Internal Control and Accounting for Cash

Chapter Six

Copyright © 2011 by The McGraw-Hill Companies, Inc. All rights reserved.McGraw-Hill/Irwin

6-2

Key Features of Internal Control

1.1. Separation of DutiesSeparation of Duties2.2. Quality of EmployeesQuality of Employees3.3. Bonded EmployeesBonded Employees4.4. Required AbsencesRequired Absences5.5. Procedures ManualProcedures Manual6.6. Authority and ResponsibilityAuthority and Responsibility7.7. Prenumbered DocumentsPrenumbered Documents8.8. Physical ControlPhysical Control9.9. Performance EvaluationsPerformance Evaluations

6-3

Accounting for Cash

ControllingCash

ControllingCash

Cash receiptsCash receipts should be recorded should be recorded immediately upon immediately upon

receipt and receipt and deposited intact deposited intact

daily.daily.

Cash receiptsCash receipts should be recorded should be recorded immediately upon immediately upon

receipt and receipt and deposited intact deposited intact

daily.daily.

Cash paymentsCash payments should be made by should be made by

prenumbered prenumbered check.check.

Cash paymentsCash payments should be made by should be made by

prenumbered prenumbered check.check.

Up to date Up to date signature cardsignature card

should be should be maintained.maintained.

Up to date Up to date signature cardsignature card

should be should be maintained.maintained.

A A deposit ticketdeposit ticket should be used should be used for all deposits.for all deposits.

A A deposit ticketdeposit ticket should be used should be used for all deposits.for all deposits.

A monthly A monthly bank bank reconciliation reconciliation

should be should be prepared by an prepared by an

independent independent party.party.

A monthly A monthly bank bank reconciliation reconciliation

should be should be prepared by an prepared by an

independent independent party.party.

6-4

Reconciling the Bank Statement

Unadjusted bank balance

Add + Deposits in transit

Deduct - Outstanding checks

Equals = True cash balance

Adjustment to the Bank Balance

The bank reconciliation reports on the The bank reconciliation reports on the differences between the balance on the bank differences between the balance on the bank

statement and the balance in the general statement and the balance in the general ledger cash account. The reconciliation results ledger cash account. The reconciliation results

in the in the true cash balancetrue cash balance that will appear on that will appear on the balance sheet.the balance sheet.

The bank reconciliation reports on the The bank reconciliation reports on the differences between the balance on the bank differences between the balance on the bank

statement and the balance in the general statement and the balance in the general ledger cash account. The reconciliation results ledger cash account. The reconciliation results

in the in the true cash balancetrue cash balance that will appear on that will appear on the balance sheet.the balance sheet.

Unadjusted book balance

Add + Accounts receivable collections

Add + Interest earned

Deduct - Bank service charges

Deduct - Non-sufficient funds (NSF) check

Equals = True cash balance

Adjustments to the Book Balance

6-5

Reconciling the Bank Statement

If an error is found on the bank If an error is found on the bank statement, an adjustment for it is made statement, an adjustment for it is made to the unadjusted bank balance to to the unadjusted bank balance to determine the true cash balance. An determine the true cash balance. An error made on our books requires an error made on our books requires an adjusting journal entry to correct.adjusting journal entry to correct.

6-6

Bank Reconciliation

Green Shades Resorts, Inc. is preparing the bank reconciliation for the month of September.

1. The Sept 30th balance on the bank statement is $3,516.45, and the Cash general ledger balance on this date is $3,361.22 .

2. There was a deposit in transit in the amount of $724.11.

3. The bank erroneously deducted a $25 check drawn on the books of Green Valley Resorts from our account.

4. At September 30th three checks are outstanding. Check 639 dated 9/18 for $13.75; Check 646 dated 9/20 for $29.00; and Check 672 dated 9/27 for $192.50 .

More InformationMore InformationMore InformationMore Information

6-7

Bank Reconciliation

5. During the month of September the bank collected an account receivable for us in the amount of $940.00 .

6. A check actually written for $36.45 for supplies was erroneously recorded in our records by the bookkeeper as $63.45.

7. The bank assessed a service charge of $8.40 for September.

8. We deposited a NSF check in the amount of $289.51 .

Let’s prepare the bank reconciliationLet’s prepare the bank reconciliationLet’s prepare the bank reconciliationLet’s prepare the bank reconciliation

6-8

Bank Reconciliation

Unadjusted Bank Balance, September 30 3,516.45$ Add: Deposits in transit 724.11 Bank error: Check drawn on GVRI charged to GSRI 25.00 Less: Outstanding checks Check No. 639 - September 18 13.75 Check No. 646 - September 20 29.00 Check No. 672 - September 27 192.50 (235.25) True Cash balance, September 30 4,030.31$

Unadjusted Book Balance, September 30 3,361.22$ Add: Receivable collected by bank 940.00 Error: Check 633 recorded as 63.45 not 36.45 27.00 Less: Bank service charge (8.40) NSF Check (289.51) True Cash balance, September 30 4,030.31$

Green Shades Resorts, Inc.Bank Reconciliation Statement

September 30, 2011

6-9

Adjusting the Books

Every reconciling item that appears on the unadjusted book balance section requires a

journal entry to adjust the general ledger cash balance to the true cash balance.

Account Title Debit CreditCash 967.00 Accounts Receivable 940.00 Supplies Expense 27.00

Bank service charge expense 8.40 Accounts receivable 289.51 Cash 297.91

6-10

Cash Short and Over

When using a cash register, employees sometimes make mistakes in collecting cash or making change for customers. If the cash register does not reconcile by a

small amount at the end of the day, we use an account called cash short and over to

force a balance.Assume a cashAssume a cash

register was to haveregister was to havea balance of $500,a balance of $500,but contained onlybut contained only$499 at the end of$499 at the end of

the day.the day.

Assume a cashAssume a cashregister was to haveregister was to havea balance of $500,a balance of $500,but contained onlybut contained only$499 at the end of$499 at the end of

the day.the day.

Account Title Debit CreditCash 499.00 Cash short and over 1.00 Sales 500.00

6-11

Using Petty Cash Funds

A petty cash fund is used to make small A petty cash fund is used to make small expenditures that cannot wait for the formal expenditures that cannot wait for the formal check- writing process. The fund is operated check- writing process. The fund is operated on an imprest basis. This means that when on an imprest basis. This means that when the fund gets low on cash it is replenished. the fund gets low on cash it is replenished.

The petty cashier is always responsible for the The petty cashier is always responsible for the cash in the fund. This is an excellent internal cash in the fund. This is an excellent internal

control.control.

A petty cash fund is used to make small A petty cash fund is used to make small expenditures that cannot wait for the formal expenditures that cannot wait for the formal check- writing process. The fund is operated check- writing process. The fund is operated on an imprest basis. This means that when on an imprest basis. This means that when the fund gets low on cash it is replenished. the fund gets low on cash it is replenished.

The petty cashier is always responsible for the The petty cashier is always responsible for the cash in the fund. This is an excellent internal cash in the fund. This is an excellent internal

control.control.

6-12

Using Petty Cash Funds

Record expenses paid from the petty cash Record expenses paid from the petty cash fund.fund.

Account Title Debit CreditMisc. Expense 216.00 Cash 216.00

Treasurer Treasurer prepares a prepares a

$216.00 check $216.00 check payable to the payable to the petty cashier.petty cashier.Petty cashier takes Petty cashier takes

the check to the the check to the bank and gets bank and gets

$216.00 cash for $216.00 cash for the fund.the fund.

The fund is now returned to its $300 The fund is now returned to its $300 balance.balance.

6-13

The Financial Analyst

How can a financial analyst

know that a company really did

follow GAAP? Certified Public

Accountants

6-14

Materiality and Financial Audits

Auditors do not guarantee that financial statements are absolutely

correct—only that they are materially correct.

Material ItemAn error, or other

reporting problem, that would influence the

decision of an average prudent investor.

6-15

Types of Audit Opinions

Unqualified Adverse

Qualified Disclaimer