In an age of increasing data security threats and compliance demands, companies that handle sensitive information or financial transactions are often asked to prove they have the right systems and controls in place. Whether you manage payroll, process payments, or store confidential customer data, clients and regulators want evidence that your operations are secure, reliable, and trustworthy.
That is where SOC audits come in.
SOC, which stands for system and organization controls, is a set of reporting standards established by the American Institute of Certified Public Accountants (AICPA). These reports are performed by independent CPA firms through comprehensive audit procedures and are used to evaluate internal control systems over financial reporting, data security, and privacy.
But not all soc reports are the same. The most commonly requested ones are soc 1 and soc 2, and knowing which type of soc report applies to your business is essential. Understanding the difference between soc 1 and soc 2 audits can help determine whether you need a soc 1 or soc 2 report for your organization.
This guide breaks down the key differences between SOC 1 and SOC 2 audits, explains how to determine which one your business needs, and outlines the audit process for obtaining these reports.
What Are SOC Audits?
A soc audit assesses a company's internal control systems related to either financial reporting (soc 1 report) or trust services criteria like security, availability, and confidentiality (soc 2 report). The reports are conducted by certified public accountants (CPAs) and help service organizations demonstrate that they have effective controls in place and are operating with integrity and effectiveness.
SOC audits are critical for:
- Service organizations that manage sensitive data on behalf of clients
- Vendors and third-party providers seeking to build trust with enterprise clients
- Companies preparing for investment, mergers, or compliance with regulations
The choice between whether you need a soc 1 vs soc 2 depends on what your clients need to verify. Are they relying on you to process financial transactions? Or are they more concerned with how you store and protect sensitive information?
Let's break it down by examining each type of soc report.
What is a SOC 1 Audit?
A soc 1 report focuses on internal control over financial reporting (ICFR). It is designed for service providers whose systems impact the financial statements of their clients.
This audit is especially relevant if your clients rely on your services to produce accurate financial records. For example, if your platform handles billing, payroll, or general ledger functions, any failure on your part could affect the financial reporting of your clients.
A soc 1 audit is ideal for:
- Payroll processors
- Claims processing companies
- Loan servicing companies
- SaaS products that impact accounting data
The soc 1 report follows the Statement on Standards for Attestation Engagements No. 18 (SSAE 18), which replaced SSAE 16.
There are two types of SOC 1 reports:
- Type 1 report: Evaluates the design of controls at a specific point in time
- Type 2 report: Evaluates the effectiveness of controls over a period (typically six to twelve months)
What SOC 1 Reports Cover:
- Controls relevant to financial data processing
- Transaction integrity
- System access related to financial systems
- Change management practices affecting financial reporting
A soc 1 report focuses specifically on controls over financial reporting and how they might impact a client's own financial statements.
What is a SOC 2 Audit?
A soc 2 report evaluates an organization's controls related to the AICPA's Trust Services Criteria. These criteria include:
- Security
- Availability
- Processing integrity
- Confidentiality
- Privacy
Unlike a soc 1 report, which focuses solely on financial impact, a soc 2 report examines how a company manages customer data. It is particularly important for companies that store, process, or transmit sensitive information through cloud services or digital platforms.
A soc 2 audit is ideal for:
- SaaS companies
- Cloud hosting providers
- Data analytics platforms
- Managed service providers (MSPs)
- IT infrastructure or cybersecurity firms
Like soc 1 audits, soc 2 reports can be issued as either:
- Soc 2 type 1: Evaluates the design of controls at a specific point in time
- Soc 2 type 2: Evaluates the effectiveness of controls over a period, typically providing a soc 2 type 2 report that covers six to twelve months
What SOC 2 Reports Cover:
- System security controls and monitoring
- Incident response protocols
- User authentication processes
- Data encryption and access controls
- Physical and logical access safeguards
- Backup and disaster recovery policies
A soc 2 report is often required by clients in regulated industries like healthcare, banking, and insurance, where data privacy and availability are high priorities. Achieving soc 2 compliance demonstrates that an organization has implemented proper controls in place to protect sensitive information.
Understanding SOC 3 Reports
In addition to soc 1 and soc 2 reports, there is also a soc 3 report option. A soc 3 report is essentially a public version of a soc 2 report that can be shared openly without restrictions. Unlike detailed soc 2 reports that contain sensitive information about controls, soc 3 reports provide a high-level summary suitable for public distribution.
Key characteristics of soc 3 reports:
- Based on the same trust services criteria as soc 2
- Can be distributed publicly without restriction
- Less detailed than soc 2 reports
- Suitable for marketing and general assurance purposes
Many organizations use soc 3 reports for marketing purposes while keeping detailed soc 2 reports for specific client requirements.
Key Differences Between SOC 1 and SOC 2
Here is a side-by-side comparison to clarify the distinctions:
Understanding the difference between a soc 1 and soc 2 report helps organizations choose the appropriate audit based on their business model and client requirements.
How to Determine Which SOC Report You Need
Here is a straightforward way to assess which report applies to your business:
- If your services can affect your client's financial statements, you likely need a soc 1 report
- If your services involve handling, storing, or transmitting sensitive information, a soc 2 report is likely more appropriate
In some cases, businesses pursue both 1 and soc 2 reports, especially if they serve clients with both financial and security-related concerns.
Ask yourself:
- Do your clients ask about your financial process integrity?
- Are your customers demanding proof of security compliance before onboarding?
- Are you entering markets or industries that require specific audit evidence?
- Do you need a soc report to meet contractual obligations?
Your answers can help guide the decision about whether you need a soc 1 or soc 2 audit.
Types of SOC Reports and Their Applications
Type 1 vs Type 2 Reports
Understanding the distinction between type 1 and type 2 reports is crucial:
Type 1 Reports:
- Evaluate control design at a specific point in time
- Faster and less expensive to complete
- Suitable for initial compliance demonstrations
- Limited assurance about ongoing effectiveness
Type 2 Reports:
- Evaluate control effectiveness over a period of time
- More comprehensive and valuable to stakeholders
- Required for most enterprise client relationships
- Demonstrates sustained commitment to control effectiveness
Most organizations ultimately pursue type 2 reports for both soc 1 and soc 2 audits, as they provide greater assurance about the effectiveness of controls.
The Role of Organization Control Systems
Effective organization control systems are fundamental to successful SOC audits. These systems encompass:
Control Environment
- Management's philosophy and operating style
- Organizational structure and assignment of authority
- Human resource policies and practices
- Board of directors and audit committee involvement
Risk Assessment
- Identification of relevant risks
- Assessment of risk significance
- Determination of how risks should be managed
Control Activities
- Policies and procedures that ensure management directives are carried out
- Controls that address specific risks identified during risk assessment
Information and Communication
- Systems that support the identification, capture, and exchange of information
- Communication of control responsibilities to personnel
Monitoring
- Ongoing assessment of control effectiveness
- Reporting of control deficiencies to appropriate personnel
Why SOC Audits Matter for Business Growth
Soc reports are not just compliance documents. They serve as powerful trust signals in competitive markets. Completing a soc 1 audit or soc 2 audit can:
- Strengthen credibility with enterprise clients
- Shorten sales cycles by removing risk-related objections
- Support due diligence in fundraising or M&A deals
- Reduce liability by proactively addressing risks
- Demonstrate commitment to maintaining controls in place
A successful soc report helps your business stand out as a professional, secure, and reliable partner.
The SOC Audit Process: Step-by-Step
Whether you are pursuing a soc 1 audit or soc 2 audit, the process generally follows these stages:
1. Readiness Assessment
Before starting the formal audit, most companies begin with a readiness review. This helps identify gaps in your existing internal control systems and provides recommendations for improvement.
2. Remediation
If the readiness assessment identifies control gaps, your team must address them. This could involve implementing access controls, improving documentation, or enhancing data encryption practices to ensure proper controls in place.
3. Formal Audit
Once controls are implemented, the audit begins. An independent CPA firm evaluates your controls based on documentation, system evidence, and interviews. For a type 2 report, this process extends over a monitoring period to assess the effectiveness of controls.
4. Report Issuance
At the end of the audit, your CPA firm will provide the soc report. You can share this with clients, regulators, or stakeholders to demonstrate compliance and reliability.
Common Challenges During SOC Audits
SOC audits require significant planning and coordination. Common hurdles include:
Documentation Issues
- Incomplete process records or system logs can delay or invalidate audit findings
- Lack of formal policies and procedures
- Missing evidence of control operation
Unclear Responsibilities
- Without clear ownership of controls, key processes may be overlooked
- Inadequate segregation of duties
- Insufficient monitoring of control activities
Access Control Problems
- Too many users with broad access can raise red flags
- Inadequate user access review processes
- Weak password policies and authentication controls
Missing Response Plans
- soc 2 compliance audits in particular demand robust cybersecurity and response protocols
- Inadequate incident response procedures
- Lack of business continuity planning
Working with a CPA firm experienced in SOC audits can help avoid these pitfalls and ensure proper controls over financial reporting and data security.
Specialized SOC Report Considerations
Industry-Specific Requirements
Different industries may have specific requirements for soc reports:
Healthcare Organizations:
- HIPAA compliance integration
- Patient data protection controls
- Breach notification procedures
Financial Services:
- Regulatory compliance (SOX, GLBA)
- Anti-money laundering controls
- Customer identification procedures
Technology Companies:
- Intellectual property protection
- Software development lifecycle controls
- Change management procedures
Multi-Location Organizations
Organizations with multiple locations face additional challenges:
- Consistent control implementation across sites
- Centralized vs. decentralized control monitoring
- Communication between locations
- Standardized documentation and procedures
How CPA Firms Can Support SOC Compliance
Many businesses rely on CPA firms to manage the audit process from readiness to report issuance. CPA firms can:
- Conduct pre-audit assessments
- Guide internal teams through control implementation
- Provide documentation templates and best practices
- Offer technical support for system evidence gathering
- Serve as the independent auditor for soc reporting
At Madras Accountancy, we support U.S.-based CPA firms by providing offshore operational capacity for SOC audit documentation, evidence compilation, and compliance tracking. This helps reduce turnaround time and keep audit costs in check while ensuring thorough evaluation of the effectiveness of controls.
Planning for SOC Audit Success
Timeline Considerations
The ideal time to prepare for a soc audit is before clients demand it. Proactive readiness avoids rushed implementations and control failures. Most companies should start:
- 6 to 12 months before launching into enterprise markets
- When pursuing large client contracts
- Before regulatory compliance deadlines
- When implementing new systems or processes
Early preparation ensures your controls are not just in place, but fully functional when the audit period begins.
Resource Allocation
Successful SOC audits require adequate resource allocation:
Internal Resources:
- Dedicated project management
- Subject matter experts for each control area
- IT support for system evidence gathering
- Documentation and process owners
External Resources:
- Experienced audit firm selection
- Specialized consultants for gap remediation
- Technology solutions for control monitoring
- Training for internal staff
Ongoing Maintenance
Achieving soc 2 compliance or completing a soc 1 audit is not a one-time event. Organizations must:
- Monitor control effectiveness continuously
- Update controls as business processes change
- Prepare for annual audit renewals
- Address any identified control deficiencies promptly
Cost Considerations for SOC Audits
The cost of obtaining a soc report varies based on several factors:
Factors Affecting Cost
- Organization size and complexity
- Number of locations and systems
- Type of soc report (1 vs 2, Type 1 vs Type 2)
- Readiness level and required remediation
- Audit firm selection and geographic location
Budget Planning
Organizations should budget for:
- Initial readiness assessment
- Control implementation and remediation
- Audit fees and expenses
- Ongoing maintenance and monitoring
- Annual audit renewals
Future Trends in SOC Reporting
The landscape of soc reports continues to evolve:
Technology Integration
- Automated control monitoring
- Continuous auditing approaches
- Cloud-based audit evidence gathering
- AI-powered risk assessment
Regulatory Changes
- Enhanced privacy requirements
- Cybersecurity framework alignment
- International standard harmonization
- Industry-specific guidance updates
Market Demands
- Increased focus on environmental controls
- Supply chain security requirements
- Third-party risk management
- Real-time compliance monitoring
Conclusion
SOC audits have become essential for service organizations looking to prove the integrity, reliability, and security of their operations. Whether your clients need assurance about financial reporting (soc 1 report) or data protection and system controls (soc 2 report), a well-executed audit builds trust and unlocks new business opportunities.
Understanding the difference between soc 1 and soc 2 reports is more than a technical distinction. It is about understanding what matters most to your customers and meeting them with the appropriate type of soc report. Whether you need a soc 1 audit focused on controls over financial reporting or a soc 2 audit addressing security and privacy concerns, the key is implementing proper controls in place and demonstrating their effectiveness of controls through independent audit procedures.
The choice between pursuing a soc 1 report vs soc 2 report depends on your business model, client requirements, and industry standards. Many organizations find value in both 1 and soc 2 reports to address different stakeholder needs, while others may also consider soc 3 reports for public-facing compliance demonstrations.
If you are a CPA firm supporting clients with SOC readiness or audit preparation, Madras Accountancy can help. Our offshore team brings the documentation support, control tracking, and audit prep expertise needed to make these processes efficient and accurate while ensuring comprehensive evaluation of internal control systems.
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