The Problem of Limited Scope Audits

By Hrncir, Theresa | Academy of Accounting and Financial Studies Journal, January 2016 | Go to article overview

The Problem of Limited Scope Audits


Hrncir, Theresa, Academy of Accounting and Financial Studies Journal


INTRODUCTION

In May 2015, the Department of Labor (DOL) released a report of its findings from statistically sampling 400 audits reports. With an alarming 39 percent of the audited reports containing one or more significant violations of Generally Accepted Auditing Standards (GAAS) there is cause for concern and need for change.

The study, the fourth such one undertaken since enactment of the Employee Retirement Income Securities Act of 1974 (ERISA), was conducted as part of the DOL's periodic monitoring of the quality of the audit reports. These audit reports were chosen from reports prepared by the more than 7,000 Certified Public Accountant (CPA) firms that audit the 81,162 filings of Form 5500 Annual Return/Reporting (Form 5500) for pension funds. The violations of these auditing standards could lead to rejection of Form 5500 for the fund, and as written in the DOL report such mistakes risked the assets of 22.5 million plan participants and beneficiaries for the $653 billion of assets in those funds.

While briefly addressing other aspects of the DOL report, and providing a historical view of the studies to put the problem into prospective, this paper focuses on a feature unique to pension plan audits and only to pension audit plans, the limited scope audit. In 2011, the year of the study, 80 percent of all pension fund audits were conducted under scope limitation. Use of the limited scope option is permitted for pension fund report by choice of the fund administrator.

The DOL's comprehensive report contains eleven recommendations collected into three groupings labeled: enforcement, regulatory/legislative, and outreach. Four enforcement recommendations target existing problem areas of collecting increased fines and imposing sanctions on those CPAs performing nonstandard work that leads to audit deficiencies. Four recommendations labeled as outreach to state boards of accountancy and plan administrators target limiting or precluding some CPAs from performing pension fund audits. Primarily these recommendations if endorsed might preclude new CPAs or small practice CPA firms from conduction pension fund audits. Finally, the three regulatory/legislative recommendations contain two which support giving accounting/auditing rule making power to the Secretary of Labor and one recommendation to repeal the limited scope audit. This paper focuses on the last recommendation repeal of the limited scope audit.

BRIEF HISTORY AND THE PROBLEM OF LIMITED SCOPE AUDITS

In 1974, Congress passed the Employee Retirement Income Security Act (ERISA). ERISA was unique compared to earlier pension regulation/law. ERISA was passed to protect the information integrity and to safeguard interests of participants and others expected beneficiaries of covered pension plans. From the beginning, this law, ERISA required filing of an annual report within 210 days after the end of the plan year and this report, Form 5500, must be audited. While prior laws existed for pension plans, no audit was required until ERISA was passed. Furthermore, Section 103 of ERISA required that both accounting practices and audit work must meet professional accounting and auditing standards.

The passage of ERISA marked the beginning of a requirement for an unbiased opinion on the fairness of the information contained in the pension report submitted to the DOL. This law also included the fund administrator's choice for a limited scope audit which was and is very unique to audit standards and practices. By limiting the scope, the auditor is not required (allowed) to test certain information that would normally be tested (Wood, 1995). The idea behind limiting scope would be the elimination of a duplication of effort because funds held with certain financial institutions should be reviewed by the institution's regulators. Plans with more than 100 eligible participants categorized as a funded, qualified retirement plan or other ERISA benefit plan are required to file the Form 5500 Annual Return/Report and thus to be audited by an independent qualified public accountant. …

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