10 Tests of Controls

Question 1

The tests of controls in the sales system will be based around:

Answer 1

 Selling (authorisation)  Goods outwards (custody)  Accounting (recording)

Question 2

The following diagram illustrates the sales system.

Answer 2

Question 3

Sales system: Control objectives, controls and tests of controls

Assertion: Occurrence and existence

Answer 3

Control objectives: To ensure that recorded sales transactions represent goods or services provided.

Controls:The tasks of taking orders, recording sales and receiving payment are allocated to three different staff members. Sales are only recorded if there is an approved sales order form and shipping/despatch documentationAccounting for numerical sequences of invoices. Monthly customer statements sent out and customer queries and complaints handled independently.

Tests of controls: Observe the processing of orders through the sales cycle and inspect sign-offs to evaluate whether proper segregation of duties is operating. For a sample of sales invoices, ensure there is a related sales order form that has been authorised and shipping documentation.Examine application controls for authorisation. Inspect invoices to confirm whether they are sequentially numbered. Review entity’s procedures for sending out monthly statements and dealing with customer queries and complaints

Question 4

Sales system: Control objectives, controls and tests of controls

Assertion: Occurrence and existence (Part 2)

Answer 4

Control objectives:To ensure that goods and services are only supplied to customers with good credit ratings. To ensure that goods and services are provided at authorised prices and on authorised terms. To ensure that customers are encouraged to pay promptly.

Controls: Orders not accepted unless credit limits reviewed first. Authorisation by senior staff required for changes in other customer data such as address etc. Authorisation of credit terms to customers (senior staff authorisation, references/credit checks for new customers, regular review of credit limits).

Tests of controls: Review entities procedures for granting credit to customers. Examine a sample of sales orders for evidence of proper credit approval by the appropriate senior staff member. Examine application controls for credit limits. Review all new customer files to ensure satisfactory credit references have been obtained. Authorised price lists and specified terms of trade in place. Examine application controls for authorised prices and terms. Verify that price lists and terms of trade are properly documented, authorised and communicated.

Question 5

Sales system: Control objectives, controls and tests of controls

Assertion: Completeness

Answer 5

Control objectives: To ensure that all revenue relating to goods despatched is recorded. To ensure that all goods and services sold are correctly invoiced.Sales invoices are reconciled to the daily sales report. An open-order file is maintained and reviewed regularly.

Controls: Accounting for numerical sequences of invoices. Shipping/despatch documentation is matched to sales invoices.

Tests of controls: Review and test entity’s procedures for accounting for numerical sequences of invoices, and inspect invoices to confirm whether they are sequentially numbered. For a sample of shipping/despatch documents, ensure each has been matched to a related sales invoice that was subsequently recorded. Review a sample of reconciliations performed. Reperform a sample of reconciliations. Inspect the open-order file for unfilled orders

Question 6

Sales system: Control objectives, controls and tests of controls

Assertion: Accuracy

Answer 6

Control objectives:To ensure that all sales and adjustments are correctly journalised, summarised and posted to the correct accounts

Controls: Sales invoices and matching documents required for all entries and the date and reference of the entry are written on each document.

Tests of controls: Review suporting documents for a sample of sales entries to ensure they contain the written details that indicate they were referred to when entered

Question 7

Sales system: Control objectives, controls and tests of controls

Assertion: Cut-off

Answer 7

Control objectives: To ensure that transactions have been recorded in the correct period.

Controls:All shipping documentation is forwarded to the invoicing section on a daily basis.  Daily invoicing of goods shipped.

Tests of controls: Compare dates on sales invoices with dates recorded in the sales ledger. Compare dates on sales invoices with dates of corresponding shipping documentation.

Question 8

Sales system: Control objectives, controls and tests of controls

Assertion: Classification

Answer 8

Control objectives: To ensure that all transactions are properly classified in accounts

Controls: Chart of accounts (COA) in place and is regularly reviewed for appropriateness and updated where necessary.  Codes in place for different types of products or services.

Tests of controls: Inspect any documentary evidence of review (such as emails requesting update to COA as a result of review).  Test application controls for proper codes.

Question 9

The tests of controls in the purchases system will be based around:

Answer 9

 Buying (authorisation)  Goods inwards (custody)  Accounting (recording)

Question 10

The purchases system

Answer 10

Question 11

The purchases system

Control objectives, controls and tests of Controls:

Assertion: Occurrence & existence

Answer 11

Control objectives: To ensure that recorded purchases represent goods and services received.

Controls: Authorisation procedures and policies in place for ordering goods and services. The responsibility for placing the orders, recording the purchase order and making the payment is carried out by three different staff members. Purchase orders raised for each purchase and authorised by appropriate senior personnel. Approved purchase order for each receipt of goods

Tests of controls: Inspect policies andprocedures and enquire about them. Observe the processing of purchase orders throughout the purchasing cycle and evaluate whether proper segregation of duties is operating. Examine a sample of purchase orders to ensure they have been appropriately authorised.Review the delegated list of authority for purchases. For a sample of goods received notes (GRNs), ensure there is a related purchase order that has been properly approved.

Question 12

The purchases system

Control objectives, controls and tests of Controls:

Assertion: Occurrence & existence (part 2)

Answer 12

Controls: Staff receiving goods check them to the purchase order. Stores clerks sign for goods received. Purchase orders and GRNs are matched with the suppliers’ invoices. Supplier statements independently reviewed and reconciled to trade payable records.

Tests of controls: Observe receipt of goods by staff to confirm whether the check is done. Inspect a sample to confirm whether stores staff undertake this check. Examine supporting documentation to ensure it has been matched for a sample of invoices. Review procedures for reconciling supplier statements and reperform a sample of reconciliations.

Question 13

The purchases system

Control objectives, controls and tests of Controls:

Assertion: Completeness

Answer 13

Control objectives: To ensure that all purchase transactions that occurred have been recorded

Controls: Purchase orders and GRNs are matched with the suppliers’ invoices. Periodic accounting for pre-numbered GRNs and purchase orders. Independent check of amount recorded in the purchase journal. Supplier statements independently reviewed and reconciled to trade payable records.

Tests of controls: For a sample of purchase orders in the year ensure each has been matched to a related invoice that was subsequently recorded.  Review entity’s procedures for accounting for prenumbered documents and inspect a sample of GRNs for sequential numbering. Examine application controls. Examine documentation for evidence of this check.

Question 14

The purchases system

Control objectives, controls and tests of Controls:

Assertion: Rights and obligations

Answer 14

Control objectives:To ensure that recorded purchases represent the liabilities of the entity.

Controls: Purchase orders and GRNs are matched with the suppliers’ invoice

Tests of controls : Examine supporting documentation to ensure it has been matched for a sample of invoices

Question 15

The purchases system

Control objectives, controls and tests of Controls:

Assertion: Accuracy, valuation and allocation and classification

Answer 15

Control objectives:To ensure that purchase transactions are correctly recorded in the accounting system

Controls: Purchase orders and GRNs are matched with the suppliers’ invoices.  Mathematical accuracy of the supplier’s invoice is verified.  Amount posted to general ledger is reconciled to the purchases ledger.  Chart of accounts in place

Tests of controls:  Examine supporting documentation for a sample of invoices.  Review a sample of invoices for evidence the accuracy has been verified (eg signature or initials) and reperform the check.
 Review reconciliations for evidence of this check.
 Review purchases journal and general ledger for reasonablenes

Question 16

The purchases system

Control objectives, controls and tests of Controls:

Assertion: Cut-off

Answer 16

Control objectives: To ensure that purchase transactions are recorded in the correct accounting period.

Controls:  All goods received reports forwarded to accounts payable department daily.  Procedures in place that require recording of purchases as soon as possible after goods/services received

Tests of controls:
 Compare dates on reports to dates on relevant vouchers.

 Compare dates on vouchers with dates they were recorded in the purchases journal

Question 17

What are inventory controls designed to do?

Answer 17

Inventory controls are designed to ensure safe custody. Such controls include restriction of access, documentation and authorisation of movements, regular independent inventory counting and review of inventory condition.

Question 18

What are the 3 possible approaches to the audit of inventory:

Answer 18

(a) If the entity has a perpetual inventory system in place where inventory is counted continuously throughout the year, and therefore a year-end count is not undertaken, a controls-based approach can be taken if control risk has been assessed as low. (b) If an inventory count is to be undertaken near the year end and adjusted by perpetual inventory records for the year-end value, this approach also requires control risk to be assessed as low. (c) If inventory quantities will be determined by an inventory count at the year-end date, a largely substantive approach is taken.

Question 19

The inventory system

Control objectives, controls and tests of controls

Assertion Occurence and existence

Answer 19

Control objectives: To ensure that all inventory movements are authorised and recorded.

Controls:
 Pre-numbered documentation such as GDNs and GRNs in use. Reconciliations of inventory records with general ledger. Separate responsibilities for maintenance of records and custodianship.

Tests of controls:
 Review documentation in use. Review a sample of reconciliations to confirm they are performed and then reviewed by an independent person. Observe the recording of inventory and discuss inventory procedures with relevant staff to ensure that proper segregation of duties is operating.

Question 20

The inventory system

Control objectives, controls and tests of controls

Assertion Occurence and existence (Part 2)

Answer 20

Control objectives:To ensure that inventory included on the statement of financial position physically exists.

Controls:  Physical safeguards in place to ensure inventory is not stolen.  Separate responsibilities for maintenance of records and custodianship.  Inventory counted regularly

Tests of controls:  Review security systems in place (eg locked warehouses, CCTV).  Review policies and procedures in place; discuss procedures with relevant staff.  Review procedures for counting inventory.  Attend inventory count.

Question 21

The inventory system

Control objectives, controls and tests of controls

Assertion Completeness

Answer 21

Control objectives: To ensure that all purchases and sales of inventory have been recorded in the accounting system.

Controls:  Procedures in place to include inventory held at third parties and exclude inventory held on consignment for third parties.  Reconciliations of accounting records with physical inventory.

Tests of controls:
 Review entity’s procedures relating to consignment inventory.
 Review reconciliations performed and inspect them for evidence of review. Reperform a sample of reconciliations.

Question 22

The inventory system

Control objectives, controls and tests of controls

Assertion Rights and obligations

Answer 22

Control objectives To ensure that inventory records only include items that belong to the entity.

Controls:  Procedures in place to include inventory held at third parties and exclude inventory held on consignment for third parties.

Tests of controls:  Review entity’s procedures relating to consignment inventory.

Question 23

The inventory system

Control objectives, controls and tests of controls

Assertion Accuracy, valuation and allocation and classification

Answer 23

Control objectives: To ensure that inventory quantities have been accurately determined. To ensure that inventory is properly stated at the lower of cost and net realisable value.

Controls: Periodic or annual comparison of inventory with amounts shown in continuous (perpetual) inventory records. Standard costs reviewed by management. Review of cost accumulation and variance reports.Inventory managers review inventory regularly to identify slow-moving, obsolete and excess inventory.

Tests of controls: Review and test entity’s procedures for taking physical inventory. Review and test entity’s procedures for developing standard cost. Inspect variance reports produced. Discuss with inventory managers how this is done.  Observe the procedure being performed

Question 24

The inventory system

Control objectives, controls and tests of controls

Assertion Cut-off

Answer 24

Control objectives: To ensure that all purchases and sales of inventory are recorded in the correct accounting period.

Controls:All despatch documents processed daily to record the despatch of finished goods.  All goods inward reports processed daily to record the receipt of inventory.  Reconciliations of inventory records with general ledger.

Tests of controls:  Inspect documentation to confirm daily processing.  Inspect documentation to confirm daily processing.  Review reconciliations performed.

Question 25

The inventory system

Control objectives, controls and test

Assertion: Presentation

Answer 25

Control objectives: To ensure that inventory transactions and balances are properly identified and classified in the financial statements. To ensure that disclosures relating to classification and valuation are sufficient.

Controls: Orders for materials and production data forms used to process goods through manufacturing. Approval by Finance Director.

Tests of controls:  Review entity’s procedures and documentation used to classify inventory. Review entity’s working papers for evidence of review.

Question 26

The bank and cash system

Control objectives, controls and tests of controls

Assertion: Occurrence

Answer 26

Control objectives: To ensure that only valid cash payments are made.

Controls:  Separate responsibilities for the recording, payment and reconciliation of cash. Supplier statements independently reviewed and reconciled to trade payable records. Monthly bank reconciliations prepared and reviewed. Only authorised staff can make electronic cash payments and issue cheques. Electronic cash payments and cheques prepared only after all source documents have been independently approved.

Tests of controls: Observe the processing of cash and review the entity’s policies to evaluate whether proper segregation of duties is operating. Review procedures for reconciling supplier statements. Review reconciliations to confirm whether undertaken and reviewed. Review delegated list of authority for cash payments. Inspect relevant documentation for evidence of approval by senior personnel.

Question 27

The bank and cash system

Control objectives, controls and tests of controls

Assertion: Completeness

Answer 27

Control objectives: To ensure that all cash payments that occurred are recorded

Controls: Separate responsibilities for the recording, handling and reconciliation of cash.  Review of cash payments by manager before release.  Daily cash payments reconciled to posting to payable accounts. Use of pre-numbered cheques.  Supplier statements independently reviewed and reconciled to trade payable records.  Monthly bank reconciliations prepared and reviewed

Tests of controls:  Observe the processing of cash and review the entity’s policies to evaluate whether proper segregation of duties is operating.  Inspect sample of listings for evidence of senior review.  Review a sample of reconciliations for evidence that they have been done.  Examine evidence of use of pre numbered cheques. iewed.  Review procedures for reconciling supplier statements.  Review reconciliations to confirm whether undertaken and independently reviewe

Question 28

The bank and cash system

Control objectives, controls and tests of controls

Assertion: Accuracy, valuation and allocation and classification

Answer 28

Control objectives: To ensure that cash payments are recorded correctly in the ledger. To ensure that cash payments are posted to the correct payable accounts and to the general ledger.

Controls:  Supplier statements reconciled to payable accounts regularly.  Monthly bank reconciliations of bank statements to ledger account. Reconciliation of daily payments report to electronic cash payment transfers and cheques issued.
 Payable accounts reconciled to general ledger control account

Tests of controls:  Review reconciliation, to ensure performed, reviewed and any discrepancies followed up on a timely basis.  Review reconciliations for a sample of accounts.  Review bank reconciliation for evidence it was done and independently reviewed. Reperform a sample of bank reconciliations. Review reconciliations for a sample of accounts.  Review postings from journal to general ledger.  Review reconciliation, to ensure performed, reviewed and any discrepancies followed up on a timely basis

Question 29

The bank and cash system

Control objectives, controls and tests of controls

Assertion: Cut-off

Answer 29

Control objectives: To ensure that cash payments are recorded in the correct accounting period.

Controls: Reconciliation of electronic funds transfers and cheques issued with postings to cash payments journal and payable accounts.

Tests of controls:  Review reconciliation and check it is carried out regularly.

Question 30

The bank and cash system

Control objectives, controls and tests of controls

Assertion: Presentation

Answer 30

Control objectives: To ensure that cash payments are charged to the correct accounts

Controls: Chart of accounts. Independent approval and review of general ledger account assignment

Tests of controls: Review cash payments journal to assess reasonableness of charging of accounts.Review assignment of general ledger account.

Question 31

The bank and cash system: Test of control over cash

Control objectives, controls and tests of controls

Assertion: Occurrence

Answer 31

Control objectives:  To ensure that all valid cash receipts are received and deposited.

Controls:  Separate responsibilities for the recording, receipt and reconciliation of cash. Use of electronic cash receipts transfer not received or deposited. Monthly bank reconciliations performed and independently reviewed.  Use of cash registers or point-of-sale devices. Periodic inspections of cash sales procedures.
 Restrictive endorsement of cheques immediately on receipt.  Mail opened by two staff members.  Immediate preparation of cash book or list of mail receipts.  Independent check of agreement of cash/cheques to be deposited at bank with register totals and receipts listing.  Independent check of agreement of bank deposit slip with daily cash summary.

Tests of controls: Observe the processing of cash and review the entity’s policies to evaluate whether proper segregation of duties is operating.  Examine application controls for electronic cash receipts transfer.  Review monthly bank reconciliations to confirm performed and reviewed.  Observe cash sales procedures.  Enquire of managers about results of inspections.  Observe mail opening, including endorsement of cheques.  Observe mail opening procedures.  Observe preparation of cash receipts’ records.  Review documentation for evidence of independent check.  Review documentation for evidence of independent check.

Question 32

The bank and cash system: Test of control over cash

Control objectives, controls and tests of controls

Assertion: Completeness

Answer 32

Control objectives: To ensure that all cash receipts are recorded

Controls: Separate responsibilities for the recording, receipt and reconciliation of cash.  Use of electronic cash receipts transfer not received or deposited.  Monthly bank reconciliations performed and independently reviewed.  Daily cash receipts listing reconciled with posting to customer accounts. Customer statements prepared and sent out on a regular basis.

Tests of controls:  Observe the processing of cash and review the entity’s policies to evaluate whether proper segregation of duties is operating.  Examine application controls for electronic cash receipts transfer.  Review monthly bank reconciliations to confirm performed and reviewed. Reperform a sample of the reconciliations.  Review reconciliation. Enquire of management about handling of customer statements.  Examine a sample of customers and note frequency of statements.

Question 33

The bank and cash system: Test of control over cash

Control objectives, controls and tests of controls

Assertion: Accuracy, valuation and allocation and classification

Answer 33

Control objectives To ensure that cash receipts are recorded at correct amounts. To ensure that cash receipts are posted to correct receivables accounts and to the general ledger.

Controls: Daily remittance report reconciled to control listing of remittance advices.  Monthly bank statement performed and reviewed independently.  Daily remittance report reconciled daily with postings to cash receipts journal and customer accounts.  Monthly customer statements sent out.
 Monthly cash receipts journal agreed to general ledger posting.  Receivables’ ledger reconciled to control account.

Tests of controls:
 Review reconciliations.  Review reconciliations for evidence they were performed and independently reviewed.Review reconciliations.  Review entity’s procedures for sending out statements.  Review journal and posting to general ledger.  Review reconciliations

Question 34

The bank and cash system: Test of control over cash

Control objectives, controls and tests of controls

Assertion: Cut-off

Answer 34

Control objectives: To ensure that cash receipts are recorded in the correct accounting period

Controls: Bank reconciliation at period end.

Tests of controls: Review and test reconciliation

Question 35

The bank and cash system: Test of control over cash

Control objectives, controls and tests of controls

Assertion: Presentation

Answer 35

Control objectives: To ensure that cash receipts are charged to the correct accounts.

Controls Chart of accounts (COA) in place and is regularly reviewed for appropriateness and updated where necessary.  Codes in place for different types of receipt.

Tests of controls:  Inspect any documentary evidence of review (such as emails requesting update to COA as a result of review).  Test application controls for proper codes.

Question 36

Key controls over payroll cover:

Answer 36

Documentation and authorisation of staff changes  Calculation of wages and salaries  Payment of wages  Authorisation of deductions

Question 37

The payroll system

Control objectives, controls and tests of controls

Assertion: Occurrence and existence

Answer 37

Control objectives:  To ensure that payment is made only to bona fide employees of the entity.

Controls:  Segregation of duties between HR and payroll functions. Personnel files held for all employees. Authorisation procedures for hiring, terminating, time worked, wage rates, overtime, benefits etc. Any changes in employment status of employees (eg maternity, special leave) informed to HR department. Use of time clocks to record time worked. Clock cards approved by supervisor.  Employee numbers assigned to each employee in the payroll master file. Only employees with valid employee numbers are paid. Payroll budgets in place and reviewed by management.

Tests of controls:  Review payroll and HR job descriptions and company policies on payroll process, to evaluate whether proper segregation of duties is in place.  Review a sample of starters and leavers in the year to ensure correct documentation is in place.  Review and test authorisation procedures in place.  Review policies and procedures in place for changing status and consider whether adequate.  Review personnel files for a sample of employees whose status changed in the year.
 Observe employees’ use of time clocks.  Inspect a sample of clock cards for evidence of approval by appropriate level of management Review and test procedures for entering and removing employee numbers from the payroll master file.
 Review budgeting procedures.

Question 38

The payroll system

Control objectives, controls and tests of controls

Assertion: Completeness

Answer 38

Control objectives: To ensure that all payroll costs are recorded for work done by employees.

Controls:  Pre-numbered clock cards in use.  Regular reconciliations carried out of payroll records and employee costs recorded in the general ledger.  Comparison of cheques and bank transfer list with payroll to ensure all employees paid have been recorded via payroll.
 Preparation and authorisation of cheques and bank transfer lists.

Tests of controls: Review numerical sequence of clock cards.  Review a sample of reconciliations to ensure they are properly carried out. Reperform a sample of reconciliations.
 Enquire whether comparisons are being made between payment records and payroll and inspect any documentary evidence of the review.  Examine paid cheques or a certified copy of the bank list for employees paid by cheque or bank transfer to ensure proper authorisation

Question 39

The payroll system

Control objectives, controls and tests of controls

Assertion: Accuracy, valuation and allocation and classification

Answer 39

Control objectives: To ensure that all benefits and deductions (tax, pension etc) are computed correctly.  To ensure that payroll transactions are correctly recorded in the accounting system

Controls:  Reperformance of a sample of payroll benefit and deduction calculations.  Payroll budgets in place and reviewed by management.  Agreement of gross earnings and total tax deducted with taxation returns Changes to master payroll file verified through ‘before and after’ reports.  Payroll master file reconciled to general ledger.

Tests of controls:  Review documentary evidence that recalculation occurred (eg spreadsheet printout).  Review budgeting procedures.
 Inspect documentation for evidence of management’s review
 Review reconciliation o ‘before and after’ reports to payroll master file.  Review reconciliation o payroll master file to general ledger. Confirm whether discrepancies are followed up promptly and resolved.

Question 40

The payroll system

Control objectives, controls and tests of controls

Assertion: Cut-off

Answer 40

Control objectives: To ensure that payroll transactions are recorded in the correct accounting period.

Controls All starters, leavers, changes to salaries and deductions are reported promptly to payroll department and changes are updated in the payroll master file promptly

Tests of controls:  Review entity’s procedures for reporting changes to the payroll department.  Verify sample of starters and leavers.

Question 41

The payroll system

Control objectives, controls and tests of controls

Assertion:Presentation

Answer 41

Control objectives: To ensure that payroll transactions are properly classified in the financial statements.

Controls: Chart of accounts.  Independent approval and review of accounts charged to payroll.  Payroll budgets in place and reviewed by management.

Tests of controls:  Review chart of accounts.  Review procedures for classifying payroll costs.  Review budgeting procedures.

Question 42

Revenue and capital expenditure

Controls and tests of controls

Assertion: Authorisation

Answer 42

Control objectives: To ensure that expenditure is properly authorised.

Controls:  Orders for capital items should be authorised by appropriate levels of management.  Orders should be requisitioned on appropriate (different to revenue) documentation.  Invoices should be approved by the person who authorised the order.  Invoices should be marked with the appropriate general ledger code.

Tests of control:  Review policies and procedures in place.  Examine a sample of orders for appropriate authorisation.  Inspect invoices to verify the invoice has been appropriately approved.  Inspect invoices to verify the invoice has the correct general ledger code marked on it.

Question 43

Revenue and capital expenditure

Controls and tests of controls

Assertion: Classification

Answer 43

Control objectives: To ensure that expenditure is classified correctly in the financial statements as capital or revenue expenditure

Controls: All the standard controls over purchases are relevant here

Question 44

Revenue and capital expenditure

Controls and tests of controls

Assertion: Completeness

Answer 44

Control objectives: To ensure that all non-current assets are correctly recorded in the accounting system.

Controls:  Capital items should be written up in the noncurrent asset register.  The non-current asset register should be reconciled regularly to the general ledger and any differences investigated and resolved promptly.

Tests of control:  Review reconciliation to ensure it is regularly carried out, reviewed by a more senior person, and that all discrepancies are followed up and resolved on a timely basis.