Accounting Principles

Second Canadian Edition

Weygandt Kieso Kimmel Trenholm

Carole Bowman, Sheridan College

Prepared by:

CHAPTER

8
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

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 companys 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 per books

Assistant Cashier B

Maintains custody of cash on hand

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

Prenumbered 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.

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 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 cheque for $87. The fund contains $13 cash and petty cash receipts for postage, $44, freight out, $38, and miscellaneous expenses, $5.

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 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 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: 1. cheques paid and other debits charged against the account 2. deposits and other credits made to the account 3. account balance after each days transactions

ACCOUNT STATEMENT

W. A. LEE COMPANY 500 QUEEN STREET FREDERICTON, NB, E3B 5C2

Statement Date/Credit Line Closing Date April 30, 2003 457923 ACCOUNT NUMBER

Balance Last Statement 13,256.90

Deposits and Credits No. 20 Total Amount 34,805.10

Cheques and Debits Total Amount 26 32,154.55

Balance This Statement 15,907.45

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
Symbols: CM DM Credit Memo Debit Memo EC INT

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
Error Correction Interest Earned NSF SC

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
Reconcile Your Account Promptly

Not Sufficient Funds Service Charge

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 written (issued) and recorded by company that have not been presented to/paid by bank

Outstanding cheques
Cheques

Adjusted balance
Reconciled

or correct cash balance

Terms

Debit memoranda

Charges against depositors account (e.g. service charges, RC (returned)/NSF (insufficient funds) cheques) Amounts that increase depositors account (e.g., interest earned)

Credit memoranda

Bank Reconciliation Procedures $ Per Bank Statement -outstanding cheques +deposits in transit +/- bank errors = correct cash amount

Illustration 8-11

$ 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 Do NOT journalize any entries on bank side

Bank

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 managements 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 information contained herein.