©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Audit of the Payroll and Personnel Cycle Chapter 21

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Learning Objective 1 Identify the accounts and transactions in the payroll and personnel cycle.

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley The overall objective in the audit of the payroll and personnel cycle is to evaluate whether the account balances affected by the cycle are fairly stated in accordance with generally accepted accounting principles. Accounts in the Payroll and Personnel Cycle

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Accounts in the Payroll and Personnel Cycle Accrued Wages, Salaries, Bonuses, and Commissions PaymentBeginning balance Earned wages, salaries, etc. Ending balance Direct Labor Cash in Bank Payment for salaries Payment for payroll taxes Withheld Income Taxes and Other Deductions PaymentBeginning balance Payroll withholding Ending balance

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Accounts in the Payroll and Personnel Cycle In most systems the accrued wages and salaries account is used only at the end of an accounting period.

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Learning Objective 2 Describe the business functions and the related documents and records in the payroll and personnel cycle.

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Business Functions in the Cycle and Related Documents and Records The payroll and personnel cycle…. Begins Personnel Hiring Ends Payments

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Personnel and Employment  Personnel records  Deduction authorization form  Rate authorization form

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Timekeeping and Payroll Preparation Time Card Job Time Ticket Payroll Transaction File Payroll Journal Timekeeping and Payroll Preparation

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Payroll Master File A payroll master file is used for recording each payroll transaction for each employee and maintaining total employee wages paid for the year to date.

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Payment of Payroll  Payroll check  Payroll bank account reconciliation

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Preparation of Payroll Tax Returns and Payment of Taxes  W-2 Form  Payroll tax returns

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Learning Objective 3 Understand internal control and design and perform tests of controls and substantive tests of transactions for the payroll and personnel cycle.

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Methodology for Designing Controls and Substantive Tests Understand internal control – payroll and personnel Audit procedures Sample size Items to select Timing Assess planned control risk – payroll and personnel Determine extent of testing controls Design tests of controls and substantive tests of transactions for payroll and personnel to meet transaction-related audit objectives

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Understand Internal Control – Payroll and Personnel Cycle  Adequate separation of duties  Proper authorization  Adequate documents and records  Physical control over assets and records  Independent checks on performance

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Payroll Tax Forms and Payments  Preparation of payroll tax forms  Timely payment of the payroll taxes withheld and other withholdings

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Inventory and Fraudulent Payroll Considerations  Relationship between payroll and inventory valuation  Tests for nonexistent employees

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Identify client business risks affecting payroll liability accounts Methodology for Designing Tests of Balances for Payroll Liabilities Set tolerable misstatement and assess inherent risk for payroll liability accounts Assess control risk for the payroll and personnel cycle Phase I

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Methodology for Designing Tests of Balances for Payroll Liabilities Design and perform tests of controls and substantive tests of transactions for the payroll and personnel cycle Phase II

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Timing Items to select Sample size Audit procedures Methodology for Designing Tests of Balances for Payroll Liabilities Design and perform analytical procedures for the payroll and personnel cycle Design tests of details of payroll accounts balances to satisfy balance-related audit objectives Phase III

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Learning Objective 4 Design and perform analytical procedures for the payroll and personnel cycle.

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Analytical Procedures for the Payroll and Personnel Cycle Compare direct labor as a percentage of sales with previous years Misstatement of direct labor and inventory Analytical procedure Compare payroll expense account balances with previous years Misstatement of payroll expense accounts Possible misstatement

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Analytical Procedures for the Payroll and Personnel Cycle Analytical procedure Compare commission expense as a % of sales with previous years Misstatement of commission expense and commission liability Compare payroll tax expense as a % of salaries and wages with prior year Misstatement of payroll tax expense and payroll tax liability Possible misstatement Compare accrued payroll tax accounts with prior year Misstatement of accrued payroll taxes and expense

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Learning Objective 5 Design and perform tests of details of balances for accounts in the payroll and personnel cycle.

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Two Major Balance-related Audit Objectives 1.Accruals in the trial balance are stated at the correct amounts (accuracy). 2.Transactions in the payroll and personnel cycle are recorded in the proper period (cutoff).

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Tests of Details of Balances for Liability Accounts  Amounts withheld from employees’ pay  Accrued salaries and wages  Accrued commissions  Accrued bonuses  Accrued vacation pay, sick pay, or other benefits  Accrued payroll taxes

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Tests of Details of Balances for Expense Accounts  Officers’ compensation  Commissions  Payroll tax expense  Total payroll  Contract labor

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Presentation and Disclosure Objectives  Required disclosures are not extensive  Some complex transactions require footnote disclosure

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley Types of Audit Tests for the Payroll and Personnel Cycle TOC + STOT + AP + TDB = Sufficient appropriate evidence per GAAS Cash in Bank Payroll Liabilities Direct Labor and Payroll Expenses PaymentsExpenses Audited by TOC, STOT, and AP Ending balance Ending balance Audited by AP and TDB Audited by TOC, STOT, and AP

©2012 Pearson Education, Auditing 14/e, Arens/Elder/Beasley End of Chapter 21