ACCOUNTING
PRINCIPLES
Third Canadian Edition
Prepared by:
Keri Norrie, Camosun College
CHAPTER 7
INTERNAL CONTROL
AND CASH
INTERNAL CONTROL
Internal control consists of the policies and
procedures adopted within a business in
order to:
1. optimize resources, and
2. prevent and detect errors and
irregularities.
INTERNAL CONTROL
Internal control consists of the policies and
procedures adopted within a business in
order to:
3. Safeguard its assets
4. Maintain the accuracy and reliability of its
accounting records
PRINCIPLES OF INTERNAL CONTROL
Illustration 7-1
Authorization
Segregation of duties
Documentation
procedures
Safeguarding assets
and records
Independent
verification
PRINCIPLES OF INTERNAL CONTROL
• Authorization of transactions and activities:
Authorization by the proper individual is
important. Control is most effective when
only one person is responsible for a given
task.
• Segregation of duties: The work of one
employee should provide a reliable
basis for evaluating the work of
another employee.
PRINCIPLES OF INTERNAL CONTROL
Documentation procedures: Documents
should provide evidence that transactions and
events have occured.
Safeguards to control access to, and use of,
assets and records: Physical, mechanical, and
electronic controls relate primarily to the
safeguarding of assets and enhancing
accuracy and reliability of the accounting
records.
PRINCIPLES OF INTERNAL CONTROL
Independent verification:
• External verification indicates whether the
company’s financial statements fairly
present its financial position and results of
operations in accordance with GAAP.
• Internal verification involves review,
comparison, and reconciliation of
information from two sources.
RELATIONSHIP BETWEEN SEGREGATION OF DUTIES
AND INDEPENDENT INTERNAL VERIFICATION
Segregation
of Duties
Accounting Employee A
Assistant Cashier B
Maintains cash
balances cash on hand
Maintains custody over
books
Independent Internal Verification
Assistant Comptroller C
Makes monthly comparisons: reports any irreconcilable differences to comptroller
LIMITATIONS OF INTERNAL CONTROL
•
•
•
•
Cost/benefit
Collusion
Size of business
Human element
CASH
•
Cash includes coins, currency, cheques,
money orders, and money on hand or on
deposit at a bank or similar depository.
•
Internal control over cash is imperative in
order to safeguard cash and assure
the accuracy of the accounting
records for cash.
CONTROL OVER CASH RECEIPTS
• Only designated personnel should be
authorized to handle or have access to
cash receipts.
• Different individuals should:
1. receive cash
2. record cash receipt transactions
3. have custody of cash
CONTROL OVER CASH RECEIPTS
• Documents should include:
1. remittance advices
2. cash register tapes
3. deposit slips
• Cash should be stored in safes and bank
vaults.
• Access to storage areas should be limited to
authorized personnel.
• Cash registers should be used in executing
over-the-counter receipts.
CONTROL OVER CASH RECEIPTS
•
Daily cash counts and daily comparisons of
total receipts should be made.
•
All personnel who handle cash receipts
should be bonded and required to take
vacations.
•
An important tool in control of over-thecounter receipts is cash registers that are
visible to customers.
CONTROL OVER CASH
DISBURSEMENTS
•
Payments are made by cheque rather
than by cash, except for petty cash
transactions.
•
Only specified individuals should
be authorized to sign cheques.
•
Different departments or individuals should
be assigned the duties of approving an item
for payment and paying it.
CONTROL OVER CASH DISBURSEMENTS
• Pre-numbered cheques should be used and
each cheque should be supported by an
approved invoice or other
document.
• Blank cheques should be stored
in a safe.
1. Access should be restricted to
authorized personnel.
2. A cheque writer machine should be
used to imprint the amount on the
cheque in indelible ink.
CONTROL OVER CASH DISBURSEMENTS
• Each cheque should be compared with the
approved invoice before it is issued.
• Following payment, the approved invoice
should be stamped PAID.
• Electronic payments should be authorized
and verified by a person independent of the
accounts payable department.
PETTY CASH FUND
• A petty cash fund is used to pay relatively
small amounts.
• Operation of the fund, often called an
imprest system, involves
1. establishing the fund,
2. making payments from the fund, and
3. replenishing the fund.
• Accounting entries are required when
1. the fund is established,
2. the fund is replenished, and
3. the amount of the fund is changed.
ESTABLISHING THE FUND
GENERAL JOURNAL
Date
Mar. 1
Account Titles and Explanation
Petty Cash
Cash
To establish a petty cash fund.
Debit
Credit
100
100
When the fund is established, a cheque
payable to the petty cash custodian is issued
for the stipulated amount.
REPLENISHING THE FUND
GENERAL JOURNAL
Date
Mar. 15
Account Titles and Explanation
Postage Expense
Merchandise Inventory
Miscellaneous Expense
Cash
To replenish petty cash fund.
Debit
Credit
44
38
5
87
On March 15 the petty cash custodian
requests a cheque for $87. The fund
contains $13 cash and petty cash receipts
for postage, $44, freight, $38, and
miscellaneous expenses, $5.
REPLENISHING THE FUND
GENERAL JOURNAL
Date
Mar. 15
Account Titles and Explanation
Postage Expense
Merchandise Inventory
Miscellaneous Expense
Cash Over and Short
Cash
To replenish petty cash fund.
Debit
44
38
5
1
Credit
88
On March 15 the petty cash custodian
requests a cheque for $88. The fund
contains $12 cash and petty cash receipts
for postage, $44, freight, $38, and
miscellaneous expenses, $5.
USE OF A BANK
• The use of a bank minimizes the amount of
currency that must be kept on hand and
contributes significantly to good internal
control over cash.
• A company can safeguard its cash by using
a bank as a depository and clearing house
for cheques received and cheques
written.
BANK STATEMENTS
A bank statement
shows:
1. cheques paid
and other debits
charged against
the account
2. deposits and
other credits
made to the
account
3. account balance
after each day’s
transactions
ACCOUNT
STATEMENT
W. A. LEE COMPANY
500 QUEEN STREET
Statement Date/Credit
Line Closing Date
FREDERICTON, NB, E3B 5C2
April 30, 2005
457923
ACCOUNT NUMBER
Balance
Deposits and Credits
Last Statement
No.
Total Amount
13,256.90
20
34,805.10
Balance
Cheques and Debits
Total Amount
This Statement
32,154.55
15,907.45
26
DEPOSITS AND
CHEQUES AND DEBITS
CREDITS
DAILY BALANCE
Date No. Amount
Date
Amount Date Amount
4-2
435
644.95
4-5
436 3,260.00
4-4
437 1,185.79
4-3
438
776.65
4-8
439 1,781.70
4-7
440 1,487.90
4-8
441 2,420.00
4-11
442 1,585.60
4-12
443 1,226.00
=================
4-29
NSF
425.60
4-29
459 1,080.30
4-30
DM
30.00
4-30
461
620.15
4-2
4,276.85
4-3
2,137.50
4-5
1,350.47
4-7
982.46
4-8
1,320.28
4-9 CM
1,036.00
4-11
2,720.00
4-12
757.41
4-13
1,218.56
==============
4-27
1,545.57
4-29
2,929.45
4-30
2,128.60
Symbols:
4-2
16,888.80
4-3
18,249.65
4-4
17,063.86
4-5
15,154.33
4-7
14,648.89
4-8
11,767.47
4-9
12,802.47
4-11
13,936.87
4-12
13,468.28
=============
4-27
13,005.45
4-29
14,429.00
4-30
15,907.45
CM
Credit Memo
EC
Error Correction
NSF
Not Sufficient Funds
DM
Debit Memo
INT
Interest Earned
SC
Service Charge
Reconcile Your
Account Promptly
RECONCILING THE BANK ACCOUNT
• Reconciliation is necessary because
the balance per bank and balance per
books are seldom in agreement due to
time lags and errors.
• A bank reconciliation should be
prepared by an employee who has no
other responsibilities pertaining
to cash.
TERMS
• Deposits in transit
– Deposits recorded by depositor that have
not been recorded by bank
• Outstanding cheques
– Cheques written (issued) and recorded by
company that have not been presented
to/paid by bank
• Adjusted balance
– Reconciled or correct cash balance
TERMS
• Debit memoranda
– Charges against depositor’s account
(e.g. service charges, RC
(returned)/NSF (insufficient funds)
cheques)
• Credit memoranda
– Amounts that increase depositor’s
account (e.g., interest earned)
BANK RECONCILIATION PROCEDURES
Illustration 7-8
$ Per Bank Statement
-outstanding cheques
+deposits in transit
+/- bank errors
= correct cash amount
$ Per Books
-NSF cheques
-cheque printing or
other service
charges
+notes collected by
bank
+/- book errors
= correct cash amount
Reconciling Journal Entries
• Books
– Each reconciling item in
determining the adjusted
balance per books MUST
be journalized and posted
• Bank
– Do NOT journalize any
entries on bank side
REPORTING CASH
• Cash reported on the Balance Sheet
includes:
1. Cash on hand
2. Cash in banks
3. Petty cash
• Cash is listed first in the balance sheet
because it is the most liquid asset.
CASH EQUIVALENTS
•
Cash equivalents are highly liquid
investments, with maturities of three
months or less when purchased, that can
be converted into a specific amount of
cash.
•
Examples include money market funds,
short-term notes, and treasury bills.
USING THE INFORMATION IN THE
FINANCIAL STATEMENTS
Most important asset
Pervasive impact
Vulnerable to theft or
misuse
Balancing act needed
to ensure sufficient,
but not excess,
quantity
USING THE INFORMATION IN THE
FINANCIAL STATEMENTS
• Cash Flow Statement: shows where
cash came from and what is was used
for.
• Management report: states
management’s responsibility for
internal controls.
COPYRIGHT
Copyright © 2004 John Wiley & Sons Canada, Ltd. All rights
reserved. Reproduction or translation of this work beyond that
permitted by Access Copyright (The Canadian Copyright
Licensing Agency) is unlawful. Requests for further information
should be addressed to the Permissions Department, John Wiley
& Sons Canada, Ltd. The purchaser may make back-up copies for
his or her own use only and not for distribution or resale. The
author and the publisher assume no responsibility for errors,
omissions, or damages caused by the use of these programs or
from the use of the information contained herein.