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Questions and Answers
What key audit objectives should auditors focus on when testing payroll liabilities?
What key audit objectives should auditors focus on when testing payroll liabilities?
Auditors should focus on the accuracy of accruals stated in the trial balance and the proper period cutoff for transactions.
How can IT integration in accounting systems improve internal controls?
How can IT integration in accounting systems improve internal controls?
IT integration can replace manual controls with automated checks and balances, reducing human errors and improving the processing of complex transactions.
What is the primary concern related to the accuracy objective in payroll audits?
What is the primary concern related to the accuracy objective in payroll audits?
The primary concern is to ensure that payroll accruals are not understated or omitted.
Identify a benefit of IT in improving the quality of information available for management.
Identify a benefit of IT in improving the quality of information available for management.
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What risk do IT systems pose to organizations during audits?
What risk do IT systems pose to organizations during audits?
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What two major balance-related audit objectives must be assessed in the payroll cycle?
What two major balance-related audit objectives must be assessed in the payroll cycle?
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How does the complexity of IT activities contribute to improved management information?
How does the complexity of IT activities contribute to improved management information?
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What are specific risks associated with IT systems in auditing?
What are specific risks associated with IT systems in auditing?
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What role does IT play in the detection of payroll fraud?
What role does IT play in the detection of payroll fraud?
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How does performance materiality impact the audit process?
How does performance materiality impact the audit process?
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What are analytical procedures, and how are they applied in payroll auditing?
What are analytical procedures, and how are they applied in payroll auditing?
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What is the impact of IT on internal controls within an organization?
What is the impact of IT on internal controls within an organization?
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What risks associated with IT could affect audit outcomes?
What risks associated with IT could affect audit outcomes?
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In what way does reduced human involvement in IT systems impact error detection?
In what way does reduced human involvement in IT systems impact error detection?
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How can organizations mitigate the risks associated with unauthorized access in IT systems?
How can organizations mitigate the risks associated with unauthorized access in IT systems?
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Why is it important to maintain a visible audit trail in IT-based accounting systems?
Why is it important to maintain a visible audit trail in IT-based accounting systems?
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What is the relationship between IT systems and the separation of duties in organizations?
What is the relationship between IT systems and the separation of duties in organizations?
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Why is it crucial for organizations to have qualified IT personnel?
Why is it crucial for organizations to have qualified IT personnel?
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Describe the differences between general controls and application controls in IT systems.
Describe the differences between general controls and application controls in IT systems.
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How do auditing standards describe the role of application controls in the context of payroll fraud detection?
How do auditing standards describe the role of application controls in the context of payroll fraud detection?
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What risks are associated with the reliance on IT in auditing processes?
What risks are associated with the reliance on IT in auditing processes?
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What is performance materiality, and how does it relate to IT controls in audits?
What is performance materiality, and how does it relate to IT controls in audits?
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Explain how analytical procedures can be used in payroll auditing.
Explain how analytical procedures can be used in payroll auditing.
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What measures can organizations implement to enhance IT controls and prevent risks?
What measures can organizations implement to enhance IT controls and prevent risks?
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Study Notes
Audit Practice and Procedures II
- Course title: Auditing Payroll and Personnel Cycle and IT Audit
- Week number: Seven
Recap of Last Class
- Topic: Audit Sampling
- Subtopics: Sample Risk, Statistical and Non-Statistical Sampling, Probabilistic versus Non-Probabilistic Sampling, Types of Sampling, Sample Decisions
The Payroll and Personnel Cycle
- Key Difference: Payroll has only one class of transactions, while most other cycles involve more than one class.
- Significance: Payroll transactions are usually far more significant than related balance sheet accounts
- Internal Controls: Effective internal controls are present in most companies, including small ones. Strict federal and state regulations encourage good controls for withholding and paying payroll taxes. Also, employee morale issues may arise if pay is not handled properly.
- Audit Objective: Evaluate if account balances affected by the cycle are fairly stated according to applicable accounting standards.
Accounts in the Payroll and Personnel Cycle
- Key Accounts: Accrued wages, salaries, bonuses and commissions, earned wages/salaries, withheld income taxes, other payroll deductions, accrued payroll tax expense, and payroll tax expense.
- Cash Flow: Accounting information flows through various accounts in the cycle
- Accrual Accounting: Accrued wages/salaries are typically used only at the end of the accounting period. Expenses are recorded at the time employees are paid, not when labor costs are incurred
Classes of Transactions, Accounts, Business Functions, and Related Documents and Records for the Payroll and Personnel Cycle
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Payroll Class
- Payroll cash
- Payroll expense accounts
- Payroll withholding accounts
- Payroll accrual accounts
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Business Functions
- Human resources and employment
- Timekeeping and payroll preparation
- Payment of payroll
- Preparation of payroll tax returns
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Documents and Records
- Human resource records
- Deduction authorization form
- Rate authorization form
- Time record
- Job time ticket
- Payroll transaction file
- Payroll journal or listing
- Payroll master file
- Payroll direct deposit or check
- Payroll bank account reconciliation
- W-2 form
- Payroll tax returns
Business Function - Human Resources
- Role of the HR Department: Provides an independent source for interviewing and hiring qualified personnel.
- Records of Wage Information: Maintains records for wage information, including additions and deletions from the payroll and changes in wages and deductions for internal verification of information.
Business Function - Timekeeping and Payroll Preparation
- Timekeeping & Payroll Preparation
- four activities are required in preparation of Payroll expenses: Prepare time records by employees, Summarize and calculate gross pay, deductions and net pay, Prepare payroll payroll records, and Payment of Payroll.
Business Function - Payment of Payroll
- Payroll Disbursements: Payroll disbursements are generally are processed separately from other disbursements to help prevent theft.
- Payment Method: Payments are typically issued in exchange for services performed and deposited directly into employees' individual bank accounts. The amount paid is the gross pay less taxes and other deductions withheld
Business Function - Preparation of Payroll Tax Returns and Payment of Taxes
- Payroll Tax Returns: Federal and state payroll laws require timely preparation and submission of payroll tax returns.
- Computerized Systems: Computerized payroll systems often use information on the payroll transaction and master files for preparing tax returns.
- Verification Required: A competent individual must independently verify the output of computerized systems to prevent misstatements and penalties.
Inventory and Fraudulent Payroll Considerations
- Extended Audit Procedures: Auditors often extend their payroll audit procedures if payroll significantly affects the valuation of inventory, or when they're concerned about fraudulent payroll transactions (e.g., nonexistent employees or fraudulent hours)
Analytical Procedures for the Payroll and Personnel Cycle
- Important aspects: Compare payroll expense account balances with previous years (adjusted for pay rate increases and volume increases), compare direct labor as a percentage of sales with previous years, compare commission expense as a percentage of sales with previous years, compare payroll tax expense as a percentage of salaries and wages with previous years, compare accrued payroll tax accounts with previous years
Methodology for Designing Tests of Details of Balances
- First two phases of audit: involve assessing control risk and performing tests of controls and substantive tests of transactions.
- Third phase: uses the methodology of designing tests of the balances of financial statements.
Methodology for Designing Tests of Controls and Substantive Tests of Transactions
- Three Key Reasons: Employees are likely to complain to management if underpaid., All payroll transactions are typically uniform and uncomplicated., Payroll transactions are subject to audit by federal and state governments.
Understand Internal Control - Payroll and Personnel Cycle
- Company-Specific Controls: Audit control-risk, and material weaknesses must be identified for every organization
- Financial Reporting: When testing controls for financial reporting effectiveness, sufficient understanding must be obtained
Key Controls for the Payroll and Personnel Cycle
- Adequate Separation of Duties: Payroll function should be independent from HR; payroll processing separate from issuance of disbursements.
- Proper Authorization: Only authorized personnel should add/delete employees or change pay rates/deductions. Employee hours (especially overtime) must be authorized by supervisors.
Key controls for the payroll and personnel cycle
- Adequate Documents and Records: Appropriate records are necessary (e.g., time records for hourly workers, prenumbered documents for time records).
- Physical Control Over Assets and Records: Access to unsigned checks and systems for authorizing payments must be restricted. Unclaimed checks should be returned for redeposit.
- Independent Checks on Performance: Payroll computations should be independently verified. Management or other responsible personnel should review payroll output.
Methodology for Designing Tests of Details of Balances
- Transaction-related audit objectives: Correct accruals and correct cutoff
Chapter 12 - The Impact of Information Technology on the Audit Process
- Overview: IT has significant impact on accounting systems, replacing manual controls with computer controls.
How Information Technologies Improve Internal Control
- Computer Replacements: Computer controls replace manual controls. IT helps handle complex and large transactions effectively and consistently.
- Higher Quality Information: IT provides higher quality and more detailed information to management, leading to better management decisions.
Assessing Risks of Information Technology
- IT Risks: Potential for processing errors, system failures, and unauthorized access affecting reliability of information. These risks increase likelihood of material misstatements.
Risks to Hardware and Data
- Reliance on functions: Hardware and software may not function or function improperly
- Systematic errors: When organizations automate procedures, computer error risks increase rather than decrease
- Unauthorized access: Access to data and files should be restricted
Reduced Audit Trail
- Visibility of audit trail: A loss in visible audit trail can make tracking transactions harder,
- Reduced human involvement: Employees dealing with initial processing of transactions may not see the final results.
- Lack of traditional authorization: Systems are often designed for automatic processing, potentially reducing required authorizations
Need for IT Experience and Separation of IT Duties
- IT Experience: Qualified personnel are needed to install, maintain, and use IT systems, and companies may outsource IT administration to specialize firms.
- Segregation of IT Duties: Traditionally separate duties of authorization, record-keeping, and custody should be adhered to in IT environments.
Internal Controls Specific to Information Technology
- General Controls: Apply to all aspects of the IT function, such as IT administration, separation of IT duties, systems development, physical and online security, backup/contingency planning, and hardware controls.
- Application Controls: Operate at the business process level and apply to processing individual transactions such as Sales or cash receipts.
- Categories of IT Controls: Input Processing controls and Output controls
Input Controls
- Authorization : Management's approval of transactions.
- Preparation of input source documents
- Competent Personnel : Required personnel for input operations
Processing Controls
- Prevention and detection of errors during transaction processing.
Output Controls
- Reconcile computer-produced to manual control totals
- Compare units processed to submitted units
- Compare transaction output to input source documents
- Verify processing time
Auditing in Less Complex IT Environments
- Simpler IT environments: Audit around the computer is often used in less complex environments with no dedicated IT staff.
- Desktop/Networked Servers: Relying on desktop or networked servers, responsibility for purchasing or maintaining equipment may fall to a user department
Examples of Auditing Around and Through the Computer
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Auditing Around the Computer: Testing the controls that operate when transactions are not processed electronically (e.g., credit approval for sales on account)
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Auditing Through the Computer: Using client's software and test data to follow the data flows, or using generalized audit software to conduct various tasks like verifying footing or other tasks.
Auditing in More Complex IT Environments
- Three Categories of IT Auditing: Test Data Approach (using test data through the client system), Parallel simulation (using client's system, but simulating the operations to derive the evidence). Embedded audit module approach (embedding test procedures within the client's application)
Issues for Database Management Systems
- Centralized data: Controls improve with data centralization in a DBMS, eliminating duplicate data.
- Risks of Database System: Multiple users accessing and updating data files, with risks of unauthorized access, Inaccurate, and incomplete files.
- Data controls: Centralized data requires more elaborate data and access controls. Backup and restore are needed.
- Auditor's Considerations: Auditor's understanding of client planning and systems is required.
- Operating Effectiveness: Audit concern is the assessment of control functionality in database systems.
Issues for E-Commerce Systems
- Security Risks: Electronic transactions have specific security needs. Encryption techniques, firewalls are employed to prevent risks of interceptions and sabotage.
Class Discussion
- Topic: Outsourced IT Services
- Purpose: Discuss issues related to outsourcing IT services (e.g., impact on internal controls, responsibilities of different parties).
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Description
This quiz explores the essential audit objectives focused on payroll liabilities, including the role of IT systems in enhancing internal controls and improving audit outcomes. It addresses key risks associated with IT in auditing and how technology can aid in payroll fraud detection. Test your knowledge on these vital aspects of payroll auditing and information management.
