arens_aud16_inppt20.pptx auditing and assurance services

Auditing and assurance services arens book 16 edition chapter 20 ppt

1. Audit of the payroll and personnel cycle Chapter 20 Copyright © 2017 Pearson Education, Ltd. 20-1

2. Chap ter 2 Learning Objectives 2 0-1 Identify the accounts and transactions in the payroll and personnel cycle. 2 0-2 Describe the business functions and the related documents and records in the payroll and personnel cycle. 2 0-3 Understand internal control and design and perform tests of controls and substantive tests of transactions for the payroll and personnel cycle. 2 0-4 Design and perform substantive analytical procedures and tests of details of accounts in the payroll and personnel cycle. Copyright © 2017 Pearson Education, Ltd. 2 0- 2

3. Copyright © 2017 Pearson Education, Ltd. 2 0- 3 OBJECTIVE 20-1 Identify the accounts and transactions in the payroll and personnel cycle.

4. Accounts and transactions in the payroll and personnel cycle The payroll and personnel cycle involves the employment and payment of all employees. The main differences between the payroll and personnel cycle and other cycles include: There is only one class of transactions for payroll. Transactions are generally far more significant than related balance sheet accounts Internal controls over payroll are effective for almost all companies, even small ones. Typical accounts in the payroll and personnel cycle are shown in Figure 20-1 . Copyright © 2017 Pearson Education, Ltd. 2 0- 4

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6. Copyright © 2017 Pearson Education, Ltd. 2 0- 6 OBJECTIVE 20-2 Describe the business functions and the related documents and records in the payroll and personnel cycle .

7. Business functions in the cycle and related documents and records The payroll and personnel cycle B egins with hiring employees E nds with paying them for the services they performed Includes payment to the government and other institutions for withheld and accrued payroll taxes and benefits. Human Resources: This department is an independent source for hiring qualified personnel and a source for verification of wage information, including deletions from payroll and changes in wages and deductions. Human resource records include date of employment, background checks, rates of pay, authorized deductions, evaluations, and terminations. Copyright © 2017 Pearson Education, Ltd. 2 0- 7

8. Business functions in the cycle and related documents and records ( cont .) Timekeeping and Payroll Preparation: These functions are important in the audit of payroll because they directly affect payroll expense. The following documents are involved in timekeeping and payroll: Time Record: Document indicating the time the hourly employee started and stopped working. Job Time Ticket: Form indicating which jobs employees worked on during a given time period. Payroll Transaction File: Computer-generated file including all payroll transactions processed during a given time period. Payroll Journal or Listing: Generated from the payroll transaction file showing payroll details for each employee. Payroll Master File: Record of every payroll check, including gross pay, deductions, and net pay for each employee. Copyright © 2017 Pearson Education, Ltd. 2 0- 8

9. Business functions in the cycle and related documents and records ( cont .) Payment of Payroll: The approval and distribution of payroll must be carefully controlled to prevent theft. To increase control, payroll disbursements are usually processed separately from other disbursements. Payment of payroll may be made by check, but more often are deposited directly into employees’ bank accounts. Payroll Bank Account Reconciliation: An imprest payroll account is a separate payroll account in which a small balance is maintained and the exact amount of payroll is transferred immediately before distribution of payroll. Preparation of Payroll Tax Returns and Payment of Taxes: Federal and state laws require timely preparation and payment of payroll taxes. Copyright © 2017 Pearson Education, Ltd. 2 0- 9

10. Copyright © 2017 Pearson Education, Ltd. 2 0- 10 OBJECTIVE 20-3 Understand internal control and design and perform tests of controls and substantive tests of transactions for the payroll and personnel cycle .

11. Methodology for designing tests of controls and substantive tests of transactions The methodology for designing tests of controls and substantive tests of transactions is the same as for the sales and collection cycle: Understand internal control Assess planned control risk Determine the extent of testing of controls Design tests of controls and substantive tests of transactions to meet transaction-related audit objectives Types of audit tests for the payroll and personnel cycle are shown in Figure 20-2 . Copyright © 2017 Pearson Education, Ltd. 2 0- 11

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13. Methodology for designing tests of controls and substantive tests of transactions (cont.) Understand Internal Control and Assess Control Risk—Payroll and Personnel Cycle: Internal control for payroll is normally highly structured and well controlled. As a result, control risk is often assessed as low for this cycle. Key controls in the payroll and personnel cycle are summarized in Table 20-2 on page 668. Copyright © 2017 Pearson Education, Ltd. 2 0- 13

14. Business functions in the cycle and related documents and records ( cont .) Design Tests of Controls and Substantive Tests of Transactions—Payroll and Personnel Cycle: Tests of controls and substantive tests of transactions in this cycle are usually not extensive for these reasons: Employees are likely to complain to management if they are underpaid. All payroll transactions are typically uniform and uncomplicated. Payroll transactions are subject to audit by federal and state governments for income tax withholding, Social Security, and unemployment taxes. Copyright © 2017 Pearson Education, Ltd. 20- 14

15. Methodology for designing tests of controls and substantive tests of transactions (cont.) Key internal controls for payroll and personnel cycle for assessing control risk: Adequate Separation of Duties: Payroll function should be kept independent of the human resources department. Proper Authorization: Human resources should authorize additions and deletions to payroll. Adequate Documents and Records: What is adequate depends on the nature of the company’s payroll. Physical Control over Assets and Records: Access to unsigned payroll checks should be restricted, as should access to direct deposit information. Independent Checks on Performance: A member of management or other responsible employee should review payroll for obvious misstatements. Copyright © 2017 Pearson Education, Ltd. 2 0- 15

16. Methodology for designing tests of controls and substantive tests of transactions (cont.) Payroll Tax Forms and Payments: The auditor should review the preparation of at least one of each type of payroll tax form during the understanding of internal control phase of the audit. Timely Payment of Payroll Taxes and Other Withholdings: The auditor should also test whether the client has fulfilled its legal obligation in submitting payments for all withholdings on a timely basis. Inventory and Fraudulent Payroll Considerations: If payroll affects the valuation of inventory, the auditor often extends payroll audit procedures. This is common for manufacturing and construction companies. Copyright © 2017 Pearson Education, Ltd. 2 0- 16

17. Methodology for designing tests of controls and substantive tests of transactions (cont.) Inventory and Fraudulent Payroll Considerations ( cont ): Relationship Between Payroll and Inventory Valuation: When payroll is a significant portion of inventory, the improper classification of payroll can materially affect asset valuation for work in process and finished goods, or construction in process. Auditors should emphasize internal control over proper classification of payroll transactions. Fraudulent Payroll Considerations: Test for nonexistent e mployees Test for fraudulent hours Fraudulent expense reports Copyright © 2017 Pearson Education, Ltd. 2 0- 17

18. Copyright © 2017 Pearson Education, Ltd. 2 0- 18 OBJECTIVE 20-4 Design and perform substantive analytical procedures and tests of details of accounts in the payroll and personnel cycle .

19. Methodology for designing substantive analytical procedures and tests of details of balances The methodology for designing substantive analytical procedures and tests of details of balances is the same as for the sales and collection cycle: Identify Client Business Risks Affecting Payroll (Phase I) Set Performance Materiality and Assess Inherent Risk (Phase I) Assess Control Risk and Perform Related Tests (Phases I and II) Perform Substantive Analytical Procedures (Phase II) Substantive analytical procedures for the balance sheet and income statement accounts in the payroll and personnel cycle are illustrated in Table 20-3 . Copyright © 2017 Pearson Education, Ltd. 2 0- 19

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21. Methodology for designing substantive analytical procedures and tests of details of balances (cont.) Design and Perform Tests of Details of Balances for Liability and Expense Accounts (Phase II): T he audit of liability accounts associated with payroll, often termed accrued payroll expenses , is ordinarily straightforward if internal controls are operating effectively. Two major balance-related audit objectives in testing payroll liabilities: 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). Copyright © 2017 Pearson Education, Ltd. 2 0- 21

22. Methodology for designing substantive analytical procedures and tests of details of balances (cont.) Design and Perform Tests of Details of Balances for Liability and Expense Accounts (Phase II) (cont.): The major liability accounts in the payroll and personnel cycle: Amounts Withheld from Employees’ Pay Accrued Salaries and Wages Accrued Commissions Accrued Bonuses Accrued Vacation Pay, Sick Pay, or Other Benefits Accrued Payroll Taxes Copyright © 2017 Pearson Education, Ltd. 2 0- 22

23. Methodology for designing substantive analytical procedures and tests of details of balances (cont.) Design and Perform Tests of Details of Balances for Liability and Expense Accounts (Phase II) (cont.): The major expense accounts in the payroll and personnel cycle: Officers’ Compensation Commissions Payroll Tax Expense Total Payroll Contract Labor Presentation and Disclosure Objectives: Usually not extensive, though some complex transactions, such as stock options and executive officer compensation plans, may require footnote disclosure. Copyright © 2017 Pearson Education, Ltd. 2 0- 23