What is the internal control procedures? The management of an organization designs and implements different types of internal control procedures to secure the assets and critical information held at various locations of the organization.
Internal Control Procedures
Internal controls are the mechanisms, rules, and procedures put in place by a company to ensure the accuracy of financial and accounting data, promote accountability, and prevent fraud.
Internal controls can help improve operational efficiency by improving the accuracy and timeliness of financial reporting, in addition to complying with laws and regulations and preventing employees from stealing assets or committing fraud.
Control procedures may have the following attributes:
Physical Controls
Physical controls are designed and applied to prevent unauthorized access to the assets, infrastructure, office premises, or any department in particular. Application of physical controls ensures that critical assets, infrastructure, sensitive information, and office locations are not accessed by any unauthorized individual or employee.
Examples of physical controls include the use of swipe cards and passwords to enter the office premises or any department or work area.
Authorization And Approval Limits
Management defines different authorization and approval limits for different departments and functions of the organization. Management and employees are required to comply with such authorization and approval limits, which are approved by the board and senior management.
For example, an officer may be authorized to buy assets up to the value of $100, but for assets costing more than $100, the asset purchase may have to be approved by a senior manager.
Another example related to authorization is the acquisition authorization of any asset or asset above the value of $2000 by the departmental head.
Authorization and approval limits are periodically reviewed for necessary amendments in the assigned limits. Periodic review is performed due to employees resigning from the organization, and authorization rights previously granted to the resigned employee are assigned to the new hire or backup employee.
Segregation Of Duties
Segregation of duties means that management defines the job roles and activities and segregates between employees according to their level of expertise. It minimizes the risk of errors and fraud. For example, duties associated with handling cash in a bank are often segregated. Segregation of duties is also relevant to departments and functions. For example, an internal audit department is often segregated from a finance department with both reporting directly to the board audit committee.
Arithmetic And Accounting Controls
Arithmetic controls and accounting controls are developed and applied to ensure that transactions are recorded and processed completely and accurately. For example, the accounts manager performs certain procedures during bank reconciliations or the preparation of trial balances. Those procedures are accounting and arithmetic controls, which are applied to ensure that balances are reconciled and transactions are accurately recorded.
Human Resources (HR) Controls
In organizations, human resource is managed by a human resource (HR) department. The HR department hires, trains, and manages its human resource. To perform the HR functions and responsibilities, various HR-related internal controls are designed and developed.
For example, HR controls are applied by the human resource manager to verify the qualification of prospective employees and references provided. HR managers also check the background record of a prospective employee at the time of recruitment.
Understanding Internal Controls
Since the early 2000s accounting scandals, internal controls have become a critical business function for every company in the United States. Following their implementation, the Sarbanes-Oxley Act of 2002 was enacted to protect investors from fraudulent accounting practices and to improve the accuracy and reliability of corporate disclosures. By making managers responsible for financial reporting and creating an audit trail, this has had a significant impact on corporate governance. Managers who are found to have failed to properly establish and manage internal controls face serious criminal penalties.
The auditor’s opinion that comes with financial statements is based on an audit of the procedures and records that were used to create them. External auditors will test a company’s accounting processes and internal controls as part of an audit and provide an opinion on their effectiveness.
Internal audits assess a company’s internal controls, which include its corporate governance and accounting processes. They ensure that laws and regulations are followed, that financial reporting and data is accurate and timely, and that operational efficiency is maintained by identifying problems and correcting lapses before they are discovered in an external audit. Internal audits are increasingly important in a company’s operations and corporate governance, especially now that the Sarbanes-Oxley Act of 2002 holds managers legally responsible for the accuracy of its financial statements.
Why Are Internal Controls Important?
Internal controls are the mechanisms, rules, and procedures put in place by a company to ensure the accuracy of financial and accounting data, promote accountability, and prevent fraud. Internal controls can help improve operational efficiency by improving the accuracy and timeliness of financial reporting, in addition to complying with laws and regulations and preventing employees from stealing assets or committing fraud.
What Are the Two Types of Internal Controls?
Internal controls are broadly classified as preventative and investigative activities. Preventive control activities, which include thorough documentation and authorization practices, aim to prevent errors or fraud from occurring in the first place. Detective controls are backup procedures designed to catch items or events that the first line of defense missed.
What Are Some Preventive Internal Controls?
A key component of the preventive internal control process, separation of duties, ensures that no single individual is in a position to authorize, record, and be in custody of a financial transaction and the resulting asset. Preventative internal controls include authorizing invoices, verifying expenses, and restricting physical access to equipment, inventory, cash, and other assets.
What Are Detective Internal Controls?
Internal detective controls seek out problems in a company’s processes after they have occurred. They can be used to achieve a variety of objectives, including quality control, fraud prevention, and legal compliance. The most important activity in this case is reconciliation, which is used to compare data sets and take corrective action if there are material differences. External audits from accounting firms and internal audits of assets such as inventory are examples of detective controls.
Final Thoughts
Internal controls are the mechanisms, rules, and procedures put in place by a company to ensure the accuracy of financial and accounting data, promote accountability, and prevent fraud. Internal controls can help improve operational efficiency by improving the accuracy and timeliness of financial reporting, in addition to complying with laws and regulations and preventing employees from stealing assets or committing fraud. Internal audits are critical to a company’s internal controls and corporate governance, especially now that the Sarbanes-Oxley Act of 2002 holds managers legally responsible for the financial statements’ accuracy.
