## **Learning Outcomes**

After reading this article, you will be able to identify when and why an auditor issues a modified opinion. You will distinguish between qualified, adverse, and disclaimer opinions and explain the use and structure of basis for opinion paragraphs. You will also know how to respond to scenarios in which audit evidence is insufficient or there are material misstatements, and clearly communicate these modifications in the auditor's report.

## **ACCA Audit and Assurance (AA) Syllabus**

For ACCA Audit and Assurance (AA), you are required to understand when modifications to the auditor’s opinion are necessary, the types of modified opinions under ISA 705, and the correct use and wording of basis paragraphs. Focus your revision on:

- The circumstances that require a modified opinion in the auditor’s report. _(ISA 705)_
- The differences between a qualified, adverse, and disclaimer opinion, and their impact.
- The determination of materiality and pervasiveness in modifying opinions.
- The purpose and structure of basis for qualified, adverse, and disclaimer opinions.
- The requirements for communicating reasons for modification in the auditor's report.
- The correct application of wording for each type of modified opinion in common scenarios.
- The distinction between modifications of opinion and the use of emphasis of matter/other matter paragraphs. _(ISA 706)_

## **Test Your Knowledge**

_Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision._

1. Which type of modified opinion is appropriate when a material misstatement affects multiple aspects of the financial statements?
2. If an auditor cannot obtain sufficient appropriate evidence over a material balance, but the impact is not pervasive, what kind of opinion is issued?
3. True or false? A basis for opinion paragraph must always explain the reason for a modification in detail.
4. What is the difference between a qualified and an adverse opinion? Briefly outline the main point.

## **Introduction**

In most audits, the auditor issues an unmodified opinion. However, if the financial statements contain material misstatements or not all necessary evidence can be obtained, the auditor may need to modify the opinion in accordance with ISA 705. The modification informs users of key issues affecting their reliance on the financial statements.

> **Key Term: modified opinion**  
> An auditor's conclusion that differs from an unmodified opinion due to material misstatement or inability to obtain sufficient appropriate evidence, expressed as qualified, adverse, or disclaimer of opinion.

### Types of modified opinions

An auditor can modify their opinion in three ways:

|             | **Qualified opinion**                                                  | **Adverse opinion**                                                                           | **Disclaimer of opinion**                                                |
| ----------- | ---------------------------------------------------------------------- | --------------------------------------------------------------------------------------------- | ------------------------------------------------------------------------ |
| **Reason**  | Material misstatement or lack of evidence, but not pervasive           | Misstatements are both material and pervasive                                                 | Unable to obtain evidence and effects may be both material and pervasive |
| **Wording** | "Except for the effects of..."                                         | "Because of the significance... the financial statements do not give a true and fair view..." | "We do not express an opinion on..."                                     |
| **Basis**   | Additional paragraph details specific misstatement or scope limitation | Additional paragraph details the fundamental misstatement                                     | Additional paragraph explains why no opinion can be given                |

> **Key Term: qualified opinion**  
> The auditor's opinion, except for certain material matters described, the financial statements give a true and fair view.
>
> **Key Term: adverse opinion**  
> The auditor's statement that the financial statements do not give a true and fair view due to material and pervasive misstatements.
>
> **Key Term: disclaimer of opinion**  
> The auditor does not express an opinion because they could not obtain sufficient appropriate evidence and any undetected misstatement could be material and pervasive.

### Causes of modified opinions

There are two main triggers for a modified opinion:

- **Material misstatement:** The auditor concludes the financial statements contain an error or omission that is material (e.g. incorrect accounting policy, significant amounts not recorded, non-compliance with standards).
- **Inability to obtain evidence:** The auditor cannot get enough reliable evidence to draw a conclusion, often due to limitations imposed by management or events (e.g. records destroyed in a fire).

The auditor then assesses **pervasiveness**:

- Material but not pervasive ⟶ Qualified opinion
- Material and pervasive ⟶ Adverse or Disclaimer

> **Key Term: pervasiveness**  
> When an issue is so significant it affects numerous elements or is fundamental to the users' understanding of the financial statements.

### The Basis for Opinion Paragraph

For every modified opinion, the report must include a dedicated "Basis for Qualified/Adverse/Disclaimer of Opinion" paragraph. This paragraph is positioned immediately after the opinion paragraph and explains:

- What issue caused the modification (e.g. specific misstatement or evidence limitation).
- The auditor's reasoning, including, where possible, quantification of the impact.

This ensures users know exactly why the opinion was altered.

### **Worked Example 1.1**

**A company's inventory worth £900,000 is destroyed in a fire before year end, and records for it are lost. The balance is material and appears in both the statement of profit or loss and financial position. The auditor cannot get other evidence. What type of opinion and basis for opinion paragraph is appropriate?**

> **Answer:** Issue a disclaimer of opinion. The lack of evidence over the inventory is both material and pervasive (as it affects several key figures). The basis paragraph should explain the inability to obtain evidence, the fact that alternative audit procedures were not possible, and that this prevented the auditor from forming an opinion on the financial statements as a whole.

### Assessing Materiality and Pervasiveness

- **Material:** Could reasonably influence user decisions
- **Pervasive:** Not confined to a specific item, or affects most financial statements, or is fundamental to their understanding

Material but isolated misstatements (e.g., overstatement of a specific asset) usually lead to a qualified opinion. Errors that undermine the integrity of the financial statements as a whole (e.g., using the wrong accounting basis for all accounts) require an adverse (if misstatement) or disclaimer (if evidence limitation) opinion.

### **Worked Example 1.2**

**The auditor is denied access to records for a subsidiary representing 35% of the group's assets and revenue. Can a qualified opinion be issued, or is a disclaimer required?**

> **Answer:** Unless alternative evidence is available and you are certain the issue is not pervasive, a disclaimer is required since the impact covers a substantial proportion of the group, making the limitation both material and pervasive.

### Basis Paragraph: Structure and Requirements

A basis for opinion paragraph must:

- Use the appropriate heading for the type of opinion (e.g. "Basis for Qualified Opinion")
- State whether the misstatement or lack of evidence is due to management’s actions or circumstances beyond their control
- Provide details of the specific items affected and, if possible, quantify the effects
- Clearly explain how the issue influences the auditor’s conclusion

### **Exam Warning**

> It is a common mistake to confuse qualified and adverse opinions. Remember: a qualified opinion applies to material **but not pervasive** matters. If the fault renders the statements fundamentally unreliable, use adverse (for misstatements) or disclaimer (for lack of evidence).

### Modifications and Emphasis of Matter: Not the Same

A modified opinion (qualified, adverse, or disclaimer) is used when the auditor must signal a problem. This is different from an _emphasis of matter_ paragraph, which only highlights an issue that is already properly disclosed but needs extra attention, without affecting the auditor’s opinion.

> **Key Term: basis for opinion paragraph**  
> A required section in the auditor’s report for every modified opinion, explaining clearly and in detail the reasons and evidence for the modification.

### **Worked Example 1.3**

**A company fails to consolidate a major subsidiary. What should the auditor do?**

> **Answer:** Not consolidating a material subsidiary is a material and pervasive departure from the reporting framework. The auditor should issue an adverse opinion. The basis for adverse opinion should outline the failure to consolidate, cite the relevant accounting standard, and quantify the misstatement if possible.

### Format and Content of the Modified Auditor’s Report

- **Opinion paragraph:** Clearly states the type of opinion and the scope ("Except for", "Do not express", etc.)
- **Basis for opinion:** Follows the opinion paragraph and sets out the facts and reasoning
- **Key audit matters:** Included for listed companies, but matters causing a disclaimer or adverse opinion are cross-referenced to their basis paragraph, not repeated here
- **Emphasis of matter/other matter paragraphs:** Only used for significant but properly disclosed issues, not for matters that cause modification

### Revision Tip

> When revising, practice phrasing for each type of modified opinion and basis for opinion. Write your own example paragraphs for common scenarios—this helps strengthen understanding for exam application.

## **Summary**

A modified auditor’s opinion is required when there is a material issue with the financial statements—either a misstatement, or an inability to obtain sufficient evidence. The type (qualified, adverse, or disclaimer) depends on materiality and pervasiveness. The auditor must include a clear basis for opinion paragraph detailing the reasons. Modifications are distinct from emphasis of matter paragraphs, which do not affect the opinion itself.

## **Key Point Checklist**

_This article has covered the following key knowledge points:_

- The difference between qualified, adverse, and disclaimer opinions under ISA 705 and when each is appropriate.
- The meaning of materiality and pervasiveness in the context of modified opinions.
- How to structure and word the basis for opinion paragraph for each type of modification.
- When and why an emphasis of matter or other matter paragraph should be used instead of modifying the opinion.
- How to clearly communicate the reason for modification to users of the financial statements in compliance with ISA 705.

## **Key Terms and Concepts**

- modified opinion
- qualified opinion
- adverse opinion
- disclaimer of opinion
- pervasiveness
- basis for opinion paragraph

Auditor’s report and modifications - Modified opinions and basis paragraphs (ISA 705)