ISA 505 – EXTERNAL CONFIRMATION
This International Standard on Auditing (ISA) deals with the auditor’s use of external confirmation procedures to obtain audit evidence in accordance with the requirements of ISA 500 (Audit Evidence). As auditors, verifying financial statements isn’t just about number-crunching; it’s about ensuring accuracy, reliability, and trust in the numbers that represent a company’s financial health. One helpful tool is ISA 505 – External Confirmations.
External confirmations are like getting a second opinion. It involves seeking direct written responses from third parties like banks, customers, suppliers, or legal advisors to validate information stated in financial statements. External confirmations offer an independent and objective view of a company’s financial health and act as a checkpoint to ensure that the information provided by the management is reliable and accurate. ISA 500 indicates that, the reliability of audit evidence is influenced by its source and by its nature, and is dependent on the individual circumstances under which it is obtained. (For more insight on ISA 500 read our article on Audit Evidence ISA 500)
Some key Objectives of ISA 505:
- To obtain evidence that supports the assertions made in the financial statements.
- To reduce audit risk by verifying critical financial information through external sources.
- To enhance the credibility and reliability of financial statements.
Procedures and Requirements:
ISA 505 guides auditors on how to use external confirmations effectively:
- It outlines how to send requests and receive responses from third parties.
- It specifies different types of confirmations: positive (where responses are needed) and negative (responses only if information is incorrect).
- It emphasizes the need for proper documentation of the confirmation process.
The Benefits of Using External Confirmations:
- They provide independent evidence that aids the credibility of financial statements.
- They help in assessing the risks and identifying any inconsistencies or discrepancies.
- They can enhance stakeholders’ confidence in the organization’s financial reporting.
Challenges and Considerations:
- Not all third parties might respond promptly or at all, which can delay the audit process.
- Sometimes, management might influence or restrict access to certain third parties, posing a challenge to obtaining confirmations.
Real-Life (Scenario) Application of ISA 505
Where a company heavily relies on a significant client’s receivables for its financial stability, ISA 505 directs the auditor to directly contact that client. This is critical as it validates the accuracy of the company’s accounts receivable by seeking confirmation of outstanding balances from the client/receivable/debtors.
Tips for Auditors:
- Ensure that the requests for confirmations are clear and concise.
- Maintain a detailed record of all confirmation requests and responses.
- Be prepared to follow up persistently with non-responsive parties.
