The risk of a significant exception is the non-statistical equivalent to the relative difference between the expected level of exceptions and the tolerable level of exceptions, two variables used in statistical sampling. In non-statistical sampling, the risk of a significant exception is a factor in (i) selecting key items, (ii) deciding whether or not it is appropriate to stratify the population and (iii) determining sample size.
Control testing. A significant exception refers, in control testing, to a significant rate of deviation from prescribed controls. If the rate of actual rate of deviation exceeds the tolerable rate, then a significant exception is present in the population. In control testing, the risk of a significant exception is approximated by control risk. The auditor evaluates control risk (as high, moderate or low) for material account balances and related classes of transaction during the audit planning and control testing stages (Refer ABREMA model).
Substantive testing. In substantive testing, a significant exception refers to a material misstatement. If the value of misstatements exceeds the tolerable level, then a material misstatement is present in the population. The risk of a significant exception is, in substantive testing, approximated by the risk of material misstatement [RMM] [fn]. RMM is the product of inherent risk and control risk (i.e. RMM = IR x CR). The auditor evaluates RMM (or its components, inherent risk and control risk) for material account balances and related classes of transaction during the audit planning and control testing stages (Refer ABREMA model).
If inherent and control risk are evaluated separately, the table below will assist in determining the appropriate evaluation for RMM. Note that if control risk is not evaluated, it is assumed to be high.
Risk of material misstatement [RMM] given inherent risk [IR] and control risk [CR]
| Inherent risk [IR] | Control risk [CR] | ||||
|---|---|---|---|---|---|
| Low | Moderate | High | |||
| Low | LOW | MOD - LOW | MOD | ||
| Moderate | MOD - LOW | MOD | MOD - HIGH | ||
| High | MOD | MOD - HIGH | HIGH | ||
For example, if IR is moderate and CR is low, then, using the table above, the risk of material misstatement [RMM] is MOD - LOW.
Audit testing procedures, index
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