Audit of Cash Balances Chapter 23 2010 Prentice Hall

Audit of Cash Balances Chapter 23 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 1

Learning Objective 1 Show the relationship of cash in the bank to the various transaction cycles. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 2

Relationships of Cash in the Bank and Transaction Cycles Capital Acquisition and Repayment Cycle: Capital Stock – Common Redemption Issue of of stock stock Dividends Payable Payment of dividends Paid-in Capital in Excess of Par – Common Redemption Issue of of stock stock 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley Cash in Bank 23 - 3

Relationships of Cash in the Bank and Transaction Cycles Acquisition and Payment Cycle: Accounts Payable Payment Cash in Bank 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 4

Relationships of Cash in the Bank and Transaction Cycles Sales and Collection Cycle: Accounts Receivable Cash receipts Cash Discounts Taken Gross Sales Cash sales Cash in Bank 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 5

Relationships of Cash in the Bank and Transaction Cycles Payroll and Personnel Cycle: Accrued Wages, Salaries, Bonuses, and Commissions Payment Accrued Payroll Tax Expense Payment Withheld Income Taxes and Other Deductions Payment 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley Cash in Bank 23 - 6

Cash in the Bank and Transaction Cycles Misstatements which may not be discovered as a part of the audit of the bank reconciliation: Failure to bill a customer An embezzlement of cash by interception of cash receipts from customers before they are recorded, with the account charged off as a bad debt 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 7

Cash in the Bank and Transaction Cycles Duplicate payment of a vendor’s invoice Improper payments of officers’ personal expenditures Payment for raw materials that were not received Payment to an employee for more hours worked Payment of interest to a related party for an amount in excess of the going rate 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 8

Cash in the Bank and Transaction Cycles Misstatements which are normally discovered as a part of the tests of a bank reconciliation: Failure to include a check that has not cleared the bank, even though it has been recorded in the cash disbursements journal Cash received by the client subsequent to the balance sheet date but recorded as cash receipts in the current year 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 9

Cash in the Bank and Transaction Cycles Deposits recorded as cash receipts near the end of the year, deposited in the bank in the same month, and included in the bank reconciliation as a deposit in transit Payments on notes payable debited directly to the bank balance by the bank but not entered in the client’s records 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 10

Learning Objective 2 Identify the major types of cash accounts maintained by business entities. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 11

Types of Cash Accounts General cash account Imprest accounts Branch bank account Imprest petty cash fund Cash equivalents 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 12

Relationship of General Cash to Other Cash Accounts Branch Bank Account Imprest Payroll Account General Cash Cash Equivalents 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley Imprest Petty Cash Fund 23 - 13

Learning Objective 3 Design and perform audit tests of the general cash account. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 14

Methodology for Designing Tests of Balances for Cash in the Bank Identify client business risks affecting cash in bank Phase I Set tolerable misstatement and assess inherent Phase I risk for cash in bank Assess control risk for several cycles Phase I 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 15

Methodology for Designing Tests of Balances for Cash in the Bank Design and perform tests of controls and substantive tests of Phase II transactions for several cycles 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 16

Methodology for Designing Tests of Balances for Cash in the Bank Design and perform analytical procedures Phase III for cash in bank Design tests of details of cash in bank to satisfy balance-related audit objectives Audit procedures Sample size Items to select Phase III Timing 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 17

Audit Schedule for a Bank Reconciliation Schedule A-2 Date Prepared by Client DED 1/1 Approved by SW 1/18/10 Account 101 – General account, First National Bank Clawson Industries Bank Reconciliation 12/31/09 Balance per bank Add: Deposits in transit Deduct: Outstanding checks Other reconciling items: Bank error Balance per bank, adjusted 109,713 21,117 – 87,462 – 15,200 28,168 Balance per books before adjustments Adjustments: Unrecorded bank service charge 216 NSF 4,200 Balance per books, adjusted 32,584 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley – 4,416 28,168 23 - 18

Balance-related Audit Objectives Detail tie-in: Cash in the bank foots correctly and agrees with the general ledger. Existence: Cash in the bank as stated on the reconciliation exists. Completeness: Existing cash in the bank is recorded. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 19

Balance-related Audit Objectives Accuracy : Cash in the bank as stated on the reconciliation is accurate. Cutoff: Cash receipts and cash disbursements transactions are recorded in the proper period. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 20

Procedures Receipt of a bank confirmation Receipt of a cutoff bank statement Tests of the bank reconciliation 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 21

Extended Tests of the Bank Reconciliation When the auditor believes that the year-end bank reconciliation may be intentionally misstated, it is appropriate to perform extended tests of the year-end bank reconciliation. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 22

Types of Audit Tests Used for General Cash in Bank Cash in Bank Beginning balance Cash receipts Cash disbursements Audited by TOC-T, STOT, and AP Audited by TOC-T, STOT, and AP Ending balance Audited by TOC-B, AP, and TDB TOC-T TOC-B STOT AP TDB Sufficient appropriate evidence 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 23

Learning Objective 4 Recognize when to extend audit tests of the general cash account to test further for material fraud. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 24

Fraud Oriented Procedures The auditor must extend the procedures in the audit of year-end cash to determine the possibility of a material fraud. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 25

Extended Tests of the Bank Reconciliation When the auditor believes that the year-end bank reconciliation may be intentionally misstated, it is appropriate to perform extended tests of the year-end bank reconciliation. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 26

Proof of Cash All recorded cash receipts were deposited All deposits in the bank were recorded in the accounting records All recorded cash disbursements were paid by the bank All amounts that were paid by the bank were recorded 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 27

Proof of Cash Includes the following reconciliation tasks: 1. The balance on the bank statement with the general ledger balance at the beginning of the proof-of-cash period 2. Cash receipts deposited per the bank with the cash receipts journal for a given period 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 28

Proof of Cash Includes the following reconciliation tasks: 3. Cancelled checks clearing the bank with those recorded in the cash disbursements journal for a given period 4. The balance on the bank statement with the general ledger balance at the end of the proof-of-cash period 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 29

Interbank Transfers The accuracy of the information on the interbank transfer schedule should be verified. The interbank transfers must be recorded in both the receiving and disbursing banks. The date of the recording of the disbursements and receipts for each transfer must be in the same fiscal year. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 30

Interbank Transfers Disbursements on the interbank transfer schedule should be correctly included in or excluded from year-end bank reconciliation as outstanding checks. Receipts on the interbank transfer schedule should be correctly included in or excluded from year-end bank reconciliations as deposits in transit. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 31

Learning Objective 5 Design and perform audit tests of the imprest payroll bank account. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 32

Audit of the Imprest Payroll Bank Account Typically, the only reconciling items are outstanding checks. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 33

Learning Objective 6 Design and perform audit tests of imprest petty cash. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 34

Petty Cash Petty cash is a unique account because it is often immaterial in amount, yet it is verified on many audits. The account is verified primarily because of the potential for embezzlement and the client’s expectation of an audit review even when the amount is immaterial. 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 35

Audit of Imprest Petty Cash Internal controls over petty cash Audit tests for petty cash 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 36

End of Chapter 23 2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley 23 - 37