Preparation

Financial Statement Preparation

Financial statement preparation is an accounting service where a Certified Public Accountant (CPA) assists a business in compiling its financial information into a structured set of financial statements without providing any assurance on their accuracy or completeness. This service falls under the umbrella of Accounting and Financial Reporting. It is often utilized by small businesses or organizations that do not require an audit or a review, but still need formally presented financial data for internal purposes, tax filings, or limited external use⁴⁶, ⁴⁷.

The primary output of financial statement preparation includes the Balance Sheet, Income Statement, and Cash Flow Statement. Unlike higher-level engagements, the CPA's role in preparation is strictly ministerial; they take client-provided data and present it according to an applicable financial reporting framework, such as Generally Accepted Accounting Principles (GAAP) or International Financial Reporting Standards (IFRS).⁴⁵

History and Origin

The concept of financial statement preparation, as a distinct non-attest service, gained formal recognition with the issuance of Statement on Standards for Accounting and Review Services (SSARS) No. 21, "Clarification and Recodification," by the American Institute of Certified Public Accountants (AICPA) in October 2014. Effective for periods ending on or after December 15, 2015, SSARS No. 21 introduced the "Preparation of Financial Statements" engagement (AR-C Section 70) as a standalone service⁴³, ⁴⁴.

Prior to SSARS No. 21, accountants often prepared financial statements as part of a compilation engagement, even when no compilation report was desired or issued. This new standard clarified that the preparation of financial statements, without performing an audit, review, or compilation, is a distinct service that does not require the accountant to be independent of the entity.⁴² This change aimed to provide greater clarity and simplify the standards for accountants performing non-audit services for private companies⁴¹.

Key Takeaways

Financial statement preparation is a non-attest service where a CPA assists management in presenting financial information.
The CPA provides no assurance regarding the accuracy or completeness of the financial statements in a preparation engagement.⁴⁰
This service is typically for internal use, tax filings, or limited third-party use by small businesses.³⁸, ³⁹
The engagement requires a legend on each page of the financial statements stating that no assurance is provided.³⁶, ³⁷
SSARS No. 21 formally introduced and defined this type of engagement.³⁴, ³⁵

Formula and Calculation

Financial statement preparation does not involve a specific "formula" in the mathematical sense. Instead, it follows a structured process of organizing and presenting financial data according to established accounting principles. The underlying accounting equation, central to the Balance Sheet, remains:

\text{Assets} = \text{Liabilities} + \text{Equity}

Where:

Assets are what a company owns.
Liabilities are what a company owes.
Equity represents the owners' residual interest in the assets after deducting liabilities.

The preparation process involves accurately recording financial transactions, classifying accounts, making necessary adjusting entries, and generating a trial balance to ensure debits equal credits before compiling the final statements.

Interpreting Financial Statement Preparation

Interpreting financial statement preparation means understanding the context and limitations of the financial statements produced. Since the CPA does not provide any assurance, the statements are primarily management's representation. They are prepared based on information provided by the client, without the CPA performing procedures to verify the accuracy or completeness of that information.³², ³³

For internal users, these statements can be a valuable tool for tracking financial performance, managing cash flow, and making operational decisions. For external parties, such as lenders for small loans or tax authorities, the statements offer a structured overview of the entity's financial position and results, but they must be viewed with the understanding that they have not undergone an auditing or review engagement. Each page of the prepared financial statements must include a clear disclaimer stating that no assurance is provided.³⁰, ³¹

Hypothetical Example

Imagine "ABC Services," a small IT consulting firm. ABC Services uses an outsourced bookkeeping service that maintains their daily financial records. At year-end, ABC Services' owner, who needs financial statements for a basic bank loan application and annual tax filing, engages a Certified Public Accountant (CPA) for a financial statement preparation engagement.

The CPA receives access to ABC Services' general ledger and other financial records. The CPA organizes the raw data, ensures all revenues and expenses are properly categorized, and prepares the year-end Balance Sheet, Income Statement, and Cash Flow Statement. No extensive verification or testing of balances is performed. On each page of the resulting financial statements, a legend is prominently displayed, stating "No assurance is provided on these financial statements." The owner then submits these statements to the bank and uses them for preparing the firm's tax returns.

Practical Applications

Financial statement preparation is crucial for several practical applications, particularly for private entities:

Internal Management: Businesses use prepared financial statements to monitor their financial health, track performance against budgets, and make informed business decisions.²⁸, ²⁹
Tax Compliance: These statements form the basis for preparing various federal, state, and local tax returns, including those filed with the Internal Revenue Service (IRS). Small businesses often rely on accurately prepared financial information for tax planning and filing.²⁶, ²⁷
Small Business Lending: For smaller loan applications or lines of credit, some lenders may accept prepared financial statements, especially when extensive assurance (like an audit) is not a prerequisite.²⁵
Regulatory Filings: While not typically for public reporting to entities like the Securities and Exchange Commission (SEC), prepared statements can fulfill specific, non-assurance regulatory requirements for private entities. The SEC primarily focuses on public company financial reporting.²⁴
Budgeting and Forecasting: Historical financial statements, even those prepared without assurance, provide valuable data points for developing future budgets and financial forecasts.²³

Limitations and Criticisms

While useful for certain purposes, financial statement preparation engagements have notable limitations:

No Assurance: The most significant limitation is the complete absence of assurance. The CPA does not audit, review, or perform any procedures to verify the accuracy or completeness of the information provided by management. This means there is no independent validation that the assets, liabilities, equity, revenues, or expenses presented are free from material misstatement, whether due to error or fraud.²¹, ²²
Limited Reliability for Third Parties: Due to the lack of assurance, third parties, such as potential investors or significant lenders, typically find prepared financial statements less reliable than audited or reviewed statements. They may require higher levels of assurance to mitigate their risk.¹⁹, ²⁰
Management Responsibility: The ultimate responsibility for the accuracy and completeness of the underlying financial records and the resulting financial statements remains solely with management. The CPA's role is merely to present the information in a proper financial reporting format.¹⁸
Non-Attest Service: Because it is a non-attest service, the engagement is not subject to the same rigorous quality control and independence requirements as audits, reviews, or compilations, unless the CPA independently chooses to apply them.¹⁷

Financial Statement Preparation vs. Financial Statement Compilation

Financial statement preparation and financial statement compilation are both services for private companies that do not involve providing assurance, yet they differ in terms of the CPA's involvement and reporting requirements.

Feature	Financial Statement Preparation	Financial Statement Compilation
Assurance Provided	None.	None.
Report Issued	No formal report is issued by the CPA. Each page of the financial statements includes a legend stating "No assurance is provided."	A formal compilation report is issued by the CPA, accompanying the financial statements. This report explicitly states that no audit or review was performed and no opinion or conclusion is expressed.¹⁶
Independence Required	Not required. A CPA can prepare statements for a client for whom they are not independent.¹⁴, ¹⁵	Not required, but if the CPA is not independent, this fact must be disclosed in the compilation report.¹³
Procedures Performed	The CPA assists management in preparing the financial statements from client-provided information, essentially formatting and adjusting the data. No verification or evidence gathering is required.¹²	The CPA performs basic procedures such as reading the financial statements for obvious material errors. While no assurance is provided, there is a slightly higher level of professional responsibility in presentation compared to preparation.¹⁰, ¹¹
Governing Standard	AR-C Section 70 of SSARS No. 21.⁹	AR-C Section 80 of SSARS No. 21.⁸
Typical Use	Internal management use, tax filings, or very limited external parties who understand the nature of the service.	Internal management use, obtaining smaller loans, or for third parties who need compiled, but not assured, financial information.⁷

The main point of confusion often arises because both services offer no assurance. However, the requirement for a formal report in a financial statement compilation and the associated professional responsibilities of the CPA distinguish it from a preparation engagement.

FAQs

What is the primary purpose of financial statement preparation?

The primary purpose of financial statement preparation is to assist management in presenting their financial information in a structured and organized format that adheres to a specified financial reporting framework. It helps businesses, especially small ones, track their financial performance and fulfill basic reporting needs, such as for tax purposes or internal review.⁶

Does a CPA verify the information in a financial statement preparation engagement?

No, a Certified Public Accountant (CPA) does not verify the accuracy or completeness of the information provided by management in a financial statement preparation engagement. The CPA's role is to take the client's data and present it in the form of financial statements. There is no assurance provided.⁵

Who typically uses prepared financial statements?

Prepared financial statements are commonly used by the business's internal management for decision-making and by external parties such as the IRS for tax filings. Some small lenders may also accept them for less stringent loan applications.⁴

Is financial statement preparation the same as an audit or review?

No, financial statement preparation is distinctly different from an audit or a review. Audits and reviews are "attest services" that provide varying levels of assurance on the financial statements, requiring the CPA to perform extensive procedures to verify information and assess compliance with accounting principles. Preparation provides no such assurance.², ³

What accounting standards govern financial statement preparation?

Financial statement preparation engagements are governed by the American Institute of Certified Public Accountants' (AICPA) Statements on Standards for Accounting and Review Services (SSARS), specifically AR-C Section 70. These standards outline the responsibilities of the CPA and management for this type of non-attest service.¹