Search for Unrecorded Liabilities
Search for unrecorded liabilities is the audit test that auditors perform to verify if the payables are understated due to the liabilities have not been recorded. This type of audit test is usually performed to respond to the risk of understatement of liabilities.
It is usually more important to search for unrecorded liabilities (e.g. accounts payable or notes payable) than to search for unrecorded assets (e.g. accounts receivable or note receivable) as the omission of assets are less likely to happen than the omission of liabilities. In other words, liability accounts have higher risk of unrecording than the asset accounts.
As auditors, we usually perform search for unrecorded liabilities to test the completeness assertion of the client’s liability accounts. Likewise, by performing this audit procedure, we can determine whether the payables should be included or excluded from the current accounting period.
Search for Unrecorded Liabilities Examples
For example, in the audit of accounts payable, we usually perform search for unrecorded liabilities to test completeness assertion by:
- Select a sample of payment transactions after year-end
- Examine the selected payments with the supporting documents (e.g. suppliers’ invoices) to determine whether the liabilities were at the balance sheet date
- Inquire the related personnel about any unrecorded invoices
It is useful to note that the sample size of payment transactions that we need to select is directly related to the risk of material misstatement for the liability accounts.
For example, if the risk of material misstatement of accounts payable above is high, we may need to select a large sample size of payment transactions to examine. This is so that we can reduce the audit risk to an acceptable level.
Search for unrecorded liabilities is also performed on the notes payable. However, there are usually more procedures as notes payable usually have a higher risk of material misstatement than accounts payable.
For example, in search for unrecorded liabilities for notes payable, we usually need to perform direct confirmation for notes payable that existed in the past (but currently not shown on the balance sheet) in addition to the examination of payment transactions after year-end.
In addition, we may also need to review board minutes for authorized debt (but not recorded) in the current period as well as analyzing the interest expenses to uncover the payment to the creditors that are not shown on the balance sheet.