Acct 2210: Internal Control and Accounting

for Cash

Chapter 6

McGraw-Hill/IrwinMcGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.

Identify the key elements of a strong system

of internal control.

LO 1

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Internal Controls

Internal Controls (policies/procedures to provide

assurance that enterprise objectives are accomplished)

(1) Accounting

controls designed to safeguard company

assets and ensure reliable accounting

records

(2) Administrative

controls for evaluating

performance and assessing compliance with company policies

and public laws

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The Nine (9) Features of Internal Control (pg 315-317)

1. Separation of Duties2. Quality of Employees3. Bonded Employees4. Required Absences5. Procedures Manual6. Authority and Responsibility7. Prenumbered Documents8. Physical Control9. Performance Evaluations

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1) Separation of Duties

When duties are separated, the work of one employee can act as a check on the work of another employee. The likelihood of fraud or theft is greatly reduced.

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2) Quality of Employees

The ability of cross-trained employees to substitute for one another prevents disruptions in the workplace. Job rotation may help relieve boredom and increase productivity.

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3) Bonded Employees

A fidelity bond provides insurance that protects a company from loss caused by employee dishonesty. To become bonded, an employee’s background is investigated.

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4) Required Absences

An employee may be able to cover up fraudulent activities if they are always present at work. All employees should be required to take regular vacations and their duties should be rotated periodically.

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5) Procedures Manual

Accounting and other important procedures should bewritten in a procedures manual. Periodically,management should conduct an investigation to seethat required procedures are actually being followed.

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6) Authority and Responsibility

General authority applies to all member of the organization. For example, all employees are required to fly coach and purchase airline tickets from a specific vendor.

Specific authority applies only to a specific position within the organization. For example, all checks must be cosigned by the Controller and Treasurer.

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7) Prenumbered Documents.

Prenumbered forms are used for all important documents such as checks, purchase orders, receiving reports, and invoices. The use of prenumbered forms helps keep track of all forms issued during a particular period.

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8) Physical Control

All companies should maintain adequate physical control over valuable assets that may be misappropriated. For example, inventory should be properly stored in a secure location. Serial numbers should be placed on all valuable assets to assist in a physical count of these assets.

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9) Performance Evaluation

Internal controls should include independent verification of employee performance.

For example, someone other than the person who has control over inventory should take a physical count of inventory.

Internal and external audits serve as independent verification of performance.

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Internal Control Limitations!

Internal controls can be circumvented by collusion among employees. Two or more employees working together can hide embezzlement by covering for each other. No system can completely prevent fraud.

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Identify special internal

controls for cash.

LO 2

6-15

Accounting for Cash

ControllingCash

ControllingCash

Cash receipts should be recorded immediately upon

receipt and deposited intact

daily.

Cash receipts should be recorded immediately upon

receipt and deposited intact

daily.

Cash payments should be made by

prenumbered check.

Cash payments should be made by

prenumbered check.

Up to date signature card

should be maintained.

Up to date signature card

should be maintained.

A deposit ticket should be used for all deposits.

A deposit ticket should be used for all deposits.

A monthly bank reconciliation

should be prepared by an

independent party.

A monthly bank reconciliation

should be prepared by an

independent party.

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Prepare a bank reconciliation.

LO 3

6-17

Reconciling the Bank Statement

Unadjusted bank balance

Add + Deposits in transit

Deduct - Outstanding checks

Equals = True cash balance

Adjustment to the Bank Balance

The bank reconciliation reports on the differences between the balance on the bank

statement and the balance in the general ledger cash account. The reconciliation results in the true cash balance that will appear on

the balance sheet.

The bank reconciliation reports on the differences between the balance on the bank

statement and the balance in the general ledger cash account. The reconciliation results in the true cash balance that will appear on

the balance sheet.

Unadjusted book balance

Add + Accounts receivable collections

Add + Interest earned

Deduct - Bank service charges

Deduct - Non-sufficient funds (NSF) check

Equals = True cash balance

Adjustments to the Book Balance

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Reconciling the Bank Statement

If an error is found on the bank statement, an adjustment for it is made to the unadjusted bank balance to determine the “true” cash balance. Any error or change made on our books requires an adjusting journal entry to correct.

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Bank Reconciliation

Green Shades Resorts, Inc. is preparing the bank reconciliation for the month of September.

1. The Sept 30th balance on the bank statement is $3,516.45, and the Cash general ledger balance on this date is $3,361.22 .

2. There was a deposit in transit in the amount of $724.11.

3. The bank erroneously deducted a $25 check drawn on the books of Green Valley Resorts from our account.

4. At September 30th three checks are outstanding. Check 639 dated 9/18 for $13.75; Check 646 dated 9/20 for $29.00; and Check 672 dated 9/27 for $192.50 . More InformationMore Information

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Bank Reconciliation

5. During the month of September the bank collected an account receivable for us in the amount of $940.00 .

6. A check actually written for $36.45 for utilities expense was erroneously recorded in our records by the bookkeeper as $63.45.

7. The bank assessed a service charge of $8.40 for September.

8. We deposited a NSF check in the amount of $289.51 .

Let’s prepare the bank reconciliationLet’s prepare the bank reconciliation

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Bank Reconciliation

Unadjusted Bank Balance, September 30 3,516.45$ Add: Deposits in transit 724.11 Bank error: Check drawn on GVRI charged to GSRI 25.00 Less: Outstanding checks Check No. 639 - September 18 13.75 Check No. 646 - September 20 29.00 Check No. 672 - September 27 192.50 (235.25) True Cash balance, June 30 4,030.31$

Unadjusted Book Balance, September 30 3,361.22$ Add: Receivable collected by bank 940.00 Error: Check 633 recorded as 63.45 not 36.45 27.00 Less: Bank service charge (8.40) NSF Check (89.51) True Cash balance, June 30 4,230.31$

Green Shades Resorts, Inc.Bank Reconciliation Statement

September 30, 2013

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Bank Reconciliation

Unadjusted Bank Balance, September 30 3,516.45$ Add: Deposits in transit 724.11 Bank error: Check drawn on GVRI charged to GSRI 25.00 Less: Outstanding checks Check No. 639 - September 18 13.75 Check No. 646 - September 20 29.00 Check No. 672 - September 27 192.50 (235.25) True Cash balance, June 30 4,030.31$

Unadjusted Book Balance, September 30 3,361.22$ Add: Receivable collected by bank 940.00 Error: Check 633 recorded as 63.45 not 36.45 27.00 Less: Bank service charge (8.40) NSF Check (89.51) True Cash balance, June 30 4,230.31$

Green Shades Resorts, Inc.Bank Reconciliation Statement

September 30, 2013

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Bank Reconciliation

Unadjusted Bank Balance, September 30 3,516.45$ Add: Deposits in transit 724.11 Bank error: Check drawn on GVRI charged to GSRI 25.00 Less: Outstanding checks Check No. 639 - September 18 13.75 Check No. 646 - September 20 29.00 Check No. 672 - September 27 192.50 (235.25) True Cash balance, September 30 4,030.31$

Unadjusted Book Balance, September 30 3,361.22$ Add: Receivable collected by bank 940.00 Error: Check 633 recorded as 63.45 not 36.45 27.00 Less: Bank service charge (8.40) NSF Check (89.51) True Cash balance, June 30 4,230.31$

Green Shades Resorts, Inc.Bank Reconciliation Statement

September 30, 2013

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Bank Reconciliation

Unadjusted Bank Balance, September 30 3,516.45$ Add: Deposits in transit 724.11 Bank error: Check drawn on GVRI charged to GSRI 25.00 Less: Outstanding checks Check No. 639 - September 18 13.75 Check No. 646 - September 20 29.00 Check No. 672 - September 27 192.50 (235.25) True Cash balance, September 30 4,030.31$

Unadjusted Book Balance, September 30 3,361.22$ Add: Receivable collected by bank 940.00 Error: Check 633 recorded as 63.45 not 36.45 27.00 Less: Bank service charge (8.40) NSF Check (89.51) True Cash balance, June 30 4,230.31$

Green Shades Resorts, Inc.Bank Reconciliation Statement

September 30, 2013

6-25

Bank Reconciliation

Unadjusted Bank Balance, September 30 3,516.45$ Add: Deposits in transit 724.11 Bank error: Check drawn on GVRI charged to GSRI 25.00 Less: Outstanding checks Check No. 639 - September 18 13.75 Check No. 646 - September 20 29.00 Check No. 672 - September 27 192.50 (235.25) True Cash balance, September 30 4,030.31$

Unadjusted Book Balance, September 30 3,361.22$ Add: Receivable collected by bank 940.00 Error: Check 633 recorded as $63.45 not $36.45 27.00 Less: Bank service charge (8.40) NSF Check (89.51) True Cash balance, June 30 4,230.31$

Green Shades Resorts, Inc.Bank Reconciliation Statement

September 30, 2013

6-26

Bank Reconciliation

Unadjusted Bank Balance, September 30 3,516.45$ Add: Deposits in transit 724.11 Bank error: Check drawn on GVRI charged to GSRI 25.00 Less: Outstanding checks Check No. 639 - September 18 13.75 Check No. 646 - September 20 29.00 Check No. 672 - September 27 192.50 (235.25) True Cash balance, September 30 4,030.31$

Unadjusted Book Balance, September 30 3,361.22$ Add: Receivable collected by bank 940.00 Error: Check 633 recorded as $63.45 not $36.45 27.00 Less: Bank service charge (8.40) NSF Check (289.51) True Cash balance, September 30 4,030.31$

Green Shades Resorts, Inc.Bank Reconciliation Statement

September 30, 2013

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Adjusting the Books (Only)

Every reconciling item that appears on the unadjusted book balance section requires a

journal entry to adjust the general ledger cash balance to the true cash balance.

Account Title Debit CreditCash 967.00 Accounts Receivable 940.00 Utilities Expense 27.00

Bank Service Charge Eexpense 8.40 Accounts Receivable 289.51 Cash 297.91

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Cash Short and Over

When using a cash register, employees sometimes make mistakes in collecting cash or making change for customers. If the cash register does not reconcile by a

small amount at the end of the day, we use an account called Cash Short and Over to

force a balance.Assume a cashregister was to havea balance of $500,but contained only$499 at the end of

the day.

Assume a cashregister was to havea balance of $500,but contained only$499 at the end of

the day.

Account Title Debit CreditCash 499.00 Cash Short and Over 1.00 Sales 500.00

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Describe the auditor’s role in financial reporting.

LO 5

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The Financial Analyst

How can a financial analyst

know that a company really did

follow GAAP? Certified Public

Accountants

6-31

Materiality and Financial Audits

Auditors do not guarantee that financial statements are absolutely

correct—only that they are materially correct.

“Material” ItemAn error, or other

reporting problem, that would influence

the decision of an average prudent

investor.

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Types of Audit Opinions

Unqualified Adverse

Qualified Disclaimer

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Confidentiality

• The confidentiality rules in the code of ethics for CPAs prohibits auditors from voluntarily disclosing information they have acquired as a result of their accountant-client relationships.

• However, accountants may be required to testify in a court of law.

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The Securities and Exchange Commission (SEC)

• The SEC is a government agency authorized to establish and enforce the accounting rules for public companies.

• Public companies, have to follow the reporting rules of the SEC as well as GAAP.

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Sarbanes-Oxley Act (SOX) of 2002

• Prior to 2002, the SEC left much of the regulation and oversight of independent audits to the AICPA.

• However, SOX established the PCAOB to enforce audit standards for SEC audits.

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End of Chapter Six

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