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Unformatted text preview: Chapter 4 Multiple Choice 4-1. d 4-2. b 4-3. a 4-4. d 4-5. a 4-6. b 4-7. c 4-8. c 4-9. a 4-10. a 4-11. b 4-12. c 4-13. c 4-14. d 4-15. d 4-16. c 4-17. a 4-18. c 4-19. b 4-20. d Discussion Questions 4-21. [LO 1, 3] Why are auditors not the parties typically charged with fraud in cases of fraudulent financial statements? What will cause civil allegations against an auditor to be constructive fraud and actual fraud? In what ways do the court processes and outcomes of a civil allegation of fraud differ from a criminal charge of fraud? Auditors are not usually the parties charged with fraud because it is usually someone else who actually committed the fraud and the auditors wrongdoing is limited to not finding it. A charge of constructive fraud is based on the expectation that, although the auditor did not know about or participate in the fraud, he or she should have known. The auditor does not have to have intent to be found guilty of constructive fraud. A constructive fraud charge may be leveled when the auditor was so negligent that he or she had no reasonable basis for the audit opinion. In contrast, a charge of fraud requires that the behavior be carried out knowingly and with the intent to defraud others. For a court to make a finding of civil fraud less certainty is required than for a finding of criminal fraud. A charge of civil fraud can be brought by either an individual party or by the government. A charge of 1 criminal fraud is brought only by the government. A criminal fraud conviction can result in jail time. 4-22. [LO 3] When an audit clients financial statements are found to be materially misstated due to fraud and the auditor failed to discover the misstatement, what are the various potential consequences for the auditor? What are the likely allegations and charges and by whom? How does the capital structure of the audit client impact your answer? When the fraud cause of action is against the auditor , the accusation is that the auditor or public accounting firm actually participated in the fraud through intentional misstatements. The alternative situation is that the auditor failed to recognize or catch the fraudulently misstated financial statements. When the auditor fails to detect a fraud, the most likely cause of action is negligence and, at the extreme, gross negligence or constructive fraud. Both gross negligence and constructive fraud require a blatant or reckless disregard in performing the audit. The closer the relationship between the plaintiff and the auditor, the less severe the auditors wrongdoing needs to be for a legal claim to result in a decision against the auditor. In order for a plaintiff to prove constructive fraud he or she must prove the same items required in a gross negligence case. However, if a plaintiff seeks to prove actual fraud (as opposed to constructive fraud or statutory fraud under the 1933 or 1934 Acts) the plaintiff must prove the following: 1. The financial statements were materially misleading,1....
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- Spring '11