BCBS published the supplemental guidelines to the 2014 guidance on external audits of banks, following the implementation of expected credit loss (ECL) accounting frameworks in various jurisdictions. The implementation of these frameworks have brought about significant changes for banks and their external auditors. The guidelines set out expectations of BCBS for the audit of the financial statements of a bank, specifically in relation to the audit of ECL estimates, to help the audit committee effectively discharge its external audit responsibilities. In addition to elaborating on these expectations in the context of the key components of ECL, the guidelines set out questions that an audit committee may ask the external auditor.
The supplemental note deals with the audit of the ECL accounting estimate within the overall financial statement audit. It elaborates on the 2014 guidance. While the 2014 guidance remains relevant, the changes brought about by ECL frameworks mean that further guidance is required. The 2014 guidance is structured around five key themes relevant to the quality of auditing the ECL estimate. The key themes for audit quality are professional skepticism and management bias, assessment of risks of material misstatement, internal control, use of experts, and audit evidence. The key components of the ECL estimate are forecasts and forward-looking information, macroeconomic scenarios and weighting, models, significant increase in credit risk criteria, and disclosure. BCBS expects that an external auditor will consider these components, among others, throughout the different stages of its audit of the ECL estimate and related disclosures, as these components are where the accounting and audit may be particularly challenging. According to the expectations set out by BCBS, an external auditor is expected to:
- Promote an environment conducive to exercising professional skepticism in the audit of ECL by planning, staffing, and managing the audit engagement appropriately
- Exercise, and provide evidence that they exercised, a high degree of professional skepticism at all stages of the audit of ECL.
- Focus on understanding banks’ lending business models, risk appetite and exposures, credit risk management practices, business segments, and geographical location, when identifying and assessing the risks of material misstatement related to the audit of ECL
- Test the operating effectiveness of internal controls on which the external auditor plans to rely, as substantive procedures alone usually cannot provide sufficient appropriate audit evidence that the ECL estimate is free of material misstatement
- Evaluate internal controls over the ECL estimate sufficiently early in the audit process to ensure that an effective audit approach can be undertaken, including cases where the controls tested are ineffective
- Make use of specialized skills, which will require the use of an auditor’s experts to audit ECL effectively
- Determine that any experts used have the competence to carry out the work asked of them and that the external auditor will ensure the work has been properly scoped and evaluated, to contribute to the external auditor’s assessment of the reasonableness of the ECL estimate and related disclosures
- Obtain sufficient appropriate audit evidence about whether the ECL estimate and related disclosures in the financial statements are reasonable in the context of the applicable ECL framework
- Obtain more persuasive evidence to support the audit of the ECL estimate and related disclosures because of the significant risks of material misstatement
Keywords: International, Banking, Accounting, ECL, External Audit, Internal Control, Credit Risk, Disclosures, Governance, IFRS 9, Financial Instruments, BCBS
Previous ArticleAPRA to Scrutinize Securitization Practices of Banks
BIS Innovation Hub published the work program for 2021, with focus on suptech and regtech, next-generation financial market infrastructure, central bank digital currencies, open finance, green finance, and cyber security.
In an article published by SRB, Mairead McGuinness, the European Commissioner for Financial Services, Financial Stability, and Capital Markets Union, discussed the progress and next steps toward completion of the Banking Union.
EBA finalized the two sets of draft regulatory technical standards on the identification of material risk-takers and on the classes of instruments used for remuneration under the Investment Firms Directive (IFD).
EC published, in the Official Journal of the European Union, a notification that the European Court of Auditors (ECA) has published a special report on resolution planning in the Single Resolution Mechanism.
BoE published a scenario against which it will be stress testing banks in 2021, in addition to setting out the key elements of the 2021 stress test, guidance on the 2021 stress test, and the variable paths for the 2021 stress test.
PRA published a consultation paper (CP3/21) proposes rules regarding the timing of identity verification required for eligibility of depositor protection under the Financial Services Compensation Scheme (FSCS).
FSB published the work program for 2021, which reflects a strategic shift in priorities in the COVID-19 environment.
FCA announced that 50% firms have started using the new data collection platform RegData, which is slated to replace the existing platform known Gabriel.
Bundesbank published Version 5.0 of the derivation rules for completeness check at the form level, with respect to the data quality of the European harmonized reporting system.
FED finalized a rule that updates capital planning requirements to reflect the new framework from 2019 that sorts large banks into categories, with requirements that are tailored to the risks of each category.