What Is Required Audit Communication?

You’re a private rental real estate entity. You may own one building and have two investors or hundreds of buildings with a hundred investing partners. The buildings you own may be commercial, residential, or both. Whatever the case may be, you may need an audit of your financial statements.

This could be by the request of your investors or even required by your lending institution as part of your loan covenants for that large mortgage on your books. If you have been tasked to communicate with the auditors, you are aware of the many emails, phone calls, and documents that flow back and forth from the beginning to the end of the audit. If this is your first audit, then you will become accustomed to the buzzword documents before too long – most namely, the engagement letter, management representation letter, and the audited financial statements. Why these three documents? The first two require signatures from high-level individuals in your organization, and the last is the final deliverable that you will distribute to relevant parties (e.g., your investors or lending institution). Your attention will be drawn to these items, as it should be, but there are other important communications that often get lost in the weeds along the way. This article focuses on these communications as a whole, which are known as the auditor’s communication with those charged with governance.

The American Institute of Certified Public Accountants (“AICPA”) AU-C Section 260 is a comprehensive guide for the auditor’s communication with those charged with governance covering many Statements on Auditing Standards (“SAS”) related to audit communications, which give guidance to auditors on Generally Accepted Auditing Standards (“GAAS”). Who are those charged with governance? Those charged with governance are defined under AU-C Section 260 as “The person(s) or organization(s) (for example, a corporate trustee) with responsibility for overseeing the strategic direction of the entity and the obligations related to the accountability of the entity. This includes overseeing the financial reporting process. Those charged with governance may include management personnel; for example, executive members of a governance board or an owner-manager.” It is important to note here that those charged with governance may or may not include members of management. Sometimes all of those charged with governance are also members of management; other times only some members of management are included, and then there are also instances where this group is completely separate from management. These distinctions are important because those charged with governance must receive certain communications from the auditor, not just management.

AU-C Section 260 lays out four main objectives of the auditor as it relates to the auditor’s communication with those charged with governance:

These objectives provide guidelines for establishing and nurturing communication between the auditor and those charged with governance. These four objectives will inevitably be tackled in a variety of ways through discussions (in person or over the phone), emails, and written communication letters. The combination of communication methods will differ, but the ultimate goal is to facilitate an efficient and effective audit process. The objectives also help establish the key required communication areas of an audit.

Throughout the course of an audit, the auditor is required to communicate certain matters to those charged with governance. The timing of these communications is key as well. During the planning stages of an audit, the auditor should communicate the specific responsibilities of the auditor as it relates to the financial statements, management’s responsibility for the financial statements, and the planned scope and timing of the audit, which includes the significant risks identified by the auditor. These preliminary communications set the foundation of the audit and build expectations for both sides of the relationship. Effective communication by the auditor and understanding of those communications by management and those charged with governance is important to the audit process as a whole.

How are these matters communicated? The matters are communicated in a few different ways: the engagement letter, discussions, emails, and/or a communication letter. The engagement letter covers some, but not all, of the required areas, so typically there will be another communication, which can be oral through a discussion with those charged with governance, through email or a communication letter, or through a combination of both. One example combination is an engagement letter, a communication letter addressed to those charged with governance, and then a follow-up conversation to address any questions or emphasize any matters.

After the commencement of audit fieldwork through the date of issuance, the auditor should keep an open line of communication with management and those charged with governance as necessary. By the end of the audit, the auditor is required to communicate any audit findings vital to the responsibility of those charged with governance over the financial reporting process, including:

How are these matters communicated? These matters can be communicated through a few different methods. A management representation letter serves for the communication of the written representations the auditor requires of management and those charged with governance. These written representations are acknowledged by those charged with governance through the signing of the management representation letter by one or more individuals charged with governance. The rest of the matters in the list above are typically communicated either orally, or when oral communication is not determined to be adequate, through one or more written communication letters. For example, one communication letter may be sent if no internal control deficiencies were identified by the auditor, but if internal control deficiencies were identified, the auditor may elect to send a second communication letter to highlight these matters.

When all is said and done, communication throughout the audit process will result in multiple discussions, dozens of emails, and many written communication letters. This can feel overwhelming at times, so understanding what is communicated, why it is communicated, when it is communicated, and how it is communicated will help you get the most out of your audit experience.

Author: Nick Ottum, CPA, MBA | [email protected]