Audit of the Payroll
and Personnel Cycle
Chapter 18
©2006 Prentice Hall Business Publishing, Auditing 11/e, Arens/Beasley/Elder
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Learning Objective 1
Identify the accounts and
transactions in the payroll
and personnel cycle.
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Accounts in the Payroll and
Personnel Cycle
The overall objective in the audit of the payroll
and personnel cycle is to evaluate whether the
account balances affected by the cycle are
fairly stated in accordance with generally
accepted accounting principles.
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18 - 3
Accounts in the Payroll and
Personnel Cycle
Cash in Bank
Payment for
salaries
Accrued Wages, Salaries,
Bonuses, and Commissions
Payment Beginning
balance
Direct
Labor
Earned wages,
salaries, etc.
Ending balance
Payment for
payroll taxes
Withheld Income Taxes
and Other Deductions
Payment Beginning
balance
Payroll
withholding
Ending balance
©2006 Prentice Hall Business Publishing, Auditing 11/e, Arens/Beasley/Elder
18 - 4
Accounts in the Payroll and
Personnel Cycle
Cash in Bank
Payment for
salaries
Withheld Income Taxes
and Other Deductions
Payment Beginning
balance
Payroll
withholding
Ending balance
Payment for
payroll taxes
Payroll Tax Expense
Accrued Payroll
Tax Expense
Payment Beginning
balance
Payroll
tax expense
Ending balance
©2006 Prentice Hall Business Publishing, Auditing 11/e, Arens/Beasley/Elder
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Accounts in the Payroll and
Personnel Cycle
In most systems the accrued wages and
salaries account is used only at the
end of an accounting period.
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Learning Objective 2
Describe the business functions
and the related documents and
records in the payroll and
personnel cycle.
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Business Functions in the Cycle
and Related Documents and
Records
The payroll and personnel cycle begins with
the hiring of personnel and ends with payment
to the employees for the services performed
and to the government and other institutions
for the withheld and accrued payroll taxes
and benefits.
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Personnel and Employment
Personnel records
Deduction authorization form
Rate authorization form
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Timekeeping and Payroll
Preparation
Time Card
Job Time Ticket
Payroll Transaction File
Payroll Journal
Timekeeping and
Payroll Preparation
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Payroll Master File
A payroll master file is used for
recording each payroll transaction
for each employee and maintaining total
employee wages paid for the year to date.
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Payment of Payroll
Payroll check
Payroll bank account reconciliation
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Preparation of Payroll Tax Returns
and Payment of Taxes
W-2 Form
Payroll tax returns
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Learning Objective 3
Understand internal control and
design and perform tests of
controls and substantive tests
of transactions for the payroll
and personnel cycle.
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Methodology for Designing
Controls and Substantive Tests
Understand internal
control – payroll
and personnel.
Assess planned
control risk – payroll
and personnel.
Determine extent of testing controls.
Design tests of controls and
substantive tests of
transactions for payroll and
personnel to meet transactionrelated audit objectives.
Audit
Items
procedures to select
Sample
size
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Timing
18 - 15
Understand Internal Control –
Payroll and Personnel Cycle
•
•
•
•
•
Adequate separation of duties
Proper authorization
Adequate documents and records
Physical control over assets and records
Independent checks on performance
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Payroll Tax Forms and Payments
Preparation of payroll tax forms
Payment of the payroll taxes withheld and
other withholdings on a timely basis
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Inventory and Fraudulent
Payroll Considerations
Relationship between payroll
and inventory valuation
Tests for nonexistent payroll
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Methodology for Designing Tests
of Balances for Payroll Liabilities
Phase I
Identify client business risks affecting payroll
liability accounts.
Set tolerable misstatement and assess inherent
risk for payroll liability accounts.
Assess control risk for the payroll and personnel
cycle.
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Methodology for Designing Tests
of Balances for Payroll Liabilities
Phase II
Design and perform tests of controls and
substantive tests of transactions for the
payroll and personnel cycle.
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Methodology for Designing Tests
of Balances for Payroll Liabilities
Phase III
Design and perform analytical procedures for the
payroll and personnel cycle.
Design tests of details of payroll accounts balances
to satisfy balance-related audit objectives.
Audit
Sample
procedures size
Items to
select
©2006 Prentice Hall Business Publishing, Auditing 11/e, Arens/Beasley/Elder
Timing
18 - 21
Learning Objective 4
Design and perform analytical
procedures for the payroll
and personnel cycle.
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Analytical Procedures for the
Payroll and Personnel Cycle
Analytical procedure
Possible misstatement
Compare payroll expense
account balances with
previous years.
Misstatement of payroll
expense accounts.
Compare direct labor as a
percentage of sales with
previous years.
Misstatement of direct
labor and inventory.
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Analytical Procedures for the
Payroll and Personnel Cycle
Analytical procedure
Possible misstatement
Compare commission expense Misstatement of
as a percentage of sales with
commission expense
previous years.
and commission liability.
Compare payroll tax expense
Misstatement of payroll
as a percentage of salaries and tax expense and payroll
tax liability.
wages with previous years.
Compare accrued payroll tax
accounts with previous years.
Misstatement of accrued
payroll taxes and expense.
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Learning Objective 5
Design and perform tests of
details of balances for accounts
in the payroll and personnel cycle.
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Two Major Balance-related
Audit Objectives
Accruals in the trial balance
are stated at the correct
amounts (accuracy).
Transactions in the payroll and
personnel cycle are recorded
in the proper period (cutoff).
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Tests of Details of Balances
for Liability Accounts
 Amounts
withheld from employees’ pay
 Accrued salaries and wages
 Accrued commissions
 Accrued bonuses
 Accrued vacation pay, sick pay,
or other benefits
 Accrued payroll taxes
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Tests of Details of Balances
for Expense Accounts
Officers’ compensation
 Commissions
 Payroll tax expense
 Total payroll
 Contract labor

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Types of Audit Tests for the
Payroll and Personnel Cycle
Payroll
Liabilities
Cash in
Bank
Direct Labor and
Payroll Expenses
Payments
Expenses
Audited by
TOC, STOT, and AP
Audited by
TOC, STOT, and AP
Ending
balance
Ending
balance
Audited by AP and TDB
TOC + STOT + AP + TDB
= Sufficient competent evidence per GAAS
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End of Chapter 18
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18 - 30