What is the relation between materiality and audit risk?

Acceptable audit risk is the risk that the auditor will unknowingly fail to appropriately modify his or her opinion on financial statements that are materially misstated. In other words it is the probability of audit failure.

Preliminary materiality judgment are determined during the planning phase by the auditor and its related to the amount of misstatements in an assertion or class of transactions that an auditor could tolerate.

Audit risk and materiality are two separate but overlapping concepts. In other words Priliminary judgments about materiality are used by the auditor to determine the acceptable level of audit risk . As materiality decreases the auditor will lower the acceptable audit risk.

The auditor's assessment of materiality and audit risk may be different at the time of initially planning the engagement from at the time of evaluating the results of audit procedures. This could be because of a change in circumstances or because of a change in the auditor's knowledge as a result of performing audit procedures. For example, if audit procedures are performed prior to period end, the auditor will anticipate the results of operations and the financial position. If actual results of operations and financial position are substantially different, the assessment of materiality and audit risk may also change. Additionally, the auditor may, in planning the audit work, intentionally set the acceptable materiality level at a lower level than is intended to be used to evaluate the results of the audit. This may be done to reduce the likelihood of undiscovered misstatements and to provide the auditor with a margin of safety when evaluating the effect of misstatements discovered during the audit

There is an inverse relationship between materiality and the level of audit risk, that is, the higher the materiality level, the lower the audit risk and vice versa. The auditor takes the inverse relationship between materiality and audit risk into account when determining the nature, timing and extent of audit procedures. For example, if, after planning for specific audit procedures, the auditor determines that the acceptable materiality level is lower, audit risk is increased. The auditor would compensate for this by either:

1. Reducing the assessed risk of material misstatement, where this is possible, and supporting the reduced level by carrying out extended or additional tests of control; or

2. Reducing detection risk by modifying the nature, timing and extent of planned substantive procedures.

Level of materiality directly affect out acceptable level of audit risk. Audit risk is a combination of three elements inherent Risk *Control Risk * Detection risk

Auit risk Increases when we set our material at low level, and Acceptable audit decreases when we set our materiality at higher leve

Some people may get confused by my above statement let me explain further, Low materiality mean we need to test more items.

for explanation purpose we set two materiality level1.100,000,  2.200,000

Incase of materiality level1 , any error or misstatement individually or aggregated below100,000 will not accept our judgment( there are some other qualitative matteres which may affect judgment) 

SA 320 on 'Materiality in Planning and Performing an Audit' requires that the auditor should consider materiality and its relationship with audit risk when conducting an audit. Materiality depends on the size and the nature of the items judged in the particular circumstances of its misstatement.

The audit should be planned so that audit risk is kept at an acceptably low level. There is an inverse relationship between Materiality and the degree of audit risk. Higher the materiality level, the lower the audit risk and vice-versa. After the auditor has assessed the inherent and control risks, he should consider the level of detection risk that he is prepared to accept and, based upon his judgment, select appropriate substantive audit procedures. If the auditor does not perform any substantive procedures, detection risk, that is, the risk that the auditor will fail to detect a misstatement, will be high.

The auditor's assessment of audit risk may change during the course of an audit according to the need and development of the circumstances.

as materiality is biger, as audit resk is consederable