Question

Explain why decisions about acceptable audit risk, inherent risk, the preliminary judgement about materiality, and performance materiality should be made early in the audit during the planning phase.

Answer 1

Audit Risk refers to the risk that the auditor may draw an inappropriate audit opinion on the financial statements in case they are materially misstated. Inherent Risks refers to the risk that the auditor will not be able to identify certain misstatements that exist in the financial statements. Materiality refers to amount that the decision of users of financial statements wont be affected by the misstatements in the financial statements.Performance Materiality is the amount of misstatement that an auditor can accept in a particular class of accounts.

The decisions about acceptable audit risk, inherent risk, the preliminary judgement about materiality and performance materiality should be made during the planning phase as they are very much interrelated. Materiality and degree of audit risk have an inverse relationship i.e. Higher the materiality lower the audit risk and vice versa. Planning helps in conducting the audit in efficient and effective manner on timely basis. By assessing the acceptable levels of audit and inherent risk the auditor can lay emphasis on the important areas and identify and resolve the problems on time. The aim of auditor while planning the audit is to obtain reasonable assurance on whether the financial statements are free from material misstatement and give true and fair view. The materiality level is decided at the time of planning of audit in order to determine what procedures should be used while conducting the audit like sampling or analytical procedures which will help in supporting the conclusion drawn with a low level of audit risk. Thus assessing risks and materiality in planning phase of audit saves time and use appropriate procedure to obtain sufficient and appropriate evidence to draw reasonable conclusion of audit.