Audit Basics for Indian Businesses: Complete Beginner's Guide

Introduction: The Audit That Saved a Business

Rajan’s textile business in Tirupur was growing rapidly—from ₹5 crores to ₹18 crores in three years. His bookkeeper handled everything, and Rajan trusted the numbers. Then came the first proper statutory audit.

The auditor discovered ₹1.2 crores in fictitious purchases—fake invoices created to siphon money. The bookkeeper had been running a parallel business using Rajan’s company funds.

“Without that audit, I would have been bankrupt within two years,” Rajan says. “The auditor didn’t just check numbers—he saved my life’s work.”

Audits aren’t just regulatory requirements; they’re essential safeguards for business health.

What is an Audit?

An audit is an independent examination of financial information to express an opinion on its accuracy and compliance with applicable standards.

Types of Audits in India

1. Statutory Audit

• Required by law (Companies Act, 2013)
• Examines complete financial statements
• Results in auditor’s report

2. Tax Audit

• Under Section 44AB of Income Tax Act
• Required if turnover exceeds limits
• Focuses on tax compliance

3. GST Audit

• Under GST laws
• Required if turnover exceeds ₹2 crores (self-certification now)
• Reconciles returns with books

4. Internal Audit

• Voluntary or mandated for large companies
• Ongoing throughout the year
• Focuses on controls and processes

5. Cost Audit

• For specified industries
• Under Companies Act, 2013
• Examines cost records

6. Secretarial Audit

• For listed and large companies
• Examines corporate law compliance
• Conducted by Company Secretary

Statutory Audit Under Companies Act

Who Needs Statutory Audit?

All companies registered under Companies Act, 2013 must have their accounts audited—regardless of size, turnover, or profitability.

This includes:

• Private limited companies
• Public limited companies
• One Person Companies (OPCs)
• Section 8 companies (non-profit)
• Small companies

Auditor Appointment

First Auditor:

• Appointed by Board within 30 days of incorporation
• Holds office till first AGM

Subsequent Auditors:

• Appointed by shareholders at AGM
• Term: 5 years (individual) or 10 years (firm)
• Rotation mandatory for listed/large companies

Auditor Qualifications

Only a Chartered Accountant (CA) holding Certificate of Practice can conduct statutory audit.

Disqualifications:

• Officer or employee of the company
• Partner or employee of officer/employee
• Person with business relationship
• Relative of director/key personnel
• Person who holds company securities

Auditor’s Duties

1. Examine books of accounts
2. Obtain necessary information and explanations
3. Report whether accounts give true and fair view
4. Report on internal controls
5. Comment on specified matters (CARO requirements)
6. Report fraud to Central Government if detected

The Audit Report

Components:

1. Title and addressee
2. Introductory paragraph
3. Management’s responsibility
4. Auditor’s responsibility
5. Opinion paragraph
6. Report on other legal requirements
7. Signature and date

Types of Opinions:

Tax Audit Under Section 44AB

Who Needs Tax Audit?

Business:

• Turnover exceeds ₹1 crore
• Or ₹10 crores if 95% transactions are digital

Profession:

• Gross receipts exceed ₹50 lakhs

Presumptive Taxation:

• If claiming profits lower than deemed rates under Section 44AD/44ADA

Tax Audit Reports

Form 3CA: When accounts are already audited under another law

Form 3CB: When accounts are not audited under any other law

Form 3CD: Statement of particulars (attached to both)

Key Information in Form 3CD

1. General Information

   • Name, address, PAN
   • Status (individual, firm, company)
   • Previous year details

2. Accounting Details

   • Method of accounting
   • Books maintained
   • Changes in accounting policies

3. Tax Computations

   • Depreciation calculations
   • Disallowances under various sections
   • TDS compliance
   • GST reconciliation

4. Specific Disclosures

   • Related party transactions
   • Expenditure incurred on specified persons
   • Foreign transactions
   • Loans and advances

Due Dates

Penalty for Non-Compliance:

• Lower of ₹1,50,000 or 0.5% of turnover

Internal Audit

What is Internal Audit?

Internal audit is an independent appraisal function within an organization that examines and evaluates its activities.

Mandatory Internal Audit

Under Companies Act, 2013 (Section 138):

Required for:

• Listed companies
• Unlisted public companies with:
  • Paid-up capital ≥₹50 crores, OR
  • Turnover ≥₹200 crores, OR
  • Outstanding loans/borrowings ≥₹100 crores, OR
  • Outstanding deposits ≥₹25 crores
• Private companies with:
  • Turnover ≥₹200 crores, OR
  • Outstanding loans ≥₹100 crores

Functions of Internal Audit

1. Financial Audit

• Verify accuracy of accounting records
• Check authorization of transactions
• Ensure proper documentation

2. Operational Audit

• Evaluate efficiency of processes
• Identify waste and inefficiency
• Recommend improvements

3. Compliance Audit

• Check adherence to policies
• Verify regulatory compliance
• Review legal requirements

4. IT Audit

• Assess information system controls
• Evaluate data security
• Review disaster recovery

Internal Audit Process

Risk Assessment → Audit Planning → Fieldwork → Reporting → Follow-up

1. Risk Assessment

• Identify high-risk areas
• Prioritize audit activities

2. Audit Planning

• Develop audit program
• Allocate resources
• Set timelines

3. Fieldwork

• Gather evidence
• Test controls
• Document findings

4. Reporting

• Draft findings
• Discuss with management
• Issue final report

5. Follow-up

• Track corrective actions
• Verify implementation

GST Audit

Current GST Audit Framework

Changes from FY 2020-21:

• Annual GST audit by CA/CMA (GSTR-9C certification) converted to self-certification
• GSTR-9 (Annual Return) mandatory if turnover >₹2 crores
• GSTR-9C (Reconciliation Statement) mandatory if turnover >₹5 crores

GSTR-9C Components

Part A: Reconciliation Statement

1. Basic details
2. Reconciliation of turnover
3. Reconciliation of tax paid
4. Reconciliation of ITC
5. Additional information

Part B: Certification (Self)

• Verification by taxpayer
• Declaration of accuracy

Common GST Audit Issues

1. Turnover Mismatch

   • Books vs. Returns difference
   • Timing differences
   • Classification issues

2. ITC Reconciliation

   • ITC as per books vs. GSTR-2A/2B
   • Blocked credits
   • Reversal requirements

3. Tax Rate Errors

   • Wrong HSN classification
   • Incorrect tax rate application

4. Place of Supply Issues

   • Inter-state vs. intra-state
   • Export classifications

How to Prepare for an Audit

Pre-Audit Preparation

1. Organize Documents

2. Complete Reconciliations

• Bank reconciliation (all accounts)
• Customer and vendor balances
• Inter-company accounts
• Fixed asset register vs. physical

3. Review Provisions and Accruals

• Doubtful debts
• Expenses payable
• Income receivable
• Statutory liabilities

4. Prepare Schedules

For key accounts:

• Summary schedule
• Movement analysis
• Supporting documentation

During the Audit

1. Designate a Point Person

• Single contact for auditor queries
• Coordinate with departments
• Track pending items

2. Provide Information Promptly

• Don’t delay responses
• Be thorough in explanations
• Document verbal clarifications

3. Maintain Communication

• Daily/weekly status meetings
• Address issues early
• Escalate as needed

4. Document Everything

• Keep audit query log
• Record responses given
• Track supporting documents

Common Audit Queries and How to Handle Them

Query 1: Large unusual transactions

Auditors will ask about:

• Significant one-time items
• Transactions near year-end
• Related party dealings

Preparation: Have explanations and supporting documents ready

Query 2: Non-routine adjustments

Auditors scrutinize:

• Manual journal entries
• Top-side adjustments
• Reversing entries

Preparation: Maintain clear documentation and approval trail

Query 3: Management estimates

Auditors challenge:

• Depreciation rates
• Provision calculations
• Revenue recognition judgments

Preparation: Document basis and assumptions for estimates

Query 4: Cut-off procedures

Auditors test:

• Sales recorded in correct period
• Purchases recognized appropriately
• Inventory properly cut-off

Preparation: Ensure proper year-end procedures

Understanding Audit Findings

Types of Findings

1. Material Misstatement

• Significant error or fraud
• Affects users’ decisions
• Must be corrected

2. Significant Deficiency

• Control weakness worth reporting
• Less severe than material weakness
• Requires management attention

3. Observation

• Minor issue or improvement area
• Informational purpose
• Best practice recommendation

Responding to Findings

Step 1: Understand the Issue

• What exactly is the finding?
• What’s the auditor’s concern?
• What evidence supports it?

Step 2: Evaluate Impact

• Is it material?
• What’s the correction required?
• Are there systemic issues?

Step 3: Respond Appropriately

• Agree and correct, OR
• Disagree with reasons
• Propose corrective actions

Step 4: Implement Changes

• Address root cause
• Strengthen controls
• Document improvements

Audit Fees and Selection

Factors Affecting Audit Fees

Selecting an Auditor

Consider:

1. Industry expertise – Do they understand your business?
2. Reputation – What’s their track record?
3. Team quality – Who’ll do the actual work?
4. Communication – Are they accessible?
5. Value addition – Will they provide insights?
6. Independence – Are there any conflicts?

Red Flags:

• Unreasonably low fees
• Promises of specific outcomes
• Poor references
• Communication issues

Building an Audit-Ready Organization

Strong Financial Controls

1. Segregation of Duties

• Separate authorization, custody, recording
• No single person controls entire transaction

2. Authorization Limits

• Define approval hierarchies
• Enforce limits consistently

3. Documentation Standards

• Clear record-keeping policies
• Adequate supporting documents

4. Regular Reviews

• Monthly reconciliations
• Variance analysis
• Management oversight

Good Record-Keeping

1. Accounting Records

• Day books, ledgers, registers
• Supporting invoices and receipts
• Bank and cash documents

2. Corporate Records

• Minutes of meetings
• Resolutions
• Statutory registers

3. Contract Documentation

• Signed agreements
• Amendments and variations
• Correspondence

4. Compliance Records

• Tax returns and challans
• ROC filings
• Statutory licenses

Technology for Audit Readiness

1. Accounting Software

• Audit trail features
• Access controls
• Automated reconciliations

2. Document Management

• Digital storage
• Version control
• Easy retrieval

3. Compliance Tools

• Deadline tracking
• Filing reminders
• Status monitoring

Key Takeaways

1. Audits are safeguards, not just compliance—they protect your business
2. Know your audit requirements – statutory, tax, GST, internal
3. Prepare throughout the year, not just before audit
4. Organize documentation systematically
5. Respond to queries promptly and completely
6. Address findings seriously—they indicate real issues
7. Build audit-ready culture—it improves overall business health

Disclaimer

This article is for educational purposes only and does not constitute professional advice. Audit requirements vary based on specific circumstances. Consult a qualified Chartered Accountant for guidance on audit compliance for your organization.

Audit Preparation Checklist

Financial Records:

• Trial balance finalized
• Bank reconciliations complete
• Customer balances confirmed
• Vendor balances reconciled
• Fixed asset register updated

Compliance Documents:

• GST returns filed and reconciled
• TDS returns filed and forms available
• ROC annual filings complete
• Board and shareholder resolutions compiled

Supporting Schedules:

• Revenue analysis prepared
• Expense schedules ready
• Provision calculations documented
• Related party disclosure completed

Administrative:

• Audit team workspace arranged
• Prior year files accessible
• Contact list for queries prepared
• Management representation letter drafted

Think of audit as an annual health check for your business. Just like you wouldn’t skip a medical examination, don’t treat audit as a burden—treat it as protection.