2. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 1 Audit of the Payroll and Personnel Cycle Chapter 18

3. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 2 Learning Objective 1 Identify the accounts and transactions in the payroll and personnel cycle.

4. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 3 Accounts and Transactions in the Payroll and Personnel Cycle 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.

5. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 4 Accounts in the Payroll and Personnel Cycle Accrued Wages, Salaries, Bonuses, and Commissions PaymentBeginningbalance Earned wages, salaries, etc. Ending balance DirectLabor Cash in Bank Payment for salaries payroll taxes Withheld Income Taxes and Other Deductions PaymentBeginningbalance Payrollwithholding Ending balance

6. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 5 Accounts in the Payroll and Personnel Cycle Cash in Bank Payment for salaries payroll taxes Withheld Income Taxes and Other Deductions PaymentBeginningbalance Payrollwithholding Ending balance Accrued Payroll Tax Expense PaymentBeginningbalance Payroll tax expense Ending balance Payroll Tax Expense

7. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 6 Accounts in the Payroll and Personnel Cycle Separate operating accounts for payroll also normally include officers’ salaries and bonuses, office salaries, sales salaries and commissions, and indirect manufacturing labor.

8. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 7 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.

9. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 8 Learning Objective 2 Describe the business functions and the related documents and records in the payroll and personnel cycle.

10. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 9 Business Functions in the Cycle and Related Documents and Records The payroll and personnel cycle begins with the hiring of personnel and ends with payment to the employees for the services performed and to the government and other institutions for the withheld and accrued payroll taxes and benefits.

11. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 10 Personnel and Employment Personnel records Deduction authorization form Rate authorization form

12. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 11 Timekeeping and Payroll Preparation Time Card Job Time Ticket Payroll Transaction File Payroll Journal Timekeeping and Payroll Preparation

13. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 12 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.

14. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 13 Payment of Payroll Payroll check Payroll bank account reconciliation

15. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 14 Preparation of Payroll Tax Returns and Payment of Taxes W-2 Form Payroll tax returns

16. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 15 Learning Objective 3 Understand internal control and design and perform tests of controls and substantive tests of transactions for the payroll and personnel cycle.

17. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 16 Methodology for Designing Controls and Substantive Tests Understand internal control – payroll and personnel. Auditprocedures Samplesize Items to select Timing Assess planned control risk – payroll and personnel. Evaluate cost-benefit of testing controls. Design tests of controls and substantive tests of transactions for payroll and personnel to meet transaction- related audit objectives.

18. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 17 Understand Internal Control – Payroll and Personnel Cycle Adequate separation of duties Adequate separation of duties Proper authorization Proper authorization Adequate documents and records Adequate documents and records Physical control over assets and records Physical control over assets and records Independent checks on performance Independent checks on performance

19. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 18 Payroll Tax Forms and Payments Payment of the payroll taxes withheld and other withholdings on a timely basis Preparation of payroll tax forms

20. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 19 Inventory and Fraudulent Payroll Considerations Relationship between payroll and inventory valuation Tests for nonexistent payroll

21. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 20 Identify client business risks affecting payroll liability accounts. Methodology for Designing Tests of Balances for Payroll Liabilities Phase I Set tolerable misstatement and assess inherent risk for payroll liability accounts. Assess control risk for the payroll and personnel cycle.

22. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 21 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

23. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 22 Methodology for Designing Tests of Balances for Payroll Liabilities Design and perform analytical procedures for the payroll and personnel cycle. Phase III Auditprocedures Items to selectSamplesizeTiming Design tests of details of payroll accounts balances to satisfy balance-related audit objectives.

24. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 23 Learning Objective 4 Design and perform analytical procedures for the payroll and personnel cycle.

25. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 24 Analytical Procedures for the Payroll and Personnel Cycle Analytical procedure Compare payroll expense account balances with previous years. Compare direct labor as a percentage of sales with previous years. Misstatement of payroll expense accounts. Misstatement of direct labor and inventory. Possible misstatement

26. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 25 Analytical Procedures for the Payroll and Personnel Cycle Analytical procedure 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. Misstatement of commission expense and commission liability. Misstatement of payroll tax expense and payroll tax liability. Possible misstatement Compare accrued payroll tax accounts with previous years. Misstatement of accrued payroll taxes and expense.

27. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 26 Learning Objective 5 Design and perform tests of details of balances for accounts in the payroll and personnel cycles.

28. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 27 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

29. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 28 Tests of Details of Balances for Expense Accounts  Officers’ compensation  Commissions  Payroll tax expense  Total payroll  Contract labor

30. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 29 Types of Audit Tests for the Payroll and Personnel Cycle TOC + STOT + AP + TDB = Sufficient competent evidence per GAAS Cash in BankPayrollLiabilities Direct Labor and Payroll Expenses PaymentsExpenses Audited by TOC, STOT, and AP EndingbalanceEndingbalance Audited by AP and TDB Audited by TOC, STOT, and AP

31. ©2005 Prentice Hall Business Publishing, Auditing and Assurance Services 10/e, Arens/Elder/Beasley 18 - 30 End of Chapter 18