by audit. This procedure is a legacy of colonial days and even in England it is being resorted to less and less. This may well be because of the increasing competence of the local government authorities. © The Institute of Chartered Accountants of India 9.26 AUDITING AND ETHICS In addition to the external audit, it is also opined by the learned author that there should be a system of internal audit in all municipal institutions. Internal audit should be provided by the institutions’ own staﬀ. It should be performed on a continuous basis according to a well- deﬁned programme. The external auditor should be able to rely upon the work of the internal audit as forming part of a complete system of internal ﬁnancial control. Where there is no internal audit, as may happen in the case of small or poorly staﬀed municipalities, the external auditor himself has to do detailed checking. As described under government audit above, increasing attention is being given, to what is described as ‘value for money’ audit. This kind of audit focuses upon assessment of whether urban institutions are fulﬁlling their responsibilities with eﬃciency, economy and eﬀectiveness (sometimes known as ‘the three Es’). 2.4 Audit Programme for Local Bodies (i) APPOINTMENT:-The Local Fund Audit Wing of the State Govt. is generally in-charge of the audit of municipal accounts. Sometimes bigger municipal corporations e.g. Delhi, Mumbai etc. have power to appoint their own auditors for regular external audit. So the auditor should ensure his appointment. (ii) AUDITOR’S CONCERNS:-The auditor while auditing the local bodies should report on the fairness of the contents and presentation of ﬁnancial statements, the strengths and weaknesses of system of ﬁnancial control, the adherence to legal and/or administrative requirements; whether value is being fully received on money spent. His objective should be to detect errors and fraud and misuse of resources. (iii) RULES & REGULATIONS:- The auditor should ensure that the expenditure incurred conforms to the relevant provisions of the law and is in accordance with the ﬁnancial rules and regulations framed by the competent authority. (iv) AUTHORISATIONS:- He should ensure that all types of sanctions, either special or general, accorded by the competent authority. © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.27 TYPES OF ENTITIES (v) PROVISIONING:- He should ensure that there is a provision of funds and the expenditure is incurred from the provision and the same has been authorized by the competent authority. (vi) PERFORMANCE:- The auditor should check that the diﬀerent schemes, programmes and projects, where large ﬁnancial expenditure has been incurred, are running economically and getting the expected results. 3. AUDIT OF NON - GOVERNMENTAL ORGANISATION (NGO’S) 3.1 Background (1) NGOs can be deﬁned as non-proﬁt making organisations which raise funds from members, donors or contributors apart from receiving donation of time, energy and skills for achieving their social objectives like imparting education, providing medical facilities, economic assistance to poor, managing disasters and emergent situations. Source of image: crossbarriers.org (2) Therefore, this deﬁnition of NGO would include religious organisations, voluntary health and welfare agencies, charitable organisations, hospitals, old age homes, research foundations etc. The scope of services rendered by NGOs is extremely wide and as such cannot be covered in a small deﬁnition. Some examples of NGOs operating in India include Child Relief and You (CRY), NORAD, UNICEF, Godhuli, Vidya, Concern India Foundation., etc. © The Institute of Chartered Accountants of India 9.28 AUDITING AND ETHICS (3) Non-Governmental Organisations are generally incorporated as societies under the Societies Registration Act, 1860 or as a trust under the India Trust Act, 1882, or under any other law corresponding to these Laws enforced in any part of India. NGOs can also be incorporated as a company under section 8 of the Companies Act, 2013. None of the above mentioned Act warrant a mandatory registration under them for an NGO. But if an NGO is created as a trust and trust relates to immovable property worth more than one hundred rupees, the provision of Section 17(1) of the Registration Act, 1908 read with Section 123 of the Transfer of Property Act, 1882 must be complied with and the registration of trust becomes mandatory. In some states, such as the states of Maharashtra and Gujarat, where Public Trusts Acts have been passed, such as the Bombay Public Trusts Act 1950, all charitable trusts have to be registered under these speciﬁc Public Trusts Acts. Registration under the Income Tax Act, 1961 and the Foreign Contribution (Regulation) Act, 2010 would also be invoked in many cases. NGOs registered under the Companies Act, 2013 must maintain their books of account under the accrual basis as required by the provisions of section 128 of the said Act. If the accounts are not maintained on accrual basis, it would amount to non-compliance of the provision of the Companies Act, 2013. The NGOs which are not registered under the Companies Act, 2013 are allowed to maintain accounts either an accrual basis or cash basis. 3.2 Sources and Applications of Funds (1) The main sources of funds include grants and donations, fund raising programmes, advertisements, fees from the members, technical assistance fees / fee for services rendered, subscriptions, gifts, sale of produce or publications, etc. (a) Donations and grants received in the nature of promoter’s contribution are in the nature of capital receipts and shown as liabilities in the Balance Sheet of NGO. These may either be in the form of corpus contribution or a contribution towards revolving fund. A contribution made towards the capital or the corpus of an NGO is known as corpus contribution. The donors are generally required to specify whether the donation/grant given by him shall form part of the corpus of the NGO. Such contributions are generally given with reference to the total funds required by an NGO. (b) Section 11(1)(d) of the Income Tax Act 1961 also states that income in the form of voluntary contributions made with a speciﬁc direction that they © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.29 TYPES OF ENTITIES shall form part of the corpus of the trust or institution shall not be included in the computation of total income. (c) The objective of a contribution or grant towards a Revolving Fund is to rotate the amount by giving temporary loans from the fund to other NGO or beneﬁciaries for their projects and then recover the loan so as to give temporary loans again and so on. However, any interest earned from the beneﬁciary on such temporary loans from the revolving fund could be either added back to the fund or credited to the Income and Expenditure Account depending on restrictions laid down by the authority providing the contribution (for the revolving fund) or by the rules and regulations laid down by the concerned NGO in this regard. (d) Donations and grants received for acquisition of speciﬁc ﬁxed assets are those grants whose primary condition is that an NGO accepting them should purchase, construct or otherwise acquire the assets for which the grant is given. (e) Many a times NGOs receive contributions in kind. These contributions include assets such as land, buildings, vehicles, oﬃce equipment, etc. and articles related to programmes / projects such as food, books, building materials, clothes, beds, and raw material for training purposes, e.g., Wool, reeds, cloth, etc. (2) The areas of application of funds for an NGO include Establishment Costs, Oﬃce and Administrative Expenses, Maintenance Expenses, Programme / Project Expenses, Charity, Donations and Contributions given, etc. 3.3 Provisions Relating to Audit The auditors of an NGO registered under the Societies Registration Act, 1860 (or under any law corresponding to this Act, in force in any part of India) or the Indian Trusts Act 1882 are normally appointed by the Management of the Society or Trust. The auditors of NGO registered under section 8 of the Companies Act, 2013 are appointed by the members of the company. Some of the statues such as the Companies Act, 2013, Foreign Contribution (Regulation) Act 2010, Income Tax Act 1961 required that the accounts of the NGO be audited and submitted to the prescribed authorities and failure to do so could lead to forfeiture of certain exemptions and beneﬁts. In the case of NGO/PDA’s diﬀerent statutes have speciﬁed © The Institute of Chartered Accountants of India 9.30 AUDITING AND ETHICS certain audit reports. The Foreign Contribution (Regulation) Act 2010 has prescribed the format and requires that the same be furnished to the Ministry of Home Aﬀairs within 60 days from the close of the ﬁnancial year i.e. by May 30 each year. While planning the audit, the auditor may concentrate on the following: (i) Knowledge of the NGO’s work, its mission and vision, areas of operations and environment in which it operate. (ii) Updating knowledge of relevant statutes especially with regard to recent amendments, circulars, judicial decisions viz. Foreign Contribution (Regulation) Act 2010, Societies Registration Act, 1860, Income Tax Act 1961 etc. and the Rules related to the statutes. (iii) Reviewing the legal form of the Organisation and its Memorandum of Association, Articles of Association, Rules and Regulations. (iv) Reviewing the NGO’s Organisation chart, then Financial and Administrative Manuals, Project and Programme Guidelines, Funding Agencies Requirements and formats, budgetary policies if any. (v) Examination of minutes of the Board/Managing Committee/Governing Body/ Management and Committees thereof to ascertain the impact of any decisions on the ﬁnancial records. (vi) Study the accounting system, procedures, internal controls and internal checks existing for the NGO and verify their applicability. (vii) Setting of materiality levels for audit purposes. (viii) The nature and timing of reports or other communications. (ix) The involvement of experts and their reports. (x) Review the previous year’s Audit Report. The audit programme should include in a sequential order all assets, liabilities, income and expenditure ensuring that no material item is omitted. (i) Corpus Fund: The contributions / grants received towards corpus be vouched with special reference to the letters from the donor(s). The interest income be checked with Investment Register and Physical Investments in hand. © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.31 TYPES OF ENTITIES (ii) Reserves: Vouch transfers from projects / programmes with donors letters and board resolutions of NGO. Also check transfer of gross value of asset sold from capital reserve to general reserve and adjustments during the year. (iii) Ear-marked Funds: (Earmarking refers to a fund allocation practice in which an entity, a government, or an individual sets aside a determined amount of funds to use for a specific goal). Check requirements of donors institutions, board resolution of NGO, rules and regulations of the schemes of the ear- marked funds. (iv) Project / Agency Balances: Vouch disbursements and expenditure as per agreements with donors for each of the balances. (v) Loans: Vouch loans with loan agreements, counterfoil of receipt issued. (vi) Fixed Assets: Vouch all acquisitions / sale or disposal of assets including depreciation and the authorisations for the same. Also check donor’s letters/ agreements for the grant. In the case of immovable property check title, etc. (vii) Investments: Check Investment Register and the investments physically ensuring that investments are in the name of the NGO. Verify further investments and dis- investments for approval by the appropriate authority and reference in the bank accounts for the principal amount and interest. (viii) Cash in Hand: Physically verify the cash in hand and imprest balances, at the close of the year and whether it tallies with the books of account. (ix) Bank Balance: Check the bank reconciliation statements and ascertain details for old outstanding and unadjusted amounts. (x) Inventory: Verify inventory in hand and obtain certiﬁcate from the management for the quantities and valuation of the same. (xi) Programme and Project Expenses: Verify agreement with donor/contributor(s) supporting the particular programme or project to ascertain the conditions with respect to undertaking the programme/project and accordingly, in the case of programmes/projects involving contracts, ensure that income tax is deducted, deposited and returns ﬁled and verify the terms of the contract. © The Institute of Chartered Accountants of India 9.32 AUDITING AND ETHICS (xii) Establishment Expenses: Verify that provident fund, life insurance premium, employees state insurance and their administrative charges are deducted, contributed and deposited within the prescribed time. Also check other oﬃce and administrative expenses such as postage, stationery, travelling, etc. The receipt of income of NGO may be checked on the following lines: (i) Contributions and Grants for projects and programmes: Check agreements with donors and grants letters to ensure that funds received have been accounted for. Check that all foreign contribution receipts are deposited in the foreign contribution bank account as notiﬁed under the Foreign Contribution (Regulation) Act, 2010 (ii) Receipts from fund raising programmes: Verify in detail the internal control system and ascertain who are the persons responsible for collection of funds and mode of receipt. Ensure that collections are counted and deposited in the bank daily. (iii) Membership Fees: Check fees received with Membership Register. Ensure proper classiﬁcation is made between entrance and annual fees and life membership fees. Reconcile fees received with fees to be received during the year. (iv) Subscriptions: Check with subscription register and receipts issued. Reconcile subscription received with printing and dispatch of corresponding magazine / circulars / periodicals. Check the receipts with subscription rate schedule. (v) Interest and Dividends: Check the interest and dividends received and receivable with investments held during the year. 4. AUDIT OF SOLE TRADER A sole trader is under no legal obligation to have his accounts audited. However, many such individuals get their ﬁnancial statement audited due to regulatory requirements, such as inventory brokers or on a speciﬁc instructions of the bank for approval of loans, etc. source :- otranation.com © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.33 TYPES OF ENTITIES Appointment of Auditor: Auditors of sole- proprietary concern shall be appointed by the sole proprietor himself. In case of change of auditor, it would be duty of incoming auditor to communicate with the previous auditor. As such, sole proprietor can determine the scope of the audit as well as the conditions under which it will be carried out. Example He can stipulate that only a partial audit shall be carried out, that certain parts of the accounts shall not be checked or that the auditor also shall prepare the ﬁnal statements of account. He can also decide whether the audit shall be carried out continuously or at the end of the year. On these considerations, it is desirable that the contract of appointment of auditor in such a case should be in writing; also that it should clearly deﬁne the scope of the work which the auditor is expected to carry out. This helps to prevent misunderstanding. If the appointment of the auditor is not in writing, the auditor should write to his client explaining the scope of his duties. While doing so, he should state the limitations, if any, placed upon his work to obtain the client’s conﬁrmation. The advantages and audit procedure discussed in following paragraphs of audit in case of partnership ﬁrm would be similar in case of proprietorship. 5. AUDIT OF FIRM Appointment of Auditors: The auditor to a ﬁrm is usually appointed by the partners either on the basis of a decision taken by them or to comply with a condition in the partnership agreement. His remuneration is also ﬁxed by the partners. It is important that the letter of appointment should clearly state the nature and scope of audit which is to be carried out and particulars of limitations, if any, under which he would have to function. In case of change of auditor, it would be duty of incoming auditor to communicate with the previous auditor. The auditor may, particularly, ensure application of accounting standards prescribed by the Institute of Chartered Accountants of India. In case the ﬁrm is required to get its accounts audited under the requirements of any statute, the auditor will have to qualify the report in case of non-compliance with the © The Institute of Chartered Accountants of India 9.34 AUDITING AND ETHICS accounting standards. Alternatively, only disclosure of non- compliance with the accounting standards, would be suﬃcient without making it a subject matter of qualiﬁcation. Matters to be considered before starting audit: Also, before starting the audit, he should examine the partnership agreement and note the provisions therein as regards the following matters: 1. The name and style under which the business shall be conducted. 2. The duration of the partnership, if any, that has been agreed upon. 3. The amount of capital that shall be contributed by each partner—whether it will be ﬁxed or could be varied from year to year. 4. The period at the end of which the accounts of the partnership will be closed periodically and the proportions in which the proﬁt shall be divided among the partners or losses shall have to be contributed by them; whether the losses shall be borne by the partners or whether any of the partners will not be required to do so. 5. The provisions as regards maintenance of books of account and the matters which must be taken into account for determining the proﬁts of the ﬁrm available for division among the partners e.g., creation of reserves, provision for depreciation, etc. also the period within which accounts can be reopened for correcting a manifest error. 6. Borrowing capacity of the partnership (when it is not implied as in the case of non-trading ﬁrms). 7. The rate at which interest will be allowed on the capitals and loans provided by partners and the rate at which it will be charged on their drawings and current accounts. 8. Whether any salaries are payable to the partners or withdrawals are permitted against shares of proﬁts and, if so, to what extent? 9. Duties of the partners as regards the management of business of the ﬁrm; also, the partners who shall act as managing partners. 10. Who shall operate the bank account of the ﬁrm? How will the surplus funds of the partnership be invested? © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.35 TYPES OF ENTITIES 11. Limitations and restrictions that have been agreed upon, the rights and powers of partners and on their implied authority to pledge the ﬁrm’s credit or to render it liable. Advantages of Audit of a Partnership Firm - On broad considerations, the advantages of audit of accounts of a partnership could be stated as follows: (1) Disputes:- Audited accounts provide a convenient and reliable means of settling accounts between the partners and, thereby, the possibility of occurrence of a dispute among them is mitigated. On this consideration, it is usually provided in and accepted by the partners, shall be binding upon them, unless some manifest error is brought to light within a speciﬁed period subsequent to the accounts having been signed. (2) Dissolution:- On the retirement or death of a partner, audited accounts, which have been accepted by the partners, constitute a reliable evidence for computing the amounts due to the retiring partner or to the representative of the deceased partner in respect of his share of capital, proﬁts and goodwill. (3) Reliable:- Audited statement of accounts are relied upon by the banks when advancing loans, as well as by prospective purchasers of the business, as evidence of the proﬁtability of the concern and its ﬁnancial position. (4) Admission:- Audited statements of account can be helpful in the negotiations to admit a person as a partner, especially when they are available for a number of past years. (5) Control:- An audit is an eﬀective safeguard against any undue advantage being taken by a working partner or partners especially in the case of those partners who are not actively associated with the working of the ﬁrm. Matters which should be specially considered in the audit of accounts of a partnership: (i) Letter of Appointment:- Conﬁrming that the letter of appointment, signed by a partner, duly authorised, clearly states the nature and scope of audit contemplated by the partners, specially the limitation, if any, under which the auditor shall have to function. (ii) Partnership Documents:- Studying the minute book, if any, maintained to record the policy decision taken by partners specially the minutes relating to © The Institute of Chartered Accountants of India 9.36 AUDITING AND ETHICS authorisation of extraordinary and capital expenditure, raising of loans; purchase of assets, extraordinary contracts entered into and other such matters as are not of a routine nature. (iii) Objects of Partnership:- Verifying that the business in which the partnership is engaged is authorised by the partnership agreement; or by any extension or modiﬁcation thereof agreed to subsequently. (iv) Books of Account:- Examining whether books of account appear to be reasonable and are considered adequate in relation to the nature of the business of the partnership. (v) Mutual Interest:- Verifying generally that the interest of no partner has suﬀered prejudicially by an activity engaged in by the partnership which, it was not authorised to do under the partnership deed or by any violation of a provision in the partnership agreements. (vi) Provision for Taxes:- Conﬁrming that a provision for the ﬁrm’s tax payable by the partnership has been made in the accounts before arriving at the amount of proﬁt divisible among the partners. (vii) Division of Profits:- Verifying that the proﬁts and losses have been divided among the partners in their agreed proﬁt-sharing ratio. From the foregoing steps involved in the audit of a partnership it would be observed that like the audit of every other commercial undertaking, it culminates in the veriﬁcation of the Balance Sheet and the Statement of Proﬁt and Loss to ensure that these exhibit a true and fair state of aﬀairs of the ﬁrm. The object of examining the partnership agreement, which is an important feature of such an audit, is that the auditor may be able to report to the partners if the interest of any partner has been prejudicially aﬀected, on account of the ﬁrm having engaged itself in an activity which it was not authorised to do or violation of any provision of the partnership agreement. Test Your Understanding 2 CA Akash Virmani is auditor of a partnership firm consisting of 4 partners. During the year, one of the partners has retired and another partner has joined the next day. Discuss, any one point, which shall be considered by you to ensure that financial statements of firm are not misstated due to change of constitution of firm. © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.37 TYPES OF ENTITIES 5.1 Basics of Limited Liability Partnerships (LLP) Audit LLP is governed by Limited Liability Partnership Act, 2008. It is a form of business organisation which enshrines in itself the advantages of both the Company and Partnership forms of Organisation. Minimum of 2 Partners can form an LLP and atleast two partners would be Designated Partners who would be required to take DPIN (Designated Partner Identification Number) The Partners in an LLP and their rights and duties are governed by way of an agreement between them. It defines a Small Limited Liability Partnership to denote any LLP: a) the Contribution of which, does not exceed twenty-five lakh rupees (INR 25,00,000) or such higher amount, not exceeding five crore rupees, as may be prescribed; and b) the Turnover of which, as per the Statement of Accounts and Solvency for the immediately preceding financial year, does not exceed forty lakh rupees (INR 40,00,000) or such higher amount, not exceeding fifty crore rupees, as may be prescribed; Whether LLP is required to maintain Books of Accounts:- An LLP shall be under obligation to maintain annual accounts reﬂecting true and fair view of its state of aﬀairs. LLP’s are required to maintain books of accounts which shall contain- 1. Particulars of all sums of money received and expended by the LLP and the matters in respect of which the receipt and expenditure takes place, 2. A record of the assets and liabilities of the LLP, 3. Statements of costs of goods purchased, inventories, work-in-progress, ﬁnished goods and costs of goods sold, 4. Any other particulars which the partners may decide. Audit of the Accounts of an LLP:- The accounts of every LLP shall be audited in accordance with Rule 24 of LLP, Rules 2009. Such rules, inter-alia, provides that any LLP, whose turnover does not exceed, in any ﬁnancial year, forty lakh rupees, or whose contribution does not exceed twenty ﬁve lakh rupees, is not required to get its accounts audited. However, if the partners of such limited liability partnership decide to get the accounts of such LLP audited, the accounts shall be audited only in accordance with such rule. © The Institute of Chartered Accountants of India 9.38 AUDITING AND ETHICS Advantages / Purpose / Need of Audit 1. Detection of Errors:- Auditing the accounts of a LLP helps in detecting errors & frauds & veriﬁcation of ﬁnancial statements. 2. Disputes:-Disputes, if any between any partners in the matter of accounts can be settled with the help of audited accounts. 3. Reliability:- Banks & ﬁnancial institutions lend money to the ﬁrms only on the basis of audited accounts. 4. Better Compliance and Management:-Periodical visits & suggestions by the auditor will be helpful in improving the management of the LLP. 5. Reconstitution:- For settling accounts between partners at the time of admission, death, retirement, insolvency, insanity, etc. audited accounts are accepted by those concerned who have dealings with the LLP. Returns to be maintained and filed by an LLP :- ♦ Every LLP would be required to ﬁle annual return in Form 11 with ROC within 60 days of closer of ﬁnancial year. The annual return will be available for public inspection on payment of prescribed fees to Registrar. ♦ Every LLP is also required to submit Statement of Account and Solvency in Form 8 which shall be ﬁled within a period of thirty days from the end of six months the ﬁnancial year to which the Statement of Account and Solvency relates. Appointment of Auditor: The auditor may be appointed by the designated partners of the LLP – 1. At any time for the ﬁrst ﬁnancial year but before the end of ﬁrst ﬁnancial year, 2. At least thirty days prior to the end of each ﬁnancial year (other than the ﬁrst ﬁnancial year), 3. To ﬁll the casual vacancy in the oﬃce of auditor, 4. To ﬁll the casual vacancy caused by removal of auditor. The partners may appoint the auditors if the designated partners have failed to appoint them. © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.39 TYPES OF ENTITIES Auditor’s Duty Regarding Audit of LLP 1. Engagement Letter :- The auditor should get deﬁnite instructions in writing as to the work to be performed by him. 2. Minutes Book :- If partners maintain minute book he shall refer it for any resolution passed regarding the accounts 3. LLP Agreement:- The auditor should read the LLP agreement & note the following provisions (a) Nature of the business of the LLP. (b) Amount of capital contributed by each partner. (c) Interest – in respect of additional capital contributed. (d) Duration of partnership. (e) Drawings allowed to the partners. (f) Salaries, commission etc. payable to partners. (g) Borrowing powers of the LLP. (h) Rights & duties of partners. (i) Method of settlement of accounts between partners at the time of admission, retirement, admission etc. (j) Any loans advanced by the partners. (k) Proﬁt sharing ratio 4. Reporting :- The auditor should mention (a) Whether the records of the ﬁrm appear to be correct & reliable. (b) Whether he was able to obtain all information & explanation necessary for his work. (c) Whether any restriction was imposed upon him. © The Institute of Chartered Accountants of India 9.40 AUDITING AND ETHICS 6. AUDIT OF CHARITABLE INSTITUTION source :-charities.gov.sg In the case of audit of a charitable institution, attention should be paid to the following matters- (1) General (i) Studying the constitution under which the charitable institution has been set up. (ii) Verifying whether the institution is being managed in the manner contemplated by the law under which it has been set up. (iii) Examining the system of internal check, especially as regards accounting of amounts collected. (iv) Verifying in detail the income and conﬁrming that the amounts received have been deposited in the bank regularly and promptly. (v) Examine the Trust Deed or the Regulations as laid down. (2) Subscriptions and donations (i) Ascertaining, if any, the changes made in amount of annual or life membership subscription during the year. (ii) Whether oﬃcial receipts are issued; (a) conﬁrming that adequate control is imposed over unused receipt books; (b) obtaining all receipt books covering the period under review; (c) test checking the counterfoils with the cash book; any cancelled receipts being specially looked into; © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.41 TYPES OF ENTITIES (d) obtaining the printed list of subscriptions and donations and agreeing them with the total collections shown in the accounts; (e) examining the system of internal check regarding moneys received from box collections, ﬂag days, etc. and checking the amount received from representatives, with the correspondence and the oﬃcial receipts issued; paying special attention to the system of control exercised over collections and the steps taken to ensure that all collections made have been accounted for; and (f) verifying the total subscriptions and donations received with any ﬁgures published in reports, etc. issued by the charity. (3) Legacies – Verifying the amounts received by reference to correspondence with any ﬁgures and other available information. (4) Grants (i) Vouching the amount received with the relevant correspondence, receipts and minute books. (ii) Obtaining a certiﬁcate from a responsible oﬃcial showing the amount of grants received. (5) Investments Income (i) Vouching the amounts received with the dividend and interest counterfoils. (ii) Checking the calculations of interest received on securities bearing ﬁxed rates of interest. (iii) Checking that the appropriate dividend has been received where any investment has been sold ex-dividend or purchased cum-dividend. (iv) Comparing the amounts of dividend received with schedule of investments making special enquiries into any investments held for which no dividend has been received. (6) Rent (i) Examining the rent roll and inspecting tenancy agreements, noting in each case: © The Institute of Chartered Accountants of India 9.42 AUDITING AND ETHICS (a) the amounts of the rent, and (b) the due dates. (ii) Vouching the rent on to the rent roll from the counterfoils of receipt books and checking the totals of the cash book. (7) Special function, etc. - Vouching gross receipts and outgoings in respect of any special functions, e.g. concerts, dramatic performance, etc., held in aid of the charity with such vouchers and cash statements as are necessary. In particular, verifying that the proceeds of all tickets issued have been accounted for, after making the allowance for returns. (8) Income Tax Refunds - Where income-tax has been deducted at source from the Investment income, it should be seen that a refund thereof has been obtained since charitable institutions are exempt from payment of Income- tax. This involves: (i) vouching the Income-tax refund with the correspondence with the Income- tax Department; and (ii) checking the calculation of the repayment of claims. (9) Expenditure (i) Vouching payment of grants, also verifying that the grants have been paid only for a charitable purpose or purposes falling within the purview of the objects for which the charitable institution has been set up and that no trustee, director or member of the Managing Committee has beneﬁted there from either directly or indirectly. (ii) Verifying the schedules of securities held, as well as inventories of properties both movable and immovable by inspecting the securities and title deeds of property and by physical veriﬁcation of the movable properties on a test- basis. (iii) Verifying the cash and bank payments. (iv) Ascertaining that any funds contributed for a special purpose have been utilised for the purpose. © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.43 TYPES OF ENTITIES 7. AUDIT OF EDUCATIONAL INSTITUTIONS (SCHOOL, COLLEGE OR UNIVERSITY) The special steps involved in their audit are the following- (A) General :- 1. Examine the Trust Deed or Regulations, in the case of school or college and note all the provisions aﬀecting accounts. In the case of a university, refer to the Act of Legislature and the Regulation framed thereunder. 2. Read through the minutes of the meetings of the Managing Committee or Governing Body, noting resolutions aﬀecting accounts to see that these have been duly complied with, specially the decisions as regards the operation of bank accounts and sanctioning of expenditure. (B) Fee from Students :- 1. Check names entered in the Students Fee Register for each month or term, with the respective Class Registers, showing names of students on rolls and test amount of fees charged; and verify that there operates a system of internal check which ensures that demands against the students are properly raised. 2. Check fees received by comparing counterfoils of receipts granted with entries in the Cash Book and tracing the collections in the Fee Register to conﬁrm that the revenue from this source has been duly accounted for. 3. Total up the various columns of the Fees Register for each month or term to ascertain that fees paid in advance have been carried forward © The Institute of Chartered Accountants of India 9.44 AUDITING AND ETHICS and that the arrears that are irrecoverable have been written oﬀ under the sanction of an appropriate authority. 4. Check admission fees with admission slips signed by the head of the institution and conﬁrm that the amount has been credited to a Capital fund, unless the Managing Committee has taken a decision to the contrary. 5. See that free studentship and concessions have been granted by a person authorised to do so, having regard to the Rules prepared by the Managing Committee. 6. Conﬁrm that ﬁnes for late payment or absence, etc. have been either collected or remitted under proper authority. 7. Conﬁrm that hostel dues were recovered before student’s accounts were closed and their deposits of caution money refunded. (C) Other Receipts/Grants & Donations :- 1. Verify rental income from landed property with the rent rolls, etc. 2. Vouch income from endowments and legacies, as well as interest and dividends from investment; also inspect the securities in respect of investments held. 3. Verify any Government or local authority grant with the memo of grant. If any expense has been disallowed for purposes of grant, ascertain the reasons thereof. (D) Expenditure :- 1. Verify that the Provident Fund money of the staﬀ has been invested in appropriate securities. 2. Vouch donations, if any with the list published with the annual report. If some donations were meant for any speciﬁc purpose, see that the money was utilised for the purpose. 3. Vouch, all capital expenditure in the usual way and verify the same with the sanction for the Committee as contained in the minute book. 4. Vouch, in the usual manner, all establishment expenses and enquire into any unduly heavy expenditure under any head. If there was any annual © The Institute of Chartered Accountants of India SPECIAL FEATURES OF AUDIT OF DIFFERENT 9.45 TYPES OF ENTITIES budget prepared, see that any excess under any head over the budgeted amount was duly sanctioned by the Managing Committee. If not, bring it to the Committee’s notice in your report. 5. See that increase in the salaries of the staﬀ have been sanctioned and minuted by the Committee. (E) Assets & Liabilities :- 1. Report any old heavy arrears on account of fees, dormitory rents, etc. to the Managing Committee. 2. Conﬁrm that caution money and other deposits paid by students on admission, have been shown as liability in the balance sheet not transferred to revenue, unless they are not refundable. 3. See that the investments representing endowment funds for prizes are kept separate and any income in excess of the prizes has been accumulated and invested along with the corpus. 4. Ascertain that the system ordering inspection on receipt and issue of provisions, foodstuﬀs, clothing and other equipment is eﬃcient and all bills are duly authorised and passed before payment. 5. Verify the inventories of furniture, sta

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