With Part A qualifications now firmly in the ATO’s sights as they are now required to be reported in the annual return, a result of the now-defunct three-yearly audit cycle, Part A qualifications are no longer being ignored by SMSF advisers. Trying to understand the impact on their SMSF clients is now front of mind even before the annual return has been lodged.
The ATO’s approach
The ATO has said reporting Part A qualifications will assist them in risk profiling the SMSF population and will also be one of the factors considered when auditing an SMSF. In reality, the ability to glean any discernible patterns or trends given the nature of Part A qualifications will be difficult.
Most importantly, the ATO has said they will not look to take compliance action on Part A qualifications for the 2019 year. Given there’s a good chance that what is required to be reported will change for the SMSF annual return in 2020, this could be a flash in the pan for the industry.
What is a Part A qualification?
The auditing standards require SMSF auditors to form an opinion as to whether the financial report is prepared in accordance with the applicable reporting framework. An SMSF auditor will modify their opinion by qualifying Part A of the audit report where they conclude that the financial report as a whole is not free from material misstatements.
The main types of Part A qualifications include:
First-year audits
Reason: Unable to obtain audit evidence on the opening balances
Audited platforms
Reason: Inability to obtain audit evidence on underlying investments reported via a platform
Fund assets at purchase cost
Reason: Assets not valued at market value
Market value uncertain
Reason: Inability to obtain sufficient audit evidence to support market value
Non-arm’s length income
Reason: Tax calculation materially incorrect as non-arm’s length income identified
No bank statements
Reason: Cannot form an opinion on true and fair position of the fund at year-end or the bank transactions
Investments incorrectly classified
Reason: Classification of assets on the financial statements are not in accordance with applicable accounting standards
Rollovers in not supported by evidence
Reason: Unable to confirm the nature of the receipt
Why have Part A qualifications increased?
The SMSF industry has already seen the ramifications of neglecting to qualify Part A of the audit report due to a material misstatement in the Baumgartner case. This resulted from the auditor failing to investigate the nature of unsecured loans and unit trust investments held by the fund and not enquiring as to the existence and verification of the assets.
There was no documentation on file in relation to these high-risk investments, and the auditor failed in their duty to communicate with the trustee. He was subsequently found negligent for failing to identify incorrect classifications, misstatements and other facts and circumstances to the plaintiff’s attention by way of notation or qualification in the audit reports.
Qualifying opening balances
An SMSF auditor may face difficulties with initial audit engagements in obtaining sufficient appropriate audit evidence for opening balances. The auditor’s objective is to obtain reasonable assurance about whether the financial report as a whole is free from material misstatement. The auditor cannot express separate opinions on each element of the financial report.
SMSF auditors must determine whether the prior period’s closing balances have been correctly brought forward to the current period, as well as ensure there is sufficient evidence on file to support the opening balances. In other words, are the opening balances correct?
Giving this part of the audit a green tick means effectively undertaking an audit on the prior-year audit, which is why some SMSF auditors typically qualify Part A of the audit report.
How to avoid qualifying opening balances
To avoid an opening balance Part A Qualification, the auditor must test the cash account and all material assets and liabilities.
The comparatives on the current year financial statements must be checked to the closing balances from prior-year financial statements. Where the amounts do not agree, an audit query must be raised.
Additionally, member opening balances and preservation components from the prior year are checked; the cost bases of assets have to be reviewed; any carry-forward tax and capital losses from the previous annual return are tested; and the auditor must evaluate the prior-year Trustee Declarations and Audit Report and ensure they are signed correctly.
Where this preliminary work is undertaken, the SMSF auditor can avoid issuing a Part A qualification on opening balances. It should be noted that in accordance with ASA 710, an “Other Matter” paragraph is required for all funds with respect to the comparatives.
Qualifying platforms
The auditor will issue a Part A qualification where an SMSF invests in an audited platform and they are unable to obtain audit evidence. In accordance with the Auditing Standards, the SMSF auditor is required to obtain an understanding of each platform to determine the level of testing needed at the individual fund level.
Where a GS007/Type 2 Audit Report is available on the design, implementation and effectiveness of controls for the platform, ASA 402 states that auditors are still required to complete substantive testing to ensure there is sufficient appropriate audit evidence relating to material balances and transactions of the fund.
The audit requirements for platforms can be summarised as follows:
Assets custodially held
Audit Report on Controls (Type 2 only)
- Unable to obtain sufficient appropriate audit evidence
- Qualified audit opinion (Ref: ASA 402 / GS009)
No Audit Report
- Unable to obtain sufficient appropriate audit evidence
- Qualified audit opinion or disclaimer of opinion
Assets individually held
Audit Report on Controls (Type 2 only)
- Perform testing at a fund level OR testing at a platform level
- Unmodified audit opinion
No Audit Report
- Perform testing at a fund level*
- Unmodified audit opinion
*If sufficient appropriate audit evidence is not provided, a qualified audit opinion will be required
Conclusion
While Part A qualifications have risen mainly due to the successful litigation against two SMSF auditors for losses experienced by the funds, it’s still a complicated and challenging task for SMSF auditors.
Issuing a Part A qualification is not a foregone conclusion, and the audit opinion must be substantiated by the audit evidence, or lack thereof, in the audit file.
The good news is there have been loud whispers within the industry that the requirement to inform the ATO about the more common Part A qualifications may be removed from the 2020 SMSF annual return.
And let’s be honest, it’s not such a big deal in 2019 anyway.
Shelley Banton, head of technical, ASF Audits
Am I missing something? Of course an annual audit is mandatory so what’s the problem? One headline point is “how to avoid qualifying opening balances”? If there is an opening balance there must have been a previous closing balance. That previous balance must have been audited. Doesn’t the new auditor rely on the work of the previous auditor? Isn’t this a duplication? The other points make total 100% sense.
A financial statement audit for a SMSF is a waste of time. Traditionally they have not been done and, if there is some attention now due to the Annual Return having a label to answer, it’s likely that auditor will qualify rather than do the work. The cost of a proper financial statement audit, along with a compliance audit, would be out of the ball park, if done properly. With fee compression the order of the day for SMSFs, it’s clear the financial statement audit IS NOT BEING DONE.
It’s a legacy thing, when the reporting standards were in SISA, that got left behind when the APRA fund standards were moved to Corps. Sure APRA funds need a financial statement audit, but not SMSFs.
Yes we have seen litigation for some extreme cases of negligence (of both parties to the compliance of particular SMSFs), but here’s the thing, where were the accounting professional bodies in all this? They take sizeable fees from members and the ATO relies on them to supervise the quality of practitioners work. Public servants wouldn’t know one end of a set of financials. They interpret everything through legislation, of which financial statements are not mentioned. It’s a joke and, even if the ATO mines some usable data, what are they going to do? Refer to the professional body, by chance?
If the professional bodies are not going to adequately supervise members who are involved in SMSF compliance, perhaps we need a seperate registration process in order to be eligible to undertake SMSF compliance work and, whilst at it, the penalty regime for SMSF auditors put into something tangible that the ATO/ASIC can apply.
Not sure which auditors you are working with, but the ones I work with do a financial audit, and do it properly.
Ditto Chris Craggs
What rubbish , Financial audits are completed by every good smsf auditor when completing a compliance audit
the ATO is tough on smsf auditors and numerous disciplinary actions have been undertaken
Wow. Wow.
I’ve been working in the SMSF industry for 14 years.
Every auditor I have dealt with conducts an audit on the financial statements.
Yes the SIS Act is about is all about compliance.
The audit on financial statements is carried out using auditing standards with reference to each SMSF’s Statement of Accounting Policies, given they are special purpose entities.
Whichever auditor you are using should not be an SMSF Auditor.
Not sure how removal of Part A qualification can be considered as good news here.