I have spoken to a couple of users lately regarding potential fishhooks related to the audit of the COVID 19 wage subsidies paid out by the Ministry of Social Development (MSD). What is our responsibility as auditors? Do we just accept that if the subsidy was received it was legitimate? What if we find that it may have been claimed without meeting the criteria?
What is the background?
The 2020 COVID-19 Wage Subsidy was available from 27 March 2020 to 9 June 2020. It was designed for employers and self-employed people who would otherwise have had to lay off staff or reduce their hours due to COVID-19. As extension was available from 10 June 2020 to 1 September 2020. Later, the Resurgence Wage Subsidy was available from 21 August 2020 to 3 September 2020. Businesses and the self-employed were eligible if they experienced a 30% (40% for the resurgence period) drop in revenue over the shut-down period as compared to prior years (or in some cases to other periods). More than 759,000 businesses received the wage subsidy from the $14 billion fund.
What is the potential problem?
The initial response was hastily conceived and at that point, the impact of COVID on business was very difficult to assess. So many entities applied "just in case".
Some entities made repayments when they realised that they could not justify the claim. This included situations where:
- They no longer met the criteria for the subsidy (e.g. where a 30/40% drop in actual or predicted revenue has not occurred).
- They were no longer using the subsidy to retain and pay employees.
- They received insurance for costs which were also covered by the wage subsidy.
- They provided false or misleading information in the application for the wage subsidy.
There are also some accounting and tax issues, such as allocating lump sum payments across different accounting periods, and excluding the subsidy from taxable income, and making sure that the payments were actually expended on wages. However, the main issue seems to be equity. Were the claims legitimate? Did they meet the criteria and were payments fairly made to entities that really needed them? Was it fair? A CAANZ webinar put it well that this is a "High trust model" where "unsupported claims will be clawed back".
There has been a predictable push-back in the public space and by the government to ensure that businesses didn't profit from the scheme, criteria were met, and that the subsidy did in fact go where it was most needed.
The MSD has been carrying out random audits of entities that claimed the subsidy. As at February 26, 2021, MSD had completed 10,902 audits of the wage subsidy and resolved 4750 allegations of misuse. Of these 1011 cases had been referred to investigators for potential legal action.
In cases where payments should not have been claimed, applicants have been required to repay the subsidy, or in the most serious cases, where there was evidence of deliberate fraud, MSD has carried out criminal prosecutions.
As auditors, the possibility of fraud should lead us to pay close attention. When making the application the directors or trustees sign a declaration that the application has been made in accordance with the eligibility criteria. If they provided false or misleading information or received any subsidy or payment that you were not entitled to receive, they may be subject to an investigation including for offences under the Crimes Act 1961.
What should the auditor expect to see?
If we are auditing an entity that claimed one or more of the subsidies, we need to look at the documentation from the perspective of risk. Does the documentation clearly address the criteria? Does it support the claim? Does the evidence of revenue projections and comparative periods stack up? Has the client subsequently reviewed the claim at all to see whether it would meet the scrutiny of an MSD audit?
Some entities have even opted to have their claims reviewed independently, as the amounts involved are significant. PWC says: "Given the subjectivity that can apply when considering a number of the wage subsidy principles, we recommend that businesses should strongly consider having their claim independently evaluated in preparation for potential MSD audit activity or other stakeholder queries. An independent review should provide more comfort to key stakeholders that the business has done the right thing, and also prepare the business for future correspondence with the MSD by highlighting what information may be required/missing in order to support claims."
If such a review has been done this would be very useful to assess and include in the audit file.
What is the responsibility of the auditor if there is a problem?
ISA 240 para 27 states that:
"When identifying and assessing the risks of material misstatement due to fraud, the auditor shall, based on a presumption that there are risks of fraud in revenue recognition, evaluate which types of revenue, revenue transactions or assertions give rise to such risks."
It would be a good starting point in our audit work to include the COVID-19 wage subsidy within the scope of this evaluation. It is likely to be material so should be flagged as a risk.
If the claim was actually assessed as fraudulent we would need to escalate this to the management and governance (ISA 240 para 41-43) and consider whether we have an obligation under law, regulation, or relevant ethical requirements to report to the relevant authority outside of the entity (ISA 240 para 44).
So what if we find that the cut-off is correct, the tax treatment is correct and the money has been correctly paid out to staff, but in fact, the estimate of probable losses made at the time of the application did not eventuate? The client made a claim in good faith and documented everything well, but from our calculations and enquiries, it is questionable that the 30% or 40% loss of income threshold was reached. This introduces some uncertainty.
It isn't fraud as such but there is a risk that the MSD may come fishing, find that the criteria were not met to their satisfaction either, and want their money back.
As auditors, we cannot afford to jeopardise our work by assuming that just because the client acted in good faith their claim will not be challenged. Erring on the side of caution probably means at the minimum including an appropriate paragraph in the letter of representation.
In some cases, a modified report may be appropriate, where there is a level of uncertainty, or even a disclaimer of opinion if we think that the subsidy is clearly repayable and the client disagrees. The key is to think this through, assess the risks, and document your process and findings well.
Sources and further reading: