# Comprehensive Guide to Audit Trails: Tracking, Types, and Real-World Examples

![Audit Trail: A step-by-step record by which accounting, trade details, or other financial data can be traced to their source.](https://www.investopedia.com/thmb/on3cjKMErU5CIhQ3CJvVYQcY6Xo=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/audittrail.asp-FINAL-1-d8d2e1f853f64d468c30c3620d6d9859.png)

*— Investopedia / Joules Garcia*

## What Is an Audit Trail?

An audit trail is a detailed record tracing financial data back to its origin, playing a crucial role in verifying transactions and ensuring transparency. Companies leverage [audit](https://www.investopedia.com/terms/a/audit.asp) trails to trace accounting entries, trades, and funds. This process is essential for detecting discrepancies and complying with regulations, which ultimately stabilizes the economy by confirming the validity of publicly released information.

### Key Takeaways

*   An audit trail is a step-by-step record that tracks financial data to its source for verification.  
    
*   Audit trails are crucial for verifying the accuracy of financial statements and detecting fraudulent activities.  
    
*   Regulatory institutions utilize audit trails to reconstruct trades in cases of suspected illegal financial activity.  
    
*   Maintaining audit trails can be costly and time-consuming, but they play a vital role in ensuring economic stability and security.  
    
*   The Sarbanes-Oxley Act was implemented to strengthen financial oversight and accountability following major corporate scandals.

## How Audit Trails Ensure Financial Accuracy 

Audit trails help verify figures like revenue, net earnings, or [earnings per share](https://www.investopedia.com/terms/e/eps.asp) (EPS) in accounting. If these numbers are wrongly classified, transactions can be reviewed, and calculations redone.

The cost of goods sold (COGS) is an expense deducted from gross revenue to calculate net earnings and is verified by checking the transactions and data sources. Final numbers are double-checked along the audit trail for accuracy.

All public companies undergo a [financial audit](https://www.investopedia.com/terms/a/audit-cycle.asp) as part of their reporting responsibilities.

## Different Types of Audit Trails in Finance

Audit trails are used in various financial areas. For instance, [mortgage lenders](https://www.investopedia.com/mortgage/mortgage-guide/mortgage-lenders/) use them to trace the source of funds for a down payment, requiring a bank statement and other verification.

The Securities and Exchange Commission (SEC) and NYSE use audit trails to reconstruct trades when there are doubts about data accuracy, ensuring trades comply with regulations.

Of course, audit trails can also be used to track improper market activity. If it is believed, for example, that a particular entity is trading large volumes of a thinly traded stock to manipulate the share price, a regulator can utilize an audit trail to help identify the culprit.

Regulators document and analyze all brokers in certain trades to find abnormal activity or potential manipulators. Complex trading schemes may need [forensic accounting](https://www.investopedia.com/terms/f/forensicaccounting.asp) along with audit trail data.

> **Important**
>
> In response to the Enron scandal, President George W. Bush signed into law the Sarbanes-Oxley Act. The Act heightened the consequences for destroying, altering, or fabricating financial statements and trying to defraud shareholders.

## Pros and Cons of Using Audit Trails

### Advantages

Audit trails are a vital tool used by accountants to hold corporations accountable for their actions. Without the use of [audit trails to confirm financial information](https://www.investopedia.com/terms/v/voucher-check.asp), there would be no reason to believe in the legitimacy of a company's financial reports. In this way, audit trails not only protect consumers from fraudulent reporting, they also help to stabilize the overall economy.

Audit trails also force entities to maintain a thorough and updated audit log and trail system, which further cuts down on fraud and other types of financial crime. In industries such as healthcare, the meticulous keeping of audit logs helps ensure that sensitive information, such as HIPAA-protected data, can only be accessed by the appropriate parties.

While audit trails provide financial information that is absolutely necessary for the smooth flow of business, there are challenges to maintaining and implementing the practice.

### Disadvantages

The biggest issue faced by corporations is the time and money it takes to maintain a sufficiently compliant audit log, especially when the audit log is automated. Logs also may be difficult to navigate and store as they increase in size. Furthermore, access may be too broad, which can compromise the integrity of the data. 

Sometimes, audit trail requirements are too strict, like when banks approve loans. If consumers lack proper financial records, they might not get loans they deserve.

Pros

*   Encourages user accountability and compliance
    
*   Helps maintain a well-functioning economy
    
*   Protects against fraud
    
*   Improves security
    

Cons

*   Costliness in terms of time and money
    
*   Can slow business operations
    
*   Requirements may be too rigid
    

## Overview of Market Auditing Systems

The Consolidated Audit Trail (CAT) helps regulators track all trading throughout the National Market System (NMS) efficiently. Rule 631 requires self-regulatory organizations (SROs) to jointly submit an NMS plan to create and maintain this trail, detailing data collection and reporting.

## What Is Internal Auditing?

Internal audits evaluate a company’s internal controls, including its [corporate governance](https://www.investopedia.com/terms/c/corporategovernance.asp) and accounting processes. This report provides management with the tools necessary to attain operational efficiency by identifying problems and correcting lapses before they are discovered in an external audit.

## What Is Materiality in Auditing?

According to the U.S. GAAP, materiality is described in this way: "The omission or misstatement of an item in a financial report is material if, in the light of surrounding circumstances, the magnitude of the item is such that it is probable that the judgment of a reasonable person relying upon the report would have been changed or influenced by the inclusion or correction of the item."

## What Should a General Ledger Audit Trail Include?

A general ledger audit trail should record all of a company's transactions and all of the documents—whether paper or electronic—related to those transactions. This could include invoices, purchase orders, and expense reports, as well as any other information that can confirm the source and contents of the transaction.

## The Bottom Line

Audit trails play a critical role in reinforcing the accuracy and reliability of a company's financial statements. They offer a step-by-step record of transactions, ensuring that all financial activities are traceable and verifiable. This traceability is not only essential for creating accurate financial statements but also for enabling auditors to confirm the legitimacy of accounting entries and detect potential fraud. By facilitating transparency and accountability, audit trails help stabilize the overall economy and maintain trust in financial markets.

> **Article Sources**
>
> 1.  Cornell Law School. "[Sarbanes-Oxley Act](https://www.law.cornell.edu/wex/sarbanes-oxley_act)."
>     
> 2.  U.S. Securities and Exchange Commission. "[Rule 613 (Consolidated Audit Trail)](https://www.sec.gov/about/divisions-offices/division-trading-markets/rule-613-consolidated-audit-trail)."
>     
> 3.  U.S. Securities and Exchange Commission. "[SEC Staff Accounting Bulletin No. 99: Materiality](https://www.sec.gov/interps/account/sab99.htm)."