As part of systematic process of gathering and evaluating evidence regarding assertions about economic actions and events, tests of balances and tests of transactions are essential in obtaining audit evidence to detect material misstatements in the financial statements. In the following case, assume that you are an auditor. Before you conduct the actual tests you are expected to understand the concepts and procedures of tests of balances and transactions.

Required:

A. There are two types of substantive procedures. Identify each.

B. For tests of balances, what are the major account balances in the balance sheet that need to be examined? Why are these tests important?

C. For tests of transactions, what are the major accounts that an auditor need to verify transaction amounts and trace transactions to accounts in the financial statements. 

Why are these tests important?

D. How do inherent properties of double-entry accounting systems relate to the tests of balances? Give examples of double-entries that show the simultaneous effect of one transaction has on another.

E. For certain account balances such as assets, auditors prefer to test asset accounts for overstatement. Explain why. Are there any similar preferences for understatement for other accounts? If any, explain why.

G. As an auditor, you are aware of the control risks when design tests of transactions.

Explain how these risks might affect the way you design and carry out the procedures.