Accounting Principles Second Canadian Edition Weygandt · Kieso · Kimmel · Trenholm Prepared by: Carole Bowman, Sheridan College CHAPTER INTERNAL CONTROL AND CASH INTERNAL CONTROL Internal control consists of the policies and procedures adopted within a business in order to: optimize resources, and prevent and detect errors and irregularities INTERNAL CONTROL Internal control consists of the policies and procedures adopted within a business in order to: Safeguard its assets Maintain the accuracy and reliability of its accounting records ILLUSTRATION 8-1 PRINCIPLES OF INTERNAL CONTROL 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 ILLUSTRATION 8-3 RELATIONSHIP BETWEEN SEGREGATION OF DUTIES AND INDEPENDENT INTERNAL VERIFICATION Segregation of Duties Accounting Employee A Maintains cash balances Assistant Cashier B Maintains custody of cash on hand Independent Internal Verification Assistant Comptroller C Makes monthly comparisons: reports any irreconcilable differences to comptroller per books LIMITATIONS OF INTERNAL CONTROL Cost/benefit Collusion Size of business Human element ESTABLISHING THE FUND 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 Freight Out Miscellaneous Expense Cash To replenish petty cash fund Debit Credit 44 38 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 out, $38, and miscellaneous expenses, $5 87 REPLENISHING THE FUND GENERAL JOURNAL Date Mar 15 Account Titles and Explanation Postage Expense Freight Out Miscellaneous Expense Cash Over and Short Cash To replenish petty cash fund/ Debit Credit 44 38 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 out, $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: cheques paid and other debits charged against the account deposits and other credits made to the account 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, 2003 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 $ 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 Illustration 8-11 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: Cash on hand Cash in banks 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 © 2002 John Wiley & Sons Canada, Ltd All rights reserved Reproduction or translation of this work beyond that permitted by CANCOPY (Canadian Reprography Collective) is unlawful Request for further information should be addressed to the Permissions Department, John Wiley & Sons Canada, Ltd The purchaser may make back-up copies for his / 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 ... its accounting records ILLUSTRATION 8-1 PRINCIPLES OF INTERNAL CONTROL Authorization Segregation of duties Documentation procedures Safeguarding assets and records Independent verification PRINCIPLES. .. primarily to the safeguarding of assets and enhancing accuracy and reliability of the accounting records PRINCIPLES OF INTERNAL CONTROL Independent verification: • External verification indicates... 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