Question

If information comes to the auditor's attention that implies the existence of possible illegal acts that could have a material, but indirect effect on the financial statements, what should the auditor do?

1) Report the possible illegal acts to the appropriate authorities
2) Ignore the possible illegal acts as they are indirect
3) Conduct further investigation to determine the materiality of the possible illegal acts
4) Include a note in the financial statements disclosing the possible illegal acts

Answer 1

The auditor should conduct further investigation to determine the materiality of the possible illegal acts, and depending on their findings and applicable legal requirements, they may need to report to authorities or suggest disclosure notes in the financial statements.

Step-by-step explanation:

If an auditor encounters information suggesting the possibility of illegal acts that could have a material, indirect effect on the financial statements, the appropriate step would be to conduct further investigation to determine the materiality and implications of these acts. The auditor's responsibility extends to understanding the potential effects of illegal acts on the financial statements, even if the effects are indirect.

Auditors should assess the nature, timing, and extent of the procedures necessary to evaluate the potential effect on the financial statements. Should the auditor conclude that the illegal act has a material effect on the financial statements and depending on the legal framework they operate within, they may have to report this to the appropriate authorities.

Additionally, if deemed necessary and upon consultation with legal counsel, auditors may also suggest that management include a note in the financial statements, depending on the significance of the illegal acts on the financial statement's fair presentation.