What is cut off testing in the audit?

Definition

Cut off testing refers to determining if accounting entries are recorded in the correct accounting periods. The purpose of this exercise is to determine if the reported profit/loss of the business pertains to the same accounting period.

In other words, cut off testing helps ensure transactions are recorded in the correct accounting period and reported profit/loss of the specific period pertains to the activities performed in the same accounting period. For instance, the revenue for the month of December only contains transactions that resulted in the dispatch of goods during December. The attached risk and reward were transferred to the buyer in December.

At this point, auditors need to ensure that revenue does not contain transactions for the order received but only for the goods that were dispatched during the period under consideration.

Likewise, the concept needs to be applied while posting transactions in the accounting system. An accountant needs to select the correct date while posting transactions. Otherwise, it may lead to cut off error.

How auditor check cut off for the revenue

Auditors perform following procedures during audit fieldwork to test cut off for the revenue.

1. Request the last three invoices for the specific accounting period with relevant goods dispatched notes.
2. Reconcile goods dispatched notes with the invoices.
3. Ensure invoices and goods dispatched notes pertain to the same accounting period. For instance, if date of goods dispatched note is December, the related invoice should be posted in the month of December. It helps ensure that goods dispatched are recorded in the correct accounting period leading to correct amount of revenue.

How auditors check cut off for the property, plant, and equipment – PPE

Auditors perform following procedures during audit fieldwork to test cut off for the PPE.

1. Request purchase invoices and delivery notes for the assets under consideration.
2. Ensure date of the delivery note and purchase invoices are same. Capitalization should take place on the same date as mentioned in receiving note. It helps ensure date of capitalization is correct and depreciation starts at the right time. Further, the date of capitalization should fall in the period under reporting.
3. It’s important to note that the business needs to apply depreciation when an asset is brought in the usable form.

How auditor do cut off testing for the expenses

Auditors perform following procedures during audit fieldwork to test cut off for expenses.

1. Request purchase invoices and receiving notes for the last three expenses.
2. Review and ensure that date on purchase invoices and receiving notes are the same. In addition to this, ensure accounting system for expense is updated on the same date as mentioned on the purchase invoice and receiving note. Further, this dates should fall in the period under reporting.
3. If dates on purchase invoices and receiving notes are the same as posting date. It leads to the assurance that expenses are recorded in the correct accounting period.

Also read, compliance audit

Conclusion

Cut off testing helps enhance revenue/expenses or any other transactions are recorded in the correct accounting period. It leads to reliance that reported profit or loss pertains to the activities performed in the specific accounting period.

Auditors need to perform cut off testing at different account balances. It helps to increase reliance that reported figures pertain to the activities performed in the specific accounting period.

Generally, auditors perform cut off testing on different account balances like sales, expenses, and fixed assets etc. It’s one of the most important procedures that help the auditor get assurance on the account balance.

Frequently asked questions

What is occurrence testing in the audit?

Occurrence testing means that auditors test if transactions recorded in the accounting records have occurred in real. For instance, the auditors need to ensure that recorded sales invoices in the ledger are real and goods have been dispatched for the recorded revenue. This assertion is more about income statement items.     

What is existence testing in the audit?

Existence testing means that recorded assets/liabilities exist in real and recorded in the true spirit. For instance, land recorded in the financial statement is actually under the ownership of the business.

What is completeness testing in the audit?

Completeness testing means that the business has recorded all events and transactions in the accounting record. In other words, it has not skipped any of the transactions in the accounting record.

What are rights and obligations assertion in the audit?

Rights and obligations assertion mean that the business has ownership/rights for the assets recorded in the financial statement. On the other hand, liability means that the business has a genuine obligation to pay off the debt.

Assets ownership can be assured with the legal/ownership documents. On the other hand, obligations/liability can be confirmed with the purchase documents.

What is valuation testing in the audit?

Valuation means that the recorded amount for the balance items are not over/under estimated. For instance, investments need to be recorded at market value on the balance sheet day.