Forensic Audit Under the Insolvency and Bankruptcy Code

One of the most effective ways to investigate financial mismanagement and fraudulent activities is through forensic audits, particularly under the Insolvency and Bankruptcy Code (IBC).

Forensic auditing incorporates both auditing features and investigative strategies to detect fraud, embezzlement of assets and financial abuse. Therefore, when applied under the context of the Insolvency and Bankruptcy Code, forensic audits are very useful in establishing the real financial position of troubled companies to safeguard creditors’ interests and also to ensure fair treatment during insolvency resolution. This blog discusses what a forensic audit is and what role it plays, as well as the IBC.

What is Forensic Audit?

A forensic audit is a strictly specialist area, and it is a procedure that goes beyond a typical audit. However, a standard audit concentrates on the financial statement and a forensic audit determines whether there was fraud or not; it involves:

• Analyzing transactions and financial records in-depth.
• Identifying fraudulent activities such as misappropriation of assets, financial statement fraud, and money laundering.
• Collecting evidence for legal proceedings.

Forensic auditors, therefore, utilizes accountancy, investigation and legal skills to analyze complicated accounting documents with a view of identifying substandard or obscured frauds that cannot be easily detected during standard audit processes.

Overview of the Insolvency and Bankruptcy Code (IBC)

The new Indian Code for resolution of defaults is the Insolvency and Bankruptcy Code (IBC) passed in 2016. The main thrust for this exists in safeguarding that insolvency is addressed in a stipulated time period with a view of realizing the best recoverable value of the debts to the creditors.

The IBC creates the Insolvency Professional (IP), which is responsible for managing the process of insolvency. This involves the assignment of handling the financial management of struggling organizations, scrutinizing the scam deals and making sure that the creditors are paid their due amount. Among the tools that may be helpful in this process, one of the most effective is a forensic audit.

Forensic Audits in the IBC Framework

Forensic audits play a particular role in the insolvency process under the IBC for several reasons:

1. Detecting Financial Irregularities: In numerous cases fraud or misuse of funds for instance through reckless expenditure leads to a company’s insolvency. Financial dials are more intensified by forensic auditors scrutinizes a company’s books of accounts to identify newly discovered legal risks, frauds, and accounting discrepancies that might compromise the solvency of the business.
2. Protecting Creditors’ Interests: Another objective of the IBC is protection of creditors’ interest to ensure they are paid from the proceeds of sale of assets of the company. Forensic audit helps to check the validity of the claims and to avoid enrollment by the fraudulent creditors, as well as to provide proper distribution of the funds in the case of insolvency.
3. Investigating Management’s Role: Specially, forensic auditors’ probe if the management and promoters of the company have involved in some fraudulent activities like embezzlement of funds or provide wrong statement of affairs of the company. This is helpful in establishing who is responsible or whether the management caused its insolvency.
4. Tracing Misappropriated Assets: There is normally a lot of value that may have been siphoned or hidden by the company’s management or third party before it goes insolvent, and this is where forensic audits are very helpful in providing. This means that creditors will get paid first before debt holders of a certain asset for a certain amount of money that it has been sold for.
5. Legal Support: In the case of fraud or misconduct, forensic audit facts are legal admissible, which can be applied to actions like corporate restructuring, liquidation or criminal cases.

Forensic Audits During the Corporate Insolvency Resolution Process (CIRP)

The CIRP constitutes an important stage of the IBC that involves the formulation of a resolution plan for the revival of the company or the realization and distribution of assets in case the company cannot be put back into operation. During this phase, forensic audits ensure that the process of auditing will be transparent and fair

• Examine Financial Statements: Forensic auditors analyze all the company’s records to determine whether the ledgers are in compliance with the nature of the company and its liabilities and assets. They assist in the establishment of disparities or concealment of risks that may be likely to determine the outcome.
• Investigate Fraudulent Transactions: There may be cases whereby the company has indulged in fraudulent transactions for instance transferring assets by selling to related parties and the forensic audit makes sure that these actions are followed for the sake of transparency in realization of the insolvency.
• Identify Misappropriated Assets: One major use of forensic audits is in determining the means, manner, and extent of the misappropriation of assets that are lost. This is especially important for the achievement of the best possible recovery of funds by creditors.
• Support the Resolution Plan: It could be that the forensic audit results determine the overall design of the resolution plan. For instance, if embezzlement is realized, then it changes the process of organization’s restructuring or liquidation so as to protect creditors’ interests.

The Benefits of Forensic Audits Under the IBC

Forensic audits offer numerous benefits during the insolvency resolution process under the IBC, including:

1. Financial Transparency: Management that contains suspicions of fraud or mismanagement finds forensic audits useful in understanding the actual state of the company. Credit to this, the stakeholders are in a position to make sound decisions due to the revelation of information.
2. Fair Treatment of Creditors: In the process of making an investigation of certain claims and assets, the forensic audit helps to be fair to creditors. The results are used effectively for verifying the creditors’ statements and for checking if the assets are divided appropriately, pursuant to the IBC legislation.
3. Prevention of Fraud: Forensic auditors have a preventive role of deterring any cases of fraud in an organization. ORGs will not post cheat financial figures when they are aware that their FIN activities are going to be competing under strict watch.
4. Legal Evidence: Audit reports help in offering solid evidence in legal litigations whether they are civil ones or even criminal cases. They can be relied on to seek to recover losses from parties who engaged in financial wrong doing.
5. Efficient Resolution Process: This is true since forensic audits enable the efficient determination of the appropriateness of further insolvency cases. It assists to identify those issues at the early stages, thus avoiding blossoming of conflicts that could hinder the CIRP process.

Conclusion

In conclusion, it can be concluded that the corporate development of the IBC and its future orientation will keep forensic auditors in demand to identify inequitable insolvency cases with particular regard to creditor debtors and provide a more level playing field for all the involved stakeholders.

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