Performance materiality is the level of materiality set for specific accounts or classes of transactions during an audit. It is determined by the auditor based on their professional judgment and considers the overall financial statements’ materiality level.
When setting performance materiality, auditors consider several factors:
1. Overall materiality: The materiality level for the financial statements as a whole serves as a starting point. It is typically determined as a percentage of a benchmark, such as net income, total assets, or total revenue. Performance materiality is then set at a lower level to provide a reasonable assurance that misstatements, individually or in aggregate, will be detected and corrected.
2. Inherent risk and control risk: The auditor assesses the inherent risk and control risk associated with specific accounts or transactions. Higher inherent or control risks may result in setting a lower performance materiality level to ensure that potential misstatements are adequately addressed.
3. Significance of the account or class of transactions: Accounts or classes of transactions that are more significant or prone to material misstatement may require a lower performance materiality level. This ensures that the audit procedures performed on these areas are more robust and detailed.
4. Legal or regulatory requirements: If specific laws or regulations prescribe a materiality threshold, the auditor should consider these requirements when setting performance materiality.
If the auditor wants to change the performance materiality level during the audit, they need to consider the following:
1. Reassessment of risks: Any changes in inherent risks, control risks, or other risk factors that may impact materiality should be carefully evaluated.
2. Impact on audit procedures: Changing performance materiality may require modifying the nature, timing, or extent of audit procedures performed. The auditor should ensure that the revised materiality level aligns with the audit approach and provides appropriate assurance.
3. Documentation and communication: The auditor should document the rationale behind the change in performance materiality and communicate it with the appropriate stakeholders, including the engagement team and audit committee.
Overall, the criteria for setting or changing performance materiality involve a careful assessment of risks, significance of accounts, and compliance with applicable laws and regulations. The auditor’s professional judgment and adherence to auditing standards are crucial in determining an appropriate and effective performance materiality level.
