Standard on Internal Audit (SIA) 18
Related Parties
The Institute of Chartered Accountants of India
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STANDARD ON INTERNAL AUDIT (SIA) 18
RELATED PARTIES
Contents
Paragraph(s)
Introduction ............................................................................................. 1-2
Definitions .................................................................................................3-4
Related Party Transactions ...................................................................... 5-6
Internal Audit Procedures....................................................................... 7-15
Effective Date ......................................................................................... 16
The following is the text of the Standard on Internal Audit (SIA) 18, Related
Parties, issued by the Institute of Chartered Accountants of India. The
Standard should be read in the conjunction with the " Preface to the
Standards on Internal Audit ", issued by the Institute of Chartered
Accountants of India.
In terms of the decision taken by the Council of the Institute at its
260th meeting held in June 2006, the following Standard on Internal Audit
shall be recommendatory in nature in the initial period. The Standard
shall become mandatory from such date as may be notified by the Council in
this regard.
Introduction
1. The purpose of this Standard on Internal Audit (SIA) is to establish
standard and provide guidance on the procedures to be followed by
the internal auditor in ensuring that related party activities of the
entity are properly captured through internal controls; and that related
party activities are consistent with the entity's code of conduct and
conflict of interest policy, applicable laws and regulations and
disclosure requirements.
2. Management is responsible for the identification and disclosure of
related parties and accounting for the related party transactions. This
responsibility requires management to implement adequate internal
control to ensure that transactions with related parties are
appropriately identified, recorded and disclosed in the financial
statements. The internal auditor is the appropriate resource for
assessing what management has implemented with regard to related
party information by evaluating relevant internal controls, and
informing the management about the deficiencies detected with
suggestions for improvement.
Definitions
3. (i) Related Party
Parties are considered to be related, if at any time during
the reporting period, one party has the ability to control the
other party or exercise significant influence over the other
party in making financial and/ or operating decisions.
(ii) Control
(a) Ownership, directly or indirectly, of more than one
half of the voting power of an enterprise, or
(b) Control of the composition of the board of directors
in the case of a company or of the composition of
the corresponding governing body in case of any
other enterprise, or
Related Parties
(c) A substantial interest in voting power and the
power to direct, by statute or agreement, the
financial and/ or operating policies of the
enterprise.
(iii) Significant Influence
Participation in the financial and/ or operating policy
decisions of an enterprise, but not control of those policies.
(iv) Relative
In relation to an individual, means the spouse, son,
daughter, brother, sister, father and mother who may be
expected to influence, or be influenced by, that individual in
his/ her dealings with the reporting enterprise.
For the purpose of this Standard, all other terms used herein would
have the same definition/ meaning as used in Accounting Standard
(AS) 18, " Related Party Disclosures " issued by the Institute of
Chartered Accountants of India.
4. An entity is considered to control the composition of:
(i) the board of directors of a company, if it has the power,
without the consent or concurrence of any other person, to
appoint or remove all or a majority of directors of that
company. An enterprise is deemed to have the power to
appoint a director if any of the following conditions is
satisfied:
(a) a person cannot be appointed as director without
the exercise in his favour by that enterprise of such
a power as aforesaid; or
(b) a person's appointment as director follows
necessarily from his appointment to a position held
by him in that enterprise; or
(c) the director is nominated by that enterprise, in case
that enterprise is a company, the director is
nominated by that company/ subsidiary thereof.
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(ii) the governing body of an enterprise that is not a company, if
it has the power, without the consent or the concurrence of
any other person, to appoint or remove all or a majority of
members of the governing body of that other enterprise. An
enterprise is deemed to have the power to appoint a
member if any of the following conditions is satisfied:
(a) a person cannot be appointed as member of the
governing body without the exercise in his favour
by that other enterprise of such a power as
aforesaid; or
(b) a person's appointment as member of the
governing body follows necessarily from his
appointment to a position held by him in that other
enterprise; or
(c) the member of the governing body is nominated by
that other enterprise.
Related Party Transactions
5. A related party transaction is a transfer of resources, services or
obligations between an entity and a related party, regardless of
whether or not a price is charged. Transactions that because of their
nature may be indicative of the existence of related parties include:
(a) Borrowing or lending on an interest-free basis or at a rate of
interest significantly above or below market rates prevailing
at the time of the transaction.
(b) Buying/ selling transactions at a price that differs
significantly from its appraised value.
(c) Exchanging property for similar property in a non-monetary
transaction.
(d) Making loans with no scheduled terms of repayment.
(e) Granting of a guarantee without adequate compensation.
6. Related party transactions may not be conducted under normal
market terms and conditions at all times. There may be possibility
Related Parties
that transactions with related party may have been motivated solely,
or in large measure, by conditions similar to the following:
(a) Lack of sufficient working capital or credit to continue the
business;
(b) An urgent desire for a continued favorable earnings record
in the hope of supporting the price of the company's share;
(c) An overly optimistic earnings forecast;
(d) Depending on a single or relatively few products, services,
customers, suppliers or transactions for the continuing
success of the venture;
(e) Excess capacity;
(f) Significant litigation, especially, litigation between
stakeholders and management;
(g) A declining industry characterized by a large number of
business failures;
(h) Significant technology obsolescence.
Internal Audit Procedures
7. The internal auditor shall perform the internal audit procedures and
related activities to obtain information relevant to evaluating internal
controls associated with related party relationships and transactions.
The internal auditor shall gather the following information pertaining
to related party relationships and transactions:
(a) The identity of the entity's related parties including changes
from the prior period;
(b) The nature of the relationships between the entity and these
related parties; and
(c) Whether the entity has entered into any transaction with
these related parties during the period and, if so, the nature
and extent, and the purpose of the transaction.
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8. The following may be considered by the internal auditor while
understanding the entity's related party relationships and
transactions:
(a) The nature and extent of the entity's relationships and
transactions with related parties.
(b) An emphasis on the importance of maintaining due
professional care throughout the internal audit regarding the
potential for material misstatement associated with related
party relationships and transactions.
(c) The circumstances or conditions of the entity that they
indicate the existence of related party relationships or
transactions that management has not identified or
disclosed to the internal auditor (for example, a complex
organizational structure, use of special-purpose entities for
off-balance sheet transactions, or an inadequate
information system).
(d) The records or documents that may indicate the existence
of related party relationships or transactions.
(e) The importance that management and those charged with
governance attach to the identification, appropriate
accounting for, and disclosure of related party relationships
and transactions, and the related risk of management
override of relevant controls.
9. The internal auditor shall inspect the following for indications of the
existence of related party relationships or transactions that
management has not previously identified or disclosed:
(a) Bank and legal confirmations obtained as part of the
internal auditor's procedures;
(b) Minutes of the meetings of the shareholders and of those
charged with governance; and
(c) Such other records or documents as the internal auditor
considers necessary in the circumstances of the entity, for
example:
Entity income tax returns.
Related Parties
Information supplied by the entity to statutory and
regulatory authorities.
Shareholder registers to identify the entity's
principal shareholders.
Statements of conflicts of interest from
management and those charged with governance.
Records of the entity's investments and those of its
pension plans.
Contracts and agreements with key management
or those charged with governance.
Significant contracts and agreements not in the
entity's ordinary course of business.
Specific invoices and correspondence from the
entity's professional advisors.
Life insurance policies acquired by the entity.
Significant contracts re-negotiated by the entity
during the period.
Documents associated with the entity's filings with
a securities regulator (e.g., prospectuses).
If the internal auditor identifies significant transactions outside the
entity`s normal course of business then the internal auditor shall
obtain information about the nature of these transactions and
whether the related parties are involved.
10. In smaller entities, the identification of related party transactions can
often be difficult. If the entity uses a standard software package to
record transactions, consider obtaining an electronic copy of the
transactions and importing them into an electronic spreadsheet. By
using the sort feature and configuring the selection criteria, it may be
possible to obtain information about customers/ suppliers with only a
few, but large, transactions, or those with significant transactions of
a size or nature that is unusual.
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11. In responding to the identified risks of material misstatement
associated with related party relationships and transactions, the
internal auditor would consider the following:
(a) Determine whether underlying circumstances confirm their
existence;
(b) Promptly communicate the information to the engagement
team;
(c) Request management to identify all the transactions with
the related party;
(d) If related party was not previously identified, consider:
failure of any related party identification controls,
and
fraud (non- disclosure by management appears
intentional);
(e) Reconsider the risk that the other undisclosed related
parties or significant related party transactions may exist,
and perform additional internal audit procedures as
necessary; and
(f) Perform appropriate substantive internal audit procedures.
12. With regard to significant related party transactions outside
normal course of business, the internal auditor should inspect
underlying contracts or agreements, if any, and evaluate
whether:
(a) Rationale suggests possible fraudulent financial
reporting or concealment of misappropriated assets;
(b) Terms are consistent with management`s explanations;
and
(c) Transactions are accounted for and disclosed in
accordance with the generally accepted accounting
principles;
(d) Ensure transactions have been appropriately authorized
and approved.
Related Parties
13. The internal auditor should obtain sufficient appropriate audit
evidence about management's assertion that a related party
transaction was conducted on terms equivalent to those
prevailing in an arm's length transaction. Evaluating
management's support for this assertion may involve one or more of
the following:
(a) Considering the appropriateness of management's process
for supporting the assertion.
(b) Verifying the source of the internal or external data
supporting the assertion, and testing the data to determine
their accuracy, completeness and relevance.
(c) Evaluating the reasonableness of any significant
assumptions on which the assertion is based.
14. The internal auditor should consider the following matters:
(a) Document the names of the identified related parties
and the nature of the related party relationships; and
(b) Communicate with those charged with governance, or
relevant committee thereof, such as, audit committee,
any significant matters arising during the internal audit
in connection with related parties.
15. The internal auditor should consider the impact on the internal
audit report if it is not possible to obtain sufficient appropriate
audit evidence concerning related parties and transactions, and
should suitably disclose it in the internal audit report, based on
it's materiality .
Effective Date
16. This Standard on Internal Audit will apply to all internal audits
commencing on or after ______. Earlier application of the SIA is
encouraged.
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Notes
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