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CHAPTER REVIEW

Internal Control

1. (S.O. 1) Internal control consists of the plan of organization and all the relatedmethods and measures adopted within a business to (a) safeguard its assets a nd

(b) enhance the accuracy and reliability of its accounting records.

2. (S.O. 2) An essential characteristic of internal control is the establishment of responsibility to specific employees. Control is most effective when only one personis responsible for a given task.

3. The rationale for segregation of duties is this: The work of one employee shou ldwithout a duplication of effort, provide a reliable basis for evaluating the work of another employee.

4. The responsibility for related transactions should be assigned to different individuals, and the responsibility for establishing the accountability for an asset should beseparate from the physical custody of that asset.

5. Documentation procedures provide evidence that transactions and events haveoccurred.

6. Physical, mechanical, and electronic controls relate primarily to the safeguarding oassets and include such measures as safes for the storage of cash prior to depos itbank vaults for the deposit of cash, safety deposit boxes for the storage of im portant business papers, fences around storage areas, and locked warehouses for inventories.

7. Mechanical and electronic controls include electronic burglar alarms, televisionmonitors, sensors on garments, cash registers, time clocks and built-in hardwarecontrols.

8. Most systems of internal control provide for independent internal verification. Thisprinciple involves the review, comparison, and reconciliation of data prepared byone or several employees.

9. In large companies, independent internal verification is often assigned to internaauditors. Internal auditors are employees of the company who evaluate the effectiveness of the company's system of internal control on a continuous basis.

10. Other control measures include bonding of employees who handle cash, ro ta tingemployees' duties, and requiring employees to take vacations.

Limitations of Internal Control

11. The concept of reasonable assurance rests on the premise that the costs of establishing control procedures should not exceed their expected benefits.

12. The human element is also an important factor in every system of internal control. Agood system can become ineffective through employee fatigue, carelessness, oindifference.

13. Collusion may result when two or more individuals work together to get aroundprescribed controls and may significantly impair the effectiveness of a system.

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Cash

14. Cash consists of coins, currency (paper money), checks, money orders, and mone yon hand or on deposit in a bank or similar depository. To safeguard cash and t oassure the accuracy of the accounting records for cash, effective internal cont ro lover cash is imperative.

Internal Control Over Cash Receipts

15. (S.O. 3) The application of internal control principles to cash receipts transactionsin-cludes: (1) only designated personnel should be authorized to handle or haveaccess to cash receipts; (2) different individuals should be assigned the duties o freceiving cash, recording cash receipt transactions, and having custody of cash; (3)documents should include remittance advices, cash register tapes, and depositslips; (4) cash should be stored in company safes and bank vaults, access to st or -age areas should be limited to authorized personnel, and cash registers should beused in executing over-the-counter receipts; (5) daily cash counts and daily com-parisons of total receipts should be made; and (6) all personnel who handle cashreceipts should be bonded and required to take vacations.

16. Control of over-the-counter receipts is centered on cash registers that are visible t ocustomers.

Internal Control Over Cash Disbursements

17. (S.O. 4) Generally, internal control over cash disbursements is more effective w henpay-ments are made by check rather than by cash, except for incidental amoun tsthat are paid out of petty cash.

18. The application of internal control principles to cash disbursements transactionsincludes: (1) only specified individuals should be authorized to sign checks; (2) di f-ferent departments or individuals should be assigned the duties of approving anitem for payment and paying it; (3) prenumbered checks should be used and each

check should be supported by an approved invoice or other document; (4) bl an kchecks should be stored in a safe and access should be restricted to author izedpersonnel, and a check wr iter machine should be used to imprint the amount on thecheck in indelible ink; (5) each check should be compared with the approved in-voice before it is issued; and (6) following payment, the approved invoice (or fo rm)should be stamped PAID.

Voucher Syst em

19. A voucher system is often used to enhance the internal control over cash dis-bursements. A voucher system is an extensive network of approvals by author izedindividuals acting independently to ensure that all disbursements by check areproper. A voucher system includes the use of authorization forms called vouchers

which are recorded by the accounting department in the voucher register.

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Electronic Funds Transfer

20. Electronic Funds Transfer (EFT) is a disbursement system that uses wire, telephone, telegraph or computer to send cash from one location to another.

Petty Cash Fund

21. (S.O. 5) A petty cash fund is a cash fund used to pay relatively small amounts.a. The operation of the fund, often called an imprest system, involves (1) estab

lishing the fund, (2) making payments from the fund, and (3) replenishing thefund.

b. Accounting entries are required when (1) the fund is established, (2) the fund isreplenished, and (3) the amount of the fund is changed.

Use of a Bank

22. (S.O. 6) The use of a bank minimizes the amount of currency that must be kept o nhand and therefore contributes significantly to good internal control over cash.

23. A check is a written order signed by the depositor directing the bank to pay a spec ified sum of money to a designated recipient. The three parties to a check are as fol

lows:a. The maker (or drawer) who issues the check.b. The bank (or payer) on which the check is drawn.c. The payee to whom the check is payable.

24. A bank statement shows (a) checks paid and other debits charged against the account, (b) deposits and other credits made to the account, and (c) the account ba lance after each day's transactions.

25. A bank debit memoranda is usually included with the bank statement to indicatecharges against the depositor's account such as a bank service charge, cost oprinting checks, issuing traveler's checks, and when a previously deposited customer's check "bounces" because of insufficient funds (NSF check).

26. A bank credit memoranda shows such items as the collection of a note receivablefor the depositor by the bank.

Reconciling the Bank Account

27. (S.O. 7) A reconciliation of a bank account is necessary because the balance p ebank and balance per books are seldom in agreement. The lack of agreement maybe the result of time lags and errors.

28. To obtain maximum benefit from a bank reconciliation, the reconciliation should beprepared by an employee who has no other responsibilities pertaining to cash.

29. In reconciling the bank statement, it is customary to reconcile the balance per bo oksand balance per bank to their adjusted cash balances. The reconciliation schedu leconsists of two sections. The steps in preparing a bank reconciliation are:

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a. Determine deposits in transit.b. Determine outstanding checks.c. Note any errors discovered.d. Trace bank memoranda to the records.

30. Each reconciling item used in determining the adjusted cash balance per booksshould be recorded by the depositor.

Reporting Cash

31. (S.O. 8) Cash on hand, cash in banks, and petty cash are often combined and re-ported simply as Cash. Because it is the most liquid asset, cash is listed first in thecurrent asset section of the balance sheet under the title "cash and cash equiva-lents." Cash equivalents are highly liquid investments, with maturities of 3 monthsor less when purchased, that can be converted into a specific amount of cash. Theyinclude money market funds, money market savings certificates, bank certificates o fdeposit, and U.S. Treasury bills and notes.