Topics: Tax, Income tax, Income tax in the United States Pages: 27 (5738 words) Published: May 2, 2010
Chapter 18

Audit of the Payroll and
Personnel Cycle

← Review Questions

18-1General ledger accounts that are likely to be affected by the payroll and personnel cycle in most audits include the following:

CashDirect labor
InventorySalary expense
Construction in progressCommission expense
Wages payablePayroll tax expense
Payroll taxes withheld
Accrued payroll taxes

18-2In companies where payroll is a significant portion of inventory, as in manufacturing and construction companies, the improper account classification of payroll can significantly affect asset valuation for accounts such as work in process, finished goods, and construction in process. For example, if the salaries of administrative personnel are incorrectly charged to indirect manufacturing overhead, the overhead charged to inventory on the balance sheet can be overstated. Similarly, if the indirect labor cost of individual employees is charged to specific jobs or processes, the valuation of inventory is affected if labor is improperly classified. When some jobs are billed on a cost plus basis, revenue and the valuation of inventory are both affected by improperly classifying labor to jobs.

18-3Five tests of controls that can be performed for the payroll and personnel cycle are:

1.Examine time card for indication of approval to ensure that payroll payments are properly authorized. The purpose of this test is to determine that recorded payroll payments are for work actually performed by existing employees (occurrence). 2.Account for a sequence of payroll checks to ensure existing payroll payments are recorded. The purpose of this test is to determine that existing payroll transactions are recorded (completeness). 3.Examine time cards to ensure that recorded payroll payments are for work actually performed by existing employees. The purpose of this test is the same as in item 1 above. 4.Compare postings to the chart of accounts to ensure that payroll transactions are properly classified. (Classification) 5.Observe when recording takes place to ensure that payroll transactions are recorded on a timely basis. (Timing) 18-4The percentage of total audit time in the cycle devoted to performing tests of controls and substantive tests of transactions is usually far greater in the payroll and personnel cycle than for the sales and collection cycle because there is relatively little independent third party evidence, such as confirmation, to verify the related payroll accounts. In contrast, the accounts related to the sales and collection cycle can usually be verified for the most part by confirmations from customers. In addition, in the sales and collection cycle, verification of the realizability of receivables and sales cutoff tests are important and time- consuming tasks.

18-5The auditor should be concerned with whether the human resources department is following the proper hiring and termination procedures. An obvious reason for this would be to ensure that there are adequate safeguards against hiring and retaining incompetent and untrustworthy people. The ramifications of hiring such people can range from simple inefficiency and waste to outright fraud or theft. More importantly, though, it is necessary for the auditor to assure himself or herself that the client is hiring and terminating according to operations standards and procedures. It is necessary to see if the internal controls are working as planned before they can be effectively evaluated. To say that the auditor doesn't care who is hired and who is fired is to suggest that he or she doesn't care if the internal controls work according to any standards. Failure to follow proper termination procedures could lead to fraudulent payments for work not performed.

18-6To trace a random sample of prenumbered time cards to the related payroll checks in the payroll register and compare the hours worked to...
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