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FRM Part II · FRM Exam Part II · Governance

Which reporting arrangement best supports the independence of the third line of defense at a large bank?

Internal audit should report functionally to the board's audit committee, with at most administrative reporting to the CEO. This keeps the third line independent of management, including the risk function and business lines that it must assess objectively.

  1. AInternal audit reports functionally to the board audit committee, with administrative reporting to the CEOCorrect
  2. BInternal audit reports to the Chief Risk Officer for both functional and administrative purposes
  3. CInternal audit reports to the head of the largest lending business to understand credit activity better
  4. DInternal audit reports to the Chief Financial Officer, who sets its budget and annual plan

Explanation

Independence of internal audit is best protected by functional reporting to the board or its audit committee, which approves its plan and oversees its work. Reporting to the CRO would link it to a second-line function it must assess. Reporting to a business head or the CFO creates conflicts.

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