Chapter 1

Question 1

Client records are property of the client, workpapers are own by the firm

Answer 1

A CPA does not need to provide copies of workpapers to a client, although in appropriate circumstances they may choose to do so.

Question 2

Impair of independence

Answer 2

Most firms use a threshold of $100 for gifts. Anything below $100 is allowed and anything above $100 is disallowed.

Question 3

Which of the following rules of the AICPA Code of Professional Conduct must be observed even by a member who is not in public practice?

Answer 3

Integrity and objectivity is required in the performance of any professional service. It’s the basis of the profession. Once you lose your client’s respect for your integrity and objectivity, you will no longer be viewed as a reputable CPA.

Question 4

Which of the following most accurately states an auditor’s responsibility when conducting an audit engagement in accordance with Generally Accepted Auditing Standards (GAAS)?

Answer 4

Provide an assessment of the risk of material misstatements prior to performing test of details is correct. It is the auditor’s responsibility to provide an assessment of a client’s risk of material misstatements prior to performing test of details.

Question 5

When conducting an audit an auditor should approach their work with:

Answer 5

Professional skepticism
Professional judgment

Question 6

Reasonable assurance can be defined as:

Answer 6

A high, but not absolute, level of assurance that will enable the auditor to detect material misstatements is correct. Reasonable assurance is considered a high, but not absolute, level of assurance that will enable the auditor to detect material misstatements.

Question 7

To ensure that the audit report for an issuer is prepared in accordance with Section 404 of the Sarbanes-Oxley Act of 2002, the report must:

Answer 7

Attest to and report on the internal control assessment made by the management of the issuer is correct. Section 404 of the Sarbanes-Oxley Act requires that the audit report attest to, and report on, the assessment made by management about internal controls. Basically, management will provide their assessment to the audit team, and the audit team will report on management’s assessment. This is a requirement because it makes management take ownership for the internal control framework.

Question 8

Which of the following is not a role of the risk assessment in an integrated audit of a non-issuer?

Answer 8

Concluding on the effectiveness of a given control is correct. Concluding on the effectiveness of a given control is not part of the risk assessment phase of the engagement. The audit team would have to test the controls before they can conclude on the effectiveness of a given control and the overall internal control framework. Testing and concluding on controls would happen after the risk assessment phase of an audit.

Question 9

Which of the following factors is required for the auditor to determine when deciding whether or not a control deficiency is a significant deficiency?

Answer 9

The probability that a control will fail to detect a material misstatement is correct. This is the best description of a significant control deficiency out of all of the options. However, its very subjective, and there is often a lot of back and forth amongst the audit team on what type of control deficiency it actually is. As you can see below, a significant deficiency is the middle child, and their name tends to be brough up the most. The audit team always wants to say the control deficiency is more severe than it is, but never enough to warrant a material weakness, so they land on a significant deficiency.

Question 10

When conducting an integrated audit on a nonissuer’s internal control over financial reporting, which of the following would result from the auditor’s discovery of a material weakness in the company’s system of internal control?

Answer 10

The auditor should issue an adverse opinion is correct. When conducting an integrated audit and the discovery of an internal control deficiency is considered a material weakness, the auditor should issue an adverse opinion. The auditor would need to communicate the material weakness to management and those charged with governance prior to the report release date.

Question 11

An auditor is required to establish an understanding with a client regarding the services to be performed for each engagement. This understanding generally includes:

Answer 11

The auditor’s responsibility for ensuring that the audit committee is aware of any significant deficiencies in internal control that come to the auditor’s attention is correct. Professional standards require that the auditor informs the audit committee of any significant deficiencies should they arise throughout the course of the audit.

Question 12

In the integrated audit of a nonissuer, in order to obtain evidence to form an opinion on the effectiveness of internal control over financial reporting, an auditor will perform each of the following procedures, EXCEPT:

Answer 12

Reviewing matters related to the entity’s capital structure is correct. This is the only option that would not be performed to form an opinion on the operating effectiveness of internal controls over financial reporting. The entity’s capital structure relates to the level of debt and equity that is used to capitalize the company, which is irrelevant information.

Question 13

Lily, the controller of a small utility company, has interviewed audit firms proposing to perform the annual audit of their employee benefit plan. According to the guidelines of the Department of Labor (DOL), the selected auditor must be:

Answer 13

Independent for purposes of examining financial information required to be filed annually with the DOL is correct. The auditor must absolutely be independent to audit an employee benefit plan, which is subject to the DOL guidelines.

Question 14

Mary Joe’s accounting firm has six total partners and has fewer than five clients that are deemed issuers. What is “time-out” period requirement for lead in reviewing partners before they are able to return to the audit engagement once they have exceeded the five-year time period under PCAOB regulations?

Answer 14

They will have no partner rotation requirements is correct. Key point here is that Mary Joe’s accounting firm only has six audit partners and less than 5 clients. Now typically, audit partners can only spend 5 years on an issuer engagement, and after that, they must rotate off and cool-off for 5 years. However, there is one asterisk to that rule, and it says that if the audit firm has less than 10 partners, then there is no rotation requirements. So, remember, more than 10 partners requires a 5 year rotation with a 5 year cooling off. If the firm has 10 audit partners or less, then they are not subject to partner rotation requirements.

Question 15

The standard that Simone, an auditor located in Washington DC, should be independent of mind and appearance in providing audits is included in the GAGAS ethics principle of:

Answer 15

Objectivity is correct. Objectivity best describes the point that any auditor providing services to a government related entity should be independent of mind and appearance. This will allow the auditor to be free from conflicts of interest and perform an objective audit.

Question 16

The auditor with final responsibility for an engagement and one of the assistants have a difference of opinion about the results of an auditing procedure. If the assistant believes it is necessary to be disassociated from the matter’s resolution, the CPA firm’s procedures should enable the assistant to:

Answer 16

Document the details of the disagreement with the conclusion reached is correct. The quality control standards require documentation of the considerations involved in the resolution of differences of opinion.

Question 17

In planning an audit, the auditor’s knowledge about the design of relevant internal control activities should be used to:

Answer 17

Identify the types of potential misstatements that could occur is correct. In the planning stage of the audit, the audit team would use their knowledge about the design of relevant internal control activities (from performing walkthroughs) to determine where in the financial reporting process potential misstatements are likely to occur.

Question 18

An auditor who performed analytical procedures that compared current-year financial information to the comparable prior period noted a significant increase in net income. Given this result, which of the following expectations of recorded amounts would be unreasonable?

Answer 18

A decrease in retained earnings is correct. A decrease in retained earnings means that net income would have to decrease and not increase. So, this expectation is unreasonable as it does not make any sense!

A decrease in retained earnings is correct. A decrease in retained earnings means that net income would have to decrease and not increase. So, this expectation is unreasonable as it does not make any sense!

Question 19

Which of the following documentation is not required for an audit in accordance with generally accepted auditing standards?

Answer 19

A client engagement letter that summarizes the timing and details of the auditor’s planned fieldwork is correct. The engagement letter would not be included in the auditor’s workpapers. While the engagement letter will be included in the auditor’s documentation, a plan of the auditor’s fieldwork will not be included. Therefore, this is the best answer choice.

Question 20

Which of the following is a primary purpose of audit documentation?

Answer 20

To support that the audit was performed in accordance with GAAS is correct. The idea is that any experienced auditor unfamiliar with a particular audit should be able to review audit documentation and understand how the audit was performed and how the audit team arrived at their audit conclusions. Without audit documentation, the audit team is unable to prove that they performed the audit in accordance with GAAS.

Question 21

Misha, the auditor of an autonomous car company with complex information systems, wishes to examine all transactions affecting cash account balances that are greater than $1,000. Misha would most likely apply which of the following to test the client’s computerized information system?

Answer 21

Embedded audit module is correct. Embedded audit modules pertain to aspects of the application program code that collects specific transaction data for the auditor. An auditor examining all transactions affecting cash account balances that are greater than $1,000 would be an example of embedded audit modules.

Question 22

When obtaining an understanding of the entities control environment, which of the following best represents an auditor’s knowledge requirement?

Answer 22

An organizations commitment to ethics and integrity is correct. An organizations committment to ethical values and integrity within the company should be easily identifiable. Committing to ethics and integrity is often determined by using the “tone at the top” mentality. Therefore, this best represents the organization’s control environment.

Question 23

Elizabeth is the CEO of a robotics company located in Malibu, California. Which of the following is a management control method that most likely could improve Elizabeth’s ability to supervise company activities effectively?

Answer 23

Establishing budgets and forecasting to identify variances from expectations is correct. Control activities are procedures Management should implement to monitor the operations of the business. Variances are used to direct management as to where discrepancies between the company’s budget and actual results exist. Budgets and forecasts can be used by management to identify variances which are applied to oversee company activities.

Question 24

Establishing budgets and forecasting to identify variances from expectations is correct. Control activities are procedures Management should implement to monitor the operations of the business. Variances are used to direct management as to where discrepancies between the company’s budget and actual results exist. Budgets and forecasts can be used by management to identify variances which are applied to oversee company activities.

Answer 24

Inquiry is correct. As auditors, we need to actually test the controls to evaluate their operating effectiveness, and there are a variety of ways we can do this. We can walk through the control, we can inquire, we can observe the control being performed, we can inspect documentation of the control being completed, or we can perform the control ourselves. The one key thing to note is that inquiry alone is not a sufficient procedure to test effectiveness. Inquiry should always be paired with another procedure to test the operating effectiveness of a control.

Question 25

Which of the following parties is(are) required to provide an assessment and report on internal controls during the audit of an issuer?

Answer 25

Both management and the auditor is correct. In the annual report that is filed with the SEC, the CEO must assert that internal controls are implemented and operating effectively, and if they aren’t the CEO must explain why. Additionally, in the audit opinion, which is included in the annual report, the auditors must provide an assessment and report on internal controls.

Question 26

Proper segregation of duties reduces the opportunity to allow persons to be in position to both:

Answer 26

Record and conceal fraudulent transactions in the normal course of assigned tasks is correct. The purpose of segregation of duties is to eliminate management’s ability to commit fraudulent acts and subsequently conceal those acts throughout the ordinary course of operations.

Question 27

Which of the following is most relevant when an auditor considers the clients organizational structure in the context of control risk?

Answer 27

The suitability of the client’s lines of reporting is correct. The suitability of the client’s lines of reporting directly relates to the client’s organizational structure (e.g. internal auditors reporting directly to the audit committee etc.) therefore, this is the best answer choice.

Question 28

All of the following are considered requirements for an auditor to understand a client’s system of internal controls except?

Answer 28

Determine the operating effectiveness of the client’s internal controls is correct. The auditor need not determine the internal controls overall operating effectiveness when obtaining an understanding of the client’s system of internal controls. If conducting an integrated audit, the auditor would provide an opinion on the overall operating effectiveness of internal controls, however, this would not be necessary during the risk assessment phase of an audit engagement.

Question 29

Which of the following statements indicates that the auditor has gained a sufficient understanding of a client’s internal controls related to the sales order process?

We understand this is a very tricky AICPA licensed question, and the video explanation provides some additional context for why each option is correct or incorrect.

Answer 29

The auditor noted in a narrative that the documentation for the sales order system showed the printing of a shipment-exception report listing noninvoiced shipments is correct. We must gain sufficient understanding of our clients processes in order to understand their internal controls. This option mentions a narrative, which would be reviewed by the audit team to understand the client’s processes and controls in place.

Question 30

Which of the following is usually considered a monitoring activity?

Answer 30

Using information from customer complaints is correct. This is an example of a monitoring activity since reviewing customer complaints would identify whether controls are operating effectively (or not). The other options represent control activities, which is why there are incorrect.

Question 31

An audit that has been planned in accordance with Generally Accepted Auditing Standards (GAAS) will often involve the use of specialists for the specific engagement. The auditor should not be required to do which of the following in regards to the use of a specialist?

Answer 31

Dictate specialist procedures is correct. This is the only option that the external auditor would not be required to do. The specialist was hired because the external audit team doesn’t have the necessary knowledge to perform the work, so how would the external audit team be able to dictate the procedures, right?

Question 32

Aspen Mountains is attempting to calculate the return on investment (ROI) of a recently purchased piece of equipment. The following data applies to Aspen Mountains in the current year:
Revenue: $100,000
Cost of goods sold: $65,000
General admin expenses: $12,000
Calculate Aspen Mountain’s return on investment (ROI) for the current year assuming that the average value of the equipment purchased is $50,000, and there are no income taxes:

Answer 32

46% is correct. The formula for calculating return on investment is net income / average invested capital (or investment).
Aspen Mountains purchased a piece of equipment for $50,000, so we can assume that is the investment. The missing information is net income, however, the question gives us revenue and expense figures. Once you calculate net income, divide net income into the investment amount, and that gives the return on investment figure.