Audit of the Payroll

and Personnel Cycle

Chapter 20

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

5-5

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

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 2

Accounts in the Payroll and

Personnel Cycle

The overall objective in the audit of the payrol

and personnel cycle is to evaluate whether the
account balances affected by the cycle are
fairly stated in accordance with generally
accepted accounting principles.

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 3

Accounts in the Payroll and

Personnel Cycle
Accrued Wages, Salaries,
Bonuses, and Commissions
Cash in Bank
Payment for
salaries
Payment for
payroll taxes

Direct
Labor

Payment Beginning
balance
Earned wages,
salaries, etc.
Ending balance
Withheld Income Taxes
and Other Deductions
Payment Beginning
balance
Payroll
withholding
Ending balance

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 4

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.

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 5

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

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 6

Business Functions in the

Cycle and Related
Documents and Records
The payroll and personnel cycle.
Begins

Personnel
Hiring

Ends

Payments

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 7

Personnel and Employment

Personnel records
Deduction authorization form
Rate authorization form

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 8

Timekeeping and Payroll

Preparation
Time Card
Job Time Ticket
Payroll Transaction File
Payroll Journal

Timekeeping and
Payroll Preparation

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 9

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.

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 10

Payment of Payroll
Payroll check
Payroll bank account reconciliation

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 11

Preparation of Payroll Tax

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

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 12

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

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 13

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
Design tests of controls and Audit procedures
substantive tests of transactions Sample size
for payroll and personnel to meet
Items to select
transaction-related audit
Timing
objectives
2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 14

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

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 15

Payroll Tax Forms and

Payments
Preparation of payroll tax forms
Timely payment of the payroll taxes
withheld and other withholdings

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 16

Inventory and Fraudulent

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

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 17

Methodology for Designing Tests

of Balances for Payroll Liabilities
Identify client business
risks affecting
Phase I
payroll liability accounts
Set tolerable misstatement
and assess inherent risk Phase I
for payroll liability accounts
Assess control risk for the
Phase I
payroll and personnel cycle
2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 18

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

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 19

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
2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

Phase III

20 - 20

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

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 21

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

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 22

Analytical Procedures for

the Payroll and Personnel
Cycle

Analytical procedure

Possible misstatement

Compare commission
expense as a % of
sales with previous years

Misstatement of
commission expense
and commission liability

Compare payroll tax

Misstatement of payroll
expense as a % of salaries tax expense and payroll
and wages with prior year tax liability

Compare accrued payroll

Misstatement of accrued
tax accounts with prior yearpayroll taxes and expens
2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 23

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

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 24

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).

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 25

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 benefi
Accrued payroll taxes

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 26

Tests of Details of Balances

for Expense Accounts

Officers compensation
Commissions
Payroll tax expense
Total payroll
Contract labor

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 27

Presentation and Disclosure

Objectives
Required disclosures are not extensive
Some complex transactions require
footnote disclosure

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 28

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
2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

20 - 29

End of Chapter 20

2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley

5-5