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SOX 404 top-down risk assessment (TDRA) is a financial risk assessment method used by public companies in the United States. This assessment allows companies to comply with Section 404 of the Sarbanes-Oxley Act 2002 during the process of financial editing.

A Closer Look at SOX 404 TDRA

TDRA is a hierarchical framework which necessitates the application of specific risk factors to discover the scope and evidence needed while assessing internal control. Many risk management professionals have discussed that this framework is quite similar to those offered by PCAOB and SEC.  This is because SOX 404 TDRA uses qualitative or quantitative risk factors to determine the evidence required of a company’s compliance.

The key steps on which this best standard is based are:

1. Discovering significant financial reporting elements such as accounts or disclosures
2. Finding out material financial statement risks within the discovered financial reporting elements
3. Determining the entity-level control which can handle the risks with high precision
4. Uncovering the transaction-level control which can substitute the entry-level controls when required
5. Deciding the nature, extent and timing of evidence collected to finish off the in-scope controls’ assessment.

All these steps should be documented in order for the company to prove its auditing process.

The Uses of SOX 404 TDRA

TDRA is usually used to determine the scope and required evidence to support the tests managements perform on their companies’ internal controls. External auditors who come to check financial companies’ compliance with the Act can also use this method to issue a formal opinion of the audited company’s internal controls. However, this isn’t necessary anymore since the SEC has approved Auditing Standard No. 5, which is a new auditing standard that aims at reducing the cost of SOX compliance.

Despite the availability of numerous frameworks which ensure companies’ compliance with the SOX 2002 Act, this is definitely the most effective since it is actually based on a part of the act itself.

Further reading: Corporate Governance | Audit | Performance Improvement