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CHAPTER 6
THE EXPENDITURE CYCLE PART II:
PAYROLL PROCESSING AND
FIXED ASSETS PROCEDURES
REVIEW QUESTIONS
1.
Job tickets capture the time spent on each job during the day and are used to
allocate the labor charges to the WIP account.
2.
The personnel department, through the personnel action form authorizes changes to
employee pay rates.
3.
A form of payroll fraud involves a supervisor submitting fraudulent time cards for
nonexistent employees. The resulting paychecks, when given to the supervisor are
then cashed by the supervisor. This type of fraud can be reduced or eliminated by
using a paymaster to distribute paychecks to employees in person. Any uncollected
paychecks are then returned to payroll.
4.
A separate imprest account is established for the exact amount of the payroll based
on the payroll summary. When the paychecks are cashed, this account should clear
leaving a zero balance. Any errors in checks (additional checks or abnormal
amounts) would result in a non-zero balance in the imprest account and/or some
paycheck would not clear. This will alert management to the problem so corrective
action can be taken.
5.
A form of payroll fraud involves employees clocking the time cards of absent
employees. By supervising the clocking in and out process, this fraud can be
reduced or eliminated.
6.
The personnel action form is a list of personnel changes that enables the payroll
department to prepare a list of currently active employees. Any submission of time
cards by supervisors for fictitious or ex-employees should thus be detected.
7.
The payroll clerk reconciles the information received from personnel and production,
calculates the payroll and distributes the paychecks. Further, the payroll clerk sends
summary information to the accounts payable clerk.
8.
a.
b.
journal information which comes from the labor distribution summary and the
payroll register.
9.
c.
d.
10.
Proximity cards are similar to swipe cards but dont require the user to slide the card
through a reader. Instead, the employee places the card in front of the reader to
record attendance time. The advantage is that these cards can be read through
wallets, purses, and card holders..
11.
1.
4.
Provide management with information to help them plan future fixed asset
investments; and
5.
12.
The fixed asset system processes nonroutine transactions for a wider group of users
in the organization than the expenditure cycle. Further, the expenditure cycle
processes routine acquisitions of raw materials inventories for the production
function and finished goods inventories for the sales function. The expenditure cycle
transactions are oftentimes automatically approved by the system, while fixed asset
transaction approvals typically demand individual attention due to the uniqueness of
the transactions.
procedures in order to account for the apportioned acquisition cost and depreciation
of the fixed asset.
purchasing system, which handles inventory acquisitions that represent currentperiod expenses only.
13.
14.
15.
Because the fixed asset department authorizes the removal of the asset from the
general ledger, they must know when to record the authorization. Further, if
improvements or asset disposals are made and the fixed asset department is
unaware, then the depreciation amounts calculated and reported in the financial
statements will be incorrect.
16.
The auditor should review the authorization control procedures to determine the
reasonableness of authorizations used for acquisition of fixed assets. The auditors
should also examine the supervision controls over the physical guarding of the
assets. Lastly, the auditors should periodically verify the location, condition, and fair
value of the organizations fixed assets against the fixed asset records in the
subsidiary ledgers. Also, the depreciation schedules should periodically be analyzed
to determine the accuracy and completeness.
17.
The fixed asset department provides record keeping for fixed asset inventory.
18.
The fixed asset depreciation schedule shows when and how much depreciation to
record. It also shows when to stop taking depreciation on fully depreciated assets.
This information in a management report is also useful for planning asset retirement
and replacement.
19.
When an asset is taken out of service, the responsible manager issues a request to
dispose of it. Like any other transaction, the disposal of an asset requires proper
approval that will be determined by its nature and materiality. In some cases multiple
levels of management may be involved, in other situations the manager in charge of
the asset may have the authority to dispose of it.
20.
Unlike production assets, fixed asset inventory is distributed widely across the
organization. Individual items such as automobiles, computers, and office furniture
are in the custody of the end-users.
DISCUSSION QUESTIONS
1.
The job ticket is used to allocate each labor hour of work to specific WIP accounts.
These job tickets are very important for cost accounting. The job tickets are
completed by production workers as they capture the total amount of time that they
spend on each production job. Upon completion, they route these to the cost
accountants who use them to post the labor costs to specific WIP accounts such as
direct labor, indirect labor and overhead. The cost accountant prepares a labor
distribution summary which contains the information for the general ledger clerk to
make the necessary entries to the general ledger accounts.
2.
Payroll costs such as wages to workers accrue each minute, hour or day that they
work. However, these costs are not recorded as a liability during the time between
when the workers earn their wages and when they are paid. These time lags
typically average from half a week to a week. This time lag is of no concern until the
firm is closing its books or preparing interim financial statements. At these points,
however, estimates or accruals of the amounts owed should be made and the books
should be adjusted.
3.
4.
5.
One example is the reduction in the time it takes to record the receipt of inventory
into the inventory records. Further, the automated system will be less likely to pay an
invoice early, while at the same time not missing the discount period. Thus, cash
management is improved.
6.
Law firms require their employees to log the amount of time spent on each client for
billing purposes. Accounting firms also require that their employees keep job tickets
for the time they spend on each client. Car repair shops are another example. The
mechanic must keep track of how much time he/she spends working on each
automobile.
7.
The risks associated with outsourcing are nontrivial. One is that an outside
organization will have access to extremely confidential employee data and to the
client firms financial resources. Another risk is that the service provider will have
poor internal controls and/or act incompetently in a way that causes material errors
or fraud. A client organization may outsource any function it chooses, but it cannot
outsource its responsibility for implementing adequate internal controls.
8.
9.
2.
The internal auditor should verify the location, condition, and fair value
of the organizations fixed assets against the fixed asset records in the
subsidiary ledger.
3.
11.
Perform an annual physical inventory of fixed assets and adjust the records to reflect
assets no longer on hand. Prepare reports about the disposal of assets.
12.
Prepare reports about the transfer of fixed assets. Perform an annual physical
inventory and note the location of assets. Budget and then hold each department
accountable for depreciation expense for assets located in each department.
13.
Authorize fixed asset acquisitions; part of the authorization is showing that a need
for the asset exists.
14.
MULTIPLE CHOICE
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
PROBLEMS
1.
a.
a.
1.
should list all current employees. Time cards for terminated or non-existent
Risks:
Foremen have too much control over the human resources they are responsible
The high degree of casual labor creates an environment that lends itself to
abuse.
difficult.
4.
The checks should be processed through accounts payable and the cash
disbursement departments. The payroll personnel should not have access to a bank
account with funds. The checks should be prepared, and the money should be
transferred into the payroll account by the cash disbursements department. The
payroll department should use personnel action forms (new employees and
terminated employees) to validate employees before they are issued a check.
5.
6.
Risks:
Supervisor submits the personnel action form. This allows him/her to create
nonexistent employees.
review and reconciliation of the payroll register is based on the presumption that the
personnel action form and time cards are legitimate and accurate. Since they are
both prepared by the supervisor, their integrity is brought into question.
Controls:
Transaction authorization
form.
by payroll.
writes checks.
Payroll checks and vendor check are paid through the general cash account. An
The supervisor should not distribute the paychecks to employees. This should
No journal vouchers are prepared. The general ledger is being updated from
source documents.
8.
Risks:
The users authority to select vendors and prepare purchase orders without
The users authority to receive and validate the invoices without independent
Cash disbursements makes payment base only on the invoice from the user.
The absence of accounts payable form the process allows for the payment of
The invoice, receiving report, and approved purchase order should be reviewed
A fixed asset function should be implemented to account for acquisition, use, and
Risks:
Users have custody of the assets and maintain usage records. Key information
employee.
Controls:
10. Risks:
Cash disbursements makes payment base on the invoice and receiving report,
User has custody of the asset and maintains the fixed asset ledger.
Controls:
The invoice, receiving report, and approved purchase order should be reviewed
A fixed asset function should be implemented to account for acquisition, use, and
The source documents represent wells which are being drilled. Equipment
which is used may be rented, in which case the invoice for rental would be
the source document. Items purchased will probably be delivered to the
drilling site, and the source document would be a receiving report. Many
times the equipment used to drill the well is owned, and the source
document for applying the cost of the equipment to drill the well would be
the depreciation schedule. Employee time reports would be the source
document for labor distribution reports, which would also be used by the
fixed asset accounting department. Also food and lodging for the
employees in the case of an off-shore site would be included in fixed asset
accounting, and the source documents would be invoices for food,
electricity, etc.
b.
The costs would be allocated by the fixed asset accountants based upon
the method of accounting by the firm. Many firms would include the cost of
The fixed asset accountant must constantly revise the depletion rate
being used to allocate the drilling and completion costs. The standard
calculation is:
TotalDrillingandCompletionCosts
EstimatedEquivalentUnitsofReserves
In the above equation, the denominator may change periodically, as the production
engineers revise their estimates about the recoverable reserves. The numerator may
also change if improvements are made for better recovery. The fixed asset
accountant must be advised of these changes. Figure 6-13 does not have to be
changed; the user department, production, should complete changes in estimate
forms. Invoices and labor distribution forms for improvements to the well would be
distributed the FAAs, and they should then update their depletion calculations.
d.
The auditors should trace the total well costs capitalized to each
Supervision
There is inadequate supervision of employees with regards to filling out their time
cards. Mary does not directly supervise the employees when they are checking in
and out. The inherent threat here is that employees can misstate the amount of
hours worked on their time cards.
Transaction Authorization
Lack of personnel action form from Human Resources poses a threat that
unauthorized employees are receiving paychecks. This document is essential for
preventing payroll fraud by identifying authorized employees.
Independent Verification
Coupled with the lack of a personnel action form, allowing supervisors to distribute
paychecks keeps Harlan Manufacturing from verifying the existence of its
employees. Supervisors are submitting time cards for employees no longer working
there and are taking the checks during distribution.
Accounting Records
Recommendations
Supervision: someone other than Mary should supervise the employees
13. a.
Assets are items which have probable future economic benefit. The patent to
produce this radar detector exclusively for 4 years should produce economic
benefits for this firm in the future.
amortized over the period in which the probable economic benefits are expected
to be received. Thus, this asset should be amortized and is a responsibility of
the fixed asset accounting department.
b. The source document for capitalizing the patent would be the legal agreement of
rights and the invoice for the $8M. The costs may be amortized using various
methods. Straight-line depreciation is very common and if it used, the
amortization schedule would be the source document. Some firms may try to
project sales and use a per unit amortization schedule. If this approach is used,
the project sales figures and the actual sales figures would be needed to
support the amortization schedule.
c.
The fixed asset accounting department needs to be notified to change the life of
the asset, either in years or in total sales units. The amortization schedule would
have to be changed to reflect the accelerated amortization. This notification of
change would stem from market surveys assessing the demand for the product.
d. The auditors need to verify (for material assets) the appropriateness of the
estimated life of the asset. The auditors must determine if the firm has
C. Control Weaknesses
1) Supervision Timekeeping process is unsupervised
2) Segregation of Duties Accounting Department Prepares Paychecks
3) Segregation of Duties Accounting department maintains both sub and GL
accounts
4) Accounting Records Payroll drawn on general cash account
5) Segregation of Duties Accounting clerk prepares and signs paychecks
6) Segregation of Duties Foremen authorize time cards and distribute
paychecks
7) Transaction verification - Payroll clerk prepares paychecks without
authorization from a personnel action form.
d) IT Contols
2.
C. Control Weaknesses
Payroll System
1) Supervision Timekeeping process is unsupervised
2) Transaction verification - Payroll clerk prepares paychecks without
authorization from a personnel action form.
3) Segregation of Duties Accounts Payable department has access to
accounting records and also writes checks.
Fixed Asset System
1) Accounting Records Requests for fixed assets are informally submitted
2) Accounting Records Open PO is not closed when goods arrive
3) Supervision/Accounting Records Blind copy of PO should be provided to
the receiving clerk.
D.
IT Controls
E. Flowcharts for this part of the case will vary. Solutions should address the issues
presented in part C of the case.
ControlWeaknessesPayrollSystem
1. Should have personnel action form (prevents submitting time cards for
past employees, transaction authorization of time cards).
2. Time-keeping and personnel function should be separated from
supervisor, so pay rates are less likely to contribute to fraud.
3. Supervisor does the time card verification and collecting and distributing
of paychecks. This allows the supervisor to verify paychecks for false
employees and collect them for him/herself. A paymaster should take
responsibility to verify and distribute checks to ensure no checks from
non-existing employees.
4. AP should not review Cash Disbursement department activities regarding
accuracy of paycheck amounts and creating voucher packet.
5. No (verified) journal voucher from cash disbursement sent to general
ledger.
d,
e,
Student solutions will vary for this part of the case. They should
address the internal control issues presented in part C.
Fixed Assets
1) Accounting Records No formal receiving report is prepared
2) Independent Verification No three way match is performed. Missing a
receiving report.
3) Segregation of Duties AP should not also update the FA inventory
records.
4) Segregation of Duties The end user should not be solely responsible
for determining asset disposal. Need a fixed asset department to
manage authorization, maintenance and disposition of fixed assets.
D.
IT Controls
5)
5.
D.
6.
Solution to Orbits
a), b) see diagrams on the following pages.
c) Internal Control Weakness.
Control weaknesses in Orbits Purchases System
1) The inventory control is not separate from the purchasing. This could lead to
unnecessary purchases.
2) Receiving does not get a blind copy of the PO. The blind copy would force the
receiving clerk to count and inspect the goods to complete the receiving report. The
clerk is only using the packing slip to prepare the receiving report.
3) The receiving department does not send a copy of the RR to the
purchases/inventory control department, thus the PR and PO are used to update the
inventory records before the goods arrive.
4) The accounts payable department doesnt receive the suppliers invoice, thus it
only reconciles and posts the liability from the PR, PO, and RR. The suppliers
invoice instead is sent directly to the general ledger.
5) The General ledger should receive journal vouchers and account summaries not
the vendors invoice or the CD voucher.
Control weaknesses in Orbits Payroll System
1) The Payroll department receives no personnel action form thus when preparing
the payroll register they are unable to verify employee names and salaries.
2) The current system has no paymaster. The paychecks are returned to the
supervisors for distribution to employees.
3) General Ledger should not be updated from a CD disbursement voucher. It
requires a formal Journal voucher
Control weaknesses in Orbits Fixed Assets System
1) The accounts payable department sets up a fixed asset liability based only on the
invoice. A three way match including the purchase order and the receiving report
should be performed before recording the account payable.
2) The accounts payable department should prepare an accounts payable summary that
goes to the general ledger function.
3) Cash disbursements should prepare a journal voucher and send it to the general ledger
department.
4) No formal receiving function exists to produce a receiving report.
D.