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Interpretation and Application of International Standards on Auditing by Steven Collings

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24

ISA 540 (REVISED AND REDRAFTED) AUDITING ACCOUNTING ESTIMATES, INCLUDING FAIR VALUE ACCOUNTING ESTIMATES, AND RELATED DISCLOSURES

ISA 540 (revised and redrafted) outlines the auditor’s responsibility relating to auditing accounting estimates, including fair value accounting estimates and the related disclosures. The IAASB ‘Clarity project’ combined ISA 545 ‘Auditing Fair Value Measurements and Disclosures’ with ISA 540 ‘Auditing of Accounting Estimates’.

It is widely understood that financial statements, generally, cannot be 100% correct merely because they contain estimations, such as:

  • Depreciation provisions.
  • Accrued expenses.
  • Inventory provisions.
  • Bad debt provisions.
  • Warranty provisions.
  • Deferred tax.
  • Losses on construction contracts in progress.

The objective of this ISA is to ensure that the auditor obtains sufficient appropriate audit evidence to ensure that the accounting estimates and fair value accounting estimates are reasonable as well as ensuring that the related disclosure notes in the financial statements are adequate [ISA540.6].

Some accounting estimates are relatively easy to estimate, such as audit and accountancy accruals and accounting estimates that are frequently updated. Other accounting estimates may not be as straight forward and in some situations may require the use of an expert to determine their appropriateness, such as:

  • Estimates for ongoing litigation cases.
  • Estimates for complex financial instruments.
  • Estimates used in the valuation of a defined ...

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