Art of Accounting: Teaching context to staff

When preparers or younger accountants complete their assignment, but before they submit it for review, I suggest they review it for reasonableness. I offered a “One Minute Test For Preparers” in a previous column, but now I want to quantify it so the staff will have some guidance about when they should inquire further.

Tax returns

• If there is an unexpected result such as a large balance due or refund, they should find out why and explain it on a worksheet. I define “large” as anything that is greater or lower than 10% (or any percent of your choosing) from last year in a category or for the final result. These differences need to be reviewed and reconciled. That reconciliation should be included in the file for the reviewer to look at. 

Financial statements

• Small changes in certain valuation, allowance, warranty or accrual accounts that remove the brackets around the bottom number, i.e., making a loss a profit, can cause a different understanding of the company.
• An $18,000 cost of sales item usually would not have any relevance to a company with $50 million in sales and $30 million cost of sales except if it causes a $10,000 loss to become an $8,000 profit.
• A $230,000 embezzlement might not have any relevance to a company with $50 million in sales and an $8 million pretax profit if it was caused by a shipping clerk.
• However, it might have different relevance if it was caused by the person in charge of the shipping, or the controller. 
• It might have even more special meaning if this pattern continued for four years — for example, this year’s amount was $230,000, last year’s was $150,000, $80,000 the year before that, and $20,000 the first year. 
• In the previous illustrations, a very small loss was converted into a profit. The shipping clerk could be an isolated situation not affecting the validity of the company’s financial results, but the controller is a person who has access to records that could affect the overall results. A continuing pattern usually indicates a systemic weakness in controls. Further, the loss by the controller or head of the shipping could be due to the lack of oversight or accountability of an employee in a very responsible position.
• Relevance and context matter.
• As auditors we take “present fairly” in the audit report seriously, but it might not mean the same thing to the manager planning the work as it does for the staff accountant actually performing the services. Both functions need to be aligned in purpose.
• The quantified meaning of “material” might mean something different based on context and perception. The staff in the field should be taught to exercise awareness, judgment and inquisitiveness on marginal transactions. 
• Materialityis usually measured against total transaction values, but occasionally the result can be misleading and staff need to be coached on where there might be this potential.

While these ranges and illustrations are suggestions, they should not supplant the judgment or curiosity a staff person in the field should exercise. Context matters.

Do not hesitate to contact me at emendlowitz@withum.com with your practice management questions or about engagements you might not be able to perform.

Edward Mendlowitz, CPA, is partner at WithumSmith+Brown, PC, CPAs. He is on the Accounting Today Top 100 Influential People list. He is the author of 24 books, including “How to Review Tax Returns,” co-written with Andrew D. Mendlowitz, and “Managing Your Tax Season, Third Edition.” He also writes a twice-a-week blog addressing issues that clients have at www.partners-network.com along with the Pay-Less-Tax Man blog for Bottom Line. He is an adjunct professor in the MBA program at Fairleigh Dickinson University teaching end user applications of financial statements. Art of Accounting is a continuing series where he shares autobiographical experiences with tips that he hopes can be adopted by his colleagues. He welcomes practice management questions and can be reached at (732) 743-4582 or emendlowitz@withum.com.