Accounting- How it works Lecture Sheet By Md. Zamanur Rahman Asst. Professor Suggested Readings: 1. Weygandt Jerry J., Kieso Donald E and Kimmel Paul D., “Accounting Principles”, John Wiley and Sons, Inc. 2. Larson K.D, and Pyle W.E, “.Fundamental Accounting Principles “Richard D. Irwin, Inc.

Accounting Principles, Ninth Edition Chapter 8 Internal Control and Bank Reconciliation Accounting Principles, Ninth Edition

Study Objectives Internal control and Bank Reconciliation Indicate the features of a bank statement. Prepare a bank reconciliation. Explain the reporting of cash. 1. On the topic, “Challenges Facing Financial Accounting,” what did the AICPA Special Committee on Financial Reporting suggest should be included in future financial statements? Non-financial Measurements (customer satisfaction indexes, backlog information, and reject rates on goods purchases). Forward-looking Information Soft Assets (a company’s know-how, market dominance, marketing setup, well-trained employees, and brand image). Timeliness (no real time financial information)

Fraud, Internal Control, and Cash Fraud and Internal Control Cash Controls Control Features: Use of a Bank Reporting Cash Fraud The Sarbanes-Oxley Act Internal control Principles of internal control Limitations Cash receipts controls Cash disbursements controls Making deposits Writing checks Bank statements Reconciling the bank account Electronic funds transfer (EFT) system Cash equivalents Restricted cash Compensating balances Service Cost - Actuaries compute service cost as the present value of the new benefits earned by employees during the year. Future salary levels considered in calculation. Interest on Liability - Interest accrues each year on the PBO just as it does on any discounted debt. Actual Return on Plan Assets - Increase in pension funds from interest, dividends, and realized and unrealized changes in the fair market value of the plan assets. Amortization of Unrecognized Prior Service Cost - The cost of providing retroactive benefits is allocated to pension expense in the future, specifically to the remaining service-years of the affected employees. Gain or Loss - Volatility in pension expense can be caused by sudden and large changes in the market value of plan assets and by changes in the projected benefit obligation. Two items comprise the gain or loss: difference between the actual return and the expected return on plan assets and, amortization of the unrecognized net gain or loss from previous periods

Internal Control Internal Control Methods and measures adopted to: Safeguard assets. Enhance accuracy and reliability of accounting records. Increase efficiency of operations, and Ensure compliance with laws and regulations. Under the Sarbanes-Oxley Act, all publicly traded U.S. corporations are required to maintain an adequate system of internal control. SO 1 Define fraud and internal control.

Internal Control Principles of Internal Control Activities Measures vary with management’s assessment of the risks faced. size and nature of the company. Six principles of controls activities: Establishment of responsibility Segregation of duties Documentation procedures Physical controls Independent internal verification Human resource controls SO 2 Identify the principles of internal control.

Internal Control Limitations of Internal Control Costs should not exceed benefit. Human element. Size of the business. SO 2 Identify the principles of internal control.

Control Features: Use of a Bank Contributes to good internal control over cash. Minimizes the amount of currency on hand. Creates a double record of bank transactions. Bank reconciliation. SO 6 Indicate the control features of a bank account.

BANK STATEMENTS A bank statement shows: STUDY OBJECTIVE 1 A bank statement shows: 1 Checks paid and other debits charged against the account 2 Deposits and other credits made to the account 3 Account balance after each day’s transactions

Control Features: Use of a Bank Illustration 8-10 Bank Statements Debit Memorandum Bank service charge NSF (not sufficient funds) Credit Memorandum Collect notes receivable. Interest earned. SO 6 Indicate the control features of a bank account.

Control Features: Use of a Bank Reconciling the Bank Account Reconcile balance per books and balance per bank to their adjusted (corrected) cash balances. Reconciling Items: Deposits in transit. Outstanding checks. Errors. Bank memoranda. SO 7 Prepare a bank reconciliation.

Control Features: Use of a Bank Reconciliation Procedures Illustration 8-11 + Deposit in Transit - Outstanding Checks +- Bank Errors + Notes collected by bank - NSF (bounced) checks - Check printing or other service charges +- Company Errors CORRECT BALANCE CORRECT BALANCE SO 7 Prepare a bank reconciliation.

BANK RECONCILIATION

Control Features: Use of a Bank Illustration: The bank statement for Laird Company (Illustration 8-10), shows a balance per bank of $15,907.45 on April 30, 2010. On this date the balance of cash per books is $11,589.45. Using the four reconciliation steps, Laird determines the following reconciling items.

Control Features: Use of a Bank Illustration: a) Prepare a bank reconciliation at April 30. Cash balance per bank statement $15,907.45 Add: Deposit in transit 2,201.40 Less: Outstanding checks (5,904.00) Adjusted cash balance per bank $12,204.85 Cash balance per books $11,589.45 Add: Error in recording check no. 443 36.00 Collection of notes + interest - fee 1,035.00 Less: NSF check (425.60) Bank service charge (30.00) Adjusted cash balance per books $12,204.85 Illustration 8-12 SO 7 Prepare a bank reconciliation.

Control Features: Use of a Bank The company records each reconciling item used to determine the adjusted cash balance per books. Collection of Note Receivable: Assuming interest of $50 has not been accrued and collection fee is charged to Miscellaneous Expense, the entry is: Question 2-19 (textbook) No, Jim is not correct . The proper sequence is as follows : ( b ) Business transaction occurs. ( c ) Information entered in the journal. ( a ) Debits and credits are posted to the ledger. ( e ) Trial balance is prepared. ( d ) Financial statements are prepared. Apr. 30 Cash 1,035.00 Miscellaneous expense 15.00 Notes receivable 1,000.00 Interest revenue 50.00 SO 5 Describe the operation of a petty cash fund.

Control Features: Use of a Bank Book Error: The cash disbursements journal shows that check no. 443 was a payment on account to Andrea Company, a supplier. The correcting entry is: Apr. 30 Cash 36.00 Question 2-19 (textbook) No, Jim is not correct . The proper sequence is as follows : ( b ) Business transaction occurs. ( c ) Information entered in the journal. ( a ) Debits and credits are posted to the ledger. ( e ) Trial balance is prepared. ( d ) Financial statements are prepared. Accounts payable 36.00 SO 5 Describe the operation of a petty cash fund.

Control Features: Use of a Bank NSF Check: As indicated earlier, an NSF check becomes an account receivable to the depositor. The entry is: Apr. 30 Accounts receivable 425.60 Cash 425.60 Question 2-19 (textbook) No, Jim is not correct . The proper sequence is as follows : ( b ) Business transaction occurs. ( c ) Information entered in the journal. ( a ) Debits and credits are posted to the ledger. ( e ) Trial balance is prepared. ( d ) Financial statements are prepared. Bank Service Charges: Depositors debit check printing charges (DM) and other bank service charges (SC) to Miscellaneous Expense. The entry is: Apr. 30 Miscellaneous 30.00 Cash 30.00 SO 5 Describe the operation of a petty cash fund.

Review Question Control Features: Use of a Bank The reconciling item in a bank reconciliation that will result in an adjusting entry by the depositor is: a. outstanding checks. b. deposit in transit. c. a bank error. d. bank service charges. SO 7 Prepare a bank reconciliation.

Control Features: Use of a Bank Electronic Funds Transfers (EFT) Disbursement systems that uses wire, telephone, or computers to transfer cash balances between locations. EFT transfers normally result in better internal control since no cash or checks are handled by company employees. SO 7 Prepare a bank reconciliation.

Discussion Question Control Features: Use of a Bank Q8-23. Lori Figgs is confused about the lack of agreement between the cash balance per books and the balance per the bank. Explain the causes for the lack of agreement to Lori, and give an example of each cause. See notes page for discussion Question 2-19 (textbook) No, Jim is not correct . The proper sequence is as follows : ( b ) Business transaction occurs. ( c ) Information entered in the journal. ( a ) Debits and credits are posted to the ledger. ( e ) Trial balance is prepared. ( d ) Financial statements are prepared. SO 7 Prepare a bank reconciliation.

Reporting Cash Cash consists of coins, currency (paper money), checks, money orders, and money on hand or on deposit in a bank or similar depository. Illustration 8-14 Cash equivalents Restricted cash Compensating balances SO 8 Explain the reporting of cash.

Review Question Reporting Cash Which of the following statements correctly describes the reporting of cash? Cash cannot be combined with cash equivalents. Restricted cash funds may be combined with Cash. Cash is listed first in the current assets section. Restricted cash funds cannot be reported as a current asset. SO 8 Explain the reporting of cash.