Internal audit in banks and the supervisor’s relationship with auditors

As part of its ongoing efforts to address bank supervisory issues and enhance supervision through guidance that encourages sound practices, the Basel Committee on Banking Supervision (The Committee) issued this paper on internal audit in banking organisations and the relationship of the supervisory authorities with internal and external auditors. Internal auditing is an independent, objective assurance and consulting activity designed to add value and improve an organisation’s operations. It helps an organisation accomplish its objectives by bringing a systematic, disciplined approach to evaluate and improve the effectiveness of risk management, control, and governance processes.

External auditors can provide an important feedback on the effectiveness of this process, while banking supervisors need to be satisfied that effective policies and practices are followed and that management takes appropriate corrective action in response to any internal control weaknesses identified by either the internal or external auditors. Co-operation between supervisor, internal auditor and external auditor optimises supervision.

The principles set out in this paper are intended to be of general application, even though they have to be applied within a specific supervisory framework. There are significant differences between countries regarding the use of on-site and off-site supervisory techniques. Also the degree to which external auditors are used in the supervisory function varies widely. While the exact approach chosen by supervisors in individual countries will depend on these types of factors, all members of the Basel Committee agree on the principles set out in this paper. The document is clearly written with each principle and paragraphs of explanation clearly numbered.

For example principle 19 states: “The creation of a permanent audit committee is a solution to meet the practical difficulties that may arise from the board of directors’ task to ensure the existence and maintenance of an adequate system of controls. In addition, such a committee reinforces the internal control system and the internal and external audit. Therefore, banks are encouraged to set up a permanent audit committee, especially if they are involved in complex activities.” The document goes on to provide guidance on the composition and functions of an audit committee.

Understanding the principles set out in this document is an important step towards ensuring good governance in financial institutions.

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