Addthis Arens Chapter20

Audit of the Payroll
and Personnel Cycle
Chapter 20

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Learning Objective 1
Identify the accounts and
transactions in the payroll
and personnel cycle.

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Accounts 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.

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Accounts in the Payroll and
Personnel Cycle
Accrued Wages, Salaries,
Bonuses, and Commissions
Cash in Bank
Payment for
salaries

Payment

Payment for
payroll taxes

Direct
Labor

Beginning
balance
Earned wages,
salaries, etc.
Ending balance

Withheld Income Taxes
and Other Deductions
Payment

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

Beginning
balance
Payroll
withholding

Ending balance

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Accounts in the Payroll and
Personnel Cycle
Withheld Income Taxes
and Other Deductions
Cash in Bank
Payment for
salaries

Payment

Payment for
payroll taxes
Payroll Tax Expense

Beginning
balance

Payroll
withholding
Ending balance

Accrued Payroll
Tax Expense
Payment

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

Beginning
balance
Payroll
tax expense
Ending balance

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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.

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Learning Objective 2
Describe the business functions
and the related documents and
records in the payroll and
personnel cycle.

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Business Functions in the Cycle
and Related Documents and

Records
The payroll and personnel cycle….
Begins

Hiring of personnel

Ends

Payments

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Personnel and Employment
 Personnel records
 Deduction authorization form
 Rate authorization form

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Timekeeping and Payroll
Preparation
Time Card
Job Time Ticket
Payroll Transaction File
Payroll Journal

Timekeeping and
Payroll Preparation

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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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.

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Payment of Payroll
 Payroll check
 Payroll bank account reconciliation

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Preparation of Payroll Tax Returns
and Payment of Taxes
 W-2 Form
 Payroll tax returns

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Learning Objective 3
Understand internal control and
design and perform tests of
controls and substantive tests
of transactions for the payroll
and personnel cycle.

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Methodology for Designing Controls
and Substantive Tests
Understand internal control – payroll and personnel
Assess planned control risk – payroll and personnel
Determine extent of testing controls

Audit procedures
Design tests of controls and
Sample size
substantive tests of transactions
for payroll and personnel to meet
Items to select
transaction-related audit objectives
Timing
©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Understand Internal Control –
Payroll and Personnel Cycle






Adequate separation of duties
Proper authorization
Adequate documents and records
Physical control over assets and records
Independent checks on performance

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Payroll Tax Forms and
Payments
 Preparation of payroll tax forms
 Timely payment of the payroll taxes
withheld and other withholdings

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Inventory and Fraudulent
Payroll Considerations
 Relationship between payroll
and inventory valuation
 Tests for nonexistent employees

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Methodology for Designing Tests
of Balances for Payroll Liabilities
Identify client business
risks affecting
payroll liability accounts

Phase I

Set tolerable misstatement
and assess inherent risk Phase I
for payroll liability accounts
Assess control risk for the
Phase I
payroll and personnel cycle
©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Methodology for Designing Tests
of Balances for Payroll Liabilities
Design and perform
tests of controls and
substantive tests
Phase II
of transactions
for the payroll and
personnel cycle

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Methodology for Designing Tests
of Balances for Payroll Liabilities
Design and perform
analytical procedures
Phase III
for the payroll and
personnel cycle
Design tests of
Audit procedures
details of payroll
Sample size
accounts balances
to satisfy
Items to select
balance-related
Timing
audit objectives
©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

Phase III

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Learning Objective 4
Design and perform analytical
procedures for the payroll
and personnel cycle.

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Analytical Procedures for the
Payroll and Personnel Cycle
Analytical procedure

Possible misstatement

Compare payroll expense
account balances with
previous years

Misstatement of payroll
expense accounts

Compare direct labor as a
percentage of sales with
previous years

Misstatement of direct
labor and inventory

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Analytical Procedures for the
Payroll and Personnel Cycle
Analytical procedure

Possible misstatement

Compare commission expense Misstatement of
as a percentage of sales with
commission expense
previous years
and commission liability
Compare payroll tax expense
Misstatement of payroll
as a percentage of salaries and tax expense and payroll
wages with previous years
tax liability
Compare accrued payroll tax
accounts with previous years

Misstatement of accrued
payroll taxes and expense

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Learning Objective 5
Design and perform tests of
details of balances for accounts
in the payroll and personnel cycle.

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Two Major Balance-related
Audit Objectives
1. Accruals in the trial balance
are stated at the correct
amounts (accuracy).
2. Transactions in the payroll and
personnel cycle are recorded
in the proper period (cutoff).

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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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


©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Tests of Details of Balances
for Expense Accounts
Officers’ compensation
 Commissions
 Payroll tax expense
 Total payroll
 Contract labor


©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Presentation and Disclosure
Objectives
 Required disclosures are not extensive
 Some complex transactions require
footnote disclosure

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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Types of Audit Tests for the
Payroll and Personnel Cycle
Payroll
Liabilities

Cash in
Bank

Direct Labor and
Payroll Expenses

Payments

Expenses

Audited by
TOC, STOT, and AP

Audited by
TOC, STOT, and AP

Ending
balance

Ending
balance

Audited by AP and TDB

TOC + STOT + AP + TDB
= Sufficient appropriate evidence per GAAS
©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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End of Chapter 20

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens//Elder/Beasley

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