Definition
Expected Error refers to the extent of errors that an auditor anticipates discovering when conducting substantive tests on an entire population or on a sample from that population during an audit. This expectation helps in planning the nature, timing, and extent of audit procedures and can impact the overall assessment of audit risk.
Examples
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Inventory Counts: An auditor might anticipate a specific percentage of errors in the physical count of inventory, based on past audits or the complexity of the inventory system.
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Accounts Receivable: If an auditor expects errors in the recording of accounts receivable, they may choose to examine a larger sample of receivable transactions to determine the extent of misstatements.
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Payroll Calculations: In audits where payroll calculations are complex, the auditor might expect certain errors due to manual entry, miscommunication, or software errors, and therefore plan substantive tests accordingly.
Frequently Asked Questions (FAQs)
Q1: Why is expected error important in auditing?
A1: Expected error helps auditors in planning their substantive tests by estimating how likely they are to find errors and thereby helps in managing and mitigating audit risk.
Q2: How does expected error affect the size of the audit sample?
A2: Higher expected errors typically require larger sample sizes to ensure that the tests are sufficiently rigorous to detect deviations, whereas lower expected errors might justify smaller sample sizes.
Q3: What is the relationship between expected error and tolerable error?
A3: Tolerable error is the maximum error in a population that auditors are willing to accept without altering their opinion, while expected error is the error level that auditors expect to find and informs the audit planning process.
Q4: Can expected error be zero?
A4: Although it is theoretically possible for expected error to be zero, it is rare. In practice, auditors usually expect some level of error due to inherent limitations in any process.
Q5: How do prior audits influence expected error?
A5: Results from prior audits can provide insights into expected errors, helping in shaping realistic expectations and refining audit plans for future engagements.
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Substantive Tests: Tests performed by auditors to detect material misstatements in financial statements.
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Tolerable Error: The maximum error in a population that auditors are willing to accept and still conclude that the audit objectives have been met.
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Audit Risk: The risk that auditors might give an inappropriate opinion on financial statements.
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Sampling Risk: The risk that the sample chosen does not accurately reflect the population as a whole.
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Detection Risk: The risk that auditors’ procedures will not detect a material misstatement.
Online References
Suggested Books for Further Study
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“Auditing and Assurance Services” by Alvin A. Arens, Randal J. Elder, and Mark S. Beasley - This book provides comprehensive coverage of contemporary auditing practices and theories.
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“Principles of Auditing & Other Assurance Services” by Ray Whittington - An essential resource for understanding the principles and practices in the field of auditing.
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“Auditing: A Risk-Based Approach to Conducting a Quality Audit” by Karla M. Johnstone, Audrey A. Gramling, and Larry E. Rittenberg - Focuses on the practical implementation of risk-based auditing.
Accounting Basics: Expected Error Fundamentals Quiz
### What does the term 'expected error' refer to in auditing?
- [x] The extent of the errors that an auditor anticipates discovering during substantive tests.
- [ ] Errors that are documented in the financial statements.
- [ ] Errors that auditors expect management to find.
- [ ] Errors found in prior audits only.
> **Explanation:** 'Expected error' refers to the extent of errors that an auditor anticipates discovering when conducting substantive tests on an audit population.
### Why is expected error an important aspect of audit planning?
- [ ] It helps increase the audit fee.
- [ ] It reduces the workload of the auditors.
- [x] It helps in managing and mitigating audit risk.
- [ ] It helps in signing off on financial reports.
> **Explanation:** 'Expected error' is crucial as it informs the auditor’s planning process in managing and mitigating audit risk.
### How does expected error affect sample size in an audit?
- [ ] Expected error has no effect on sample size.
- [x] Higher expected errors typically require larger sample sizes.
- [ ] Higher expected errors typically require smaller sample sizes.
- [ ] Expected error only affects sample selection.
> **Explanation:** Higher expected errors typically require larger sample sizes to ensure that tests detect deviations accurately.
### What is the difference between 'expected error' and 'tolerable error'?
- [x] Expected error is the error level anticipated by auditors, whereas tolerable error is the maximum error accepted without altering the audit opinion.
- [ ] Expected error is the same as tolerable error.
- [ ] Tolerable error is always zero.
- [ ] Expected error applies only to non-financial audits.
> **Explanation:** Expected error is what auditors anticipate, while tolerable error is the threshold of error considered acceptable without changing the audit opinion.
### Can 'expected error' be realistically set to zero by auditors?
- [ ] Always
- [ ] Never
- [x] Rarely
- [ ] Primarily
> **Explanation:** It is rare for auditors to set expected error to zero due to inherent limitations in any audit process.
### How do previous audit results influence expected error?
- [ ] They don't influence expected error.
- [x] They provide insights to shape realistic expectations.
- [ ] They increase the computation time for expected error.
- [ ] They help auditors perform less work.
> **Explanation:** Prior audit results help shape realistic expectations and refine future audit plans.
### What is the primary goal in understanding expected error?
- [x] To plan the nature, timing, and extent of audit procedures
- [ ] To increase audit costs
- [ ] To finalize audit reports early
- [ ] To decrease the number of auditors required
> **Explanation:** Understanding expected error is essential for planning the nature, timing, and extent of audit procedures effectively.
### Does a higher expected error typically lead to more or less rigorous substantive testing?
- [ ] Less rigorous
- [ ] No impact
- [x] More rigorous
- [ ] Largely unchanged
> **Explanation:** A higher expected error typically leads to more rigorous substantive testing to ensure all significant errors are detected.
### Which of the following is most closely related to the 'expected error'?
- [ ] Physical location of audit
- [ ] Time of year audit is conducted
- [x] Audit risk
- [ ] Color of financial statements
> **Explanation:** Expected error is carefully tied to audit risk because it helps assess the risk of material misstatements in the financial statements.
### What might auditors use if they find that their expected error is significantly higher than tolerable error?
- [x] Increase the extent of their audit procedures.
- [ ] Decrease the extent of their audit procedures.
- [ ] Document but ignore the discrepancy.
- [ ] Rely solely on analytical procedures.
> **Explanation:** If expected error significantly exceeds tolerable error, auditors generally increase the extent of their audit procedures to mitigate potential risks.
Thank you for exploring this fundamental auditing concept and challenging yourself with our rigorous quiz. Continue your path towards excellence in your understanding of accounting and auditing principles.
