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SOX 404

The Sarbanes-Oxley Act of 2002 was first introduced by the U.S. Congress to establish more rigorous safeguards for investors. Also known as the “Public Company Accounting Reform and Investor Protection Act,” the legislation aimed to shore up confidence in the U.S. securities industry. 

What is SOX reporting?

Sarbanes Oxley section 404 makes it mandatory for publicly-traded companies to establish rigorous internal controls over financial reporting. Such controls must be assessed by management in order to determine whether they are adequate to file accurate annual financial statements.

What is the purpose of SOX 404 B?

The overall aim of section 404 of the sarbanes oxley act is to prevent corporate fraud and impose criminal penalties against executives if fraud is proven. The legislation was passed after major fraud scandals in the early 2000s, such as Enron and Tyco.

What is the difference between SOX 302 and 404?

SOX 302 and 404 are considered to be the most onerous pieces of the Sarbanes Oxley Act. 

Section 302 requires upper management – specifically the CEO and CFO – to sign off on each financial report submitted to the Securities and Exchange Commission (SEC), testifying to its legitimacy and fairness. 

SOX sec 404 necessitates that upper management must institute adequate internal financial controls and point to their strengths and weaknesses. An external auditor hired by the firm must also assess the accuracy of SOX 404 internal controls and determine whether they are as stringent as management deems them to be.

The difference between the two is that SOX 302 relates to external reports and requires that management thoroughly vet and certify all financial statements. SOX 404, on the other hand, is a directive for internal processes and controls.

These measures ensure the development of a robust financial framework.

SOX 404 Compliance Requirements

Sarbanes oxley act (SOX) section 404 compliance requirements are highly specific.

The role of IT is critical in achieving SOX 404 certification requirements. That’s because current financial reporting systems almost exclusively depend on IT; a discussion on SOX 404 internal controls must include standards around IT systems.

An IT system that’s liable to manipulation is one that incorporates lax security controls. This impacts the integrity of financial information as there is a distinct possibility of unauthorized transactions or fudged numbers. That’s why SOX 404 testing is so crucial.

Since its passing, Sarbanes Oxley 404 has been updated to reflect the growing role of IT in financial reporting. Section 2, for example, was amended to read from “financial statements” to “financial statements and information systems.”

Section 3(a) changed from “and financial” to “financial, and cybersecurity systems.”

Section 10 (b) was altered to “quality control policies and procedures, cybersecurity systems standards and practices”, breaking from “quality control policies and procedures.’

To achieve SOX 404 compliance, it’s critical that your IT systems incorporate proper security protocols and access frameworks. We’ll discuss these in the next section. 

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SOX 404 Summary – IT Internal Control Development Overview

From an IT perspective, SOX 404 compliance requires the development (and periodic testing) of internal IT control procedures, specifically those designed to safeguard applications that support financial statement production.

Accomplishing this will typically involve four related but distinct operational phases, as follows: 

Phase I – IT Risk Assessment

This is a consultative phase that generally involves working closely with the C-suite, particularly the personnel who bear direct legal responsibility for the accuracy of the company’s SOX 404 audit. 

The goal of this effort is to accurately quantify and assess the severity of the specific risks that existing IT systems, applications and data processing procedures in place could potentially present toward maintaining the ongoing accuracy and integrity of the company’s financial accounting and reporting processes.     

Phase II – IT Control Environment Development 

Once IT risk assessment procedures have been completed and agreed upon with all corporate stakeholders involved, a formal IT internal control environment will need to be developed and instituted to address all significant IT-related risks.  

These IT controls must conform to a commonly accepted IT governance framework that satisfies COSO/PCAOB guidelines.  Discrete IT internal control procedures will need to be developed, documented and implemented to address all risks that could potentially have an impact on the accuracy and integrity of the company’s accounting & financial reporting processes.  

Phase III – IT Policies & Procedures

Once the IT control environment has been successfully deployed into production, internal IT policies and procedures will need to be formally documented for all key internal IT control areas.

The purpose of this documentation is to articulate and communicate the overall requirements and objectives of the IT 404 control environment so that all parties involved in SOX 404 IT related operations understand their individual responsibilities.  

These internal IT policies and procedures will also typically be used as a baseline by IT auditors to measure both the design and operational effectiveness of specific IT controls when they perform their IT audit testing procedures.  

Phase IV – Internal/External SOX section 404 Testing & Compliance Audit Reporting  

Internal and external IT auditing & testing procedures must also be periodically performed on an ongoing basis. The IT control testing methodology (and results of the IT control testing procedures performed) must also be formally documented in order to record the results of IT audit testing and identify any IT control testing failures that may require additional remediation in order to maintain IT 404 compliance.  

Continuous internal IT control testing ensures that the company’s internal IT operations are properly supporting all ongoing accounting and financial reporting operations within the broader context of a company’s overall SOX 404 compliance attestation process.  

sox 404 it compliance

The Benefits of Managed IT Services for SOX404 IT Compliance

In general, there are four core IT control areas that most IT auditors will examine in order to determine the overall design and operational effectiveness of a company’s SOX404 IT control environment.  

These areas are as follows:

  1. IT Governance & Strategic Planning: IT controls that ensure corporate management has an effective methodology in place for the development and communication of corporate IT policies and procedures as well as the ability to conduct ongoing oversight of the IT function to ensure that it continuously conforms to the company’s established IT404 compliance requirements. 
  2. IT Security:  IT controls to effectively control physical access to IT resources and restrict logical access to IT systems, applications and data in order to mitigate the operational risks of unauthorized access to corporate computing resources and to enforce appropriate segregation of duties restrictions.
  3. IT Change Management: IT controls to ensure that changes made to the production IT environment are properly monitored, documented and tested prior to their official release into production.  Typical change events that could have an impact on IT404 compliance are internal/external application development functions, deployment of new applications, processing of new users/terminations, patch file deployments and major IT system upgrade/enhancement initiatives. 
  4. IT Operations: IT controls to ensure the reliability and consistency of day to day routine IT maintenance, administration and end user support functions including IT system monitoring, help desk services, data backup/retention/recovery, anti-virus/malware provisions, patch management, etc.   

 

 

Having a Managed IT Service plan in place can greatly simplify and reduce the ongoing cost and complexity associated with SOX 404 training and SOX 404 audits. 

A comprehensive managed service plan will automatically provide many of the IT control monitoring tools and reporting mechanisms the company will require to successfully complete internal IT control auditing functions.  It will also facilitate and expedite the production of the substantiating documentation that external auditors will require to complete their IT control audit testing procedures.

Managed IT providers can also tailor IT support plans to incorporate any specialized IT services the company may need for ongoing SOX 404 attestation purposes, including:

  • Outsourced CIO/CSO services to assist with IT strategic planning & oversight
  • IT policy & procedure documentation production & administration 
  • IT risk assessment procedures and documentation
  • IT control environment design & documentation 
  • Advanced IT operations & security monitoring platforms
  • IT network penetration & vulnerability testing 
  • Business continuity and disaster recovery planning

Managed and specialized IT compliance services can help you dramatically reduce the ongoing cost and complexity of managing your company’s IT SOX404 compliance operations.  It can also help standardize your internal IT compliance process to increase the level of reliance your external auditors can confidently place on your internal IT control testing and documentation. This can help significantly expedite annual SOX404 auditing procedures and further reduce your company’s overall SOX404 auditing costs. 

Photo credit: Unsplash
Photo credit: Unsplash

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