slide 7-1. slide 7-2 chapter 7 fraud, internal control, and cash financial accounting, ifrs edition...

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Chapter 7

Fraud, Internal Control, and Cash

Financial Accounting, IFRS EditionWeygandt Kimmel Kieso

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FraudFraud

Internal controlInternal control

Principles of Principles of internal control internal control activitiesactivities

LimitationsLimitations

Cash Cash equivalentsequivalents

Restricted Restricted cashcash

Compensating Compensating balancesbalances

Making Making depositsdeposits

Writing checksWriting checks

Bank Bank statementsstatements

Reconciling Reconciling the bank the bank accountaccount

Electronic Electronic funds transfer funds transfer (EFT) system(EFT) system

Over-the-Over-the-counter counter receipts receipts

Mail receiptsMail receipts

Fraud and Fraud and Internal Internal ControlControl

Fraud and Fraud and Internal Internal ControlControl

Cash Receipts Cash Receipts ControlsControls

Cash Receipts Cash Receipts ControlsControls

Control Control Features: Use Features: Use

of a Bankof a Bank

Control Control Features: Use Features: Use

of a Bankof a Bank

Reporting Reporting CashCash

Reporting Reporting CashCash

Cash Cash Disbursement Disbursement

ControlsControls

Cash Cash Disbursement Disbursement

ControlsControls

Fraud, Internal Control, and CashFraud, Internal Control, and CashFraud, Internal Control, and CashFraud, Internal Control, and Cash

Voucher Voucher system system controlscontrols

Petty cash Petty cash fund controlsfund controls

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Dishonest act by an employee that results in personal benefit to the employee at a cost to the employer.

Fraud and Internal ControlFraud and Internal ControlFraud and Internal ControlFraud and Internal Control

Fraud

SO 1 Define fraud and internal control.SO 1 Define fraud and internal control.

Why does fraud occur?

Illustration 7-1

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Methods and measures adopted to:

1. Safeguard assets.

2. Enhance accuracy and reliability of accounting records.

3. Increase efficiency of operations, and

4. Ensure compliance with laws and regulations.



Internal Control

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Internal control systems have five primary components

A control environment

Risk assessment

Control activities

Information and communication

Monitoring



Internal Control

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Measures vary with

management’s assessment of the risks faced.

size and nature of the company.

SO 2 Identify the principles of internal control activities.SO 2 Identify the principles of internal control activities.

Principles of Internal Control Activities


Six principles of controls activities:

Establishment of responsibility Segregation of duties Documentation procedures Physical controls Independent internal verification Human resource controls

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ESTABLISHMENT OF RESPONSIBILITYESTABLISHMENT OF RESPONSIBILITY

Control is most effective when only one person is responsible Control is most effective when only one person is responsible

for a given task.for a given task.

SEGREGATON OF DUTIESSEGREGATON OF DUTIES

Related duties, including physical custody and record keeping, Related duties, including physical custody and record keeping,

should be assigned to different individuals.should be assigned to different individuals.

DOCUMENTATION PROCEDURESDOCUMENTATION PROCEDURES

Companies should use prenumbered documents and all Companies should use prenumbered documents and all

documents should be accounted for.documents should be accounted for.




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PHYSICAL CONTROLS Illustration 7-2




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INDEPENDENT INTERNAL VERIFICATION

1. Verify records periodically

or on a surprise basis.

2. Verify records by an

employee who is

independent.

3. Discrepancies reported

to management.


Illustration 7-3



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HUMAN RESOURCE CONTROLS

1. Bond employees.

2. Rotate employees’ duties and

require vacations.

3. Conduct background checks.




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Limitations of Internal Control

Costs should not exceed benefit.

Human element.

Size of the business.



13 SO 3 Explain the applications of internal control principles to cash receipts.SO 3 Explain the applications of internal control principles to cash receipts.

Independent Internal Verification

Supervisors count cash receipts daily; treasurer compares total receipts to bank deposits daily

Establishment of Responsibility

Only designated personnel are authorized to handle cash receipts

(cashiers)

Segregation of Duties

Different individuals receive cash, record

cash receipts, and hold the cash

Documentation Procedures

Use remittance advice (mail receipts), cash register tapes, and

deposit slips

Physical Controls

Store cash in safes and bank vaults; limit

access to storage areas; use cash

registers

Human Resource Controls

Bond personnel who handle cash; require employees to take

vacations; deposit all cash in bank daily

Illustration 7-4

Cash Receipts ControlsCash Receipts ControlsCash Receipts ControlsCash Receipts Controls

Over-the-Counter Receipts

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Cash consists of coins, currency, checks, money orders, and

money on hand or on deposit in a bank.

Cash receipts come from:

cash sales

collections on account from customers

receipt of interest, rent, and dividends

investments by owners

bank loans

proceeds from the sale of noncurrent assets

SO 3 Explain the applications of internal control principles to cash receipts.SO 3 Explain the applications of internal control principles to cash receipts.


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Over-the-Counter Receipts


Illustration 7-5

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Mail receipts should be opened by two people, a list prepared, and each check endorsed.

Copy of the list, along with the checks and remittance advices, sent to cashier’s department.

Cashier adds the checks to the over-the-counter receipts, prepares a daily cash summary and makes the daily bank deposit.

Copy of list sent to treasurer’s office for comparison with total shown on daily cash summary.



Mail Receipts

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Permitting only designated personnel to handle cash receipts is an application of the principle of:

a. segregation of duties.

b. establishment of responsibility.

c. independent check.

d. human resource controls.

Review Question



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Generally, internal control over cash disbursements is

more effective when companies pay by check, rather

than by cash.

Applications:

Voucher system

Petty cash fund

Cash Disbursement ControlsCash Disbursement ControlsCash Disbursement ControlsCash Disbursement Controls

SO 4 Explain the applications of internal control SO 4 Explain the applications of internal control principles to cash disbursements.principles to cash disbursements.

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Independent Internal Verification

Compare checks to invoices; reconcile bank

statement monthly

Establishment of Responsibility

Only designated personnel are authorized

to sign checks (treasurer) and approve

vendors

Segregation of Duties

Different individuals approve and make

payments; check signers do not record

disbursements

Documentation Procedures

Use prenumbered checks; checks must

have an approved invoice; require

employees to use corporate credit cards for

reimbursableexpenses

Physical Controls

Store blank checks in safes, with limited

access; print check amounts by machine in

indelible ink

Illustration 7-6

Human Resource Controls

Bond personnelwho handle cash;require employeesto take vacations;

conduct backgroundchecks


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The use of prenumbered checks in disbursing cash is an application of the principle of:

a. establishment of responsibility.

b. segregation of duties.

c. physical, mechanical, and electronic controls.

d. documentation procedures.

Review Question



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Voucher System

Network of approvals, by authorized individuals, to ensure all disbursements by check are proper.

A voucher is an authorization form prepared for each expenditure.


Voucher System Controls


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Petty Cash Fund - Used to pay small amounts.

Involves:

1. establishing the fund,

2. making payments from the fund, and

3. replenishing the fund.

SO 5 Describe the operation of a petty cash fund.SO 5 Describe the operation of a petty cash fund.

Petty Cash Fund Controls


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Illustration: If Laird Company decides to establish a $100 fund on March 1, the journal entry is:


Petty cash 100Mar. 1

Cash 100


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Illustration: Assume that on March 15 Laird’s petty cash custodian requests a check for $87. The fund contains $13 cash and petty cash receipts for postage $44, freight-out $38, and miscellaneous expenses $5. The general journal entry to record the check is:


Postage expense 44Mar. 15

Cash 87

Freight-out 38

Miscellaneous expense 5


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Illustration: Occasionally, the company may need to recognize a cash shortage or overage. Assume that Laird’s petty cash custodian has only $12 in cash in the fund plus the receipts as listed. The request for reimbursement would, therefore, be for $88, and Laird would make the following entry:


Postage expense 44Mar. 15

Cash 88

Freight-out 38

Miscellaneous expense 5

Cash over and short 1


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Contributes to good internal control over cash.

Minimizes the amount of currency on hand.

Creates a double record of bank transactions.

Bank reconciliation.

Control Features: Use of a BankControl Features: Use of a BankControl Features: Use of a BankControl Features: Use of a Bank

SO 6 Indicate the control features of a bank account.SO 6 Indicate the control features of a bank account.

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Making Bank DepositsAuthorized employee should make deposit.


Bank Code Numbers

Front SideReverse Side

Illustration 7-8


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Writing ChecksWritten order signed by depositor directing bank to pay a specified sum of money to a designated recipient.


Maker

Payee

Illustration 7-9

Payer


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Bank Statements

Debit Memorandum

Bank service charge

NSF (not sufficient funds)


Illustration 7-10

Credit Memorandum

Collect notes receivable.

Interest earned.


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The control features of a bank account do not include:

a. having bank auditors verify the correctness of the bank balance per books.

b. minimizing the amount of cash that must be kept on hand.

c. providing a double record of all bank transactions.

d. safeguarding cash by using a bank as a depository.

Review Question



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Reconciling the Bank Account

SO 7 Prepare a bank reconciliation.SO 7 Prepare a bank reconciliation.

Reconcile balance per books and balance per bank to their adjusted (corrected) cash balances.

Reconciling Items:

1. Deposits in transit.

2. Outstanding checks.

3. Errors.

4. Bank memoranda.


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Reconciliation Procedures


+ Deposit in Transit

- Outstanding Checks

+- Bank Errors

+ Notes collected by bank

- NSF (bounced) checks

- Check printing or other service charges

+- Company Errors

CORRECT BALANCE CORRECT BALANCE

Illustration 7-11


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Illustration: Illustration: The bank statement for Laird Company (Illustration 7-

12), shows a balance per bank of $15,907.45 on April 30, 2011. On

this date the balance of cash per books is $11,589.45. Using the four

reconciliation steps, Laird determines the following reconciling items.


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Illustration: Illustration: a) Prepare a bank reconciliation at April 30.


Cash balance per bank statement $15,907.45

Add: Deposit in transit 2,201.40

Less: Outstanding checks (5,904.00)

Adjusted cash balance per bank $12,204.85

Cash balance per books $11,589.45

Collection of notes + interest - fee 1,035.00

Add: Error in recording check no. 443 36.00

Less: NSF check (425.60)

Bank service charge (30.00)

Adjusted cash balance per books $12,204.85


Illustration 7-12

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internal control slide

internal control fraud

internal control illustration

internal control systems

communication monitoring

physical controls illustration

petty cash fund controls

cash voucher system