Definition of an Audit

An audit is a systematic examination of financial statements, records, processes, controls, or other information to evaluate whether specified requirements or criteria have been met.

In a financial statement audit, an independent auditor examines a company's financial statements and supporting evidence to obtain reasonable assurance about whether the financial statements are free from material misstatement, whether due to error or fraud, and to express an opinion based on the audit.

In the United States, audits of public companies are performed under standards established by the Public Company Accounting Oversight Board (PCAOB). Audits of many nonissuer entities are generally performed under auditing standards established by the AICPA's Auditing Standards Board, depending on the engagement and applicable requirements.

The financial statements themselves may be prepared in accordance with U.S. GAAP or another applicable financial reporting framework.

For example, a U.S. public company generally includes audited annual financial statements in its SEC filings. The independent auditor examines evidence supporting those financial statements and issues an auditor's report containing its opinion.

Purpose of an Audit in Business and Accounting

Financial statement audits serve several important purposes:

1. Provide Reasonable Assurance – Auditors obtain reasonable, rather than absolute, assurance that the financial statements are free from material misstatement.
2. Support Reliable Financial Reporting – Independent examination can increase users' confidence in financial information.
3. Evaluate Material Misstatement Risk – Auditors assess risks of error or fraud and design procedures in response.
4. Evaluate Relevant Internal Controls – Auditors obtain an understanding of internal control relevant to the audit and, in certain engagements, may separately audit internal control over financial reporting.
5. Meet Reporting Requirements – Certain entities must obtain audits under securities laws, regulations, contracts, financing arrangements, or other requirements.
6. Support Stakeholder Confidence – Investors, lenders, owners, and other users may rely on audited financial statements when making decisions.

An audit does not guarantee that financial statements are perfectly accurate or that every instance of fraud will be detected.

Types of Audits in the United States

Financial Statement Audit

A financial statement audit examines an entity's financial statements and supporting evidence so that an independent auditor can express an opinion on whether the statements are presented fairly, in all material respects, in accordance with the applicable financial reporting framework.

Auditors may examine areas such as:

• Revenue
• Expenses
• Cash
• Accounts receivable
• Inventory
• Property and equipment
• Liabilities
• Equity
• Financial statement disclosures

Audit procedures vary based on assessed risks, materiality, the nature of the organization, and other factors.

Internal Audit

Internal auditing evaluates areas such as governance, risk management, internal controls, compliance, and operational processes.

Internal auditors may be employees of the organization or services may be provided through outside arrangements.

Unlike an independent financial statement audit, internal auditing primarily helps an organization's management and governing bodies evaluate and improve internal processes, controls, and risk management.

Tax Audit

A tax audit, also called an examination, may be conducted by the Internal Revenue Service (IRS).

The IRS defines an audit as a review or examination of an individual's or organization's books, accounts, and financial records to determine whether information reported on a tax return is correct under tax law and whether the reported tax amount is correct.

An IRS audit is therefore fundamentally different from an independent financial statement audit.

Compliance Audit

A compliance audit evaluates whether an organization is following specified requirements.

These requirements may arise from:

• Laws and regulations
• Grant requirements
• Contracts
• Government programs
• Industry requirements
• Internal policies

The scope depends on the specific criteria being tested.

Operational Audit

An operational audit examines processes, procedures, and activities, focusing on efficiency, effectiveness, controls, and risk management.

For example, an operational audit might examine a company's purchasing process to identify control weaknesses or inefficient procedures.

Forensic Audit or Forensic Examination

Forensic accounting engagements focus on specific allegations, disputes, suspected fraud, misconduct, or other matters that may require detailed investigation.

Unlike a standard financial statement audit, a forensic engagement is typically designed around a specific investigative objective.

How a Financial Statement Audit Works

Although the exact process varies, a financial statement audit commonly involves several stages.

1. Planning and Risk Assessment

The auditor develops an understanding of the business, its environment, accounting processes, and relevant internal controls.

The auditor then identifies and assesses risks of material misstatement.

2. Determining Materiality

Auditors establish materiality levels to help determine which misstatements could reasonably influence users of the financial statements.

An audit therefore focuses on material misstatements, rather than attempting to verify every transaction with absolute certainty.

3. Gathering Audit Evidence

Auditors perform procedures to obtain sufficient appropriate audit evidence.

Depending on the engagement, procedures can include:

• Inspecting documents and records
• Confirming balances with third parties
• Observing processes or assets
• Recalculating amounts
• Performing analytical procedures
• Making inquiries
• Testing transactions, balances, and controls

4. Evaluating Results

The auditor evaluates the evidence obtained, identifies misstatements, and assesses accounting policies, estimates, disclosures, and other relevant matters.

5. Issuing the Auditor's Report

At the end of the engagement, the independent auditor issues a report that includes an opinion on the financial statements.

Depending on the circumstances, the opinion may be:

• Unqualified or unmodified
• Qualified
• Adverse

An auditor may also disclaim an opinion when sufficient appropriate audit evidence cannot be obtained or in certain other circumstances.

Audit vs. Review vs. Compilation

The appropriate service depends on regulatory requirements, lender or investor demands, contractual obligations, and the needs of financial statement users.

Audit vs. IRS Tax Audit

A company can therefore have audited financial statements and separately be selected for an IRS examination.

Advantages and Limitations of an Audit

Advantages

• Enhanced Financial Credibility – Independent assurance can increase confidence in financial statements.
• Access to Financing – Lenders or investors may require audited financial statements.
• Improved Financial Reporting – The audit process may identify accounting or reporting issues requiring correction.
• Control Insights – Auditors may identify certain internal control deficiencies during the engagement.
• Regulatory Compliance – Audits can satisfy applicable securities, regulatory, contractual, or other reporting requirements.

Limitations

• Cost – Audits require professional expertise, planning, testing, and documentation.
• Time and Resources – Management and employees need to prepare records and respond to audit requests.
• Reasonable, Not Absolute, Assurance – An audit cannot guarantee detection of every error or fraud.
• Use of Professional Judgment – Audits involve risk assessment, materiality, estimates, sampling, and professional judgment.
• Operational Demands – Extensive audit requests can require significant staff involvement.

Related Terms

• Auditor: A professional who performs an audit and evaluates evidence against specified criteria.
• Audit Evidence: Information an auditor uses to reach conclusions on which the auditor's opinion is based.
• Material Misstatement: A misstatement significant enough to affect decisions made by users of financial statements.
• Reasonable Assurance: A high, but not absolute, level of assurance.
• Internal Control: Processes designed to help an organization achieve objectives related to operations, reporting, and compliance.
• Review Engagement: An assurance engagement providing a lower level of assurance than an audit.
• Forensic Accounting: Accounting work focused on investigations, disputes, fraud, or other specialized matters.

Interesting Fact

Did you know? An audit is not designed to verify every transaction a company makes. Auditors use risk assessment, materiality, professional judgment, and selected audit procedures to obtain reasonable assurance, not absolute certainty.

Statistic

According to the PCAOB's 2025 Annual Report, its staff inspected more than 200 registered public accounting firms and reviewed more than 880 audit engagements during 2025, including audits of public companies and SEC-registered brokers and dealers.

Frequently Asked Questions (FAQ)

1. When is an audit required in the United States?

Audit requirements depend on the entity type and applicable laws or agreements. U.S. public companies generally must audit their financial statements under federal securities laws. Certain private companies, nonprofits, government-related entities, and organizations receiving particular funding may also require audits.

Private businesses may additionally obtain audits because lenders, investors, owners, or contractual agreements require them.

2. How long does an audit take?

No standard two-to-four-week period applies to every audit. Duration depends on factors such as company size, complexity, quality of accounting records, number of locations, internal controls, reporting deadlines, and availability of supporting documentation.

3. Who performs an audit in the United States?

Qualified accounting professionals and firms perform independent financial statement audits and are subject to applicable licensing and professional requirements.

For U.S. public companies and SEC-registered broker-dealers, applicable audit firms must meet PCAOB registration and other regulatory requirements.

By contrast, the IRS performs tax audits.

4. What documents are needed for an audit?

Documents depend on the engagement but may include:

• Financial statements and general ledger records
• Bank statements and reconciliations
• Invoices and purchase records
• Contracts and agreements
• Payroll records
• Tax records
• Accounts receivable and payable schedules
• Inventory records
• Loan documents
• Fixed asset schedules
• Internal control documentation
• Board and committee minutes

Auditors may also request information directly from third parties when appropriate.

5. How can businesses prepare for an audit?

Businesses can prepare by maintaining accurate accounting records, reconciling accounts regularly, organizing supporting documentation, reviewing significant estimates and transactions, maintaining appropriate internal controls, and responding promptly to auditor requests.

A well-maintained accounting system can make the audit process more efficient and reduce time spent resolving missing or inconsistent information.