Top-Side and Post-Closing Entries: How to Find, Select and Test Them at Year-End

Top-side entries are adjustments made to the financial statements or the consolidation without going through the normal ledger posting path. Post-closing entries are posted after the period is closed. Both are named in the fraud standards because they can skip the controls that cover routine entries. AU-C 240 paragraph .32(a) requires the auditor to test "journal entries recorded in the general ledger and other adjustments made in the preparation of the financial statements, including entries posted directly to financial statement drafts." The "other adjustments" are the top-side entries.

A journal entry listing from the general ledger will not contain them. The work is mostly about building a population that does.

What does the standard say about these entries?

AU-C 240 paragraph A47 explains that fraud involves (a) recording inappropriate or unauthorized entries throughout the year or at period end, or (b) making adjustments to reported amounts that are not reflected in formal journal entries, such as through consolidating adjustments, report combinations and reclassifications.

Paragraph A49 lists the characteristics of inappropriate entries. Two apply directly: entries recorded at the end of the period or as postclosing entries that have little or no explanation or description, and entries made before or during preparation of the financial statements that do not have account numbers. The same paragraph says nonstandard entries and entries such as consolidating adjustments may not be subject to the same nature and extent of controls as recurring entries for monthly sales, purchases and cash disbursements.

For issuers, AS 2401 paragraph .61 says the same. Standard entries used on a recurring basis generally are subject to internal controls. Nonstandard entries, such as those for a business combination or an asset impairment, might not be. Other adjustments such as consolidating adjustments, report combinations and reclassifications generally are not reflected in formal journal entries and might not be subject to the entity's controls, so the auditor should consider placing additional emphasis on identifying and testing items processed outside the normal course of business. Our guide to AS 2401 paragraphs .58 to .62 covers the full issuer text.

How do you build the population?

A ledger export covers the first half of the population. Add the second half from these sources:

1. The consolidation or reporting workbook. Ask for every adjustment, elimination and reclassification between the subsidiary trial balances and the reported statements.
2. The bridge from trial balance to statements. Tie the closing trial balance to the draft statements line by line. Any difference is a top-side adjustment.
3. The post-close log. Obtain the ledger posting dates and the date the period was locked. Select every entry whose posting date is after the lock, or whose effective date falls in the closed period but whose entry date does not.
4. Draft-to-final differences. Compare the first draft statements the client gave you to the final set. Each change should trace to an entry.
5. Inquiry. Ask who prepares the consolidation, who can reopen a closed period, and what was changed after the books were closed. This is the inquiry in paragraph .32(a)(ii).

Reconcile the combined population to the trial balance and to the statements before selecting anything. If the client cannot produce a log of post-close changes, that gap is itself a finding for the file and a control deficiency to evaluate.

How do you select entries?

Paragraph .32(a)(iv) requires the auditor to select entries and other adjustments made at the end of a reporting period. Paragraph A49 supplies the criteria. A scoring approach keeps the selection explainable:

• (a) posted to unrelated, unusual or seldom-used accounts
• (b) prepared by someone outside the normal entry preparers
• (c) period-end or post-closing, with little or no description
• (d) no account number
• (e) round or consistently ending amounts
• (f) posted to accounts with estimates, intercompany activity or unreconciled differences
• (g) outside the normal course (nonstandard, consolidation, reclassification)

Choose a cutoff in advance and write it in the plan. The cutoff is a judgment, not a figure from the standards.

Worked example

A manufacturer has a December 31 year-end. The auditor assembles nine candidate top-side and late manual entries. The selection rule, set before looking at results and chosen for this illustration: test any entry with three or more flags, and any entry with at least one flag and an amount of $100,000 or more.

Six of nine entries are selected, totaling $1,210,640 of the $1,256,821.16 in the candidate list, 96.3 percent of the dollar value. The three unselected entries have one flag or none and amounts well under $100,000. The file records that rule, the count of entries considered, and why each unselected entry was passed.

TS-1 is the entry to push on: a $310,000 post-close entry with little or no description, posted eight days after year-end. TS-4 shows why a workbook adjustment sits in the population even though no ledger entry exists.

How do you test the selected entries?

For each selected item:

• Obtain the support and agree amount, date and accounts to it.
• Confirm who prepared and who approved, and compare to the approval policy.
• Understand the business purpose. If it is a significant unusual transaction, perform the paragraph .32(c) procedures: read the underlying documentation, check authorization and evaluate accounting and disclosure.
• For estimates posted as top-side entries, compare the amount to the supporting analysis and consider bias, which links to the management override response.
• Trace the effect to the statements and, for workbook adjustments, to the disclosures.

Conclude per entry. An entry with no support, or one the preparer cannot explain, is not cleared by a plausible story. Paragraph .14 requires further investigation of inconsistent or unsatisfactory (for example vague or implausible) responses.

Do small clients have top-side entries?

Yes. The client's accountant may prepare the year-end adjustments in a spreadsheet or in the draft statements, outside the bookkeeping system, and the owner posts them later. That is the same risk in smaller form, and the test is the same: get the adjustments, tie to the statements, test the selected ones. For smaller entities with one person doing everything, see the point on single-individual domination in paragraph A32.

Frequently asked questions

Are top-side entries always a problem?

No. Consolidation and reclassification adjustments are normal. The audit risk is that they sit outside the controls over recurring entries, so the auditor tests them rather than assuming controls covered them.

Must the auditor test post-closing entries?

Paragraph .32(a)(iv) requires selection of entries made at the end of a reporting period, and A49 lists postclosing entries with little or no explanation as a characteristic of inappropriate entries.

Does this replace general journal entry testing?

No. It adds to it. See journal entry population completeness and selection criteria.

Sources

• AICPA, AU-C Section 240, Consideration of Fraud in a Financial Statement Audit, paragraphs .14, .32, A32, A47 and A49: https://www.aicpa-cima.com/resources/landing/aicpa-professional-standards
• PCAOB, AS 2401, Consideration of Fraud in a Financial Statement Audit, paragraphs .58 and .61: https://pcaobus.org/oversight/standards/auditing-standards/details/AS2401

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AU-C references are to AICPA Professional Standards, paraphrased here; read the standard itself before relying on a requirement. This page is guidance, not professional advice. Report an error