Chapter 8

Fraud, Internal
Control and Cash

Chapter
8-1 Accounting Principles, Ninth Edition
 Study
Study Objectives
Objectives

1. Define fraud and internal control.

2. Identify the principles of internal control.
3. Explain the applications of internal control principles
to cash receipts.
4. Explain the applications of internal control principles
to cash disbursements.
5. Describe the operation of a petty cash fund.
6. Indicate the control features of a bank account.
7. Prepare a bank reconciliation.
8. Explain the reporting of cash.
Chapter
8-2
 Fraud,
Fraud, Internal
Internal Control,
Control, and
and Cash
Cash

Control
Fraud and
Cash Controls Features: Use of Reporting Cash
Internal Control
a Bank

Fraud Cash receipts Making deposits Cash equivalents

The Sarbanes- controls Writing checks Restricted cash
Oxley Act Cash Bank statements Compensating
Internal control disbursements balances
Reconciling the
controls
Principles of bank account
internal control Electronic funds
Limitations transfer (EFT)
system

Chapter
8-3
 Fraud
Fraud and
and Internal
Internal Control
Control

Fraud
Dishonest act by an employee that results in personal
benefit to the employee at a cost to the employer.

Illustration 8-1

Why does
fraud occur?

Chapter
8-4 SO 1 Define fraud and internal control.
 Fraud
Fraud and
and Internal
Internal Control
Control

Fraud
Tindakan tidak jujur oleh pegawai Untuk keuntungan
pribadi yang merugikan employer (majikan/
perusahaan).
Illustration 8-1

Why does
fraud occur?

Chapter
8-5 SO 1 Define fraud and internal control.
Chapter
8-6
 Fraud
Fraud and
and Internal
Internal Control
Control

The Sarbanes-Oxley Act

Companies must
develop principles of control over financial
reporting.
continually verify that controls are working.
Independent auditors must attest to the adequacy
of internal control.
SOX created the Public Company Accounting
Oversight Board (PCAOB).
Chapter
8-7 SO 1 Define fraud and internal control.
 Fraud
Fraud and
and Internal
Internal Control
Control

Internal Control
Methods and measures adopted to:
1. Safeguard assets.
2. Enhance accuracy and reliability of accounting
records.
3. Increase efficiency of operations, and
4. 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.
Chapter
8-8 SO 1 Define fraud and internal control.
 Fraud
Fraud and
and Internal
Internal Control
Control

Internal Control
Internal control systems have five primary components
1. A control environment
2. Risk assessment
3. Control activities
4. Information and communication
5. Monitoring

Chapter
8-9 SO 1 Define fraud and internal control.
 Fraud
Fraud and
and Internal
Internal Control
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
Chapter
8-10 SO 2 Identify the principles of internal control.
 Fraud
Fraud and
and Internal
Internal Control
Control

Principles of Internal Control Activities

ESTABLISHMENT OF RESPONSIBILITY

Control is most effective when only one person is responsible

for a given task.

SEGREGATON OF DUTIES

Related duties, including physical custody and record

keeping, should be assigned to different individuals.
DOCUMENTATION PROCEDURES

Companies should use prenumbered documents for all

documents should be accounted for.
Chapter
8-11 SO 2 Identify the principles of internal control.
 Fraud
Fraud and
and Internal
Internal Control
Control

Principles of Internal Control Activities

Illustration 8-2
PHYSICAL CONTROLS

Chapter
8-12 SO 2 Identify the principles of internal control.
 Fraud
Fraud and
and Internal
Internal Control
Control

Principles of Internal Control Activities

Illustration 8-3
INDEPENDENT INTERNAL
VERIFICATION
1. Verify records
periodically or on a
surprise basis.
2. Records verified by an
employee who is
independent.
3. Discrepancies reported

to
Chapter management.
8-13 SO 2 Identify the principles of internal control.
 Fraud
Fraud and
and Internal
Internal Control
Control

Principles of Internal Control Activities

HUMAN RESOURCE CONTROLS
1. Bond employees.
2. Rotate employees’ duties and
require vacations.
3. Conduct background checks.

Chapter
8-14 SO 2 Identify the principles of internal control.
Chapter
8-15
 Fraud
Fraud and
and Internal
Internal Control
Control

Limitations of Internal Control

Costs should not exceed benefit.
Human element.
Size of the business.

Chapter
8-16 SO 2 Identify the principles of internal control.
 Cash
Cash Controls
Controls
Cash Receipts Controls
Establishment of Documentation Independent Internal
Responsibility Procedures Verification
Only designated Use remittance Supervisors count cash
personnel are advice (mail receipts daily;
authorized to handle receipts), cash treasurer compares
cash receipts register tapes, and total receipts to bank
(cashiers) deposit slips deposits daily

Segregation of Duties Physical, Human Resource

Different individuals Mechanical, and Controls
receive cash, record Electronic Controls Bond personnel who
cash receipts, and hold Store cash in safes handle cash; require
the cash and bank vaults; limit employees to take
access to storage vacations; deposit all
Illustration 8-4 areas; use cash cash in bank daily
registers
Chapter
8-17 SO 3 Explain the applications of internal control principles to cash receipts.
 Cash
Cash Controls
Controls

Discussion Question
Q8-6. At the corner grocery store, all sales clerks
make change out of one cash register drawer. Is this
a violation of internal control? Why?

See notes page for discussion

Chapter
8-18 SO 3 Explain the applications of internal control principles to cash receipts.
 Cash
Cash Controls
Controls

Discussion Question
Q8-11. The management of Sewell Company asks
you, as the company accountant, to explain (a) the
concept of reasonable assurance in internal control
and (b) the importance of the human factor in
internal control.

See notes page for discussion

Chapter
8-19 SO 3 Explain the applications of internal control principles to cash receipts.
 Cash
Cash Controls
Controls
Cash consists of coins, currency, checks, money
orders, and money on hand or on deposit in a bank.
Cash receipts come from:
cash sales
collections on account from customers
receipt of interest, rent, and dividends
investments by owners
bank loans
proceeds from the sale of noncurrent assets

Chapter
8-20 SO 3 Explain the applications of internal control principles to cash receipts.
 Cash
Cash Controls
Controls
Cash terdiri dari coins, currency, checks, money
orders, and money on hand atau simpanan di
bank(giro yang bisa diambil sewaktu-waktu).
Penerimaan Kas berasal dari :
cash sales/ penjualan tunai
collections on account from customers/
pelunasan piutang
receipt of interest, rent, and dividends
investments by owners
bank loans
SOproceeds from the sale of noncurrent assets
Chapter
8-21 3 Explain the applications of internal control principles to cash receipts.
 Over-the-
Over-the-
Counter
Counter
Receipts
Receipts

Illustration 8-4

Chapter
8-22 SO 3 Explain the applications of internal control principles to cash receipts.
 Mail
Mail Receipts
Receipts
Control Procedures:
Mail receipts should be opened by two people, a list
prepared, and each check endorsed.

Copy of the list, along with the checks and

remittance advices, sent to cashier’s department.

Cashier adds the checks to the over-the-counter

receipts and prepares a daily cash summary and
makes the daily bank deposit.

Copy of list sent to treasurer’s office for comparison

with total shown on daily cash summary.
Chapter
8-23 SO 3 Explain the applications of internal control principles to cash receipts.
 Cash
Cash Controls
Controls

Review Question
Permitting only designated personnel to handle
cash receipts is an application of the principle of:
a. segregation of duties.
b. establishment of responsibility.
c. independent check.
d. Human resource controls.

Chapter
8-24 SO 3 Explain the applications of internal control principles to cash receipts.
 Cash
Cash Controls
Controls

Cash Disbursements Controls

Generally, internal control over cash disbursements
is more effective when companies pay by check,
rather than by cash.
Applications:
Voucher system
Petty cash fund

Chapter SO 4 Explain the applications of internal

8-25
control principles to cash disbursements.
 Cash
Cash Controls
Controls

Cash Disbursements Controls

Generally, internal control over cash disbursements
lebih effective jika companies membayar dengan
cek, daripada tunai.
Applications:
Voucher system
Petty cash fund/ Dana Kas Kecil

Chapter SO 4 Explain the applications of internal

8-26
control principles to cash disbursements.
 Cash
Cash Controls
Controls

Cash Disbursements Controls Illustration 8-6

Documentation
Establishment of Procedures Independent Internal
Responsibility Use prenumbered Verification
Only designated checks; checks must Compare checks to
personnel are have an approved invoices; reconcile bank
authorized to sign invoice; require statement monthly
checks (treasurer) and employees to use
approve vendors corporate credit cards
Human Resource
for reimbursable
Controls
Segregation of Duties expenses
Bond personnel
Different individuals who handle cash;
Physical Controls require employees
approve and make
payments; check Store blank checks in to take vacations;
signers do not record safes, with limited conduct background
disbursements access; print check checks
amounts by machine in
Chapter
indelible ink
8-27
 Cash
Cash Controls
Controls

Cash Disbursements Controls Illustration 8-6

Documentation
Menetapkan tanggung Procedures Independent Internal
jawab gunakan prenumbered Verification
Hanya personnel yang checks; checks must Compare checks to
berwenang have an approved invoices; reconcile bank
menandatangani checks invoice; require statement monthly
(treasurer) dan approve employees to use
vendors corporate credit cards
Human Resource
for reimbursable
Controls
Segregation of Duties expenses
Bond personnel
Different individuals who handle cash;
Physical Controls require employees
approve and make
payments; check Store blank checks in to take vacations;
signers do not record safes, with limited conduct background
disbursements access; print check checks
amounts by machine in
Chapter
indelible ink
8-28
 Cash
Cash Controls
Controls

Discussion Question
Q8-17 Joe Griswold Company’s internal controls over
cash disbursements provide for the treasurer to sign
checks imprinted by a checkwriting machine in indelible
ink after comparing the check with the approved invoice.
Identify the internal control principles that are present
in these controls.

See notes page for discussion

Chapter SO 4 Explain the applications of internal
8-29
control principles to cash disbursements.
 Cash
Cash Controls
Controls

Review Question
The use of prenumbered checks in disbursing
cash is an application of the principle of:
a. establishment of responsibility.
b. segregation of duties.
c. physical, mechanical, and electronic controls.
d. documentation procedures.

Chapter SO 4 Explain the applications of internal

8-30
control principles to cash disbursements.
 Cash
Cash Controls
Controls

Cash Disbursements Controls

Voucher System
Network of approvals, by authorized
individuals, to ensure all disbursements by
check are proper.
A voucher is an authorization form prepared
for each expenditure.

Chapter SO 4 Explain the applications of internal

8-31
control principles to cash disbursements.
 Cash
Cash Controls
Controls

Cash Disbursements Controls

Petty Cash Fund - Used to pay small amounts.
Involves:
1. establishing the fund,

2. making payments from the fund, and

3. replenishing the fund.

Chapter
8-32 SO 5 Describe the operation of a petty cash fund.
 Cash
Cash Controls
Controls

Illustration: If Laird Company decides to establish a $100

fund on March 1, the journal entry is:

Mar. 1 Petty cash 100

Cash 100

Chapter
8-33 SO 5 Describe the operation of a petty cash fund.
 Cash
Cash Controls
Controls

Illustration: Assume that on March 15 Laird’s petty cash

custodian requests a check for $87. The fund contains $13
cash and petty cash receipts for postage $44, freight-out $38,
and miscellaneous expenses $5. The general journal entry to
record the check is:

Mar. 15 Postage expense 44

Freight-out 38
Miscellaneous expense 5
Cash 87

Chapter
8-34 SO 5 Describe the operation of a petty cash fund.
 Cash
Cash Controls
Controls

Illustration: Occasionally, the company may need to recognize

a cash shortage or overage. Assume that Laird’s petty cash
custodian has only $12 in cash in the fund plus the receipts as
listed. The request for reimbursement would, therefore, be for
$88, and Laird would make the following entry:

Mar. 15 Postage expense 44

Freight-out 38
Miscellaneous expense 5
Cash over and short 1
Cash 88

Chapter
8-35 SO 5 Describe the operation of a petty cash fund.
 Control
Control Features:
Features: Use
Use of
of aa Bank
Bank

Contributes to good internal control over cash.

Minimizes the amount of currency on hand.
Creates a double record of bank transactions.
Bank reconciliation.

Chapter
8-36 SO 6 Indicate the control features of a bank account.
 Control
Control Features:
Features: Use
Use of
of aa Bank
Bank
Illustration 8-8

Making Bank Deposits

Bank Code
Authorized employee
Numbers
should make deposit.

Reverse Side
Front Side
Chapter
8-37 SO 6 Indicate the control features of a bank account.
 Control
Control Features:
Features: Use
Use of
of aa Bank
Bank

Writing Checks
Illustration 8-9

Written order signed by depositor directing bank to pay

a specified sum of money to a designated recipient.

Maker

Payee

Payer

Chapter
8-38 SO 6 Indicate the control features of a bank account.
 Control
Control Features:
Features: Use
Use of
of aa Bank
Bank

Writing Checks
Illustration 8-9

Perintah tertulis yang ditandatangani 0leh depositor

agar bank membayar sejumlah uang kepada orang yang
menunjukkan cek tersebut .
Maker

Payee

Payer

Chapter
8-39 SO 6 Indicate the control features of a bank account.
 Control
Control Features:
Features: Use
Use of
of aa Bank
Bank
Illustration 8-10

Bank Statements
Debit Memorandum
Bank service charge
NSF (not sufficient
funds)

Credit Memorandum
Collect notes
receivable.
Interest earned.

Chapter
8-40 SO 6 Indicate the control features of a bank account.
 Control
Control Features:
Features: Use
Use of
of aa Bank
Bank

Review Question
The control features of a bank account do not
include:
a. having bank auditors verify the correctness of
the bank balance per books.
b. minimizing the amount of cash that must be kept
on hand.
c. providing a double record of all bank
transactions.
d. safeguarding cash by using a bank as a
depository.
Chapter
8-41 SO 6 Indicate the control features of a bank account.
 Control
Control Features:
Features: Use
Use of
of aa Bank
Bank

Reconciling the Bank Account

Reconcile balance per books and balance per bank to
their adjusted (corrected) cash balances.
Reconciling Items:
1. Deposits in transit.

2. Outstanding checks.

3. Errors.

4. Bank memoranda.

Chapter
8-42 SO 7 Prepare a bank reconciliation.
 Control
Control Features:
Features: Use
Use of
of aa Bank
Bank

Merekonsiliasi Akun Bank

Merekonsiliasi saldo per books/ catatan perusahaan
dan saldo per bank agar diperoleh saldo Kas yang
benar.
Reconciling Items:
1. Deposits in transit/ Setoran dalam perjalanan

2. Outstanding checks./ cek beredar

3. Errors.

4. Bank memoranda.
Chapter
8-43 SO 7 Prepare a bank reconciliation.
 Control
Control Features:
Features: Use
Use of
of aa Bank
Bank
Reconciliation Procedures
Illustration 8-11

+ Deposit in Transit + Notes collected by bank

- Outstanding Checks
+- Bank Errors
CORRECT BALANCE
- NSF (bounced) checks
- Check printing or other
service charges
+- Company Errors
CORRECT BALANCE

Chapter
8-44 SO 7 Prepare a bank reconciliation.
 Control
Control Features:
Features: Use
Use of
of aa Bank
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.

Chapter
8-45
 Control
Control Features:
Features: Use
Use of
of aa Bank
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
Chapter Illustration 8-12
8-46 SO 7 Prepare a bank reconciliation.
 Control
Control Features:
Features: Use
Use of
of aa Bank
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:

Apr. 30 Cash 1,035.00

Miscellaneous expense 15.00
Notes receivable 1,000.00
Interest revenue 50.00

Chapter
8-47 SO 5 Describe the operation of a petty cash fund.
 Control
Control Features:
Features: Use
Use of
of aa Bank
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

Accounts payable 36.00

Chapter
8-48 SO 5 Describe the operation of a petty cash fund.
 Control
Control Features:
Features: Use
Use of
of aa Bank
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

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
Chapter
8-49 SO 5 Describe the operation of a petty cash fund.
 Control
Control Features:
Features: Use
Use of
of aa Bank
Bank

Review Question
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.

Chapter
8-50 SO 7 Prepare a bank reconciliation.
 Control
Control Features:
Features: Use
Use of
of aa Bank
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.

Chapter
8-51 SO 7 Prepare a bank reconciliation.
 Control
Control Features:
Features: Use
Use of
of aa Bank
Bank

Discussion Question
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

Chapter
8-52 SO 7 Prepare a bank reconciliation.
 Reporting
Reporting Cash
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
Chapter
8-53 SO 8 Explain the reporting of cash.
 Reporting
Reporting Cash
Cash

Review Question
Which of the following statements correctly
describes the reporting of cash?
a. Cash cannot be combined with cash equivalents.
b. Restricted cash funds may be combined with
Cash.
c. Cash is listed first in the current assets
section.
d. Restricted cash funds cannot be reported as a
current asset.
Chapter
8-54 SO 8 Explain the reporting of cash.
 Copyright
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Chapter
8-55