Every company, including yours, outsources critical functions—from payroll to data hosting—to specialized service providers, and you might also be such a service provider. However, outsourcing raises important questions about data security, financial integrity, and compliance.
SOC 1 and SOC 2 reports address these concerns by assessing a service organization’s internal controls, each focusing on different aspects. SOC 1 evaluates controls relevant to financial reporting, while SOC 2 focuses on data security and privacy.
This guide breaks down the key differences between SOC 1 and SOC 2 and explains when each is needed to help you make the best choice for your business and protect your clients.
What is SOC 1?
SOC 1, or “System and Organization Controls 1,” is an audit standard developed to help organizations demonstrate their internal control over financial reporting.
Originating from the SSAE 18 standard (Standards for Attestation Engagements No. 18), SOC 1 reports assure a service organization’s internal controls related to financial reporting.
Service organizations, such as payroll processors or data centers, often handle critical financial data for their clients, which means their internal controls must be well-structured and reliable.
Elements and components of SOC 1
A SOC 1 audit mainly looks at how well a service organization manages controls related to financial data processing. Here’s a breakdown:
- Control objectives: These are specific goals aimed at ensuring client data is processed accurately, especially for financial reporting.
- Internal controls: The audit evaluates the policies and procedures in place to meet these goals. This includes measures to protect data integrity, control who can access data, and monitor for errors.
- Type 1 and Type 2 reports: SOC 1 reports come in two types. A Type 1 report assesses the design and setup of controls at a specific moment in time. A Type 2 report, on the other hand, evaluates how effectively those controls have worked over a longer period, usually between six months and a year.
When is SOC 1 required?
SOC 1 reports are essential when a service organization’s activities impact a client’s financial reporting.
For example, payroll processing services or loan servicing organizations that manage financial data on behalf of their clients are frequently required to undergo a SOC 1 audit. This report helps provide an independent assessment by an independent CPA firm, adding credibility to the organization’s internal control over financial reporting and assuring clients of accurate, compliant data processing.
What is SOC 2?
SOC 2 is a report designed to evaluate a service organization’s controls related to data security and privacy. It was created to address the growing need for cybersecurity and data-protection trust in IT and cloud-based service providers.
💡 Free resource: SOC 2 Compliance Checklist: A Detailed Guide for 2024
Unlike SOC 1, SOC 2 isn’t focused on financial data, instead, it centers on the operational controls that protect data and maintain privacy.
Companies that handle sensitive information or store customer data, such as cloud providers, benefit from a SOC 2 audit to demonstrate their commitment to data security, confidentiality, and availability.
Elements and components of SOC 2
The SOC 2 report framework is built around five “Trust Service Criteria” developed by the AICPA, which include:
- Security: Ensures the system is protected against unauthorized access.
- Availability: Confirms the system is available for use.
- Processing integrity: Ensures that processing is complete, valid, accurate, and timely.
- Confidentiality: Safeguards sensitive information.
- Privacy: Protects personal information.
Like SOC 1, SOC 2 also offers Type 1 and Type 2 reports. A SOC 2 Type 1 report evaluates the system and design of controls at a point in time, while a Type 2 report assesses their operating effectiveness over a period.
When is SOC 2 required?
A SOC 2 audit is typically required for service organizations that store, process, or transmit sensitive data—especially organizations with customer-facing applications.
Companies in industries like SaaS, data storage, and managed IT services often undergo a SOC 2 audit to validate their data security measures. This is crucial in today’s environment, where data breaches can have severe financial and reputational impacts on businesses.
SOC 1 vs SOC 2
SOC 1 and SOC 2 reports cater to distinct aspects of compliance. While both assess controls, they target different outcomes—financial assurance for SOC 1 and data security for SOC 2.
Below is a quick comparison table outlining the main differences between SOC 1 and SOC 2:
| Aspect | SOC 1 | SOC 2 |
| Focus Area | Financial reporting and internal control over data affecting client financials | Data security, confidentiality, and operational controls |
| Scope | Controls related to financial data | Controls related to data security, availability, confidentiality, processing integrity, and privacy |
| Trust Service Criteria | Not applicable | Security, Availability, Processing Integrity, Confidentiality, Privacy |
| Type 1 vs. Type 2 Reports | Type 1: System & design review at a specific date Type 2: Effectiveness review over a period | Type 1: System & design review at a specific date Type 2: Effectiveness review over a period |
| Typical Audience | Companies reliant on financial reporting accuracy | Organizations seeking data security assurance |
| Common Industries | Financial services, payroll processing, and other data-sensitive services impacting financial statements | IT services, SaaS providers, data storage, managed services |
When to choose SOC 1 or SOC 2
Factors to consider when deciding between SOC 1 and SOC 2
When it comes to choosing between SOC 1 and SOC 2, organizations should consider the nature of their services, their client requirements, and regulatory obligations. Key factors include:
- Data type
SOC 1 is most relevant for services that handle financial transactions or directly affect a client’s financial reporting. If the primary concern is financial integrity, SOC 1 will be a better fit.
SOC 2, however, is ideal for organizations managing sensitive information like customer data, as it addresses data security and privacy concerns.
- Risk exposure
Service providers working with data that could have severe financial or reputational impacts if compromised should lean toward SOC 2, as it emphasizes system security, confidentiality, and processing integrity.
- Client requirements
Some clients may explicitly require SOC 1 or SOC 2 depending on their internal compliance needs. Often, clients in the financial sector will expect SOC 1 reports, while clients in tech, SaaS, or other data-centric industries may prefer SOC 2.
- Industry regulations:
Certain sectors, such as finance, healthcare, and technology, may have regulatory expectations around data security, privacy, and financial reporting. These regulations might necessitate either SOC 1, SOC 2, or even both to ensure full compliance.
Business scenarios favoring SOC 1 over SOC 2
SOC 1 is generally the best choice when:
Financial data processing is involved: If the organization is providing services like payroll processing, loan servicing, or any other service that impacts a client’s financial records, a SOC 1 report is critical.
Direct impact on financial statements: For businesses that influence aspects of a client’s financial statements—such as revenue, expenses, or asset valuations—SOC 1 demonstrates the organization’s accurate financial reporting.
Client demand for financial compliance: When clients require assurance that their service providers comply with financial reporting standards, a SOC 1 report meets this need.
Business scenarios favoring SOC 2 over SOC 1
SOC 2 is a strong choice when:
Data security is a priority: Organizations offering IT services, cloud-based solutions, or data processing need SOC 2 to validate their security and data management practices.
Customer privacy is key: When an organization deals with customer data, from health information to personally identifiable information, a SOC 2 audit ensures that privacy and confidentiality are addressed.
Operational risk management: For SaaS providers and other tech companies, SOC 2 is often requested to assure customers that the service provider follows best practices in security and operations.
Can an organization need both SOC 1 and SOC 2?
Yes, some organizations may need both SOC 1 and SOC 2 reports to fully address client concerns and regulatory requirements.
For instance, a payroll processing company that also offers data analytics services could need a SOC 1 report for financial controls and a SOC 2 report to prove its data security practices.
Similarly, service organizations that handle both financial and operational data for clients—especially in industries like finance, healthcare, or insurance—may be expected to hold both SOC 1 and SOC 2 certifications.
Choosing both audits might initially seem resource-intensive, but it can yield significant advantages. Not only does it give clients peace of mind across multiple fronts, but it also reinforces the organization’s commitment to comprehensive internal controls and robust data security.
Choosing the right SOC report for your business needs
Deciding between SOC 1 and SOC 2—or determining if both are needed—depends on your business’s core services, client requirements, and regulatory obligations. SOC 1 is the go-to for organizations involved in financial data processing, while SOC 2 focuses on data security, privacy, and operational controls, making it essential for IT, SaaS, and other data-driven companies.
