Negative confirmation

From CEOpedia | Management online
The printable version is no longer supported and may have rendering errors. Please update your browser bookmarks and please use the default browser print function instead.

Negative confirmation is a document issued by the auditor to clients of the client's company. The letter asks clients to respond to the auditor only if they find a discrepancy between their records and information about the financial documentation of the client's company provided by the auditor (S.Bregg 2018).

Is also a form of communication that allows to reduce number of unnecessary responses. Only the negative responses are sent, and if no response is received a positive one is assumed. In case of large number of information sent through communication channel, where almost all the information is accepted, the negative confirmation reduces usage of the channel.

"Negative confirmations provide less persuasive audit evidence than positive confirmations. Accordingly, the auditor shall not use negative confirmation requests as the sole substantive audit procedure to address an assessed risk of material misstatement at the assertion level unless all of the following are present:

  • The auditor has assessed the risk of material misstatement as low and has obtained sufficient appropriate audit evidence regarding the operating effectiveness of controls relevant to the assertion;
  • The population of items subject to negative confirmation procedures comprises a large number of small, homogeneous account balances, transactions or conditions;
  • A very low exception rate is expected and
  • The auditor is not aware of circumstances or conditions that would cause recipients of negative confirmation requests to disregard such requests(External Confirmation)."

Positive vs. negative confirmation

When it comes to the quality of the information available by direct communication with borrowers, it takes the succeeding position: Because the use of the positive form results in either:

  • receipt of a response from the debtor providing proof of the debt or
  • using other procedures to provide evidence on the validity and accuracy of significant bills that are not responding, the use of a positive form is preferable when individual account balances are relatively large or there is reason to believe that there may be a significant number of bills in dispute or inaccuracies or irregularities.

The negative form it is especially useful when the internal control of receivables is considered to be effective. When a large number of small balances are involved, and when the auditor has no reason to believe that those receiving the applications will probably not consider them.

If a negative or positive form is used, the number of applications that override the scope of other audit procedures applied to the balance of receivables should usually be greater, so that the independent auditor gets the same degree of satisfaction with respect to the outstanding balance (D.Thomas, B.Jerry 1972).

Risk of negative confirmation

The negative confirmation can cause problems if the communication channel is broken and no information about it is sent to the sender. Then sender keeps sending messages and assumes positive responses. But the receiver doesn't get the messages and cannot send negative response. Therefore, in case of negative confirmation the channel monitoring should be implemented (A. S. Melenhorst 2001).

Negative confirmation example

For example, a confirmation letter informs the customer that the customer's company records at the end of the year show the balance of final payments for that client in the amount of US$500,000. If the customer agrees with this number, he does not need to contact the auditor to confirm the information provided. The auditor will then accept that the client agrees with the information provided to him in the confirmation.

During the audit of documents (e.g. Financial), the auditor may indicate only problems, and if no problem is indicated, no response was given (S.Bregg 2018).

Advantages of Negative confirmation

Negative confirmation is a useful tool for auditors to ensure the accuracy of their clients’ financial records. It offers several advantages, including:

  • Increased accuracy: By receiving a response from clients only when there is a discrepancy between the auditor's records and the clients’ records, negative confirmation reduces the chance of inaccurate information.
  • Time-saving: Negative confirmation is a faster and more efficient way of verifying financial records than a traditional audit because it does not require the auditor to examine all of the documentation.
  • Cost-saving: Negative confirmation is a cost-effective way of verifying financial records because the auditor does not have to spend time and money examining all of the documentation.
  • Reduced fraud: Negative confirmation reduces the chances of fraudulent activities because it requires clients to respond when discrepancies exist.

Limitations of Negative confirmation

Negative confirmation has several limitations. These include:

  • Lack of assurance: Negative confirmation does not provide the auditor with the assurance that the responses received are accurate and complete due to the reliance on the clients’ responses.
  • Time consuming: Negative confirmation is a time consuming process as it requires the auditor to send out confirmation requests to each client and wait for a response.
  • Risk of not receiving responses: There is a risk that clients may not respond to the auditor’s request and this could lead to incorrect information being reported.
  • Costly: Negative confirmation is also an expensive process as it requires resources and time to send out the confirmation requests to each client.

Other approaches related to Negative confirmation

Negative confirmation is an approach used by auditors to confirm the accuracy of their clients' financial statements. Besides this approach, auditors may use other approaches, such as:

  • Analytical Procedures: Analytical procedures involve the comparison of financial information between two different periods or to industry standards. This helps the auditor to identify anomalies or trends in the financial data.
  • Physical Inspection: Physical inspection involves the auditor examining the tangible assets of the company such as land, buildings, and equipment, to make sure they are present and in good condition.
  • Inquiry: Inquiry involves the auditor questioning company personnel about their knowledge of the company's financial activity and records. This helps the auditor to understand the internal controls and processes related to the financial records.

In summary, negative confirmation is an approach used by auditors to confirm the accuracy of their clients' financial statements. Other approaches used by auditors include analytical procedures, physical inspection, and inquiry.


Negative confirmation — recommended articles
Substantive test — Vendor analysis — Purchases ledger — Exception Item — Doubtful account — Logistic audit — Final inspection — Credit management — Internal audit

References

Author: Joanna Krygowska

Retrieved from "https://ceopedia.org/index.php?title=Negative_confirmation&oldid=94624"