An internal control system is all policies and procedures managers use to . . .
Ensure reliable accounting.
Promote efficient operations.
Urge adherence to company policies.
As a sole proprietorship or partnership grows, the owner(s) loses personal contact with daily operations. The need to rely on internal control procedures rather than personal contact increases.
Principles of Internal Control
Establish responsibilities for each task clearly and for one person.
Maintain adequate records.
Insure assets and bond employees.
Separate recordkeeping and custody over assets.
Divide responsibility for related transactions (separation of duties).
Apply technological controls.
Perform regular and independent reviews.
Technology and Internal Control
Technology provides rapid access to large quantities of information.
Reduced processing errors.
More extensive testing of records.
Limited evidence of processing
Crucial separation of duties.
Limitations of Internal Control
Cost-benefit principle —the costs of internal controls must not exceed their benefits.
Guidelines for Control of Cash
Separate handling of cash from recordkeeping of cash.
Cash receipts are promptly (daily) deposited in a bank.
Cash disbursements are made by cheque. (Exception: petty cash disbursements).
Used to make small payments in cash
Assigning a petty cashier (custodian) to account for the amounts expended and keep receipts.
Debit to Petty Cash only when the fund is established or increased.
No further entries made until it is time to reimburse the fund
Reimbursement—debit the expenses or other items paid for with petty cash and credit Cash for the amount reimbursed to the petty cash fund.
Cash Over and Short
Used if the petty cash receipts and actual cash on hand do not equal the value of the petty cash fund.
Account may represent an expense or revenue
If there is a shortage (less cash then there should be), it is debited. (expense)
If there is a overage (more cash then there should be), it is credited. (revenue)
Banking Activities As Controls
Bank accounts permits depositing money for safeguarding and writing cheques
Bank deposit slip lists components of a deposit, copy is retained by depositor and the bank.
Bank cheque is a document instructing the bank to pay a certain amount to a certain party.
Electronic funds transfer (EFT) use of electronic communication to transfer cash from one party to another.
Bank Statements show the activity in the accounts over a period of time (usually a month).
Reasons for a difference in the bank statement and the depositor’s book balance
Unrecorded deposit. (Deposits in transit.)
Deductions for uncollectible items and services
Additions for collections and interest.
Reconcile bank statement balance to the adjusted bank balance.
Reconcile book balance to the adjusted book balance.
The adjusted balances should be equal.
Steps in Preparing a Bank Reconciliation
Identify the bank balance of the cash account ( balance per bank ).
Identify and list any unrecorded deposits and any bank errors understating the bank balance. Add them to the bank balance.
Identify and list any outstanding cheques and any bank errors overstating the bank balance. Deduct them from the bank balance.
Compute the adjusted bank balance , also called corrected or reconciled balance.
Identify the company's balance of the cash account ( balance per book ).
Identify and list any unrecorded credit memoranda from the bank for interest earned, and errors understating the book balance. Add them to the book balance.
Identify and list any unrecorded debit memoranda from the bank for service charges, NSF cheques, periodic payments arranged in advance, by the depositor, and errors overstating the book balance. Deduct them from the book balance.