Bank guarantee verification in a statutory audit

Verifying bank guarantees means identifying every guarantee outstanding during the year, independently confirming each one directly with the issuing bank rather than relying on the client's own register, tracking the expiry date of each against its current status to catch ones that have lapsed or need renewal, and checking whether margin money or a lien-marked fixed deposit secures the guarantee. Because a bank guarantee creates no entry in the general ledger when it is issued, the auditor has to actively look for it rather than finding it in the trial balance.

Why bank guarantees sit off balance sheet

A bank guarantee is the bank's undertaking to pay a third party — a customer, a government department, a landlord — a stated amount if the company fails to perform a contractual obligation. Issuing the guarantee creates no cash movement and no accounting entry for the company; the bank simply commits to pay on demand if the beneficiary invokes it. For that reason, a bank guarantee is a contingent liability, disclosed in the notes to the accounts rather than recognised as a liability on the face of the balance sheet, unless and until it is actually invoked.

This is precisely what makes bank guarantees easy to miss in an audit: there is no ledger balance pointing to their existence, no voucher trail, and often no single internal register that is kept reliably up to date. The population has to be built independently rather than extracted from the accounting records.

Building the population

1. 01Request the bank confirmation to list every guarantee outstanding at the balance sheet dateThis should be part of the same confirmation letter sought for bank balances and fixed deposits, specifically asking the bank to confirm BG number, amount, beneficiary, purpose and expiry date for each.
2. 02Request the client's own BG register, and reconcile it against the bank's listGuarantees on the bank's list but missing from the client's register, and guarantees on the client's register the bank no longer shows as live, are both worth investigating — the latter usually means the guarantee has expired or been returned and cancelled but the client's register was not updated.
3. 03Ask procurement, legal, and contracts teams whether any tender, contract or lease requires a performance or security guaranteeContracts that mandate a BG are a useful cross-check, particularly for guarantees issued through a bank the company does not otherwise use for its main banking relationship.
4. 04Review board minutes and resolutions authorising guaranteesIssuing a bank guarantee typically requires board or committee authorisation under the company's internal approval framework; minutes are a secondary source that can surface a guarantee the bank confirmation or register missed.

Confirming directly with the bank

The same direct-receipt discipline that applies to bank balance confirmations applies here: the confirmation of outstanding guarantees should come to the auditor directly from the bank, under the client's authorisation, not be relayed through the client's finance team. A client-prepared list of guarantees, however detailed, is not independent evidence of what is actually outstanding.

Tracking expiry

• Compare the expiry date of each guarantee against the balance sheet date to confirm it is correctly included in, or excluded from, the contingent liability disclosure for the period.
• For guarantees that expired during the year, confirm whether they were renewed, allowed to lapse, or replaced by a fresh guarantee, and that the disclosure reflects the position actually outstanding at year end rather than the position a year ago.
• Flag any guarantee past its stated expiry date that the bank still shows as live — some guarantees include a claim period after expiry during which the beneficiary can still invoke them, and this needs to be understood rather than assumed away.
• For guarantees with an evergreen or auto-renewal clause, confirm the client is tracking the current effective expiry rather than the original one.

Verifying the margin money behind the guarantee

Banks commonly require the company to place a margin — cash or, more often, a lien-marked fixed deposit — as partial or full security before issuing a guarantee. This deposit is a genuine asset of the company and continues to appear and earn interest like any other fixed deposit; what changes is that it cannot be freely withdrawn while the lien is in place.

1. 01Match each guarantee against the fixed deposit audit working papers for a corresponding lienA guarantee with no margin money noted anywhere, where the facility letter indicates margin should exist, is worth a direct query to the client and the bank.
2. 02Confirm the margin percentage matches the bank's sanction terms for that guaranteeBanks typically specify margin as a percentage of the guarantee amount in the sanction letter; a mismatch may indicate a partial release of margin that was not properly documented.
3. 03Confirm the lien is released when the guarantee expires or is cancelledA deposit still shown as lien-marked against a guarantee that has already expired and been returned is a sign the FD register and the BG register are not being updated together.