ISA 705

ISA 705 – Modifications to the Opinion in the Independent Auditor’s Report Introduction International Standard on Auditing 705: Modifications to the Opinion in the Independent Auditor’s Report provides guidance on how auditor’s report needs to be modified if expressing a normal opinion is not appropriate in case financial statements are misstated.

Executive summary Auditor shall express a qualified opinion if: 

having obtained sufficient appropriate audit evidence, auditor concludes that misstatements in the financial statements are material but not pervasive

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auditor is unable to obtain sufficient appropriate audit evidence that financial statements thus unable to form an opinion. However, concludes that undetected misstatements could be material but no pervasive

Auditor shall express an adverse opinion as a result of obtaining sufficient appropriate audit evidence auditor concludes that misstatements are material but also pervasive. Auditor shall express a disclaimer if auditor is unable to obtain sufficient appropriate audit evidence and thus cannot form an opinion but concludes that undetected misstatements could be both material and pervasive.

1 Understanding Basics Auditor is duty bound to express his opinion on financial statements in a written report whether financial statements are giving true and fair view of the business. If they do, the auditor expresses an unmodifiedopinion. Unmodified opinion simply means that financial statements are free from material misstatements. However, things are not always good. And auditor may conclude that expressing an unmodified opinion is incorrect then auditor has to modify his opinion.

Under what situation modification is necessary and how is that carried out in auditor’s report, all of this other relevant guidelines are provided in ISA 705.

2 Modification of opinion – reasons Auditor is required to modify his opinion in auditor’s report if: 1. Audit evidence obtained indicates and auditor concludes on its basis that financial statements are materially misstated (presence of evil – confirmed) 2. Auditor is unable to gather sufficient appropriate audit evidence so as to conclude that financial statements are free from material misstatements (absence of good – good is not confirmed) Above two points implies one very important thing i.e. auditor cannot declare something good if he do not have enough evidence to support it. Putting it in easy words, something is not good unless and until you are very sure that it IS good. If you don’t know it is bad this does not automatically mean that it might be good.

3 What is modified opinion? An opinion in the auditor’s report is said to be modified if it is: 

Qualified opinion – a conditional opinion also known as “except for” opinion. An opinion according to which except for certain aspect of financial statement everything else is true and fair.

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Adverse opinion – an opinion in which auditor declares that financial statements as a whole are not giving true and fair view.

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Disclaimer of opinion – It is not really an opinion rather a statement that no opinion can be formed due to absence of sufficient appropriate audit evidence.

4 Determining modification type It is up to the auditor to decide what modification is appropriate in the circumstances of the engagement. However, for each type of modification certain conditions must be fulfilled.

4.1 Qualified opinion The auditor shall express a qualified opinion if: 

Based on the audit evidence obtained auditor concludes that misstatements in the financial statements are material but not pervasive individually or in aggregate.



Auditor is unable to gather sufficient appropriate audit evidence to form basis of conclusion however, he concludes that undetected misstatements could be material but not pervasive.

4.2 Adverse opinion As a result of audit procedures sufficient appropriate audit evidence has been obtained and on the basis of such evidence auditor concludes that misstatements in financial statements are material and pervasive. In such case auditor shall express adverse opinion. 4.3 Disclaimer of opinion As a result of audit procedures auditor is unable to gather sufficient appropriate audit evidence. And thus auditor is unable to form any conclusions regarding financial statements and thus he concludes that undetected misstatements in the financial statements could be both material and pervasive. In very rare circumstances, even if sufficient appropriate audit evidence is obtained for other aspects of the financial statements, due to multiple uncertainties auditor is unable to conclude regarding effects of such uncertainties on financial statements therefore, cannot express any opinion.

5 Why no sufficient appropriate audit evidence? Most of the time auditor is not able to collect sufficient appropriate audit evidence due to: 1. Limitations imposed by circumstances 2. Limitations imposed by management 5.1 Limitations imposed by management

Usually the terms of engagement are decided before auditor actually starts carrying out audit procedures and in the engagement letter management may include the limitations on the scope of audit work. If auditor finds such limitations significantly reducing his capacity to obtain sufficient audit evidence then auditor will ask management/client to remove such limitations. If such limitations are not removed then auditor shall not accept the audit engagement. If after accepting the audit engagement, auditor becomes aware of limitations on his audit work which may result in modified opinion then he shall ask management to remove the imposed limitations. If management refuses to remove such limitations then auditor shall communicate the fact to those charged with governance and assess if alternative audit procedures can help collect sufficient audit evidence. If limitations are not removed and as a result auditor is unable to gather required evidence then auditor decides about the opinion modification in his opinion as follows: 1. If auditor concludes that undetected misstatements could be material but not pervasive then express a qualified opinion 2. If auditor concludes that undetected misstatements could be both material and pervasive then: 1. Auditor shall withdraw from engagement and communicate the matter to those charged with governance detailing the reasons of modification. 2. If withdrawal from engagement is not possible then express a disclaimer of opinion