INTERNAL CONTROL AND CASH
STUDY OBJECTIVES
After studying this chapter, you should understand:
Definition of internal control
Petty Cash
Principles of internal control
Control features of a bank
account
Internal control for cash receipts
Bank reconciliations
Internal control for cash disbursements
Cash reporting
STUDY OBJECTIVE 1
DEFINITION OF INTERNAL CONTROL
The plan of organization and all
related methods and measures
adopted by a business in order to:
Safeguard assets
Enhance accuracy
and reliability of
accounting records
STUDY OBJECTIVE 2
PRINCIPLES OF INTERNAL CONTROL
Establishment
of
responsibility
Physical,
mechanical, &
electronic
controls
Segregation
of
duties
Independent
internal
verification
Documentation
procedures
Other
Controls
ESTABLISHMENT OF
RESPONSIBILITY
Control is most effective when only one
person is responsible for a given task.
Only one cashier should operate
a cash register during a shift.
Cash is reconciled at the
beginning and end of the shift.
SEGREGATION OF DUTIES
• Related activities should be assigned to
different employees
• Record-keeping separate from custody
The cashier should not
update the accounting records.
DOCUMENTATION PROCEDURES
• Documents are pre-numbered
• Sequence is accounted for
• Documents are forwarded to accounting department
promptly
Checks have
sequential numbers.
Missing check
numbers are investigated.
PHYSICAL, MECHANICAL, &
ELECTRONIC CONTROLS
• Designed to safeguard assets and accounting
records
• Also designed to restrict access
Bank vault
Locked warehouse
Access codes
Passwords
Alarms
Time clocks
INDEPENDENT INTERNAL
VERIFICATION
•
•
•
•
Review, comparison, & reconciliation of data prepared by
another employee
On a surprise basis
INTERNAL AUDIT
By an independent person
DEPARTMENT
Discrepancies noted and reported
Manager compares
daily sales summaries
with cash register tapes.
OTHER CONTROLS
• Bonding employees who handle cash
• Rotation of duties
• Mandatory vacation
Mandatory vacations make it
impossible for a bookkeeper
to permanently conceal
“irregular” activities.
SEGREGATION OF DUTES VS.
INDEPENDENT INTERNAL VERIFICATION
Segregation
of Duties
Assistant Cashier B
Maintains custody of
cash on hand
Accounting Employee A
Maintains cash
balance per books
Independent Internal Verification
Assistant Treasurer C
Makes monthly comparisons. Reports differences to treasurer.
LIMITATIONS OF
INTERNAL CONTROL
Cost-Benefit Considerations
The cost of implementing a control
should be less than the perceived benefit.
Human Element
A system is only as good
as the people operating it.
Collusion
Two people may conspire
to override a control
STUDY OBJECTIVE 3
INTERNAL CONTROL FOR CASH RECEIPTS
• Only designated personnel are 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
INTERNAL CONTROL FOR CASH RECEIPTS
• Register tapes, remittance advices and 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
INTERNAL CONTROL FOR CASH RECEIPTS
• Daily cash counts and daily comparisons of
total receipts.
• All personnel who handle cash receipts are
bonded and required to take vacations.
• Cash registers are visible to customers.
STUDY OBJECTIVE 4
INTERNAL CONTROL FOR CASH
DISBURSEMENTS
•
•
•
•
•
•
Payments made by pre-numbered check.
Pay only approved invoices.
Limit & specify check-signing authority.
Store blank checks in a safe, and limit access.
Separate approval and payment functions
Stamp invoices when paid.
VOUCHER SYSTEM
•
•
•
•
Enhances control over cash disbursements.
A network of approvals by authorized individuals
acting independently to ensure that disbursements
by check are proper.
A voucher is an authorization form prepared for
each expenditure.
Vouchers are recorded in a journal called the
voucher register.
REVIEW QUESTION
The use of pre-numbered checks in disbursing cash
is an application of what internal control principle?
Answer:
Documentation
procedures
EFT SYSTEM
• A disbursement system that uses wire, phone,
or computer to transfer cash.
• Regular payments such as those for
house, car, and utilities are frequently
made by EFT.
STUDY OBJECTIVE 5
PETTY CASH FUNDS
• Used to pay small amounts
• An IMPREST SYSTEM involves:
• 1 establishing the fund
• 2 making payments from the fund
• 3 replenishing the fund
• Accounting entries are required when:
• 1 the fund is established
• 2 the fund is replenished
• 3 the amount of the fund is changed
ESTABLISHING THE FUND
• Two steps to establish a petty cash fund
1 appoint a responsible custodian who will be responsible
2 determine the size of the fund (to cover 3-4 weeks)
GENERAL JOURNAL
Date
Mar. 1
Account Titles and Explanation
Petty Cash
Cash
(To establish a petty cash fund)
The check is written to the custodian.
Debit
Credit
100
100
REPLENISHING THE FUND
• Custodian initiates request for reimbursement.
• Custodian prepares a schedule of payments with documentation
• Treasurer approves replenishment.
GENERAL JOURNAL
Date
Mar. 15
Account Titles and Explanation
Postage Expense
Freight-out
Miscellaneous Expense
Cash
(To replenish petty cash fund)
Debit
Credit
44
38
5
87
On March 15 the 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.
STUDY OBJECTIVE 6
CONTROL FEATURES--BANKS
Using a bank minimizes 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 as a clearing house.
WRITING CHECKS
•
•
•
•
•
A written order signed by the depositor directing
the bank to pay a specified sum of money to a
designated recipient.
Three parties to a check are:
1 Maker/drawer issues the check
2 Bank/payer on which check is drawn
3 Payee to whom check is payable
BANK STATEMENTS
A bank statement shows:
1 checks paid & other debits charged against the account
2 deposits and other credits made to the account
3 account balance after each day’s transactions
•
•
Debit memorandum indicate charges against the depositor’s
account. (ATM service charges).
Credit memorandum indicate amounts that increase the
depositor’s account. (Interest income).
STUDY OBJECTIVE 7
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.
• Reconciliation should be prepared by an
employee who has no other
responsibilities pertaining to cash.
RECONCILING THE BANK ACCOUNT
• Steps in preparing a bank reconciliation:
1 Determine deposits in transit
2 Determine outstanding checks
3 Note any errors discovered
4 Trace bank memoranda to the records
• Each reconciling item used in determining the
adjusted cash balance per books should be
recorded by the depositor.
BANK RECONCILIATION
LAIRD COMPANY
Bank Reconciliation
April 30, 2006
Cash balance per bank statement
Add: Deposits in transit
Less: Outstanding checks
No. 453
No. 457
No. 460
The bank statement for
the Laird Company
shows a balance per
bank of $15,907.45 on
April 30, 2006.
$ 15,907.45
2,201.40
18,108.85
$ 3,000.00
1,401.30
1,502.70
Adjusted cash balance per bank
$ 12,204.85
Cash balance per books
Add: Collection of $1,000 note receivable plus interest earned
$50, less collection fee $15
Error in recording check 443
Less: NSF check
Bank service charge
Adjusted cash balance per books
5,904.00
On this date the
balance of cash per
books is $11,589.45.
$ 11,589.45
$ 1,035.00
36.00
425.60
30.00
1,071.00
12,660.45
455.60
$ 12,204.85
ENTRIES FROM THE
BANK RECONCILIATION
GENERAL JOURNAL
Date
Apr. 30
Account Titles and Explanation
Cash
Miscellaneous Expense
Notes Receivable
Interest Revenue
(To record collection of notes
receivable by bank)
Debit
Credit
1035
15
1000
50
Collection of Note Receivable. This entry involves four
accounts. Interest of $50 has not been accrued and the
collection fee is charged to Miscellaneous Expense.
ENTRIES FROM THE
BANK RECONCILIATION
GENERAL JOURNAL
Date
Apr. 30
Account Titles and Explanation
Cash
Accounts Payable — Andrea
Company
(To correct error in recording
check No. 443)
Debit
Credit
36
36
Book Error. An examination of the cash disbursements
journal shows that check No. 443 was a payment on
account to Andrea Company, a supplier. The check, with
a correct amount of $1,226.00, was recorded at $1,262.00.
ENTRIES FROM THE
BANK RECONCILIATION
GENERAL JOURNAL
Date
Apr. 30
Account Titles and Explanation
Accounts Receivable — J. R. Baron
Cash
(To record NSF check)
Debit
Credit
425.6
NSF Check An NSF check becomes an
accounts receivable to the depositor.
425.6
ENTRIES FROM THE
BANK RECONCILIATION
GENERAL JOURNAL
Date
Apr. 30
Account Titles and Explanation
Miscellaneous Expense
Cash
(To record charge for printing
company checks)
Debit
Credit
30
30
Bank Service Charges Check printing charges (DM) and other
bank service charges (SC) are debited to Miscellaneous
Expense because they are usually nominal in amount.
REVIEW QUESTION
Which of the following items requires
an adjusting entry by the depositor?
1. Outstanding checks
2. Deposits in transit
3. A bank error
4. Bank service charges
Answer:
Bank service
charges
STUDY OBJECTIVE 8
REPORTING CASH
•Cash reported on the Balance Sheet includes:
1 Cash on hand (includes petty cash)
2 Cash in banks
• Cash is the most liquid asset
• Cash is listed first in the balance sheet.
•Cash equivalents are investments with maturities of 3
months or less, such as money market funds, CD’s, and
treasury bills and notes.