Unit - 03

Internal Check,
Internal Control and
Internal Audit

Structure:
(A)Internal Check
Meaning, definitions, fundamental principles,
internal check as regards wages, cash sales, cash
purchases, internal check in a store.
(B) Internal Control
Elements for internal control. Evaluation of
internal control system - Internal control
questionnaire.
(C) Internal Audit
Meaning, importance advantages and limitations

Internal Control
Internal control is the whole system of control
established by the management for the proper conduct
of various activities of the organization.
It is not only internal check and internal audit but also
the whole system of control financially and otherwise
established by the organization in order to carry out
the business in orderly and efficient manner.
It is useful for the organization to safeguard the assets
and serve the reliability of accounting records.
In other words, it is the overall control adoptedby the
organization.

Features:
It is the overall control adopted by the
management.
It comprises of plans, methods and procedures
for the effective control of the operations of the
business.
It comprises of internal check, internal audit,
accounting system and administrative control.
It is established by the management.
It intended to help the management to run the
business efficiently.

Objectives:
To ensure that transactions are recorded proper books of
account.
See that all transactions are carried out only on account
of a sanction of authority.
See that management policies and decisions are properly
implemented.
To ensure efficient conduct of business.
To evaluate the efficiency of performance of the various
personnel.
To safeguard the assets of the organization.
To safeguard the interest of the organization.
To ensure reliability of accounting records.
To ensure the periodical verification of assets.

Forms of internal control.

1. Accounting Control.
It ensures the reliability of accounting
transactions.
Accounting transactions are recorded by using
accounting principles.
2. Administrative Control.
It is concerned with distribution of authority and
decision making process of management.
Overall operation efficiency of the organization is
ensured.

Essentials of Good internal Control:

It should be clear and well developed plan of organization.
There should be competent and trust worthy personnel for the
success of the business.
There should be segregation of duties: - Operational duties are
separated from recording duties. Physical handling of asset must
be separated from accounting records.
There should be administrative traditions and practices for the
performance of the duties.
There should be well developed and adequate accounting system.
There should be a sound system of maintenance and recording of
accounts.
There should be effective internal check system.
There should be good audit system.
Periodical review of internal control.

Scope of Internal Control

General financial control
Cash control
Control over trading transactions
Control over employees remuneration
Capital expenditure control
Others
Maintenance of staff relationship
Stock maintenance
Control over investments

Advantages
A. Advantages to the business
Provide accurate and reliable data to the management
for taking correct decisions.
Ensure that policies and procedures are complied with.
Promotes operational efficiency.
Help to attain organizational goal.
To safeguard the assets of the organization.
To ensure the reliability of accounting records.

B. Advantages to the auditors

Helps the auditor in framing the audit program.
To ascertain extent of test check can apply.

Limitations
Expensive.
Transactions of unusual nature may not be subject to
internal control.
Human errors remain in any system of control.
Limitation of preventing frauds committed through
collusion between persons.
It may not be keep pace with the change in the
condition.

Elements/ Principles of Internal Control

Competent and trustworthy personnel
Records, financial and other organizational plans
Segregation of duties
Supervision
Authorization- written
Sound Practices
Internal audit
Arithmetic and accounting controls

Review or evaluation of Internal Control System

Determining the prevailing control mechanism in the
organization
Close examination of transactions
Internal control questionnaire
Assess the strengths and weakness of the system based
on the information gathered
Recommendations and follow-up

Internal Control Questionnaire

It lists the various questions which an auditor may
put forth to his client in order to verify the
existence and efficiency of internal control system.
The Internal control questionnaire should normally
be prepared taking into consideration the broad
categories as given below:

Segregation and rotation of duties

Maintenance of records and documents
Accountability for, and safeguarding of, assets
Procedure for authorizations
Independent Checks.
Format of Internal Control Questionnaire - EXHIBIT - 1

Internal Audit
Is a continuous and systematic review of the
accounting, financial and other operations of a
concern by the staff specially appointed for the
purpose.
In other words, it is the audit of accounts by the
staff specially appointed for the purpose.
Howard F. Stettler, "internal auditing is an
independent appraisal activity within an
organisation for the review of operations as a
service to management.

Features of Internal audit:

It is generally undertaken by large concerns.
It is not compulsory.
The scope of internal audit may vary, depending upon
the nature and size of the concern.
It may be in addition to external audit.
It is conducted by the staff of the concern.
The techniques and methods of auditing employed in
internal audit are the same as those in external audit.
It is an integral part of internal control.
The staff engaged in internal audit is appointed by the
management. They are responsible to the management.

Objectives of Internal audit: To ascertain whether internal check and accounting

systems are adequate and effective.
To ascertain whether predetermined policies, plans and
procedures have been complied with.
To ascertain the reliability of the accounting and other
data.
To evaluate the performance of the personnel.
To ascertain whether the properties of the concern are
safeguarded.
To suggest to the management the improvements
desired in the internal check systems, accounting
system etc.

Importance and advantages of internal audit

It is helpful to the management to ascertain whether the
internal check and accounting systems are adequate and
effective to prevent errors and frauds.
It helps the management to ascertain whether the
predetermined policies, plans and procedures have been
complied with.
It is helpful to ascertain the reliability of the accounting
and other data complied within the organization.
It is helpful to evaluate the performance of the personnel.
It helps to ascertain whether the properties of the concern
are safeguarded.
It covers the review of accounting and non accounting
matters

Limitations
It is conducted by staff who may not be a qualified one.
It is optional.
Quality depends upon the decisions of management
Expensive

Internal Check
It is an arrangement of accounting work under which
the work of one person comes under the security of
another person.
It is an arrangement of accounting system under which
no one person is allowed to carry out one work
completely, Specialization & division of work is
important one.
The work of one staff is automatically checked by
another person in order to locate errors and frauds.
De Paula has defined internal check as "a continuous
internal audit carried on by the staff itself by means of
which the work of each individual is independently
checked by other member of the staff."

Objectives
Proper division of work.
Minimization of errors and frauds.
Easily detection of errors and frauds.
Ensures the reliability of accounts.
Easily preparation of final accounts.
Simplification of the external auditors work

Advantages
A. Advantages to business

Proper division of work

Fixation of responsibility
Greater efficiency of the staff.
Increased carrying capacity.
Early detection of errors and frauds.
Easy preparation of final account.
Truth and accuracy of accounting can be available

B. Advantages to Owners.
Genuineness and accuracy of the account.
Overall efficiency, economy in operations, increased profit etc..

C. Advantages to Auditor
There is no need for detailed examination of book of accounts.
It reduces burden.

Limitations
Suitable only for big concerns.
Sacrifice of quality for quickness.
Certain type of disorder, confusions etc... in the
working of the organization.
Useful only when there is no collusion between
employees.
Risky for the auditor.

Principles and essential of good internal check system

Simple, easy workable and effective.

Not be too expensive.
Carefully devised and properly regulated.
Authority should be clearly defined.
Proper division of responsibility.
Division of work among the staff.
Work of similar nature should be entrusted with one person to
ensure specialization.
No individual should be allowed to perform one work completely.
Work should be distributed in such a way that the work of one staff
is automatically check another.
No employee should be allowed to remain a particular job for a
long period.
No employee of the concern should be rely upon too much.
Proper reporting to the management.

 Proper system of filing vouchers.

Safeguards should be prescribed for the safe custody of
unused cheque book, securities etc
There should be a self balancing ledger system.
All incoming letter should be opened by responsible officers.
The receipt of cash and disbursement should be entrusted to
different personnel.
Cashier should have no access to ledger.
All remittance received should be deposited in a bank
immediately.
All cash payments should be made by a cheque.
Cash and bank balance should be verified frequently.
There should be effective control of receipts and issue of
goods.
There should be a perpetual inventory system

Difference between Internal Control, Internal Check and Internal Audit

Internal Control

Internal Check

Internal Audit

It is the whole system of control It is the arrangement of Continuous review of records by

established by management.
accounting work under which the staff
work of one person comes under appointed for the purpose.
another.
Scope of internal control is very Scope of internal check is less.
wide. it includes internal check
and internal audit.

Scope of internal audit is less that

of internal control wider than
internal check.

The objective is to safeguard the Objective is to locate errors and The object of internal audit is to
asset of enterprise.
frauds.
assure the management that the
system of internal control and
internal check in operation are in
effective in design and operation.
There is no separate staff.

There is no separate staff

It is conducted by the staff

specially appointed for the
purpose called as
internal auditor

Internal control is exercised when Internal check is exercised when It is undertaken by the auditor
the work of employees in the work of employee is in after the work has been
progress.
progress.
completed.
Any organization
internal control

can

adopt Any organization

internal check.

can

adopt Internal audit is adopted only

those concerns which really need
it

Internal check as regard cash sales

Cash sales may be affected in various ways like
a) sale at counter,
b) postal sales, i.e. sales under mail order, and
c) sales by representative and agents
a) sale at counter
One salesman should be appointed to look after one counter independently
Each salesman must be issued with a separate cash memo book.
Each salesman must maintain a sales sheet.
Cash memos are to be issued with carbon copies.
The salesman must not receive cash on the cash memos issued by him.
All payments on the cash memo of the salesman must be made by the
customer at the cash counter

b. Postal sales i.e. sales under mail order

All sales made by post i.e. V.P.P (value payable post) should be recorded in a
separate register to be maintained for the purpose.
The goods returned, if any, should also be recorded in the register.
The total amount of cash receipts including advance, if any, against the mail
orders should be entered in the register and the same should be deposited into
the bank.
All the entries in the V.P.P. register should be checked by some responsible
officer and special inquiries should be made in respect of those goods against
which cash has not been received.
There should be proper filing of mail orders received and the cash book
should be checked with these mail orders.

c. Sales by representative and agents

The representatives and agents should be authorised to issue rough receipts to the
customers against cash received from them. However, the final receipt should be
issued only by the head office.
The customers should be advised to communicate directly with the head office if they
do not get the final receipt within a reasonable time period.
The representatives and agents should be instructed to remit the amount of cash
collected by them to the head office without any delay.
The representatives and agents must not be allowed under any circumstances to
deduct their commission or any other expenditure from the amount of cash collected
by them. The bill for commission and other expenses should be submitted to the head
office.
As a matter of routine the head office should send periodical statements of accounts
to the customer with a view to apprise them of the latest position.
The representatives and agents should be advised to submit periodical statements to
the head office showing therein the amount of sales made by them, the amount of
cash collected by them and the names of the defaulters.
The head office should issue reminders to those defaulting customers who have failed
to clear their dues.
The representatives and agents must not be allowed to operate from a fixed place. On
the contrary, they should be transferred from time to time to other place in order to
increase their efficiency and to avoid the possibility of committing fraud

Internal check as regards purchases

There should be separate purchase department.
Purchase order are to be issued only against indents received from the
various department of the business.
All orders should be a placed in writing.
The orders must be made in quadruplicate
All orders for purchase, should be signed only by the purchase manager or
the person authorised for this purpose.
All orders should contain the seal of office.
The goods received should be inspected with the copy of the order.
The goods received are to be examined with delivery notes and supply
invoices of the seller regarding quantity, quality and rates.
The purchase department should make an endorsement putting rubber stamp
on the suppliers bill with reference to goods received.
After inspection and examination 'Goods Received Note is to be prepared
for each lot of purchase. The inspection note should also be attached to it.
Endorsement must be made by the purchase manager or the authorised
official of stores department to take the goods into stock.

 The stores department should acknowledge receipt of goods and send the same to the
order department.
All packages of incoming goods are to be opened only in the presence of a
responsible official.
The stores officer on verification of the correctness of the goods received should enter
them in the stock register.
The Payment on purchases must be made only after accounts department verifies the
invoice, goods received note and purchase order.
The accounts department should impress a rubber stamp on invoices which are passed
for payment.
A separate purchase register is to be maintained by the purchase department
Ledger clerk should have no access to physical stock register or cash to avoid
manipulation of accounts.
For inter-branch purchase or inter-company purchases transfer notes should be issued.
All Purchases that are made by employee for the personal use must be accounted for
separately.
A separate return outward book is to be maintained to record the return of goods to
suppliers.
Credit notes are to be issued for adjusting claims. The purchase department should
send a copy of credit note to accounts department.

Internal Check as regards Wage Payment

1) Workers should be employed only after the written order of the
Personnel Officer or the appointing authority. A copy of the
appointment order be endorsed to the wage preparing section.
2) Separate staff should record attendance of workers, control of
leave, payment of overtime and disbursement of pay packets.
Each staff member shall be responsible to enter relevant
information in the wage sheet. He should also put initials for
the work completed by him.
3) The wage sheet shall contain columns for recording relevant
information with regard to payment of wages such as name of
the employee, designation, period for which wages are paid,
rate of pay amount of basic pay, dearness allowance, house rent
allowance, compensatory allowance and other allowance, gross
salary drawn, deductions

4) Separate records should be maintained for each worker indicating the date of
appointment, scale of pay, rate of pay, etc. Copies of orders relating to increase in pay,
promotions and punishments, deduction in wages on account of Provident Fund, Loan,
Medical, Ground Insurance etc. shall be endorsed to wage preparing section.
5) Separate job cards are to be maintained for recording the work performed by the worker.
6) Each worker is to be given a pay slip indicating the gross wages and net wages.
7) Separate register is to be maintained for recording the name of workers who may be
allowed to work overtime. No worker shall be allowed to work overtime without the prior
sanction of the proper authority.
8) Time recording clocks shall be installed at the main gate of the factory for recording the
arrival and departure of workers.
9) The rosters of workers for each work should be prepared and copy of the same be sent to
the wage preparing section.
10) Late arrival of workers shall be entered in a separate register and the same be sent to the
personnel section for future reference.
11) Proper watch and ward arrangement is to be maintained to record the arrival of the
workers and the time of leaving the factory
12) The rate of wages of each worker is to be periodically checked with reference to rate
card.
13) All calculations regarding gross wages and net wages payable after deduction are to be
checked by an independent person.

End of the Unit - 03