Definition
Materiality is a judgment about how large an error must be before a reasonable user of the financial statements would decide differently because of it. Auditors set overall materiality at planning, usually as a percentage of a stable benchmark such as revenue, total assets or pre-tax income, then set lower amounts for performance materiality and a clearly trivial threshold.
Why it matters in an audit or review
Materiality drives the nature, timing and extent of procedures. A lower figure means larger samples and more testing. It is also the yardstick for evaluating uncorrected misstatements at the end of the audit, so it must be documented and revisited if facts change.
Example
Illustrative numbers: a distributor with $20,000,000 of revenue uses 0.5% of revenue, giving overall materiality of $100,000. Performance materiality at 75% is $75,000, and the clearly trivial threshold at 5% is $5,000.
Common mistakes
- Using one benchmark for years without asking whether it still fits the entity.
- Ignoring qualitative factors such as covenant compliance or related party items.
- Not lowering materiality when actual results differ sharply from the planning estimate.
FAQ
Is there a required percentage for materiality?
No. The standards require professional judgment, and percentages like 0.5% of revenue or 5% of pre-tax income are only common starting points that the firm documents and supports.
Sources
- AICPA, AU-C Section 320, Materiality in Planning and Performing an Audit
- AICPA, AU-C Section 450, Evaluation of Misstatements Identified During the Audit (clearly trivial)
Definitions paraphrase AICPA and FASB guidance; read the standard itself before relying on a requirement. Example figures are illustrative. This page is guidance, not professional advice. Report an error