Statement on Auditing Standards 112 (SAS 112)

A new auditing standard called Statement on Auditing Standards (SAS) 112, prescribed by the American Institute of Certified Public Accountants (AICPA), is causing quite a bit of frustration among local governments.

SAS 112, Communicating Internal Control Related Matters Identified in an Audit, provides guidance on identifying and communicating control deficiencies related to financial statement reporting. It is effective for audits of periods ending on or after December 15, 2006. This will include most of the State Auditor’s Office audits of 2006 financial statements.

SAS 112 reinforces the responsibility of management for internal control systems. It emphasizes that the auditors cannot be a part of the local government’s internal control process for preparing the financial statements during the audit.

Also, it requires auditors to report deficiencies in internal controls over financial reporting and sets a lower threshold for the types of deficiencies that must be reported. Some examples of reportable deficiencies are:

• Ineffective oversight or quality control measures over financial reporting by those charged with governance of the entity.
• Insufficient knowledge or application of generally accepted accounting principles.
• Deficiencies in control over non-routine transactions or the financial statement preparation process.

Since the implementation of SAS 112, the most commonly reported deficiency in internal controls reported by the State Auditor’s Office is the lack of oversight for financial reporting by those charged with governance. This deficiency typically is identified when the audit finds errors in the financial statements.

Consequently, the State Auditor’s Office is recommending that entities ensure an independent and knowledgeable review be performed of the financial reporting, by someone other then the individual responsible for preparing the financial statements. An effective review process should ensure the financial statements are accurate, complete and in accordance with applicable reporting requirements before they are submitted for audit.

This recommendation can be an issue for local governments that typically rely heavily on the Clerk/Treasurer to perform all aspects of the accounting and financial reporting operations. Typically, the only oversight of the Clerk/Treasurers’ duties comes from the Mayor and Council, whose role in the internal control process is often misunderstood or overlooked when it comes to financial reporting.

The State Auditor’s Office is working with the Association of Washington Cities to develop training for local government officials and personnel that will emphasize the importance of establishing and following internal controls over financial reporting to provide reasonable assurance that the financial statements are both accurate and fairly presented.

If you have questions or need further guidance, please contact your local Audit Manager or reference the AICPA website at: www.aicpa.org. From the menu on the left select: Professional Resources, then Accounting and Auditing, then Audit and Attest Standards. Choose the blue box that says, “Authoritative Standards for Non-Issuers” and then “Statements on Auditing Standards (SASs).”