Aucli ONET L

Internal Control;
1.According to the American Institute of Certified Public Accountants(AICPA)
"It is the plan of organization and all the co-ordinated methods and procedures adopted withia the
business to safeguard its assets, check the accuracy and reliability of its accounting data, promote
operational efficiency and encourage adherence to the prescribed managerial policy."

2.According totheInstitute of Chartered Accountants of England and Wales

Internal control means not only internal check or internal audit but the whole system of controls,
financial or otherwise, established by management in order to carry on the business of the company in
an orderly manner, safeguard its assets and secure as far as possible the accuracy and reliability of its

record"

3.l Simple Words

"Internal control refers to the whole system of control employed by the management in the conduct of
the business. It includes internal check, internal audit and other devices of control."

Types (forms} of interna Contioi

Basically,Internal control is of two types:

Accounting Control and

Administrative Control

Accounting controls are concerned with the controls related to tne accounting system.i.e. ehecking o
transactions as per the prescrihed procedure and safegiarding of assets.

Accounting controls mainly inciude the fellowing:

a Internal audit
b) Internal check

c)Budgetingcontrol
d) Standard costing and Deviation analysis
e) Bank reconciliation

iSelf-icalancing Ledger etc.

and adherence to the prescribed
Aiministrative cotrois aie related with the operational efticiency
marageria! policies.

Administrathve controls mainty include the following

a) Time study
b) Motion studly
c)Qvalitycontrol
d) Performance Appraisal
 '

e) Statistical Analysis etc.

of the financiäl statements. So the auditor is

Accounting controls have direct impact of the reliability
more concerned with the accounting controls. He is not required to make a detailed review. so far as the

administrative controls are concerned.

Role of the Auditor with regard to the Internal Contro! System

Before starting the audit, the auditor should review the system of internal control for the following

purposes:

To examine the weakness of the system, if any.

i)
To consider the proportion of performance of test check to be used during the course of the

audit.
Based on (i) and (ii) above, determine the nature, timing and extent of other auditing
procedures to be performed to enable him to express an opinion. on the given set of

accounts.

According to the siandards on auditing issued by the 1CA, the primary duty to design and maintain a
proper internal control system is that of the management. The auditor is rormally entitled to rely
upon thhe safeguards placed by the management, although he wili of course take into account, any
deficiency came to his notice and thern design iis substantive proledures.

Techniques of Evaluation of Internai Control System:

1} Oral or Verbal Approach:

Oral discussions may be done with the persons in the management or with the other key
persons of the organisation to identify the strength or weakness of the system in place.

2) Observation:
Auditor or his team visits at all departments and locations of the organisation ard observe the
activities, processes and procedures followed by the staff in performing their duties.
3) Narrative Records:
It is a detail and descriptive guidelines prepared and issued by the top management to lower
of their
level staff for the steps to be followed by them in operation work
4 Check list:
It is a Hist of activities idealy to be performed and complied by the staf in the given situation io

Lomplete a particular task.

5) Memorandun Approach:
full notes are taken during discIussion governing evaluation of internai control. Analysis of
weakness is undertaken and suggestions are offered through management letter of

improvement.
6 internal Controi Questioners (icQs):
 An 1CQ consist of quiostions in respect of each element of business. Answers are obtained like
es, 'No' and "Not Applicable'. Remarked questions are used for raising questions and
identifying the weakness with a view to removing them.
7) Fiow Chart:
Flow chart is a graphic representation of system in use. it depicts various operations, controls,
measurcs and steps included in a system through graphic symbols. The flow chart thus provides
a simple, compact and comprehensive view of what is happening within the organisation.

For evaluating the internal control system the auditor can apply any of the abuve techniques or more
than one technique in combination to get satisfactory results.

Management Letter (Letter of Weakness):

Management letter is the letter issued by the auditorto the management authorities after the detailed
review of the Internal Control System for taking the immediate remedial actions on defects or
weaknesses of the system. Therefore it is known as "Letter of Weakness".

To obiectiveç of this letter arc

J

a) To identify in the internal control system, any weakness, if any.

b) To suggest the adequate accounting control.
c)To suggest thhe improvements in the existing internal contro!.

By issuing ihe nanagement letter, auditor will make his client aware of the short-comings in the system,
so that the client can take
necessary action to overcome such short-comings.

This letter also helps the auditor as a safeguard against the ciharge oí management towards him and
helps to cefernd himself by proving that he was not ncpigent in performing his duties as auditor.

nternal Audit:
Definition: "It is an Independent appraisal of activities within an organisation, for the review of
accounting, financial and other business practices as a proteciive and constructive arm of
management."
Features:

nternal audit is tonducted by the staff specially appointed for the purpose to ensure that
tne work of the concern is going snioothly, efficiently and ecoromically.
t 15 a review of operations and retords undertaken within the business.
ii) Internal auditor has to report whether the plans, policies and procedures laid down by the
management are properly implemented or not.
iv ft is a type of control which functions by measuring and evaluating the effectiveness of the
other types of controls.
 It deals primarily with the accounting and financial matterS. but it may also deal with

matters of an operating nature.

vi) The scope of work of the internal auditor is decided by the management.
The underlying objective to adopt this tool is to assist thd management in achieving the
vii)
most efficient administration of ihe operations of
the organisation.
Internal audit is staff function rather than line function and internal auditor does not
viii).
exercise direct authority over other persons in the organisation.

Role of Internal Auditor:

of the internal auditor.

Following are some of the benefits which highlight the role

a) Reliability and iniegrity of the information.

b) Compliance with plans, policies, procedures, rules and regulations.
c) Safeguarding of assets.
d) Econormic and efficient use of resources.
e) Accomplishment of establishe i objectives and goals.

Ohjectives of Interna! Audit:

One of the most important objectives of internal audit can be the detection of frauds and errors. Apart
from this, following are the other objectives.

Review of operations as a service to the management

Facilitating final audit.
Ensuring systematic accounting and proper recording of transactions.
iv Verification of authenticity and correctness of financiaB information presented to the
management.
v Review of internal check system from time to time.
vi Reduce the possibility of manipulation in accounts and misuse of the property of the
business.
vil) Early finalization of accounts.
vii) Highlighting the weaknesses of the controls of the organisation and giving suggestions to
strengthen them.
Difference between internal Audit and Statutery Audit

OR

Difference between Internal Auditor and

independent Auditor:
1. Appointment: Internal auditor is appointed by the manage ment while the statutory auditor is
appointed by the shareholders. Appoint1nent of Internal auditor is optional while that of
statutory auditor is
mandatory
 as laid down under section 226
ualification:Internal auditor need not possess any qualification
of the Companies Act. While a statutory auditor must have the prescribed qualification.
3. Status: Internal auditor is internal to the company while the statutory auditor is an independent

person.
Conduct of Audit: An internal audit is generally a continuous audit while the statutory audit is
4
generally conducted after the preparation of the final accounts.
5. Scope of Work: The scope of work of the internal auditor is determined by the management
while the scope of work, the authorities and responsibilities of the statutory auditor are

determined by law under which the auditor is appointed.

6. Object: An internal auditor may have the primary duty to find out whether any error or fraud-
has been committed while the statutory auditor has to report whether the financiai statements
represent the true and fair view or not. The detection of errors and frauds is not the main object
of statutory audit.
7. Duty:The scope and duties of an internal auditor canbe reduced or curtailed while it is not so in
the case of statutory audit.
8. Suggestions:Generally internal auditor is expected to give suggestions to the management as to
how to run the business efficiently and to avoid wastage but statutory auditor is not to do so
uniess he is specifically asked.
9. Test Checks: Internal auditor generally checks all the transactions while the statutory auditor
may apply test checks.
10. Report: Internal auditor is supposed to report to the management while the statutory aulitor is
required to repoito theshareholders.
11. Remova: Internal aucditor can be removed by the management while a statutory auditor can be
removed only by the shareholders.
12. Remuneration: Remuneration of the internal auditor is fixed by the management whiie for the
statutory auditor it is fixed by the shareholders.
13. Right to attend the meeting: internal auditor has no right to attend the meetings of
sharehoiders while the statutory auditor has such a right.

internal Check:
Meaning
nternal check is a system of division of work among empioyees for the day to day transactions in order
to reduce the
possibility of occiirence of frauds and errors.
Oring to 1R Dicksee: "t is such an arrangemment of book keeping routine, wherein errors and frauds
are ikely to be prevented or discovered by the very operation of the book keeping itself
crding to Spicer and Pegler: "It is an arrangement of staff duties in such a way that no single person
OWed to control and to record every aspect of a transaction and the work of one employee is
onnuousily and indepenlently checked by another employee, so thst chances of errors are
nirimized,"
Let's take an example: In a big departmental stores, the sales Dii a prepared by one salesman.
payment is collected by other employees, while goods are deliverea oy the third employee. All three

employees have recorded these transactions. Thus, the entire work is divided between thrao

employees, unless al! the employees join hands (winich is normaily aicuit) the misappropriation is not

possible.

Objects of Internal check:

1. To minimize the possibility of frauds and errors in accounts.

2. To detect and prevent any frauds or errors in accounts.

3. To allocate duties and responsibilities of every employee in such a way that he may be held

responsible for a particular error or fraud.

4. To increase the efficieney of clerks by the application of principle of division oflabour
5. To have a moral pressure over the staff members.
6. To ensare that the accounting system produce reliable informátion.

Essentials/Principies for framing a good Internal Check System:

i. No singie person shouid have an independent control over any important aspect of business.
2. The duties of the members of the staff should be changed from time to time without prior
notice.
3. Every member of the staff shouid be encouraged to go on ieave at ieast once ir a year.
4. A person having physical custody of assets must noi be allowed to have aucess to bocks of
accounts.

5. To prevent loss or miss appropriation of cash, niechanical devices i.e. automatic cash register,
calculating machine etc may be used in the big organisation.
6. Procedures shouldbe laid down for the verificaticn and testing of different sections of
accounting records periodically to ensure their accuracy.
7. The financial and administrative power shoutd be assigned very carefully to different officer. The
position should be reviewed periodically.
8. For stock taking at the close of the year, the trading activities should be suspended for some
time. The task of pricing and evaluation should be done by the staff other than the staff of stock

sectioris
9No meniber of the stafí shouid be aliowed to take awaythe goods without prior pernmission of
the responsibie office.
20. There should be efficient accounting control in respect of each impoitant class of assets. They
should be periodicaily inspected so as to ascertain their physical conditions.
11. Ledger keeper should not be allowed to have a direct access to either the debtors or creditors of
the business.
12. A detail record should be maintained for all goods rece ived and sent out at the business

premises.
15. All exceptional trensactions should
be reported to the higher authorities immediately.