Internal audit refers to the audit which is conducted in order to evaluate and improve the risk management effectiveness in the company, evaluate the different internal controls followed in the company and ensure that the company is complying with all of the laws and regulation which are applicable on it, etc.
Internal Audit Definition
Internal Audit is a process of checking on a regular basis the deviation from any material compliance instructed laws and regulations. Internal audit helps maintain accurate and timely financial reporting and data collection. It is an evaluation done by an internal auditor who could be an employee of the organization or not.
Internal auditing involves an organization’s governance, accounting processes, risk management, and management controls. It aims at enhancing the efficiency of operations, the reliability of financial and management reporting and compliance with regulations. Further, it helps identify potentially fraudulent acts, control breakdowns and also the extent of financial loss.
Internal Audit Requirement
The minimum requirements for a company to mandatorily conduct internal audit depend on the law of the land where the company operates.
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For example in the United States, Section 303A specifies the internal audit rules. The NYSE regulations require that listed companies have an internal audit function. The NYSE states that listed companies need to conduct internal audits in order for the management to assess the company’s internal controls system and risk management processes. A company can also hire a third-party auditor also for this function.
On the other hand in India, the Institute of Chartered Accountants of India (ICAI) has constituted the Committee for Internal Audit. It is a compliance test that has been mandated by section 138 of companies act, 2013. This section mandates internal audit to all listed companies as well as to those unlisted companies which have Deposits>=INR 250 million or Paid-up capital>=INR 500 million or Borrowings>=INR 1 billion or Turnover>=INR 2 billion. For private companies, the conditions are borrowings>INR 1 billion or Turnover >=INR 2 billion.
Qualifications of Internal Auditor
Internal audits can be conducted by Certified Internal Auditor (CAI), Chartered Account (CA), Cost Accountant or any authorized person. Moreover, an internal auditor should possess the following expertise:
- Special expertise was necessary to evaluate the management control system, for example, financial and accounting controls.
- Accounting and financial expertise to be able to discharge his duties.
- Ability to evaluate operational and non-monetary operational controls.
- Knowledge of the technology, commerce, laws, taxation, Cost Accounting, Economics, Quantitative Methods, and EDP systems.
- Integrity and detachment of a professional.
- She/he should be able to assure the management that the confidentiality of such information would be maintained.
While a statutory audit happens only at the end of the fiscal year, an internal audit is done comparatively more frequently i.e. quarterly, monthly, weekly, daily and even continuously in many cases.
Functions of Internal Auditor
The following are the functions of the internal auditor.
- Monitoring of Internal Control – Management should maintain Internal control Internal Auditor may be appointed to monitor whether Internal control is operating or not? And also to suggest any measures to achieve the improvements.
- Examination of Financial and Operating Information – Internal auditors may review the means used to measure the financial and other information. He may make inquiries for transaction balances and other specific matters.
- Review of Operating Activities – Internal auditor has to review the operating activities of an organization, for example, Examination of purchase, Production, HR dept and also to check that whether these departments are efficient, effective and economical.
- Review of Compliance with Laws and Regulation – The Internal auditor is required to examine whether the organization is following the laws and regulations.
- Governance – Internal auditors may check whether an entity is following ethical values and whether they are fair or not. He should always suggest measures to improve the same.
- Risk Management – The internal auditor should guide the management in improving the risk management system.
Advantages of Internal Audit
The following are advantages of internal audit.
- More Effective Management – It helps a company’s management to manage it more effectively. An internal auditor can identify the shortcomings in the internal controls and operations of the company if any. This gives the management some useful insights that are vital for achieving the company’s goals.
- Concurrent Review – The internal audit gives a unique opportunity of conducting a self-review of the performances beforehand. They do not have to wait for the end of the year to review the company’s performance. This helps them change/improve their processes and correct their mistakes which better prepares them for the external audit at the end for the year.
- Improvement if Staff Performance – Due to frequent checks, the staff always remains on the toes due to the fear that the internal auditor may catch their mistakes almost immediately. This ensures an improvement in their efficiency and performance which becomes a good habit over a period of time. Moreover, for honest employees who are already on track, it acts as a morale booster.
- Resource Optimization – It helps the management zero in on the areas where the resources are not being utilized to their full potential. This goes a long way in controlling the costs and expenses of the company. Therefore internal audit is also helpful towards improving the economic position of an organization.
- Division of Work – Taking resource optimization further, the practice of internal audit keeps a check on and observes the activities of all the departments and all of their employees. It does this by promoting the optimum division of labor across the organization.
Disadvantages of Internal Audit
The following are the disadvantages of internal audits.
- Availability of Qualified Staff – In order to conduct any type of audit properly (be it internal or external) one needs to have years of experience. So it is often a tough task finding sufficiently qualified personnel in the company who can conduct an internal audit. And you can’t simply hire an inexperienced auditor since that will do more damage to your company than good.
- Dependence on Accounting Process – As it does in the dictionary, accounting always precedes auditing. The beginning of an internal audit depends upon the completion of accounting. So a delay in the accounting process results in a delay in the internal audit process as well.
- Management’s Ignorant Attitude – Management often does not take the findings of internal audits since they are not made available to all. The findings don’t go beyond the management and thus it depends upon whether it takes the necessary corrective actions or not.
Internal Audit is an integral part of an organization. It not only helps in the performance of the employees but also helps the management to have a check that whether the organization is complying with the laws and regulations or not.
This has been a guide to what is Internal Audit and its definition. Here we discuss the requirement, qualifications, and functions of an internal auditor. Here we also discuss the advantages and disadvantages. You can learn more about accounting from following articles –