Accrual of Audit Fee Under AICPA Technical Practice Aid 5290.05

Under AICPA Technical Practice Aid 5290.05, the accrual of audit fees at year-end should cover only the portion of the engagement the auditor has actually performed by the balance sheet date, typically planning and preliminary procedures. The rest is expensed in the following year as fieldwork, testing, and reporting are completed. The allocation is driven by effort performed, not by which year’s financial statements are being audited or when the invoice arrives.

What TPA 5290.05 Requires

The guidance recommends against accruing the full audit fee as an expense of the year under audit. The Year 1 accrual should reflect only the fees connected to work performed before year-end: planning, risk assessment, internal control walkthroughs, preliminary analytics, and any confirmation work sent before the balance sheet date.¹ Everything else is expensed in Year 2 as the auditor performs it.

This is an effort-based allocation. A 50/50 split would be wrong unless the auditor genuinely performs half the work in each period, which almost never happens. Substantive testing, inventory observation, and report drafting dominate the Year 2 workload, while planning is usually a smaller share.

The practical effect is significant. On a $100,000 annual audit where only planning-stage work has been completed by December 31, the Year 1 accrual might be $20,000 to $35,000 depending on complexity. The remaining $65,000 to $80,000 is recognized in Year 2 as fieldwork progresses. Accruing the full $100,000 in Year 1 overstates that year’s expenses and understates Year 2’s.

Technical Practice Aids are non-authoritative and don’t carry the weight of the FASB Accounting Standards Codification. But TPA 5290.05 has been referenced in SEC filing reviews and adopted by regulatory bodies such as the National Association of Insurance Commissioners as the expected framework for audit fee accruals.² Auditors and regulators treat it as the standard, and deviating from it invites scrutiny.

Which Activities Belong in the Year 1 Accrual

The categories of work that usually fall entirely within Year 1 include:

Engagement planning: establishing materiality thresholds, identifying significant accounts, and developing the overall audit strategy.
Risk assessment: evaluating the risk of material misstatement at both the financial statement and assertion levels.
Internal control walkthroughs: documenting and testing key controls, typically during the third or fourth quarter.
Preliminary analytical procedures: comparing interim financial data against expectations to focus the audit scope.
Confirmation work: sending confirmations to banks, customers, or vendors that require responses before year-end.

Estimating the Split

Building an accurate accrual requires coordination with the external audit team. The engagement partner or manager can usually provide a breakdown of planned hours by phase, giving management a defensible basis for allocating fees between periods.

The proportion varies by entity. A company undergoing a major acquisition or implementing a new accounting standard will see a heavier concentration of planning work in Year 1, potentially pushing the allocation to 35% or higher. A stable company with clean prior audits and no structural changes might see planning consume only 15% to 20% of total fees. The percentage is not a set number and should be reassessed each year based on the current audit plan.

Recording the Journal Entries

Year 1 Accrual

Assume a total estimated audit fee of $100,000 and a determination that 25% of the work was completed before year-end. The Year 1 adjusting entry is:

Debit: Audit Expense — $25,000
Credit: Accrued Audit Fees (liability) — $25,000

This places the cost of audit services received during the period on Year 1’s income statement and shows the corresponding obligation on the balance sheet.

Year 2 Settlement

As the auditor completes fieldwork in Year 2, the company recognizes additional audit expense. When the final invoice arrives, the accrued liability is cleared and any remaining balance is recorded. If the final invoice is $100,000 and $70,000 of additional expense has already been recognized during Year 2 fieldwork:

Debit: Accrued Audit Fees — $25,000 (to clear the Year 1 accrual)
Debit: Audit Expense — $5,000 (the remaining unrecognized portion)
Credit: Accounts Payable — $30,000 (amount due on the final invoice net of prior payments)

Specific entries depend on whether the company makes progress payments or pays on final invoice. The underlying rule stays the same: total expense across both periods must equal the total fee, and the balance sheet must show the actual amount owed at each reporting date.

True-Ups When the Final Invoice Arrives

The Year 1 accrual is always an estimate, so a variance against the final invoiced amount is essentially guaranteed. The true-up happens in Year 2 when the auditor delivers the final bill and cumulative expense can be reconciled against total fees.

The difference flows through Year 2’s income statement as an adjustment to audit expense. If the original estimate was too low, Year 2 picks up the additional cost. If it was too high, Year 2 gets a favorable adjustment. Under GAAP, this is treated as a change in accounting estimate, recognized prospectively in the current period rather than by restating Year 1.¹

Retroactive restatement of Year 1 is only appropriate if the original accrual was made in bad faith, was based on information the company knew to be wrong at the time, or produced a material error. A good-faith estimate that turns out to be off by a reasonable margin is the normal course of business for accrued professional fees.

Scope changes complicate this. If a restatement, newly discovered fraud, or unanticipated acquisition drives the final fee well above the original estimate, the variance may be large enough to raise materiality questions. Where the change couldn’t have been anticipated, the excess is a change in estimate and runs through Year 2. Where the company knew about circumstances that would increase fees but failed to adjust the accrual, that starts looking more like an error than an estimate change.

Materiality Considerations

For many companies, audit fees are not large enough to affect materiality assessments on their own. But materiality is not purely quantitative. SEC Staff Accounting Bulletin No. 99 identifies qualitative factors that can make even a small misstatement material, including whether it arises from an estimate, whether it masks an earnings trend, whether it affects loan covenant compliance, or whether it increases management compensation.³

A company sitting near a debt covenant or an earnings target needs to scrutinize even modest audit fee accruals more carefully. Misclassifying $50,000 of audit fees between periods may be quantitatively immaterial for a large filer, but if it turns a miss into a beat, it can draw regulatory attention.

SAB 99 also notes that the degree of precision attainable in the estimate matters. Audit fees, though estimates, are typically based on engagement letters with defined fee ranges, making them more precisely estimable than many other accrued liabilities. A material variance from an amount that should have been readily estimable gets less benefit of the doubt than a variance in a genuinely uncertain contingency.³

Tax Deduction Timing

Book accrual under TPA 5290.05 and the tax deduction for audit fees follow different rules, which can create a timing difference. For accrual-method taxpayers, the IRS requires three conditions before a deduction is allowed: the fact of the liability must be established, the amount must be determinable with reasonable accuracy, and economic performance must have occurred.⁴

For professional services like auditing, economic performance occurs as the services are provided.⁵ The Year 1 planning work accrued on the books is also deductible in Year 1 for tax; the Year 2 fieldwork is deductible in Year 2. Book and tax align in the ordinary case.

The Recurring Item Exception

A company that wants to deduct in Year 1 an amount beyond what economic performance would allow can look to the recurring item exception under IRC 461(h)(3). It permits an accrual-method taxpayer to deduct a liability in the year the all-events test is met, even if economic performance hasn’t yet occurred, provided four conditions are satisfied:⁴

All-events test met: the liability is fixed and the amount is determinable with reasonable accuracy by year-end.
Timely economic performance: services are provided by the earlier of the tax return filing date (including extensions) or 8½ months after the close of the tax year.
Recurring nature: the liability can be expected to arise year after year. Annual audit fees easily meet this test.
Materiality or better matching: either the amount is not material, or accruing it in Year 1 produces a better match with income than waiting.

Since most audit fieldwork wraps up well within 8½ months of Year 1’s close, the recurring item exception can allow the full audit fee to be deducted in Year 1 for tax purposes, even though the book expense is spread across both years.⁶ That creates a temporary book-tax difference to track under ASC 740. Once elected, the recurring item exception must be applied consistently.

SEC Disclosure for Public Filers

Public companies must disclose fees paid to the principal auditor in four categories within the annual proxy statement:

Audit Fees: annual financial statement audit, quarterly reviews, and work connected to statutory or regulatory filings.
Audit-Related Fees: assurance and related services reasonably connected to the audit but not covered above, such as acquisition due diligence or benefit plan audits.
Tax Fees: tax compliance, planning, and advisory services.
All Other Fees: remaining fees for products or services not captured in the other three categories.

These disclosures cover the two most recent fiscal years and must describe the services in each category.⁷ An inaccurate accrual under TPA 5290.05 feeds directly into these reported numbers, which is another reason regulators take the allocation seriously.

1
Securities and Exchange Commission. Form X-17A-5 Annual Audited Report
2
National Association of Insurance Commissioners (NAIC). Accruing Audit Fees Under AICPA Technical Practice Aid 5290.05
3
U.S. Securities & Exchange Commission. SEC Staff Accounting Bulletin No. 99 – Materiality
4
Office of the Law Revision Counsel. 26 USC 461 – General Rule for Taxable Year of Deduction
5
eCFR. Title 26 Part 1 – Income Taxes Taxable Year for Which Deductions Taken
6
eCFR. 26 CFR 1.461-5 – Recurring Item Exception
7
eCFR. 17 CFR 240.14a-101 – Schedule 14A Information Required in Proxy Statement