1. Internal Control and Accounting for Cash
Chapter 6
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Learning Objectives
Define internal control and identify and describe its objectives.
Define cash as it is used in accounting.
Describe internal control procedures related to cash.
Describe the purpose of and need for a petty cash fund.
Learning objectives appear in the text margins at the start of the section where the corresponding content is taught. Also, the chapter summary is organized by learning objective to aid student mastery of these objectives.
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Learning Objectives
Record the establishment of a petty cash fund.
Record the replenishment of a petty cash fund.
Record the establishment of a change fund.
Learning objectives appear in the text margins at the start of the section where the corresponding content is taught. Also, the chapter summary is organized by learning objective to aid student mastery of these objectives.
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Learning Objectives
Record cash shortages and overages.
Prepare a bank reconciliation.
Learning objectives appear in the text margins at the start of the section where the corresponding content is taught. Also, the chapter summary is organized by learning objective to aid student mastery of these objectives.
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5. The Sarbanes-Oxley Act of 2002
Accounting scandals at Enron and WorldCom shook the public’s confidence in the reliability of financial statements.
Congress responded by passing the Sarbanes-Oxley Act of 2002.
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6. The Sarbanes-Oxley Act of 2002
The purpose of this act, abbreviated as SOX, was to restore public confidence and trust in the financial statements of companies.
SOX created a new body, the Public Company Accounting Oversight Board, to oversee the work of auditors of public companies.
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SOX Provisions
Harsh penalties for violators
Public accounting firms may not audit a client’s books and also provide certain consulting services for the same client
Increased responsibility of the boards of directors
Companies are required to maintain strong and effective internal controls over recording business transactions and preparing financial statements
Harsh penalties include 25 years in prison for securities fraud and 20 years imprisonment for an executive making false statements under oath.
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8. Define internal control and identify and describe its objectives
Learning Objective 1
Define internal control and identify and describe its objectives
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Internal Control
The methods and procedures a business uses to internally protect its assets
A good system of internal control is designed to
Safeguard assets
Ensure the accuracy and reliability of accounting records
Promote operational efficiency
Ensure compliance with laws and regulations
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10. Objectives of Internal Control
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11. Define cash as it is used in accounting
Learning Objective 2
Define cash as it is used in accounting
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Cash
Includes currency, coins, checks made payable to the business, money orders, and amounts on deposit in banks and other financial institutions
Generally considered the most precious of all assets
Almost everyone wants it
Easily taken if not protected
Special controls are needed to protect cash, because almost everyone wants it, and it is easily taken if not protected.
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13. Describe internal control procedures related to cash
Learning Objective 3
Describe internal control procedures related to cash
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14. Steps in Controlling and Protecting Cash
Establish Responsibility Only properly designated personnel are authorized to handle cash receipts. Separation of Duties The individual who accounts for cash is different from the persons who receive and deposit cash.
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15. Steps in Controlling and Protecting Cash
Physical Protection Cash on hand should be in a secure location and cash should be deposited daily. Documentation Cash register tapes, summaries of checks received, etc. should be kept to show the amount of cash received.
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16. Steps in Controlling and Protecting Cash
Independent Verification Cashiers check cash registers, supervisors count cash receipts daily, and company treasurer compares cash receipts with bank deposits. Keep Only a Small Amount of Cash on Hand Only a small amount of cash should be maintained on hand to make small expenditures.
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Quick Check
The bookkeeper receives cash from customers, makes the journal entry to record the deposit, and deposits the cash at the bank. What internal control procedure is being violated?
Keep only a small amount of cash on hand
Physical protection
Petty cash
Documentation
Separation of duties
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Review Quiz 6-1
Which of the cash procedures are examples of weak internal controls? Why?
Answer:
Responsibility not established; too many people have access
Good
Lacks independent verification
Lacks separation of duties
Review Quiz 6-1 appears on page 224.
Below are cash procedures followed by the Jerry Larsen Company. Jerry Larsen, the company’s owner, has asked you to review each procedure and state whether it is an example of a good internal control or a weak internal control. For each weak example you identify, explain why you think it is a weak internal control.
Jerry allows anyone who is free at the end of the day to carry the cash deposit to the bank.
No cash, except for the $200 change fund and $100 in petty cash, is kept on hand.
Jerry, being the only supervisor at his business, does not always have time to verify the cashier’s check of the register. He relies on the honor system.
The head cashier also does the bookkeeping.
All receipts, bills, cash register tapes and summaries, and other business papers are kept in a daily file.
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19. Describe the purpose of and need for a petty cash fund
Learning Objective 4
Describe the purpose of and need for a petty cash fund
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The Petty Cash Account
To control cash-most businesses use bank checking accounts when making cash expenditures
It is not practical to write checks for very small amounts
Most businesses maintain a petty cash fund which is a small amount of money kept in the office for making small expenditures
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21. Record the establishment of a petty cash fund
Learning Objective 5
Record the establishment of a petty cash fund
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22. Establishing a Petty Cash Fund
Estimate the amount of cash needed in the fund.
A check for this amount is written payable to Petty Cash.
The check is then cashed, and the money is placed in a box, a drawer, or a safe to be used for the fund.
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23. Establishing a Petty Cash Fund
The check is recorded in the journal by
Debiting the Petty Cash account (an asset)
Crediting the Cash account
+ asset
- asset
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24. Making Payments from the Petty Cash Fund
Petty cashier (usually) is the only person who makes payments from the fund.
Petty cash voucher
Prepared for each payment
Shows the details of the payment
Serves as proof of payment
To maintain control over the petty cash fund, the disbursing of money from the fund is usually restricted to one person, the petty cashier.
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Petty Cash Voucher
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26. Maintaining the Petty Cash Payments Record
Some firms prefer to record all petty cash payments on a single sheet called the petty cash payments record.
A petty cash payments record is not a journal.
It is an auxiliary recordused as a basis for making a journal entry.
An auxiliary record is a nonessential business record that is helpful in maintaining records that are essential.
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27. Petty Cash Payments Record
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28. Record the replenishment of a petty cash fund
Learning Objective 6
Record the replenishment of a petty cash fund
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29. Replenishing the Petty Cash Fund
Normally replenished at month-end or when it nears depletion or reaches a minimum amount
When replenished, the Petty Cash account is NOT debited
The accounts debited are determined by analyzing the petty cash vouchers
The Cash account is credited
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Example
Replenishing the Petty Cash Fund
Here is a list of expenses and amounts taken from the petty cash payments record.
Prepare the journal entry to replenish the petty cash fund.
Expense
Amount
Office Supplies Expense
$15.00
Miscellaneous Expense
8.00
Postage Expense
10.84
Cathy Nash, Drawing
10.00
Advertising Expense
25.00
Total
$68.84
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Example
Replenishing the Petty Cash Fund
+ expense
+ expense
+ expense
+ drawing
+ expense
- asset
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Remember!
The Petty Cash account is debited only when the fund is being established or when the amount in the fund is increased.
The Petty Cash account is credited only when the amount of the fund is decreased or eliminated completely.
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Quick Check
Petty Cash is
debited when the Petty Cash Fund is replenished.
credited when the Petty Cash Fund is replenished.
debited when the Petty Cash Fund is established.
credited when the Petty Cash Fund is established.
debited when the Petty Cash Fund is eliminated.
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Review Quiz 6-2
In general journal form, record the establishment of the fund on January 2.
Review Quiz 6-2 appears on page 228.
On January 2, 20XX, Nancy Herbert established a petty cash fund in the amount of $75. During January, she made the following payments from the fund:
office supplies, $10
postage stamps, $18
window cleaning (Miscellaneous Expense), $35
postage due on package received, $1.25
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Review Quiz 6-2
In general journal form, record the replenishment of the fund on January 31.
Review Quiz 6-2 appears on page 228.
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36. Record the establishment of a change fund
Learning Objective 7
Record the establishment of a change fund
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37. The Change Fund Account
Businesses that have many cash transactions usually establish a change fund.
An amount of money that is placed in the cash register drawer
Used to make change for customers who pay in cash
The establishment of a change fund is recorded by
Debiting the Change Fund account
Crediting the Cash account
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Example
Establishing the Change Fund
Assume a business decides to establish a change fund on March 23 for $125.
The following journal entry would be made.
+ asset
- asset
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39. Record the cash shortages and overages
Learning Objective 8
Record the cash shortages and overages
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40. The Cash Short and Over Account
A cash shortage results when the amount of cash in the cash register is less than the amount of cash sales rung up on the register.
A cash overage results when the amount of cash in the cash register is more than the cash sales rung up on the register.
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41. The Cash Short and Over Account
Used to bring the cash on hand into agreement with the cash sales
Used to handle both shortages and overages
Does not have a normal balance
If it has a debit balance, considered an expense
If it has a credit balance, considered revenue
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Example
Assume cash in the cash register amounts to $598 and sales based on the cash register tapes amounts to $600.
The following entry would be prepared.
+ asset
no normal balance
+ revenue
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Example
Assume cash in the cash register amounts to $774 and sales based on the cash register tapes amounts to $769.
The following entry would be prepared.
+ asset
+ revenue
no normal balance
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Quick Check
Cash sales based on the on the cash register tapes amount to $595. Cash in the cash register drawer amounts to $592. The journal entry to record cash sales will include a
debit to Cash for $595.
credit to Sales for $592.
debit to Cash Short and Over for $3.
credit to Cash Short and Over for $3.
debit to Sales for $595.
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Review Quiz 6-3
Record the sales revenue and the cash shortage in general journal form.
Review Quiz 6-3 appears on page 231.
At the close of business on Tuesday, John Olds, owner of Olds’ Great Subs, totaled and cleared his cash register. According to the register, his total sales for the day amounted to $957. However, when he counted the amount of money in the register and subtracted his $100 change fund, he found only $954. Record the sales revenue and the cash shortage in general journal form.
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46. Bank Checking Accounts
an amount of cash on deposit with a bank that the bank must pay at the written order of the depositor
American Bankers Association (ABA) Transit Number
a number printed on checks and deposit slips that identifies the bank and the area in which the bank is located as well as other information
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The Signature Card
Lists personal information and contains the signature of the person or persons who are authorized to write checks on the account
Kept on file by the bank as an aid in identifying possible forgeries
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Deposit Slip
Prepared when coin, currency, or checks are deposited in a bank account
Indicates
Name of the depositor
Account number
Summarizes the amount deposited
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Deposit Slip
ABA transit number
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Endorsement
A signature or stamp on the back of the check
Transfers ownership of the check to the bank (or to another person or to an individual)
Authorizes payment of the check
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51. Common Forms of Endorsement
Blank Endorsement
Full Endorsement
Restrictive Endorsement
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Writing Checks
A check is a written order directing a bank to pay a specified sum of money to a designated person or business.
The person or business who writes a check is called the drawer.
The bank on which the check is written is called the drawee.
The person or business to whom a check is made payable is called the payee.
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The Bank Statement
Shows what the bank did with the customer’s money
Shows the account’s
Beginning Balance
Ending Balance
Cash Receipts
Payments
Charges
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54. Prepare a bank reconciliation
Learning Objective 9
Prepare a bank reconciliation
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55. Reconciling the Bank Statement
The balance shown on the bank statement and the balance in the checkbook normally do not agree at the end of the month
Bank reconciliation— the process of making the bank statement agree with the checkbook balance
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56. Reconciling the Bank Statement
Common reasons why the bank statement balance may not agree with the checkbook balance include:
Outstanding checks
Deposits in transit
Service charges and other bank fees
Errors, either the depositor’s or the bank’s
Bank collections
NSF checks
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57. Steps in Reconciling the Bank Statement
Add the amount of deposits in transit to the bank statement balance
Subtract the amount of outstanding checks from the bank statement balance
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58. Steps in Reconciling the Bank Statement
Add to the checkbook balance the amount of any interest earned on the account or any collection made by the bank for the depositor
Subtract any charges appearing on the bank statement from the checkbook balance
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Example
A Completed Bank Reconciliation Statement
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Quick Check
On a bank reconciliation, a NSF check is
added to the checkbook balance.
ignored.
added to the bank statement balance.
subtracted from the bank statement balance.
subtracted from the checkbook balance.
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Review Quiz 6-4
Stacy’s Bank Reconciliation Statement
Review Quiz 6-4 appears on page 239.
Stacy Christenson received her bank statement on October 1, 20XX. According to her statement, Stacy has a bank balance of $922. However, Stacy’s checkbook shows a balance of $870. Closer observation revealed the following:
A deposit of $40 was in transit.
Check #34 for $41 and Check #38 for $56 were outstanding.
A service charge of $4 had been made against Stacy’s account.
Stacy wrote Check #36 for $31; however, she entered only $30 in her checkbook.
Prepare a bank reconciliation statement for Stacy.
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Example
Updating Cash Records
All checkbook adjustments require a journal entry.
Assume the bank deducted $12 for its service charge on the depositor’s checking account.
The following journal entry would be required:
+ expense
- asset
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Quick Check
When updating the cash account based on a bank reconciliation, which of the following requires a journal entry?
Deposits in transit and a NSF check
Outstanding checks and a bank collection
Bank service charge and a NSF check
Bank error and a depositor’s error
Bank error and a bank service charge
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Focus on Ethics
Are churches and not-for-profit organizations more or less susceptible to fraud than for profit businesses?
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Joining the Pieces
The Bank Reconciliation Procedure
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