Accounts payable and the search for unrecorded liabilities

• Explain why completeness, not existence, drives payables testing
• Design a search for unrecorded liabilities with a defined population, threshold and window
• Use vendor statements and zero-balance confirmations to test completeness
• Evaluate accrued expenses against post-period evidence

Turn the direction around

For assets, the risk is overstatement and you test existence. For liabilities, the main risk is understatement. Management under pressure to show profit or meet a covenant has a reason to leave bills out, and missing items do not show up in a ledger sample. Testing recorded payables proves they exist. It says nothing about the ones not recorded.

So the core procedure starts outside the ledger and looks back in. AU-C 330.18 requires substantive procedures for each relevant assertion of significant accounts, and for payables completeness is the relevant assertion in almost every file.

The search for unrecorded liabilities

The search takes populations that would contain an unrecorded liability and checks whether each item was recorded in the right period.

1. Subsequent disbursements. Obtain the cash disbursements journal from year-end to as close to the report date as practical. Select payments above a threshold. For each, look at the invoice and receiving or service dates. If the goods or services were received on or before year-end, the liability should be in year-end payables or accruals.
2. Unpaid invoices. Review invoices received after year-end but not yet paid, and the open invoice file, for the same question.
3. Receiving records. Trace receiving reports from the last days of the year to recorded payables.
4. Contracts and commitments. Look for liabilities arising from contracts, legal matters, and board minutes.

Set the threshold relative to performance materiality, and run the window up to near the report date. A search window that ends two weeks after year-end on an audit released in April leaves the largest invoices, which often arrive late, untested.

The search for unrecorded liabilities guide and workpaper give the layout.

Vendor statements and confirmations

Vendor statements are external evidence of what the vendor believes is owed. Reconcile statements for major vendors to the subledger and investigate differences.

Payable confirmations are less common than receivable confirmations but useful for completeness when the request is designed for it. Select vendors by volume of purchases, not by year-end balance, and include vendors with zero or small recorded balances. Ask the vendor to state the balance (a blank request) rather than agree to a figure. A confirmation sent only to the largest recorded balances tests existence, which is rarely the risk. When a payable confirmation goes unanswered, AU-C 505's examples of alternatives are subsequent disbursements and third-party records such as receiving reports and vendor statements. See payable confirmations and vendor statement reconciliations.

Accrued expenses

Accruals are estimates or calculations for goods and services received but not yet invoiced: utilities, professional fees, interest, bonuses, payroll, property taxes. For each material accrual, test the calculation and compare it with the invoice or payment that followed. Compare accrual balances with the prior year and look for expected accruals that are missing, such as an audit fee or a December utility bill. The accrued expenses schedule helps.

Common file findings

• Search window too short or threshold too high.
• Subsequent payments reviewed for amount only, without checking the service or receipt date.
• Payable confirmations sent only to large recorded balances.
• Accruals agreed to the client's own calculation with no post-period comparison.

Search for unrecorded liabilities at Pinecrest Builders Supply, Inc.