Audit procedures are quite complicated. The European Commission does not communicate much on the audit process, and it does not really exist any guide that beneficiaries could follow to help them during these audits.
Audits always follow 3 phases: the preparation, the examination (on-the-spot) and the reports (Draft Audit Report, Final Audit Report + Letter of Conclusion).
At the end of the examination, during the exit meeting, the auditors might mention for the first time the potential systematic errors. Following the audit on-the-spot, the European Commission audit unit will confirm in the Draft Audit Report and then in the Final Audit Report whether the possible errors detected during the audit are of a systematic nature.
A systematic error is an error which is reasonable to assume that it affects not only the Grant Agreements actually audited, but also all the other projects (from the same Framework Programme) where the Beneficiary participates.
For instance, a Research Center is audited on 3 periods of 3 Horizon 2020 projects by the audit unit. Among the different findings, auditors consider the following:
- The daily productive hours are not 7,1 hours per day but 7,6 hours per day
- The Beneficiary integrated the individual bonuses in the pool of elements for the calculation of the yearly salary of the employees.
If these errors concern these 3 projects, auditor can reasonably consider that they also affect all projects granted under Horizon 2020 where the Beneficiary participated. This extrapolation procedure cannot affect both Horizon 2020 and Horizon Europe projects as the rule for declaration are different from a Framework Programme to the other.
If there are errors of systematic nature, the letter of conclusion (LoC) accompanying the Final Audit Report (FAR) will require the Beneficiary to apply the findings of the audit and to correct the errors in all Horizon 2020 / Horizon Europe projects. The Beneficiary will have to re-submitting within a given deadline the financial statements of all projects where he participates.
These revised financial statements should consider the conclusions of the audit. The Beneficiary will have the possibility of explaining why the audit findings should not be extrapolated to other projects. In case the Beneficiary does not react, the Commission may suspend all Horizon 2020 / Horizon Europe payments where the beneficiary participates until the revised cost statements are submitted. Of course, a follow-up audit on the other projects may be carried out by the Commission to check the reliability of the re-calculation of the adjustments.
Before December 2009, Beneficiaries had to recalculate the exact adjustments in all the non-audited projects. Nevertheless, the European Commission has adopted in December 2009 a Communication regarding the simplification of the recovery process.
The Communication permits the use of flat rate corrections based on the average error rates observed in the audited projects. The idea is to establish the amounts to be recovered; in that way, the extrapolation exercise can be performed without examining each non-audited periods of projects or even without re-calculating the sums claimed.
If a Beneficiary is informed of some systematic errors (errors which may also affect the other projects), an extrapolation procedure will be launched. This procedure is explained in the Letter of Conclusion (LOC) the auditee will have to choose to select one of the following options:
- Option 1: Precise recalculation of costs: “where the audit has identified the existence of a systematic error, the beneficiary shall precisely recalculate the costs affected by the systematic error in each of the non-audited projects/periods and report the corresponding adjustments to the Commission in due form”.
With this methodology, the Beneficiary will have to recalculate the adjustments for each European project of the same Framework Programme according to the audit findings. This methodology is the most accurate but not necessarily in the best interests of the auditee as other projects might also be more affected than the one audited. Before selecting this option, the Beneficiary shall ensure that it will be the most interesting financially to cover the workload of this methodology.
It also has 2 disadvantages: first, the exact recalculation requires a huge workload, above all if the Beneficiary is involved in several projects. Secondly, as the audit unit wants to check that the adjustments had been correctly implemented, this methodology is usually followed by a Follow up Audit which can lead to additional adjustments.
- Option 2: Flat rate correction on individual cost category (personnel, subcontracting, other costs): The audit unit proposes “to adjust the individual cost category (personnel, subcontracting, depreciation, other costs…) affected by the systematic error by the application of a flat-rate correction. The flat rate corresponds to the average of the individual systematic error in a given cost category identified in the audited projects/periods.”
With this methodology, in case the report identified the systematic error to be 2,7% on the Personnel costs and 4,3% on travel costs & 3% on subcontracting costs, it is proposed to the Beneficiary to adjust all other projects with these 3 rates.
- Option 3: Overall flat rate correction: “the beneficiary may also opt to apply an overall flat rate correction to the total project costs of each of the non-audited projects/periods. In these cases, the flat rate corresponds to the average rate of the individual systematic errors identified in the audited projects in relation to the total project costs.”
If, for example, the audit led to 10% systematic error, the Beneficiary will have to apply this flat rate to all other projects.
In case the beneficiary would select the option 1, he may carry out – at its own expense – further audits on non-audited periods/contracts. These further audits must be performed by an external, independent auditor and must be in accordance with the Commission’s own approach as set out in the audit report. Should the audit provide reasonable assurance on the method used, the Commission may accept different flat rates resulting from such audits. But as explained above, the audit unit reserves the right to verify that the re-calculation of the adjustments on the other projects has been carried out in compliance with one of the methods described above, and the audit unit might of course, carry out further targeted audits to corroborate the average error rate.
The flat rate(s) under method 2 and 3 will be indicated by the audit unit in the Letter of Conclusion (LoC).
To conclude, it is important to bear in mind that the consequences of an audit are not limited to the project audited. In case of systematic error, the European Commission services might extrapolate the adjustments to all other projects under the same Framework Programme that the Beneficiary participated in. The follow-up audit can of course lead to substantial financial impacts.
An audit is a tax control, and participants in EU projects shall never underestimate the workload, the psychological impact and the financial or reputational consequences of an audit.
Now, getting ready and anticipating this situation by setting up the best usual accounting practices as soon as possible are always limiting the negative impacts of the audits, which is in the advantage of both the beneficiaries and the European Commission services.