Refer to Materiality as a Legal Concept

Abstract

The accounting profession traditionally regards materiality assessment as the auditor's professional judgment, which is misleading. The Financial Accounting Standards Board's (FASB) concept statements emphasized that materiality must be evaluated from the user's perspective rather than accountant's. The Supreme Court of United States' landmark case of Matrixx Inc. et al. Petitioners v. James Siracusano et al. (2011) alerted the accounting profession about the legal effect of accountants' professional judgment on materiality. The FASB, consequently, proposed in a recent exposure draft to revise its concept statement by adding “refer to materiality as a legal concept.” This article analyzes the Supreme Court case to provide insight into the Supreme Court's reasoning and the impact of the FASB's intended concept statement on financial accounting and auditing. A simple interpretation of the Supreme Court's position is that materiality judgment should be made from the user's perspective rather than from the preparer's. Ultimately, the key issue is whether the preparer presents financial statement faithfully.If the FASB's exposure draft is adopted, it will affect management and auditors in different ways. When management doubts their judgment of materiality, they have to gather sufficient evidence to substantiate the position of immateriality. In other words, it is nice to say that “an omission of immaterial information is not an accounting error”; it is difficult to prove that the preparer has the correct interpretation of the investors' view on materiality. A lot of work on substantiating the evidence on immateriality is still required. On the other hand, auditors will have to expand their work related to materiality assessment to include the review of the client's other formal or informal statements and communications beyond the scope of a traditional audit. © 2017 Wiley Periodicals, Inc.