Question 1: Choose the best response.

1.1. An auditor reviews the reconciliation of payroll tax forms that a client is
responsible for filing to

a. verify that payroll taxes are deducted from employees’ gross pay

b. determine whether internal control activities are operating effectively

c. uncover fictitious employees who are receiving payroll checks

d. identify potential liabilities for unpaid payroll taxes

1.2. Which of the following includes all payroll transactions processed by the
accounting system for a given period of time?

a) Payroll journal

b) Payroll transaction file

c) Time report

d) Payroll summary

1.3. Records that include data about employees such as employment date,
performance ratings and pay rates are the

a) human resource records

b) employee screening forms

c) summary payroll reports

d) employee folders

Question 2: These are selected question typically found in internal control

questionnaires used by auditors to obtain an understanding of internal control in the
payroll and personnel cycle. In using the questionnaire for a client, a “yes” response to
a question indicates a possible internal control, whereas a “no” indicates a potential
deficiency.

- Does an appropriate official authorize initial rates of pay and any subsequent
changes in rates?

- Are employees required to show identification to receipt paychecks?

Required:

a. State the transaction-related audit objective(s) being fulfilled if the control is in

effect.

b. List a test of control to test its effectiveness.

c. Identify the nature of the potential financial misstatement(s) if the control is not in
effect.

d. For the potential misstatement in part c., list a substantive audit procedure for
determining whether a material misstatement exists

Answer:

These are selected questions typically found in internal control questionnaires

used by auditors to obtain an understanding of internal control in the payroll and
personnel cycle. In using the questionnaire for a client, a “yes” response to a question
indicates a possible internal control, whereas a “no” indicates a potential deficiency.
- Does an appropriate official authorize initial rates of pay and any subsequent
changes in rates?
- Are employees required to show identification to receipt paychecks?

a. State the transaction-related audit objective(s) being fulfilled if the control is in

effect.

b. List a test of control to test its effectiveness.

c. Identify the nature of the potential financial misstatement(s) if the control is not in
effect.

a. State the transaction-related audit objective(s) being fulfilled if the control

is in effect.
- Audit objective (1): Accuracy: Recorded payroll transactions are stated at the
proper pay rates.
- Audit objective (2): Occurrence: Payments are made to actual employees.
b. List a test of control to test its effectiveness.
- Test of control (1): Examine authorizations in personal files. Review a sample
of payroll records for the period and verify that each initial rate of pay and
subsequent changes were authorized by an appropriate official (e.g., HR
manager or finance director)
- Test of control (2): Observe payments and discuss with employees. Observe the
paycheck distribution process and note whether employees are consistently
required to provide identification before receiving their paychecks. Also,
inspect records of paycheck distributions to see if identification was checked.
+ Inquiry employees
+ Inspection of documents: Check the payroll sheet: Examine the
existence of the number of identification and the sign of checking.
+ Re-performance: Take a sample of employees and compare the number
of identification with the payroll sheet.
c. Identify the nature of the potential financial misstatement(s) if the control
is not in effect.
- Potential misstatement (1): Employees are paid the wrong rate. Unauthorized
or incorrect pay rates may lead to employees being overpaid/underpaid.
- Potential misstatement (2): Payroll payments are made to wrong/fictitious
employees.

Question 3: Followings are the tests of controls and substantive tests of

transaction procedures often performed in the payroll and personnel cycle. (Each
procedure is to be done on a sample basis or using audit software).
- Reconcile the monthly payroll total for direct manufacturing labor with the labor
cost distribution.
- Examine the time card for the approval of a foreman.
- Trace the hours from the employee time cards to job tickets to make sure that the
total reconciles and trace each job ticket to the job-cost record.
- Account for a sequence of payroll checks in the payroll journal
Required:
a. Identify whether each of the procedures is primarily a test of control or a substantive
test of transactions.
b. Identify the transaction-related audit objective(s) of each of the procedures.

ANSWER:

Case Type of Test Transaction- Explanation

Related Audit
Objectives

1. Reconcile the Substantive Test - Accuracy- -Determine if

monthly payroll (main purpose is Classification monthly payroll costs
total for direct checking the are properly allocated
manufacturing accuracy of for accuracy.
labor with the payroll -Ensuring that the
labor cost information in amounts are
distribution. financial accurately recorded
statements) and properly
classified to
manufacturing costs.

0. Examine the time Test of Control Occurrence

card for the (check the -Ensuring that the
approval of a operating of hours reported
foreman. timesheet actually occurred and
authorization - a were approved by a
control activity) responsible
supervisor.

0. Trace the hours Substantive Test Accuracy, - This tracing

from the (check the Completeness procedure verifies
 employee time accuracy of or occurrence that every hour
cards to job payment recorded on the
tickets to make information ) employee time cards
sure that the total & is accurately
reconciles and TOC transferred to the job
trace each job ( reperform the tickets and ultimately
ticket to the job- reconciliation of to the job-cost
cost record. the auditee) records.
- Determine all
payroll checks are
recorded.
- Determine all
recorded payroll
occurred

0. Account for a Test of Controls Completeness

sequence of (check the or Occurrence - Determine if all
payroll checks in adequate payroll checks are
the payroll documents and recorded.
journal. records ) - verifies duplicated
& transactions
Substantive test
( ensure that all
payment
transactions are
recorded )