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Chapter 9

REPORTING ON THE AUDITS OF GOVERNMENTAL FINANCIAL STATEMENTS

LEARNING OBJECTIVES

After completing this chapter, you should be able to do the following:

Identify the components of the basic financial statements of a governmental entity.
Identify reasons for opinion modification in the auditors' report.
Recognize auditors' requirements for required supplementary information, supplementary information, and other information.

BASIC FINANCIAL STATEMENTS

The auditor's standard report on a government's basic financial statements states that the financial statements present fairly (in all material respects) the financial position, changes in financial position, and (where applicable) cash flows of each opinion unit in those financial statements in conformity with GAAP. (The following information discusses changes to the standard report if the basic financial statements contain a single opinion unit.) The basic elements of the standard report are listed in paragraphs .23—.41 of AU-C section 700¹ and include

a title that includes the word independent;
the addressee;
an introductory paragraph;
a section with the heading “Management's Responsibility for the Financial Statements”;
a section with the heading “Auditor's Responsibility”;
a section with the heading “Opinion”;
when applicable, a section subtitled “Report on Other Legal and Regulatory Requirements”;
signature of the auditor; and
the date of the auditor's report.

The auditor's report should also include an “other matter” paragraph as discussed in AU-C section 706, Emphasis-of-Matter Paragraphs and Other-Matter Paragraphs in the Independent Auditor's Report (AICPA, Professional Standards), because GASB requires basic financial statements to be accompanied by RSI, which is considered an other-matter. If the auditor's report contains a separate section on other reporting responsibilities, then the headings, statements, and explanations referred to in paragraphs .25—.36 of AU-C section 700 should be under the subtitle “Report on the Financial Statements.” The “Report on Other Legal and Regulatory Requirements” section should follow the “Report on the Financial Statements.” The form of the auditor's standard report on a government's basic financial statements covering a single year, when reporting on accompanying RSI, SI, and other information (OI)² as shown in appendix A (example A-1) to this chapter.

THE AUDITOR'S REPORT

A description of the format and content of an auditor's report for audits conducted in accordance with generally accepted auditing standards (GAAS) is provided in AU-C section 700. This section discusses the nuances of applying AU-C section 700 to state and local government reporting; auditors should refer to the standard for all reporting requirements.

The Introductory Paragraph

The introductory paragraph of the auditor's report should refer to the audit of the financial statements of each opinion unit, even though some of those opinion units do not have distinct or separate financial statements. For example, there usually will not be a single set of financial statements for the “aggregate remaining fund information.” However, the reference in the introductory paragraph to the ftnancial statements for the aggregate remaining fund information is meant to refer to the aggregate of the financial statements for the funds and fund types that comprise that opinion unit. The introductory paragraph should identify the financial statements being audited. Usually, this identification includes reference to the table of contents or to the pages on which the financial statements are displayed. It is appropriate to refer to the table of contents only if the financial statements for which the reference is made are listed in the table of contents.

When the auditor disclaims an opinion due to the inability to obtain sufficient appropriate audit evidence, the auditor should amend the introductory paragraph to state the auditor was “engaged to audit” the financial statements.

The introductory and opinion paragraphs of the auditor's report will refer in a general manner to the government's major funds, rather than separately naming individual major funds. Major funds should be evident from the basic financial statements (for example, if the financial statements, through labeling or disclosure, indicate which governmental and enterprise funds are major)³ and should be identified in the summary of significant accounting policies in accordance with paragraph 6 of GASB Statement No. 38, Certain Financial Statement Note Disclosures. When the major funds are evident from the basic financial statements, there is a presumption that the report users will be able to reasonably determine the major funds on which the auditor is opining. However, if the financial statements are ambiguous about which governmental and enterprise funds are major, the auditor may also name the major funds in the report to make the scope of the audit and the opinions on the opinion units clear to the report user. In cases when there are different types of opinions, the illustrative reports in this chapter include a table to illustrate an additional way for the auditor to communicate that more than one type of opinion is being issued. The table's inclusion may assist users in more easily understanding the report, but it is not a required element. See example A-4 in appendix A of this chapter for an example.

The financial statements for some special-purpose governments engaged only in business-type activities and for special-purpose governments engaged only in fiduciary activities will have a single opinion unit and therefore, the auditor will give a single opinion on those financial statements. If, however, such a special-purpose government has one or more discretely presented component units, there will be more than one opinion unit. See the illustrative auditor's report in appendix A (example A-3) of this chapter.

MANAGEMENT'S RESPONSIBILITY FOR THE FINANCIAL STATEMENTS

The auditor's report should include a section with the heading “Management's Responsibility for the Financial Statements.” This section should describe management's responsibility for the preparation and fair presentation of the financial statements, including an explanation that management is responsible for the preparation and fair presentation of the financial statements in accordance with the applicable financial reporting framework. This responsibility includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free from material misstatement, whether due to fraud or error. The description about management's responsibility for the financial statements in the auditor's report should not be referenced to a separate statement by management about such responsibilities if such a statement is included in a document containing the auditor's report.

AUDITOR'S RESPONSIBILITY

This section should include the heading “Auditor's Responsibility” and should state that the auditor's responsibility is to express opinions on the financial statements based on the auditor's audit. However, even though the auditor's report generally will provide more than one opinion, the auditor is conducting only one audit. Therefore, this section refers to only one audit. Note there are cases in which there is only one opinion unit—in which case, the reference would then be to opinion rather than opinions.

Based on paragraph .28 of AU-C section 705, when the auditor disclaims an opinion due to an inability to obtain appropriate audit evidence, the auditor should amend the “Auditor's Responsibility” section as follows:

Our responsibility is to express opinions on these financial statements based on our audit. We conducted our audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free from material misstatement. Because of the matter(s) described in the “Basis for Disclaimer of Opinion” paragraph, however, we were not able to obtain sufficient appropriate audit evidence to provide a basis for an audit opinion on the [identify the opinion unit].

If the government presents the required budgetary comparison information as a basic financial statement rather than as RSI, the scope of the audit for the general and each major special revenue fund that has a legally adopted annual budget should encompass the required budgetary comparison information. The opinion paragraph should also refer to the budgetary comparisons for those funds. See the discussion in footnotes in appendix A in examples A-1 and A-5.

AUDITOR'S OPINION

This section should include the heading “Opinion” or “Opinions” if there are multiple opinion units. When expressing an unmodified opinion on a government's basic financial statements, the opinion paragraph should state that the financial statements present fairly, in all material respects, the financial position, changes in financial position, and (where applicable) cash flows of each opinion unit in those financial statements in conformity with GAAP or the applicable financial reporting framework and its origin. Modifications to opinions are discussed further in the information that follows.

OTHER REPORTING RESPONSIBILITIES

If the auditor addresses other reporting responsibilities in the auditor's report on the financial statements that are in addition to the auditor's responsibility under GAAS to report on the financial statements, these other reporting responsibilities should be addressed in a separate section in the auditor's report that should be subtitled “Report on Other Legal and Regulatory Requirements” or otherwise, as appropriate to the content of the section. An example of such reporting would be for audits conducted under Government Auditing Standards which require the auditor to report on internal control over financial reporting and compliance with laws, regulations, and provisions of contracts or grant agreements.

EMPHASIS OF MATTER AND OTHER-MATTER PARAGRAPHS

Certain circumstances, although not affecting the auditor's unmodified opinion on the financial statements, may require that the auditor add an emphasis-of-matter or other-matter paragraph to the auditor's report. Paragraph .05 of AU-C section 706 provides the following definitions:

Emphasis-of-matter paragraph. A paragraph included in the auditor's report that is required by GAAS, or is included at the auditor's discretion, and that refers to a matter appropriately presented or disclosed in the financial statements that, in the auditor's professional judgment, is of such importance that it is fundamental to users' understanding of the financial statements.

Other-matter paragraph. A paragraph included in the auditor's report that is required by GAAS, or is included at the auditor's discretion, and that refers to a matter other than those presented or disclosed in the financial statements that, in the auditor's professional judgment, is relevant to users' understanding of the audit, the auditor's responsibilities, or the auditor's report.

DEPARTURES FROM THE STANDARD REPORT⁴

Basis for Modification Paragraph

Paragraph .17 of AU-C section 705 requires the auditor to include, in addition to the elements of the auditor's report specified in AU-C section 700, a paragraph that provides a description of the matter giving rise to the modification. The paragraph should be placed before the opinion paragraph and use a heading that includes “Basis for Qualified Opinion, Basis for Adverse Opinion,” or “Basis for Disclaimer of Opinion,” as appropriate. Even if the auditor has expressed an adverse opinion or disclaimed an opinion on the financial statements, the auditor should (a) describe in the basis for modification paragraph any other matters of which the auditor is aware that would have required a modification to the opinion and the related effects, and (b) consider the need to describe in an emphasis-of-matter paragraph or other-matter paragraph(s) regarding any other matters of which the auditor is aware that would have resulted in additional communications in the auditor's report on the financial statements that are not modifications of the auditor's report.

The following sections explain the types of conditions that may lead to an opinion modification and illustrates or refers to report language for those modifications. Specific situations that may require changes in the standard report language are discussed further subsequently.

Scope Limitations

A lack of sufficient appropriate audit evidence or restrictions on the scope of the audit of the financial statements for an opinion unit may lead the auditor to qualify the opinion or disclaim an opinion on that opinion unit. A scope limitation is present if a portion of a governmental reporting entity is not audited. A scope limitation that arises from a lack of sufficient appropriate audit evidence to support a financial statement assertion may involve circumstances in which, for example, a government's accounting systems, processes, and records do not provide sufficient information to enable the government to

report interfund activity and balances in the fund financial statements,
eliminate internal activity and balances in the government-wide financial statements, or
report capital assets in conformity with GAAP.

The auditor also should consider whether the entity's presentation constitutes a departure from GAAP. A scope limitation arising from insufficient audit evidence also could involve a situation in which an auditor is unable to obtain information about internal control over service organization services that are part of the government's information system.

Qualified Opinion—Scope Limitations

When a qualified opinion results from a limitation on the scope of the audit or insufficient audit evidence, the auditor should describe the circumstances in the basis for modification paragraph before the opinion paragraph and use a heading that includes “Basis for Qualified Opinion.” The heading of the opinion paragraph should include “Qualified Opinion.” An example of a qualified opinion when a government does not obtain an audit of one or more (but not all) discretely presented component units that are material to the aggregate discretely presented component unit opinion unit, and the auditor determines that a qualification of opinion is appropriate, is shown in appendix A (example A-4) to this chapter.

Disclaimer of Opinion—Scope Limitations

A disclaimer of opinion states that the auditor does not express an opinion on the financial statements for one or more opinion units or for the financial statements as a whole. A disclaimer is appropriate when the auditor has not performed an audit sufficient in scope to enable the auditor to form an opinion on the financial statements for the opinion unit or when the client imposes restrictions that significantly limit the scope of the audit. When disclaiming an opinion on an opinion unit because of a scope limitation, the auditor should describe the circumstances in the basis for modification paragraph before the opinion paragraph and use a heading that includes “Basis for Disclaimer of Opinion.” The opinion paragraph should use a heading that includes “Disclaimer of Opinion.”

An example basis for modification paragraph when one or more (but not all) discretely presented component units are not audited, and the auditor determines that a disclaimer of opinion is appropriate, is the same as that illustrated in appendix A (example A-4) to this chapter, for a qualified opinion. (That example basis for modification paragraph would require some modification if an auditor disclaims an opinion because all discretely presented component units are not audited.) Summary of Opinions section in example A-4 illustrates a disclaimer of opinion on the aggregate discretely presented component units.

There may be situations in which, for entities with more than one opinion unit, the auditor will disclaim an opinion on the financial statements as a whole. In those situations, the auditor should state in a separate basis for modification paragraph all of the substantive reasons for the disclaimer on the financial statements as a whole. See the illustrative auditor's reports in paragraph .A32 of AU-C section 705.

Departures From GAAP

A departure from GAAP in the financial statements for an opinion unit may lead the auditor to qualify the opinion or express an adverse opinion on that opinion unit. Some of the departures from GAAP that, depending on the materiality of the effect, may require an opinion modification for one or more opinion units include the following:

Financial information (for example, for a fund, department, agency or program, or one or more [but not all] component units), is omitted from the financial statements. A portion of the reporting entity does not apply GAAP, for example, a component unit is on a cash basis of accounting.
General capital assets are omitted from the government-wide financial statements.
The entity accounts for infrastructure assets using the modified approach even though it no longer qualifies to do so. The fund financial statements do not report one or more governmental or enterprise funds as major in conformity with the quantitative criteria of GASB Statement No. 34, as amended. A required note disclosure is omitted or is not presented in conformity with GAAP.

Qualified Opinion—Departures From GAAP

When the auditor expresses a qualified opinion, the auditor should include a basis of modification paragraph before the opinion paragraph that includes the heading “Basis for Qualified Opinion” that explains, for each affected opinion unit, (a) all of the substantive reasons that have led him or her to conclude that there has been a departure from GAAP, and (b) the principal effects of the subject matter of the qualification on the financial position, changes in financial position, or, where applicable, cash flows, if practicable, or a statement that the effects are not reasonably determinable. The opinion paragraph of the report also should include the appropriate qualifying language and a reference to the basis for modification paragraph. Appendix A, example A-5 to this chapter, illustrates qualified opinions for departures from GAAP.

Adverse Opinion—Departures From GAAP

An adverse opinion states that the financial statements for an opinion unit (or for the financial statements as a whole as discussed further in the following information) do not present fairly the financial position, changes in financial position, or (where applicable) cash flows in conformity with GAAP. When the auditor expresses an adverse opinion for an opinion unit, the auditor's report should include a separate basis for modification paragraph before the opinion paragraph that uses the heading “Basis for Adverse Opinion.” The opinion paragraph should use a heading that includes “Adverse Opinion.” The basis for modification paragraph makes the same explanations about the adverse opinion as discussed further in the following information for a qualified opinion.

An example of an adverse opinion on governmental activities because those financial statements do not include certain general infrastructure assets is shown in appendix A (example A-6) to this chapter. The auditor should consider quantitative and qualitative factors in determining whether the omission of general infrastructure assets requires an opinion modification and, if so, whether the modification should be a qualified or an adverse opinion. Because a general-purpose government's general infrastructure assets are presumed to be material in relation to its governmental activities unless demonstrated otherwise, an adverse opinion usually would be appropriate. Such a presumption does not exist for special-purpose governments because some special-purpose governments, such as school districts, generally have little or no general infrastructure assets. Further, some auditors may conclude that the omission of general infrastructure assets cause the financial statements, as a whole, not to be presented fairly in conformity with GAAP.
An example of an adverse opinion because a government does not accrue compensated absences liabilities and expenses for governmental activities is shown in appendix A (example A-7) to this chapter.

There may be situations in which an adverse opinion(s) on the financial statements of an entity with more than one opinion unit will result in the auditor expressing an adverse opinion on the financial statements as a whole. An example of an adverse opinion when a government does not present government-wide financial statements is shown in appendix A (example A-8) to this chapter.

Required Supplementary Information, Supplementary Information, and Other Information

AUDITING CONSIDERATIONS

A government's basic financial statements always should be accompanied by MD&A and frequently may be accompanied by various types of other supporting information presented outside the basic financial statements. GAAP requires RSI to accompany the basic financial statements. GASB-established RSI includes, for example, MD&A, certain pension funding information, other post-employment benefits information, information about infrastructure assets accounted for using the modified approach, and budgetary comparison information. On the other hand, GAAP does not require “GASB defined” SI to accompany the basic financial statements. Governments provide “GASB defined” SI voluntarily to supplement and expand upon the basic financial statements. Some governments provide “GASB defined” SI as part of a comprehensive annual financial report (CAFR)—as further discussed in chapter 8 of this course—such as the introductory section (including the letter of transmittal), the combining and individual nonmajor fund financial statements and schedules, and the statistical section. According to AU-C section 730, RSI differs from “GASB defined” SI because RSI is considered an essential part of financial reporting and because there are authoritative guidelines for measuring and presenting RSI.

“GASB defined” SI may be either OI as defined in AU-C section 720 or SI as defined in AU-C section 725, Supplementary Information in Relation to the Financial Statements as a Whole (AICPA, Professional Standards). The determination of whether the auditor is within the scope of AU-C section 720 or AU-C section 725 is dependent upon both the type of information and the engagement. If certain information meets the definition of SI in AU-C section 725 and the auditor is engaged to report on whether it is fairly stated, in all material respects, in relation to the financial statements as a whole, then AU-C section 725 applies. Otherwise, the information is considered OI, and the auditor's responsibility is described in AU-C section 720. Examples of information that is typically considered OI under AU-C section 720 include the introductory section (including the letter of transmittal) and the statistical section of a CAFR (that is, in practice auditors are not typically engaged to provide an “in relation to” opinion on this information). Information that is typically considered SI includes the combining and individual nonmajor fund financial statements and schedules of a CAFR (that is, in practice auditors are often engaged to provide an “in relation to” opinion on this information). There are some “certification” programs that may require either a full opinion or “in relation to” opinion on combining and individual fund financial statements and schedules. Therefore, in such scenarios this information may be treated as SI for auditing purposes. Absent such a requirement, the information would be treated as OI.

Unless the auditor is engaged to audit information that accompanies the basic financial statements as discussed directly below, the procedures that an auditor applies to that information depend on whether the information is RSI, SI, or OI. Being engaged to audit information that accompanies the basic financial statements means being engaged to express an opinion whether that accompanying information is fairly presented, in all material respects, in conformity with generally accepted accounting principles. Unless the auditor is engaged to audit the accompanying information, the information is considered unaudited, even though GAAS require the auditor to perform specific procedures and to report on the information.

Audit Scope Includes Required Supplementary Information or Supplementary Information

The auditor may be engaged to audit either or both RSI and “GASB defined” SI—that is, express an opinion whether the information is fairly presented, in all material respects, in conformity with GAAP. For example, state and local governments may elect to report the required budgetary comparison information in a budgetary comparison statement as part of the basic financial statements, rather than as RSI. If the government makes this election, under AU-C section 700, the auditor should perform procedures considered sufficient to express an opinion on whether the budgetary comparison information financial statement is fairly stated, in all material respects, in conformity with GAAP. In this situation, the government has satisfied the GASB requirement for inclusion of the information; however, the nature of the required information has changed from required supplementary information to a basic financial statement. The auditor may also be engaged under AU-C section 805, Special Considerations— Audits of Single Financial Statements and Specific Elements, Accounts, or Items of a Financial Statement (AICPA, Professional Standards), to express an opinion regarding whether combining and individual nonmajor fund financial statements presented as “GASB defined” SI are fairly stated, in all material respects, in conformity with GAAP.

When engaged to audit RSI or “GASB defined” SI, the auditor should plan and perform adequate procedures responsive to the assessed risks of material misstatement and evaluate the results of those procedures to support developing an opinion on the information or to disclaim an opinion. The auditor makes materiality determinations and establishes opinion units for planning, performing, evaluating the results of, and reporting on the results of the audit depending on the terms of the engagement. For example, if the engagement terms provide for the audit of each fund presented in combining and individual nonmajor fund financial statements, the auditor should consider each fund to be a separate opinion unit.

Required Supplementary Information

AU-C section 730, Required Supplementary Information, (AICPA, Professional Standards) addresses the auditor's responsibility with respect to RSI. AU-C section 730 defines RSI as information a designated accounting standards setter⁵ (that is, GASB, for purposes of this course) requires to accompany an entity's basic financial statements. RSI is not part of the basic financial statements; however, GASB considers the information an essential part of financial reporting for placing the basic financial statements in an appropriate operational, economic, or historical context. Additionally, authoritative guidelines for the methods of measurement and presentation of the information have been established by GASB regarding RSI. In the absence of any separate requirement in the particular circumstances of the audit engagement, the audit opinions on the various opinion units contained in the basic financial statements do not cover RSI. The auditor should apply the following limited procedures to the RSI (unless the auditor is engaged to audit the RSI as discussed previously), as required by AU-C section 730:

Inquire of management about the methods of preparing the information, including (a) whether it is measured and presented in accordance with prescribed guidelines, (b) whether methods of measurement or presentation have been changed from those used in the prior period and the reasons for any such changes, and (c) whether there were any significant assumptions or interpretations underlying the measurement or presentation of the information.
Compare the information for consistency with (a) management's responses to the foregoing inquiries, (b) the basic financial statements, and (c) other knowledge obtained during the audit of the basic financial statements.
Obtain written representations from management (a) that it acknowledges its responsibility for the RSI; (b) about whether the RSI is measured and presented in accordance with prescribed guidelines; (c) about whether the methods of measurement or presentation have changed from those used in the prior period and, if so, the reasons for such changes; and (d) about any significant assumptions or interpretations underlying the measurement or presentation of the RSI. See chapter 13 for additional requirements and guidance on management representations.

If the auditor is unable to complete these procedures, the auditor should consider whether management contributed to the auditor's inability to complete the procedures. If the auditor concludes the inability to complete the procedures is due to significant difficulties encountered in dealing with management, the auditor should inform those charged with governance.

Supplementary Information

For purposes of GAAS, supplementary information (SI) is defined in AU-C section 725 as information presented outside the basic financial statements, excluding RSI that is not considered necessary for the financial statements to be fairly presented in accordance with the applicable financial reporting framework. Such information may be presented in a document containing the audited financial statements or separate from the financial statements. An opinion on whether SI is fairly stated in all material respects is made in relation to the basic financial statements as a whole, not in relation to individual opinion units

In order to opine on whether SI is fairly stated, in all material respects, in relation to the financial statements as a whole, the auditor should determine that all of the following conditions are met as required by AU-C section 725:

The SI was derived from, and relates directly to, the underlying accounting and other records used to prepare the financial statements.
The SI relates to the same period as the financial statements.
The financial statements were audited, and the auditor served as the group auditor in that engagement.
Neither an adverse opinion nor a disclaimer of opinion was issued on the financial statements.
The SI will accompany the entity's audited financial statements, or such audited financial statements will be made readily available by the entity.

Audited financial statements are deemed to be readily available if a third party user can obtain the audited financial statements without any further action by the entity (for example, posted on the entity's website but not being available upon request).

The auditor's responsibilities with regard to SI for which the auditor is providing an “in relation to” opinion are provided in AU-C section 725. The auditor should apply the following limited procedures to the SI, as required by AU-C section 725:

Obtain the agreement of management that it acknowledges and understands its responsibility
— for the preparation of the SI in accordance with the applicable criteria;

— to provide the auditor with the following written representations
- that it acknowledges its responsibility for the presentation of the SI in accordance with the applicable criteria;
- that it believes the SI, including its form and content, is fairly presented in accordance with the applicable criteria;
- that the methods of measurement or presentation have not changed from those used in the prior period or, if the methods of measurement or presentation have changed, the reasons for such changes;
- about any significant assumptions or interpretations underlying the measurement or presentation of the SI; and
- that when the SI is not presented with the audited financial statements, management will make the audited financial statements readily available to the intended users of the SI no later than the date of issuance by the entity of the SI and the auditor's report thereon;
— to include the auditor's report on the SI in any document containing the SI and that indicates the auditor reported on such SI; and

— to present the SI with the audited financial statements or, if the SI will not be presented with the audited financial statements, to make the audited financial statements readily available to the intended users of the SI no later than the date of issuance by the entity of the SI and the auditor's report thereon.
In addition to the procedures performed during the audit of the financial statements, in order to opine on whether the SI is fairly stated, in all material respects, in relation to the financial statements as a whole, the auditor should perform the following procedures using materiality at a level that represents the entire governmental entity:
—     Inquire of management about the purpose of the SI and the criteria used by management to prepare the SI, such as an applicable financial reporting framework, criteria established by a regulator, contractual agreement, or other requirement.

—     Determine whether the form and content of the SI complies with the applicable criteria.

—     Obtain an understanding about the methods of preparing the SI and determine whether the methods of preparing the SI have changed from those used in the prior period and, if the methods have changed, the reasons for such changes.

—     Compare and reconcile the SI to the underlying accounting and other records used in preparing the financial statements or to the financial statements themselves.

—     Inquire of management about any significant assumptions or interpretations underlying the measurement or presentation of the SI.

—     Evaluate the appropriateness and completeness of the SI, considering the results of the procedures performed and other knowledge obtained during the audit of the financial statements.

—     Obtain the preceding noted written representations from management.

Unless the auditor is engaged to audit the SI, SI is considered unaudited, even though GAAS require the auditor to perform specific procedures, and to report on the information.

Other Information

If the auditor is not engaged to issue an “in relation to” opinion under AU-C section 725 on the “GASB defined” SI, then AU-C section 720, Other Information in Documents Containing Audited Financial Statements (AICPA, Professional Standards), applies. OI, as defined by AU-C section 720, is financial and nonfinancial information (other than the financial statements and the auditor's report thereon) that is included in a document containing audited financial statements and the auditor's report thereon, excluding RSI. In a government environment, OI typically includes information in the introductory and statistical sections of a CAFR. The objective of the auditor with respect to OI is to respond appropriately when the auditor becomes aware that documents containing audited financial statements and the auditor's report thereon include OI that could undermine the credibility of those financial statements and the auditor's report. The auditor should apply the following limited procedures to the OI, as required by AU-C section 720:

Read the OI of which the auditor is aware in order to identify material inconsistencies, if any, with the audited financial statements.
Make appropriate arrangements with management or those charged with governance to obtain the OI prior to the report release date. If it is not possible to obtain all of the OI prior to the report release date, the auditor should read such OI as soon as practicable.
Communicate with those charged with governance the auditor's responsibility with respect to the OI, any procedures performed relating to the OI, and the results.
When the auditor identifies a material inconsistency in the OI that requires revision of the audited basic financial statements, the auditor requirements depend upon when the material inconsistency was identified and management's actions:
—     If identified prior to the report release date and management makes the appropriate revision, the auditor's opinion on the financial statements would not be affected.

—     If identified prior to the report release date and management refuses to make the appropriate revision, the auditor should modify the auditor's financial statement opinion in accordance with AU-C section 700.

—     If identified subsequent to the report release date, the auditor should apply the relevant requirements in AU-C section 560, Subsequent Events and Subsequently Discovered Facts (AICPA, Professional Standards).
When the auditor identifies a material inconsistency in OI that requires revision of the OI, the auditor requirements depend upon when the material inconsistency was identified and management's actions. If a material inconsistency is identified prior to the report release date and management refuses to make the appropriate revision, the auditor should communicate this matter to those charged with governance and
—     include in the auditor's report on the audited financial statements an other-matter paragraph describing the material inconsistency, in accordance with AU-C section 720;

—     withhold the auditor's report;

—     when withdrawal is possible under applicable law or regulation, withdraw from the engagement. (In audits of governmental entities, withdrawal from the engagement or withholding the auditor's report may not be options. In such cases, the auditor may issue a report to those charged with governance and the appropriate statutory body, if applicable, giving details of the inconsistency.); or

—     when the auditor identifies a material inconsistency in the OI subsequent to the report release date and management agrees to make the appropriate revision, the auditor should carry out the procedures necessary under the circumstances.
If a material inconsistency is identified subsequent to the report release date and management refuses to make the appropriate revision, the auditor should notify those charged with governance of the auditor's concerns regarding the OI and take any further appropriate action, such as obtaining advice from the auditor's legal counsel.
If the auditor becomes aware of an apparent material misstatement of fact in the OI, the auditor should discuss the matter with management. After such discussions, if the auditor still considers that there is an apparent material misstatement of fact, the auditor should request management to consult with a qualified third party, such as the government's legal counsel, and the auditor should consider the advice received by the government in determining whether such matter is a material misstatement of fact. When the auditor concludes there is a material misstatement of fact that management refuses to correct, the auditor should notify those charged with governance of the auditor's concerns regarding the OI and take any further appropriate action.

REPORTING CONSIDERATIONS

A government usually presents its basic financial statements in a document that includes various financial statistics, and other information presented outside the basic financial statements. GAAP specify that certain information be presented as RSI. RSI required by GASB is MD&A and certain budgetary comparison information, pension, and other postemployment benefit information, risk financing, and capital asset condition assessment information, if applicable. Governments may voluntarily provide “GASB defined” SI to supplement and expand upon the basic financial statements. Depending on the type of information and engagement, “GASB defined” SI may be considered SI under AU-C section 725, or OI under AU-C section 720. Further, some governments provide SI, OI or both as part of a CAFR, which is required to contain certain elements—an introductory section, appropriate combining and individual fund financial statements and schedules, and a statistical section. The auditor's responsibility for performing procedures on RSI, SI, and OI is discussed previously.

Unless the auditor is engaged to audit information that accompanies the basic financial statements the manner in which the auditor reports on that information depends on whether it is RSI; SI (that is, the auditor is engaged to report on SI in relation to the financial statements as a whole); or OI.

Audit Scope Includes Required Supplementary Information, Supplementary Information, or Other Information

The auditor may be engaged to audit RSI, “GASB defined” SI, or a combination thereof—that is, express an opinion whether the information is fairly presented, in all material respects, in conformity with GAAP. For example, if the government elects to present the required budgetary comparisons (RSI) as a basic financial statement, then the auditor applies AU-C section 700. If the auditor is engaged to audit the combining and individual fund financial presentations (“GASB defined” SI) accompanying the basic financial statements, then AU-C section 805, Special Considerations—Audits of Single Financial Statements and Specific Elements, Accounts, or Items of a Financial Statement (AICPA, Professional Standards), applies. When engaged to express an opinion on RSI or “GASB defined” SI, the auditor establishes materiality for planning, performing, evaluating the results of, and reporting on the results of the audit depending on the terms of the engagement.

Required Supplementary Information

The auditor's reporting on RSI is discussed in AU-C section 730. Although RSI is not a part of the basic financial statements, auditors are required to perform certain limited procedures on RSI. RSI is an essential part of financial reporting for placing the basic financial statements in an appropriate operational, economic, or historical context. However, RSI is not considered essential to the fair presentation of the basic financial statements. Therefore, the omission of RSI or the presentation of RSI in a manner that does not meet the prescribed guidelines established by GAAP does not affect the auditor's conclusion regarding the fair presentation of the basic financial statements. In the prescribed guidelines for RSI, GAAP often require notes to RSI and specify the placement of RSI in relation to the basic financial statements. Those note and placement requirements are part of the prescribed guidelines. RSI and “GASB defined” SI normally are presented separately from each other to assist users to understand the nature of each. The auditor should consider whether RSI is sufficiently segregated from “GASB defined” SI.

Unless the auditor is engaged to audit the RSI as described in chapter 4, the RSI is considered unaudited, even though generally accepted government auditing standards (GAGAS) require the auditor to perform specific procedures and to report on the information as discussed in this section.

Only information required to accompany an entity's basic financial statements can be considered RSI. All other information is considered “GASB defined” SI (that is, SI or OI) even though law, regulation, or resource contributors may require that such information accompany the basic financial statements. Further, the nature of RSI does not permit governments to voluntarily expand the contents of RSI. For example, GASB Statement No. 34, as amended, requires a budgetary comparison schedule to be presented as RSI for the general fund and for each major special revenue fund that has a legally adopted annual budget. Budgetary comparison information for other funds, such as for nonmajor special revenue funds or for capital projects or debt service funds, may be presented as SI or OI, but not as RSI.

In accordance with AU-C section 730, the auditor should include an other-matter paragraph (after the opinion paragraph) in the auditor's report on the financial statements to refer to the RSI. The other-matter paragraph should include language to explain the following circumstances, as applicable:

The RSI is included, and the auditor has applied the procedures in paragraph .05 of AU-C section 730 (discussed in the previous chapter).
The RSI is omitted.
Some RSI is missing and some is presented in accordance with the prescribed guidelines.
The auditor has identified material departures from the prescribed guidelines.
The auditor is unable to complete the procedures in paragraph .05 of AU-C section 730.
The auditor has unresolved doubts about whether the RSI is presented in accordance with prescribed guidelines.

AU-C section 730 discusses the auditor's reporting responsibilities when all or some of the RSI is presented. In such circumstances, the auditor's other-matter paragraph should include the following elements:

A statement that accounting principles generally accepted in the United States of America (GAAS) require that the RSI be presented to supplement the basic financial statements.
A statement that such information, although not a part of the basic financial statements, is required by GASB that considers it to be an essential part of financial reporting for placing the basic financial statements in an appropriate operational, economic, or historical context.
If the auditor is able to complete the procedures in paragraph .05 of AU-C section 730, the auditor's other-matter paragraph should include
— a statement that the auditor has applied certain limited procedures to the RSI in accordance with GAAS, which consisted of inquiries of management about the methods of preparing the information and comparing the information for consistency with management's responses to the auditor's inquiries, the basic financial statements, and other knowledge the auditor obtained during the audit of the basic financial statements; and

— a statement that the auditor does not express an opinion or provide any assurance on the information because the limited procedures do not provide the auditor with sufficient evidence to express an opinion or provide any assurance.
If the auditor is unable to complete the procedures required in paragraph .05 of AU-C section 730, the auditor's other-matter paragraph should include
— a statement that the auditor was unable to apply certain limited procedures to the RSI in accordance with GAAS because (state the reasons); and

— a statement that the auditor does not express an opinion or provide any assurance on the information.
If some of the RSI is omitted, the auditor's other-matter paragraph should include
—     a statement that management has omitted (description of the missing RSI) that GAAS require to be presented to supplement the basic financial statements;

—     a statement that such missing information, although not a part of the basic financial statements, is required by GASB, that considers it to be an essential part of financial reporting for placing the basic financial statements in an appropriate operational, economic, or historical context; and

—     a statement that the auditor's opinion on the basic financial statements is not affected by the missing information.
If the measurement or presentation of the RSI departs materially from the prescribed guidelines, a statement that although the auditor's opinion on the basic financial statements is not affected, material departures from prescribed guidelines exist (describe the material departures from GAAS).
If the auditor has unresolved doubts about whether the RSI is measured or presented in accordance with prescribed guidelines, a statement that although the auditor's opinion on the basic financial statements is not affected, the results of the limited procedures have raised doubts about whether material modifications should be made to the RSI for it to be presented in accordance with guidelines established by GASB.

When the RSI is omitted, the other-matter paragraph should include the following elements:

A statement that management has omitted the (describe the missing RSI) that GAAS require to be presented to supplement the basic financial statements.
A statement such missing information, although not a part of the basic financial statements, is required by GASB who considers it to be an essential part of financial reporting for placing the basic financial statements in an appropriate operational, economic, or historical context.
A statement that the auditor's opinion on the basic financial statements is not affected by the missing information.

Paragraph .A3 of AU-C section 730 provides an exhibit of example language for other-matter paragraphs related to a number of various scenarios the auditor might encounter in the audit of a governmental entity. An example of another-matter paragraph if RSI is included, the auditor has applied specified procedures, and no material departures from prescribed guidelines have been identified is as follows:

Other Matter

Required Supplementary Information

Accounting principles generally accepted in the United States of America, require that the management's discussion and analysis on pages XX-XX and the budgetary comparison information on pages XX and XX be presented to supplement the basic financial statements. Such information, although not a part of the basic financial statements, is required by the Governmental Accounting Standards Board who considers it to be an essential part of financial reporting for placing the basic financial statements in an appropriate operational, economic, or historical context. We have applied certain limited procedures to the required supplementary information in accordance with auditing standards generally accepted in the United States of America, which consisted of inquiries of management about the methods of preparing the information and comparing the information for consistency with management's response to our inquiries, the basic financial statements, and other knowledge we obtained during our audit of the basic financial statements. We do not express an opinion or provide any assurance on the information because the limited procedures do not provide us with sufficient evidence to express an opinion or provide any assurance.

When a portion of the RSI is omitted (for example, the required budgetary comparison information), the following other-matter paragraphs should be added:

Accounting principles generally accepted in the United States of America, require that the management's discussion and analysis on pages XX-XX be presented to supplement the basic financial statements. Such information, although not a part of the basic financial statements, is required by the Governmental Accounting Standards Board who considers it to be an essential part of financial reporting for placing the basic financial statements in an appropriate operational, economic, or historical context. We have applied certain limited procedures to the required supplementary information in accordance with auditing standards generally accepted in the United States of America, which consisted of inquiries of management about the methods of preparing the information and comparing the information for consistency with management's response to our inquiries, the basic financial statements, and other knowledge we obtained during our audit of the basic financial statements. We do not express an opinion or provide any assurance on the information because the limited procedures do not provide us with sufficient evidence to express an opinion or provide any assurance.

Management has omitted the budgetary comparison information for the [indicate the funds for which information is omitted] that accounting principles generally accepted in the United States of America require to be presented to supplement the basic financial statements. Such missing information, although not a part of the basic financial statements, is required by the Governmental Accounting Standards Board who considers it to be an essential part of the financial reporting for placing the basic financial statements in an appropriate operational, economic, or historical context. Our opinion on the basic financial statements is not affected by this missing information.

When all RSI (for example, management's discussion and analysis and the budgetary comparison) is omitted, the following other-matter paragraph should be added:

Management has omitted management's discussion and analysis and the budgetary comparison [indicate the funds for which information is omitted] information that accounting principles generally accepted in the United States of America require to be presented to supplement the basic financial statements. Such missing information, although not a part of the basic financial statements, is required by the Governmental Accounting Standards Board who considers it to be an essential part of the financial reporting for placing the basic financial statements in an appropriate operational, economic, or historical context. Our opinion on the basic financial statements is not affected by this missing information.

Paragraph .A3 of AU-C section 730 also provides illustrative wording for the following scenarios: material departures from prescribed guidelines, specified procedures not completed, and unresolved doubts about whether the RSI is in accordance with prescribed guidelines.

The following are examples of other situations regarding RSI the auditor might encounter:

In certain circumstances, a budget is not adopted for the general or a major special revenue fund because it is not legally required and, therefore, presentation of budgetary comparison information is not required. Although that situation should not result in the auditor reporting that RSI has been omitted, it should be disclosed in the notes to RSI to explain why what might appear to be required information is not part of the presentation. If the government chooses to present its required budgetary comparison information in the basic financial statements, this disclosure should be made in the notes to the financial statements.
If a government does not present RSI relating to infrastructure assets accounted for using the modified approach, that omission does not affect the government's ability to apply the modified approach to infrastructure assets in its basic financial statements. However, the entity should meet the conditions required to use the modified approach, and the auditor should include an other-matter paragraph describing the omitted RSI.
If a government provides comparative prior-year financial statements, item 7.5.4 of the GASB Q&A states that MD&A is required to address both years presented in the comparative financial statements. The comparative MD&A would include comparative condensed financial information and related analysis for both years. (That, is, the MD&A should provide data so that each of the two years presented in the comparative financial statements can be compared to its prior year, meaning that there should be three years of comparative data—the current year, the prior year, and the year preceding the prior year.) If the data for the year preceding the prior year is omitted, the auditor should include an other-matter paragraph describing the omitted RSI.

Supplementary Information

The auditor's reporting on SI is described in AU-C section 725. If an auditor is engaged to report on whether SI is fairly stated in all material respects in relation to the financial statements as whole, certain procedures on SI are required to be performed, as discussed previously. An opinion on whether SI is fairly stated in all material respects is made in relation to the basic financial statements as a whole, not in relation to any of the individual opinion units. An “in relation to” opinion is possible because the audit of the basic financial statements encompasses the information presented in the SI. If the auditor concludes, on the basis of the procedures performed, that the SI is materially misstated in relation to the financial statements as a whole, the auditor should discuss the matter with management and propose appropriate revision of the SI. If management does not revise the SI appropriately, the auditor should either (a) modify his or her opinion on the SI and describe the misstatement in the auditor's audit report, or (b) if a separate report on SI is being issued, withhold the auditor's report on the SI. See the following for reporting responsibilities in these circumstances.

SI may be presented in a document containing the audited financial statements or separate from the audited financial statements. (Information related to the auditor's responsibilities for SI that is presented separately from the financial statements is discussed in paragraphs .10 and .A16 of AU-C section 725.)

The date of the auditor's report on SI in relation to the financial statements as a whole should not be dated earlier than the date on which the auditor completed the procedures required in AU-C section 725 (previously discussed). When the auditor completes the procedures under AU-C section 725 subsequent to the date of the auditor's report on the basic financial statements, the auditor is not required to obtain additional evidence with respect to the audited financial statements. AU-C section 9725, Supplementary Information in Relation to the Financial Statements as a Whole: Auditing Interpretations of Section 725 (AICPA, Professional Standards), provides that, although not required, an auditor may (a) when issuing a separate report on the SI, include in such report a statement that the auditor has not performed any auditing procedures with respect to the audited financial statements subsequent to the date of the auditor's report on those audited financial statements, or (b) when reissuing a report on the audited financial statements to include an other-matter paragraph to report on the SI, include two report dates to indicate that the date of reporting on the SI is as of a later date.

When reporting on SI that is presented with the entity's financial statements, the auditor should report on SI in either (a) another-matter paragraph following the opinion paragraph in the auditor's report on the financial statements or (b) in a separate report on SI. Contents of the other-matter paragraph are as follows:

A statement that the
—     audit was conducted for the purpose of forming opinions on the financial statements that collectively comprise the government's financial statements as a whole;

—     SI is presented for purposes of additional analysis and is not a required part of the basic financial statements;

—     SI is the responsibility of management and was derived from, and relates directly to, the underlying accounting and other records used to prepare the financial statements; and

—     SI has been subjected to the auditing procedures applied in the audit of the basic financial statements and certain additional procedures, including comparing and reconciling such information directly to the underlying accounting and other records used to prepare the basic financial statements or to the basic financial statements themselves and other additional procedures, in accordance with GAAS.
If the auditor issues an unmodified opinion on the basic financial statements and the auditor has concluded the SI is fairly stated, in all material respects, in relation to the financial statements as a whole, a statement that, in the auditor's opinion, the SI is fairly stated, in all material respects, in relation to the basic financial statements as a whole.
If the auditor issues a qualified opinion on the basic financial statements and the qualification has an effect on the SI, a statement that, in the auditor's opinion, except for the effects on the SI of (refer to the paragraph in the auditor's report explaining the qualification), such information is fairly stated, in all material, respects, in relation to the basic financial statements as a whole.

When the audited financial statements are not presented with the SI, the auditor should report on the SI in a separate report. When reporting separately on the SI, the report should include, in addition to the elements noted previously, a reference to the report on the financial statements, the date of that report, the nature of the opinion expressed on the financial statements, and any report modifications. It is important to note that if a separate report is issued, management has the responsibility to make the audited financial statements readily available to the intended users of the SI no later than the date of issuance by the entity of the SI and the auditor's report thereon.

When the auditor's report on the audited basic financial statements contains an adverse opinion or a disclaimer of opinion and the auditor has been engaged to report on whether SI is fairly stated, in all material respects, in relation to such financial statements as a whole, the auditor is precluded from expressing an opinion on the SI. When permitted by law or regulation, the auditor may withdraw from the engagement to report on the SI. If the auditor does not withdraw, the auditor's report on the SI should state that because of the significance of the matter disclosed in the auditor's report, it is inappropriate to, and the auditor does not, express an opinion on the SI.

If the auditor concludes, on the basis of the procedures performed, that the SI is materially misstated in relation to the financial statements as a whole, the auditor should discuss the matter with management and propose appropriate revision of the SI. If management does not revise the SI, the auditor should either

modify the auditor's opinion on the SI and describe the misstatement in the auditor's report, or
if a separate report on the SI is being issued, withhold the auditor's report on the SI.

Other Information

The auditor's reporting on OI is described in AU-C section 720. Although OI is not a part of the basic financial statements, auditors are required to perform certain procedures on OI as previously discussed. In the absence of any separate requirement in the particular circumstance of the engagement, the auditor's opinion on the financial statements does not cover OI, and the auditor has no responsibility for determining whether such information is properly stated. Instead, the auditor's responsibility is to read the other information of which the auditor is aware because the credibility of the audited financial statements may be undermined by material inconsistencies between the audited financial statements and other information. If, on reading the other information, the auditor identifies a material inconsistency, the auditor should determine whether the audited financial statements or the other information needs to be revised.

When the auditor identifies a material inconsistency in the OI that requires revision of the audited basic financial statements, the auditor requirements depend upon when the material inconsistency was identified and management's actions:

If identified prior to the report release date and management makes the appropriate revision, the auditor's opinion on the financial statements would not be affected.
If identified prior to the report release date and management refuses to make the appropriate revision, the auditor should modify the auditor's financial statement opinion in accordance with AU-C section 705.

If identified subsequent to the report release date, the auditor should apply the relevant requirements in AU-C section 560.

When the auditor identifies a material inconsistency in the OI that requires revision of the OI, the auditor requirements depend upon when the material inconsistency was identified and management's actions. If a material inconsistency is identified prior to the report release date and management refuses to make the appropriate revision, the auditor should communicate this matter to those charged with governance and in accordance with AU-C section 720:

Include in the auditor's report on the audited financial statements an other-matter paragraph describing the material inconsistency.
Withhold the auditor's report; or, when withdrawal is possible under applicable law or regulation, withdraw from the engagement. (In audits of governmental entities, withdrawal from the engagement or withholding the auditor's report may not be options. In such cases, the auditor may issue a report to those charged with governance and the appropriate statutory body, if applicable, giving details of the inconsistency.)

When the auditor identifies a material inconsistency in the OI subsequent to the report release date and management agrees to make the appropriate revision, the auditor should carry out the procedures necessary under the circumstances.

If a material inconsistency is identified subsequent to the report release date and management refuses to make the appropriate revision, the auditor should notify those charged with governance of the auditor's concerns regarding the OI and take any further appropriate action, such as obtaining advice from the auditor's legal counsel.

If the auditor becomes aware of an apparent material misstatement of fact in the OI, the auditor should discuss the matter with management. After such discussions, if the auditor still considers that there is an apparent material misstatement of fact, the auditor should request management to consult with a qualified third party, such as the government's legal counsel, and the auditor should consider the advice received by the government in determining whether such matter is a material misstatement of fact. When the auditor concludes there is a material misstatement of fact that management refuses to correct, the auditor should notify those charged with governance of the auditor's concerns regarding the OI and take any further appropriate action.

KNOWLEDGE CHECK

When the auditor has been engaged to provide an “in relation to” opinion on supplementary information, which AU-C section applies?
1. AU-C section 730.
2. AU-C section 725.
3. AU-C section 720.
4. AU-C section 900.
What procedures are auditors NOT required to perform on OI?
1. Read the OI of which the auditor is aware to identify material inconsistencies with audited financial statements.
2. Communicate with those charged with governance the auditor's responsibility with respect to the OI.
3. Opine on the OI in the auditor's report.
4. Compare the OI information to the financial statements.

Summary

The auditor must determine the appropriate reporting by ensuring that the auditor's opinion covers all the components of the government's basic financial statements as required by AU-C Section 700 including the effects of any departures that would require a modified opinion.

When required supplementary information (RSI) is included in the financial statements the auditor should apply AU-C section 730 unless the auditor has been engaged to audit the RSI (Example: Statement of Budget to Actual). If supplementary information is included in the financial statements the auditor should follow AU-C section 725 and when other information is included the auditor should follow AU-C section 720.

Appendix A

Appendix A—Illustrative Auditor's Report

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Notes

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