Audit Focus

Journal Entries

PCAOB staff (“staff”) continues to identify a large

number of deficiencies related to the examination APPLICABLE PCAOB
of journal entries and other adjustments for STANDARD
evidence of possible material misstatement due
to fraud. This edition of Audit Focus highlights key AS 2401, Consideration of Fraud in a Financial
reminders for auditors from the PCAOB standards Statement (“AS 2401”) states that material
related to testing of journal entries, provides the misstatements of financial statements due to fraud
staff’s perspective on common deficiencies made often involve the manipulation of the financial
by auditors, and shares good practices that PCAOB reporting process by (a) recording inappropriate
staff has observed. or unauthorized journal entries throughout the
year or at period end, or (b) making adjustments
to amounts reported in the financial statements
About the Audit Focus that are not reflected in formal journal entries,
such as through consolidating adjustments, report
Series combinations, and reclassifications. Accordingly,
the auditor should design procedures to address
Audit Focus is a series of PCAOB staff the risk of management override of controls. These
publications that aims to provide easy-to- procedures include examining journal entries and
digest information to auditors, especially other adjustments for evidence of possible material
those who audit smaller public companies. misstatement due to fraud. More specifically, the
Each edition of Audit Focus reiterates the auditor should:
auditing standards and staff guidance, as
well as offers reminders and good practices y Obtain an understanding of the entity’s financial
tailored to PCAOB-registered auditors of reporting process and the controls over journal
smaller public companies – all with an eye entries and other adjustments. (See paragraphs
toward protecting investors and improving 2401.59 and .60)
audit quality.

This document, which was published in January 2025, represents the views of PCAOB staff and not necessarily those of
the Board. It is not a rule, policy, or statement of the Board.
y Use professional judgment in determining y Determine the timing of the journal entries
the nature, timing, and extent of the testing selected for testing. (See paragraph 2401.62)
of journal entries and other adjustments. (See
paragraph 2401.61) y Inquire of individuals involved in the financial
reporting process about inappropriate or
y Identify and select journal entries and other unusual activity relating to the processing of
adjustments for testing. (See paragraph 2401.61) journal entries and other adjustments.

Common Deficiencies
When it comes to the testing of journal entries, the following are some of the common
deficiencies that the PCAOB has observed on inspections of firms who audit smaller public
companies:

Not obtaining an understanding

of the financial reporting process and controls over journal entries and other
adjustments. (AS 2401.58)

Not identifying Not testing the

and selecting completeness
journal entries and other of the population of journal
adjustments for testing to entries. (AS 1105.10)
address the potential for
material misstatement due
to fraud. (AS 2401.58)

Not testing any of the journal entries

that met the auditor’s fraud criteria and/or limiting its procedures to certain
journal entries meeting its fraud criteria, without having an appropriate
rationale for such a limitation in its procedures. (AS 2401.61 and .62)

Not evidencing an appropriate rationale

for how certain factors in AS 2401 resulted in the identification of its fraud risk
criteria including the consideration of manual versus automated journal entries.
(AS 2401.61 and .62)

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REMINDERS preparation and posting of journal entries and
adjustments may affect the extent of substantive
testing necessary, provided that the auditor has
Understanding Controls Over tested the controls.
Journal Entries y The entity's financial reporting process and the
Auditors should understand an entity’s controls nature of the evidence that can be examined.
over initiating, authorizing, recording, and The auditor's procedures for testing journal
processing journal entries in the general entries and other adjustments will vary based on
ledger, subsidiary ledger, or other information the nature of the financial reporting process.
technology (IT) systems.
y The characteristics of fraudulent entries or
The sources of journal entries and other adjustments. Inappropriate journal entries and
adjustments may include manual or automated other adjustments often have certain unique
entries from subsidiary ledgers or other IT identifying characteristics. Such characteristics
systems, as well as post-closing or top-side may include entries (a) made to unrelated,
entries not yet reflected in the general ledger. unusual, or seldom-used accounts, (b) made by
Auditors should obtain an understanding of the individuals who typically do not make journal
design of controls over journal entries and other entries, (c) recorded at the end of the period
adjustments, both automated and manual, and or as post-closing entries that have little or no
determine whether they are suitably designed explanation or description, (d) made either
and have been placed into operation. It also is before or during the preparation of the financial
important for the auditor to consider whether statements and that do not have account
control deficiencies exist where the auditor may numbers, or (e) containing round numbers or a
need to adjust the nature, timing, and extent of consistent ending number.
their journal entry testing.
y The nature and complexity of the accounts.
Identifying and Selecting Inappropriate journal entries or adjustments
may be applied to accounts that (a) contain
Journal Entries To Test transactions that are complex or unusual in
Auditors should examine journal entries and nature, (b) contain significant estimates and
other adjustments for evidence of possible period-end adjustments, (c) have been prone to
material misstatement due to fraud. errors in the past, (d) have not been reconciled
on a timely basis or contain unreconciled
The auditor should use professional judgment in differences, (e) contain intercompany
determining the nature, timing, and extent of the transactions, or (f) are otherwise associated with
testing of journal entries and other adjustments. an identified fraud risk.
For purposes of identifying and selecting specific
journal entries and other adjustments for testing, y Journal entries or other adjustments processed
and determining the appropriate method of outside the normal course of business.
examining the underlying support for the items Nonstandard entries might not be subject to the
selected, AS 2401.61 requires the auditor to consider: same level of internal control. Other adjustments
such as consolidating adjustments, report
y The engagement team's assessment of the combinations, and reclassifications generally are
fraud risk. The presence of fraud risk factors or not reflected in formal journal entries and might
other conditions may help the auditor to identify not be subject to the entity's internal controls.
specific classes of journal entries for testing and
indicate the extent of testing necessary. It is also important that auditors carefully consider
fraud risks associated with journal entries
y The effectiveness of controls that have been processed through automated systems, as the risk
implemented over journal entries and other of management override of controls is not limited
adjustments. Effective controls over the to journal entries processed manually.

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Completeness of the Testing of Journal Entries
Population Auditors should use professional judgment in
determining the nature, timing, and extent of
Auditors should test the list of journal entries
the testing of journal entries.
for accuracy and completeness.
The procedures for testing journal entries and
Auditing journal entries generally involves selecting
other adjustments include:
journal entries for testing from the population
of journal entries produced by the company. In y Substantive testing of specific items. Even
accordance with AS 1105, Audit Evidence, the though controls might be implemented and
auditor should evaluate whether the information is operating effectively, the auditor's substantive
sufficient and appropriate for purposes of the audit procedures for testing journal entries and other
by performing procedures to: adjustments should include the identification
and substantive testing of specific items.
y Test the accuracy and completeness of
the information or test the controls over y Examining supporting evidence for the
the accuracy and completeness of that selected journal entries (and not just relying on
information. inquiry alone) and determining whether such
evidence corroborates or contradicts the risk
y Evaluate whether the information is
assessed around journal entry processing.
sufficiently precise and detailed for the
purposes of the audit. y Providing an appropriate rationale or basis for
excluding journal entries from the auditor’s
This includes testing accuracy and completeness
testing that met the fraud risk criteria.
of the journal entry population produced by the
company from which journal entries and other
adjustments were identified and selected for
testing, including, if applicable, those imported
into software audit or data extraction tools, or
other systems-based techniques.

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Good Practices
We have observed the following good practices that audit firms who audit smaller public
companies have implemented in the area of journal entry testing:

Use of an IT specialist or person(s) with specialized

skill or knowledge in IT. Audit firms use such specialists to aid in
understanding an entity’s financial reporting process, including the use of IT systems,
understanding controls over manual or automated journal entries and other adjustments,
determining which entries are manual or automated, and when testing completeness of the
journal entry population.

Guidance With Examples. Training. Audit

Audit firms provide examples to engagement firms provide training
teams of characteristics of potentially fraudulent for all partners and firm
journal entries to consider for selecting journal personnel on AS 2401,
entries for testing that can be tailored to a specific audit. including journal entry testing.

Journal Entry Practice Aids. To assist the engagement team in

determining and documenting the basis for selecting journal entries to test, audit firms
utilize journal entry practice aids which include guidance on the:

y Requirements of AS 2401. y Testing of entries that meet the selected

criteria.
y Criteria that could be used to select journal
entries for testing. y Documentation of journal entry testing.

Structured Templates. Review

Audit firms use templates that (a) include specific Programs.
procedures to test the journal entry population,
Audit firms utilize pre-
including the completeness of the population, and
issuance review programs
(b) are required to be reviewed by the engagement
focused on journal entry testing.
partner and engagement quality reviewer.

Software Audit Tools. To aid in testing the completeness of the journal

entry population and identifying journal entries for testing, audit firms employ software
audit tools. Those audit firms also require consultations if an engagement team does not
use the software audit tool, or if the journal entries identified by the software audit tool are
not all selected for testing.

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