Auditors consider there are three ways in which a financial statement item (or underlying account balance or class of transaction) of an entity may be misstated. Firstly, by not including in a financial statement item (or underlying account balance or class of transaction) an item that should be included; secondly, by including in a financial statement item (or underlying account balance or class of transaction) an item that should not be included: thirdly, by including in a financial statement item (or underlying account balance or class of transaction) an item that should be included, but not including it accurately.
Auditors refer to these misstatements as relating to, respectively, the completeness, validity and accuracy of a financial statement item (or underlying account balance or class of transaction) .
For example, the omission of a valid liability is an example of a misstatement of completeness; the inclusion of a fictitious asset is an example of a misstatement of validity; the inclusion of a valid asset, but at an incorrect value or with an incorrect description, is an example of a misstatement of accuracy [fn].
Auditors classify misstatements as fraud (intentional), other illegal acts such as non compliance with laws and regulations (either intentional or unintentional) and errors (unintentional). Auditors, when planning the audit engagement and evaluating inherent and control risk, consider the susceptibility of the entity to material misstatements resulting from fraud, non-compliance with laws and regulations, as well as error [fn].
The auditor advises the client of all misstatements and notes the details, including the client's response, in the working papers. The auditor's subsequent actions depends upon the auditor's evaluation of the exceptions and the client's response. (Refer to separate section on Audit testing procedures). See also The CPA Journal article entitled Evaluating Audit Differences.
A misstatement may be material or immaterial. Where the auditor believes that the financial statements contain a material misstatement, the auditor issues a qualified audit opinion [fn].
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