Auditing Your Financial Knowledge | Fact vs. Fiction
19 April 2024 | Alistair Scholtz
The internet and social media have made community scheme legislation, regulation, and processes readily available to anyone with an interest in the subject matter. Dedicated interest groups are wonderful platforms for sharing information and practical, lived experiences that other members may benefit greatly from. However, responses to questions and concerns generally fall into one of two categories:
A considered response supported by legislation, regulation, or a widely accepted and tested approach.
A non-considered opinion based on limited or no knowledge of the subject matter.
Unfortunately, the latter is all too frequent, with inaccurate information repeatedly presented as fact. This is particularly relevant to the annual audit of community schemes, where non-qualified persons without knowledge of The Auditing Profession Act or its regulation by The Independent Regulatory Board for Auditors (IRBA) feel extremely comfortable commenting on what these engagements entail, the expertise required, and how they are conducted.
It is a common misconception that only the accounting requirements set out in the Sectional Titles Schemes Management Act (“STSMA”) through its Prescribed Management Rules (PMRs) 21, 24, and 26 need to be considered when auditing a sectional title scheme. It needs to be clarified that even though no accounting framework needs to be adopted for preparing the accounting records, the requirement for the auditor to comply with International Auditing Standards (ISAs) remains. A clear distinction needs to be made between the terms accounting and auditing.
Many community schemes have February financial year ends, and auditors will soon be inundated with managing agents and trustees needing audited accounts for presentation to scheme members. To provide clarity, let's examine a few scenarios and distinguish between fact and fiction.
FICTION: "Our managing agent provides the auditor with accounts up to the trial balance. There is nothing for the auditor to do other than check one or two items, and the audit should take no more than a day to finalize."
FACT: The audit function is largely misunderstood and extends beyond verification of the trial balance and supporting documentation. The auditor's role is to express an opinion, by obtaining reasonable assurance, as to whether the financial statements fairly reflect the financial position of the entity and are free from material misstatement.
An audit can be broken down into stages: planning and risk assessment, execution/completion, and reporting. Without going into excessive detail, these stages involve the following procedures:
Planning: obtaining an understanding of the entity, assessing areas of risk, determining planning materiality, and deciding on an audit approach (substantive testing or tests of control).
Execution: developing appropriate audit programs, performing tests of control and/or substantive testing, conducting general audit procedures, evaluating findings, and performing assessments.
Completion: reviewing financial statements and audit reports, conducting analytical reviews, considering subsequent events, finalizing materiality, and obtaining management representation.
Reporting: providing a report to management highlighting control and audit deficiencies and finalizing the audit report.
During the execution phase, the auditor will test assertions made by management to support and verify information in the financial statements. Examples of assertions applied to testing income and expenditure items or assets and liabilities are existence, occurrence, accuracy, valuation, rights and obligations, presentation, and disclosure.
Based on the auditor's findings and assessment, one of four opinions will be reached:
An unqualified report, meaning the financials are free from material misstatement.
A qualified report, meaning the auditor could not obtain sufficient evidence to support material balances or conclude material misstatement, but it is not pervasive to the financial statements.
An adverse opinion, meaning misstatements are material and pervasive to the financial statements.
A disclaimer of opinion, meaning sufficient audit evidence could not be obtained, but the uncertainty or misstatement is deemed material and pervasive.
It should be clear that an audit does not involve transposing numbers and providing them in an alternate format. The size and complexity of the sectional scheme will impact the nature and volume of testing, affecting completion timeframes. The audit is a complex process where numerous sectional title regulations and legislative requirements (e.g., CSOS regulations, Income Tax Act, PAIA, POPIA, Unemployment Insurance Act, occupational health and safety legislation, etc.) need consideration. Therefore, it is highly improbable, if not impossible, for a thoroughly and professionally conducted audit to be finalized overnight.
Community scheme trustees responsible for approving financial statements should ensure the audit report is comprehensive, understood, and any findings are investigated, corrected, and disclosed accurately and completely (PMRs 26(c)(i-vi)).
FICTION: "The auditor is responsible for the reserve fund calculation and will prepare the necessary disclosure."
FACT: PMR 26 (1)(c)(iv) and (d) prescribe that the body corporate (i.e., trustees) must prepare financial statements including an analysis of reserve fund amounts for maintenance, repair, and replacement in respect of the maintenance, repair and replacement plan (“MRRP”) of major capital items, showing amounts available as a percentage of estimated costs and any shortfalls, in conjunction with PMR 22. The auditor may not be involved in preparing (compiling) financial statements or advising on any account aspects during the reported period.
A specialist community scheme auditor will verify minimum reserve fund contributions, collection per Participation Quota (“PQ”) or agreed basis, fund management per regulation, preparation and presentation of MRRP, and insist on correct financial statement disclosure for compliance, completeness, and transparency. Failure to meet legislated accounting requirements should be noted in the audit report. The auditor lacks necessary expertise to comment on reserve fund adequacy, highlighting the need for suitably qualified professionals to prepare the MRRP.
FICTION: "Our property manager insists we use a particular audit firm for discounted fees. Financial statements have not been received, and we may not communicate directly with the auditor."
FACT: Property managers often work closely with few auditors, and schemes may be tempted by lower fees. At each Annual General Meeting (“AGM”) (PMR 17(5)(vi)), appointing an auditor is a key agenda item. When replacing or appointing an auditor, comparing quotes, preferably multiple, and considering auditor experience and independence are prudent. Trustee access to the auditor for direct inquiries, rather than via a third party, is essential. There is no legal requirement for audit firm rotation.
FICTION: "Our body corporate is not required to be audited, and we do not need to register for income tax."
FACT: PMR 26 mandates annual financial statement preparation and audit by an independent auditor accredited under the Auditing Professions Act. Registration with IRBA can be confirmed via www.irba.co.za/find-an-ra. Compilation engagements and independent reviews do not constitute audits, and annual statements compiled using these bases should not be accepted. The Income Tax Act requires every company, including associations, to register with SARS. Body corporates are taxed under Section 10(1)(e), with a R50,000 annual exemption on non-levy income. Community schemes must register as taxpayers and submit returns irrespective of taxation status.
FICTION: "The auditor signs annual accounts first, followed by trustees after member approval at the AGM."
FACT: Incorrect. The correct procedure is that the trustees, who are responsible for the information contained in the financial statements, sign the Trustees Responsibilities and Approval Report to confirm that they have met their duties as required by the Sectional Titles Schemes Management Act. The auditor signs his/her report only once the required signatures are obtained from management (the trustees). This is also a precaution to ensure that unauthorised copies of the report are not put into circulation. PMR 17(6)(j)(v) only requires that the members “consider” the financial statements. The approval thereof is the role and responsibility of the trustees. This operation is not dissimilar to that of a company where the directors who are tasked with the day-to-day operations of the company are responsible for approving the financial statements which are presented to the shareholders. Signed financial statements should be presented at the AGM if they have been approved by the trustees. The financials may be considered at a special general meeting if they have not been finalised before the date of the AGM.
Should you require any more information regarding this topic, don’t hesitate to contact us today on 061 536 3138 or at info@tvdmconsultants.com
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About the Author:
Alistair Scholtz is a Community Scheme Consultant at PKF Octagon.