18 - 1©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Audit of the PayrollAudit of the Payrolland Personnel Cycleand Personnel Cycle
Chapter 18Chapter 18
18 - 2©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Learning Objective 1Learning Objective 1
Identify the accounts andIdentify the accounts and
transactions in the payrolltransactions in the payroll
and personnel cycle.and personnel cycle.
18 - 3©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
The overall objective in the audit of the payrollThe overall objective in the audit of the payrolland personnel cycle is to evaluate whether theand personnel cycle is to evaluate whether theaccount balances affected by the cycle areaccount balances affected by the cycle arefairly stated in accordance with generallyfairly stated in accordance with generallyaccepted accounting principles.accepted accounting principles.
Accounts in the Payroll and Accounts in the Payroll and Personnel CyclePersonnel Cycle
18 - 4©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Accounts in the Payroll and Accounts in the Payroll and Personnel CyclePersonnel Cycle
Accrued Wages, Salaries,Accrued Wages, Salaries,Bonuses, and CommissionsBonuses, and Commissions
PaymentPayment BeginningBeginningbalancebalance
Earned wages,Earned wages,salaries, etc.salaries, etc.
Ending balanceEnding balance
DirectDirectLaborLabor
Cash in BankCash in Bank
Payment forPayment forsalariessalaries
Payment forPayment forpayroll taxespayroll taxes
Withheld Income TaxesWithheld Income Taxesand Other Deductionsand Other Deductions
PaymentPayment BeginningBeginningbalancebalance
PayrollPayrollwithholdingwithholding
Ending balanceEnding balance
18 - 5©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Accounts in the Payroll and Accounts in the Payroll and Personnel CyclePersonnel Cycle
Cash in BankCash in Bank
Payment forPayment forsalariessalaries
Payment forPayment forpayroll taxespayroll taxes
Withheld Income TaxesWithheld Income Taxesand Other Deductionsand Other Deductions
PaymentPayment BeginningBeginningbalancebalance
PayrollPayrollwithholdingwithholding
Ending balanceEnding balance
Accrued PayrollAccrued PayrollTax ExpenseTax Expense
PaymentPayment BeginningBeginningbalancebalance
PayrollPayrolltax expensetax expense
Ending balanceEnding balance
Payroll Tax ExpensePayroll Tax Expense
18 - 6©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Accounts in the Payroll and Accounts in the Payroll and Personnel CyclePersonnel Cycle
In most systems the accrued wages andIn most systems the accrued wages andsalaries account is used only at thesalaries account is used only at theend of an accounting period.end of an accounting period.
18 - 7©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Learning Objective 2Learning Objective 2
Describe the business functionsDescribe the business functions
and the related documents andand the related documents and
records in the payroll andrecords in the payroll and
personnel cycle.personnel cycle.
18 - 8©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Business Functions in the Cycle Business Functions in the Cycle and Related Documents and and Related Documents and RecordsRecords
The payroll and personnel cycle begins withThe payroll and personnel cycle begins withthe hiring of personnel and ends with paymentthe hiring of personnel and ends with paymentto the employees for the services performedto the employees for the services performedand to the government and other institutionsand to the government and other institutionsfor the withheld and accrued payroll taxesfor the withheld and accrued payroll taxesand benefits.and benefits.
18 - 9©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Personnel and EmploymentPersonnel and Employment
Personnel recordsPersonnel records
Deduction authorization formDeduction authorization form
Rate authorization formRate authorization form
18 - 10©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Timekeeping and Payroll Timekeeping and Payroll PreparationPreparation
Time CardTime Card
Job Time TicketJob Time Ticket
Payroll Transaction FilePayroll Transaction File
Payroll JournalPayroll Journal
Timekeeping andTimekeeping andPayroll PreparationPayroll Preparation
18 - 11©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Payroll Master FilePayroll Master File
A payroll master file is used forA payroll master file is used forrecording each payroll transactionrecording each payroll transactionfor each employee and maintaining totalfor each employee and maintaining totalemployee wages paid for the year to date.employee wages paid for the year to date.
18 - 12©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Payment of PayrollPayment of Payroll
Payroll checkPayroll check
Payroll bank account reconciliationPayroll bank account reconciliation
18 - 13©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Preparation of Payroll Tax Returns Preparation of Payroll Tax Returns and Payment of Taxesand Payment of Taxes
W-2 FormW-2 Form
Payroll tax returnsPayroll tax returns
18 - 14©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Learning Objective 3Learning Objective 3
Understand internal control andUnderstand internal control and
design and perform tests ofdesign and perform tests of
controls and substantive testscontrols and substantive tests
of transactions for the payrollof transactions for the payroll
and personnel cycle.and personnel cycle.
18 - 15©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Methodology for Designing Methodology for Designing Controls and Substantive TestsControls and Substantive TestsUnderstand internalUnderstand internalcontrol – payrollcontrol – payrolland personnel.and personnel.
AuditAuditproceduresprocedures
SampleSamplesizesize
ItemsItemsto selectto select
TimingTiming
Assess plannedAssess plannedcontrol risk – payrollcontrol risk – payrolland personnel.and personnel.
Determine extent of testing controls.Determine extent of testing controls.
Design tests of controls andDesign tests of controls andsubstantive tests ofsubstantive tests oftransactions for payroll andtransactions for payroll andpersonnel to meet transaction-personnel to meet transaction-related audit objectives.related audit objectives.
18 - 16©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Understand Internal Control –Understand Internal Control –Payroll and Personnel CyclePayroll and Personnel Cycle
• Adequate separation of dutiesAdequate separation of duties• Proper authorizationProper authorization• Adequate documents and recordsAdequate documents and records• Physical control over assets and recordsPhysical control over assets and records• Independent checks on performanceIndependent checks on performance
18 - 17©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Payroll Tax Forms and PaymentsPayroll Tax Forms and Payments
Payment of the payroll taxes withheld andPayment of the payroll taxes withheld andother withholdings on a timely basisother withholdings on a timely basis
Preparation of payroll tax formsPreparation of payroll tax forms
18 - 18©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Inventory and FraudulentInventory and FraudulentPayroll ConsiderationsPayroll Considerations
Relationship between payrollRelationship between payrolland inventory valuationand inventory valuation
Tests for nonexistent payrollTests for nonexistent payroll
18 - 19©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Methodology for Designing Tests Methodology for Designing Tests of Balances for Payroll Liabilitiesof Balances for Payroll LiabilitiesPhase IPhase I
Identify client business risks affecting payrollIdentify client business risks affecting payrollliability accounts.liability accounts.
Set tolerable misstatement and assess inherentSet tolerable misstatement and assess inherentrisk for payroll liability accounts.risk for payroll liability accounts.
Assess control risk for the payroll and personnelAssess control risk for the payroll and personnelcycle.cycle.
18 - 20©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Methodology for Designing Tests Methodology for Designing Tests of Balances for Payroll Liabilitiesof Balances for Payroll Liabilities
Design and perform tests of controls andDesign and perform tests of controls andsubstantive tests of transactions for thesubstantive tests of transactions for thepayroll and personnel cycle.payroll and personnel cycle.
Phase IIPhase II
18 - 21©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Methodology for Designing Tests Methodology for Designing Tests of Balances for Payroll Liabilitiesof Balances for Payroll Liabilities
Design and perform analytical procedures for theDesign and perform analytical procedures for thepayroll and personnel cycle.payroll and personnel cycle.
Phase IIIPhase III
TimingTimingItems toItems toselectselect
SampleSamplesizesize
AuditAuditproceduresprocedures
Design tests of details of payroll accounts balancesDesign tests of details of payroll accounts balancesto satisfy balance-related audit objectives.to satisfy balance-related audit objectives.
18 - 22©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Learning Objective 4Learning Objective 4
Design and perform analyticalDesign and perform analytical
procedures for the payrollprocedures for the payroll
and personnel cycle.and personnel cycle.
18 - 23©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Analytical Procedures for the Analytical Procedures for the Payroll and Personnel CyclePayroll and Personnel Cycle
Compare direct labor as aCompare direct labor as apercentage of sales withpercentage of sales withprevious years.previous years.
Misstatement of directMisstatement of directlabor and inventory.labor and inventory.
Analytical procedureAnalytical procedure
Compare payroll expenseCompare payroll expenseaccount balances withaccount balances withprevious years.previous years.
Misstatement of payrollMisstatement of payrollexpense accounts.expense accounts.
Possible misstatementPossible misstatement
18 - 24©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Analytical Procedures for the Analytical Procedures for the Payroll and Personnel CyclePayroll and Personnel Cycle
Analytical procedureAnalytical procedure
Compare commission expenseCompare commission expenseas a percentage of sales withas a percentage of sales withprevious years.previous years.
Misstatement ofMisstatement ofcommission expensecommission expenseand commission liability.and commission liability.
Compare payroll tax expenseCompare payroll tax expenseas a percentage of salaries andas a percentage of salaries andwages with previous years.wages with previous years.
Misstatement of payrollMisstatement of payrolltax expense and payrolltax expense and payrolltax liability.tax liability.
Possible misstatementPossible misstatement
Compare accrued payroll taxCompare accrued payroll taxaccounts with previous years.accounts with previous years.
Misstatement of accruedMisstatement of accruedpayroll taxes and expense.payroll taxes and expense.
18 - 25©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Learning Objective 5Learning Objective 5
Design and perform tests ofDesign and perform tests of
details of balances for accountsdetails of balances for accounts
in the payroll and personnel cycle.in the payroll and personnel cycle.
18 - 26©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Two Major Balance-relatedTwo Major Balance-relatedAudit ObjectivesAudit Objectives
Accruals in the trial balanceAccruals in the trial balanceare stated at the correctare stated at the correctamounts (accuracy).amounts (accuracy).
Transactions in the payroll andTransactions in the payroll andpersonnel cycle are recordedpersonnel cycle are recordedin the proper period (cutoff).in the proper period (cutoff).
18 - 27©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Tests of Details of BalancesTests of Details of Balancesfor Liability Accountsfor Liability Accounts
Amounts withheld from employees’ payAmounts withheld from employees’ pay Accrued salaries and wagesAccrued salaries and wages Accrued commissionsAccrued commissions Accrued bonusesAccrued bonuses Accrued vacation pay, sick pay,Accrued vacation pay, sick pay, or other benefitsor other benefits Accrued payroll taxesAccrued payroll taxes
18 - 28©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Tests of Details of BalancesTests of Details of Balancesfor Expense Accountsfor Expense Accounts
Officers’ compensationOfficers’ compensation CommissionsCommissions Payroll tax expensePayroll tax expense Total payrollTotal payroll Contract laborContract labor
18 - 29©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
Types of Audit Tests for the Types of Audit Tests for the Payroll and Personnel CyclePayroll and Personnel Cycle
TOCTOC + + STOTSTOT + + APAP + + TDBTDB= Sufficient competent evidence per GAAS= Sufficient competent evidence per GAAS
Cash inCash inBankBank
PayrollPayrollLiabilitiesLiabilities
Direct Labor andDirect Labor andPayroll ExpensesPayroll Expenses
PaymentsPayments ExpensesExpenses
Audited byAudited byTOCTOC, , STOTSTOT, and , and APAP
EndingEndingbalancebalance
EndingEndingbalancebalance
Audited by Audited by APAP and and TDBTDB
Audited byAudited byTOCTOC, , STOTSTOT, and , and APAP
18 - 30©2006 Prentice Hall Business Publishing, ©2006 Prentice Hall Business Publishing, Auditing 11/e,Auditing 11/e, Arens/Beasley/Elder Arens/Beasley/Elder
End of Chapter 18End of Chapter 18