New standard on audit of accounting estimates will drive significant change

With the IAASB set to revise its standards on accounting estimates, now’s the time for Canadian auditors to provide input to the AASB on the ISA 540 exposure draft – which promises significant changes.

In March 2017, the International Auditing and Assurance Standards Board (IAASB) approved an exposure draft on auditing accounting estimates and related disclosures (ISA 540). The proposed changes are significant, affecting all audits and estimates, from simple to complex.

Through ISA 540 — expected to be finalized in early 2018 — the IAASB is addressing global concerns about how auditors address estimates in their audits and changes to accounting standards on credit losses.

Some key features of ISA 540

Addressing risks

ISA 540 focuses the auditor’s attention on identifying and responding to the reasons for the auditor’s assessed risks of material misstatement. The auditor takes into account the extent to which estimates are affected by particular factors, including complexity, judgment and estimation uncertainty.

Procedures to drive the work effort

Perhaps the most significant feature of ISA 540 is its design to address all estimates. Different work effort requirements apply depending on whether the susceptibility of an estimate to material misstatement before considering any related controls (i.e., inherent risk) is low or not low. Identifying “low” or “not low” risks is a new concept in auditing standards. When an estimate has a low inherent risk, as in, for example, a management bonus accrual based on performance indicators that are clearly identified, the auditor’s response is to perform one or more specific audit procedures that address that risk, such as reviewing subsequent events.

A different set of requirements prescribe the auditor’s response for inherent risks that are not low. The requirements drive the auditor to design procedures to address the reasons for the assessed risks based on the factors considered during risk assessment. For example, if a reason for the assessed risk of an estimate is the complexity of its calculation, then ISA 540 requires the auditor to design procedures to obtain sufficient appropriate audit evidence to achieve specific outcomes that address complexity (for example, whether the calculations are mathematically accurate).

Addressing management bias

Because accounting estimates may be subject to management bias, there is increased emphasis in ISA 540 on the appropriate application of professional skepticism. This includes, for example, enhanced requirements for the auditor to perform a stand back evaluation of audit evidence obtained, whether corroborative or contradictory.

Significant risks

The extant standard requires the auditor to perform specific audit procedures when an estimate is a significant risk. In ISA 540, there are no specific procedures that are only required for significant risks. Rather, there is an expectation that the audit evidence the auditor obtains from addressing the reasons for the assessed risk will be more persuasive the higher the risk.


ISA 540 provides more detailed guidance to assist the auditor to determine whether an accounting estimate or related disclosure is misstated, as, for example, when management has determined an amount or range of amounts for an accounting estimate that differs significantly from the amount or range of amounts determined by the auditor from the audit evidence obtained.

Auditor implications and next steps

ISA 540 contains more robust requirements for addressing accounting estimates. It uses a different approach to focusing the appropriate auditor’s work effort, for which there is a lot of new application guidance.

During this exposure draft comment period, auditors around the world must examine the new standard in the context of the accounting estimates that occur in their environments. For example, in Canada, a key question to ask may be: does ISA 540 work for asset impairment estimates in the mining industry?

The Auditing and Assurance Standards Board is conducting outreach to gather this type of information, with the intention of providing strong input to the IAASB by the August comment deadline.

Keep the conversation going

Take a look at the ISA 540 and let me know your reaction. Do you like the idea of identifying whether a risk is low or not low?

Post a comment below; or email me directly.

Conversations about Audit Quality is designed to create an exchange of ideas on global audit quality developments and issues and their impact in Canada.

About the Author

Eric Turner, CPA, CA

Director, Auditing and Assurance Standards, CPA Canada