CHAPTER 7

internal control and cash

Summary of Questions by STUDY Objectives
and Bloom’s Taxonomy

Note: K = Knowledge C = Comprehension AP = Application

SUMMARY OF STUDY OBJECTIVES BY QUESTION TYPE

Note: TF = True-False MC = Multiple Choice Ma = Matching

Summary of questions by LEVEL OF DIFFICULTY (LOD)

Note: E = Easy M = Medium H=Hard

CHAPTER STUDY OBJECTIVES

1. Explain the activities that help prevent fraud and achieve internal control. Fraud is an intentional dishonest act that results in a personal financial benefit by misappropriating (stealing) assets or misstating financial statements. The three factors that contribute to fraud (the fraud triangle) are opportunity, financial pressure, and rationalization. Internal control consists of all the related methods and measures that management implements in order to achieve reliable financial reporting, effective and efficient operations, and compliance with relevant laws and regulations. Control activities include establishment of responsibility, segregation of duties, documentation procedures, physical and IT controls, independent checks of performance, and human resource controls.

2. Apply control activities to cash receipts and cash payments. Internal controls over cash receipts include (a) designating only personnel such as cashiers to handle cash; (b) assigning the duties of receiving cash, recording cash, and maintaining custody of cash to different individuals; (c) using remittance advices for mail receipts, cash register tapes for over-the-counter receipts, and deposit slips for bank deposits; (d) using company safes and bank vaults to store cash with only authorized personnel having access, and using cash registers to issue over the-counter receipts; (e) depositing all cash intact daily; (f ) making independent daily counts of register receipts and daily comparisons of total receipts with total deposits; and (g) bonding personnel who handle cash. Debit and credit card transactions increase internal control but have related bank charges. Electronic funds transfer receipts also increase internal control over cash receipts.

Internal controls over cash disbursements include (a) authorizing only specified individuals such as the controller to sign cheques; (b) assigning the duties of approving items for payment, paying for the items, and recording the payment to different individuals; (c) using pre-numbered cheques and accounting for all cheques, with each cheque supported by an approved invoice; (d) storing blank cheques in a safe or vault, with access restricted to authorized personnel, and print cheque amounts electronically; (e) comparing each cheque to the approved invoice before issuing the cheque, and making monthly reconciliations of bank and book balances; and (f) after payment, stamping each approved invoice “Paid.”

3. Describe the control features of a bank account. A bank account contributes to good internal control by giving physical and IT controls for the storage of cash, reducing the amount of currency that must be kept on hand, and creating a double record of a depositor’s bank transactions.

54. Report cash on the balance sheet. Cash is usually listed first in the current assets section of the balance sheet. Cash may be reported together with highly liquid very short-term investments called cash equivalents. Cash that is restricted for a special purpose is reported separately as a current asset or a noncurrent asset, depending on when the cash is expected to be used.

TRUE-FALSE STATEMENTS

1. Internal control is a process that helps an organization achieve reliable financial reporting.

2. The Sarbanes Oxley will have little impact on Canadian companies as it is legislation enacted in the United States.

3. A strong system of internal control will prove that an organization complies with all relevant laws and regulations.

4. Effective and efficient operations can be a result of a strong system of internal control.

5. Internal control is the responsibility of the external auditor of the organization.

6. A risk assessment of a company’s internal control would be done by the company’s insurance agent.

7. In order to assess risk, management will evaluate internal vulnerabilities and how they are connected with the changes in the external environment.

8. Control activities are the actions that must be taken to respond to risks that threaten reliable financial reporting.

9. Monitoring involves identifying the control activities and assessing the risks on these activities.

10. Proper segregation of accounting duties eliminates the need for internal control.

11. Responsibility for authorizing and approving transactions must be given to the correct person.

12. A VP of Sales would be the correct person to establish policies for making credit sales.

13. The responsibility for keeping the records for an asset should be separate from the physical custody of that asset.

14. In applying the control activity of segregation of duties, the responsibility for related activities should be assigned to the same individual.

15. When one person is responsible for all related activities, the potential for errors and irregularities increases.

16. One of the controls for documents is to have all of the documents pre-numbered.

17. Television monitors are an example of a physical safeguard control.

18. Independent checks of performance should be carried out only by external auditors.

19. An independent check of performance would be more effective if it is done by surprise.

20. An independent check of performance must be done by the supervisor of the employee as they would be the person who would best understand the duties of the employee.

21. Internal auditors are company employees.

22. Internal auditors evaluate the effectiveness of the organization’s external control.

23. External auditors may be employees of the company.

24. All private companies are required to have an external audit.

25. In Canada, the responsibility for internal controls is the responsibility of the management.

26. The concept of reasonable assurance is based on the belief that the cost of control activities should NOT be more than their expected benefits.

27. The size of a business may limit internal control.

28. Fraud is most likely committed by people inside an organization.

29. Opportunity to commit fraud occurs when the workplace lacks sufficient controls to deter and detect fraud.

30. Employees sometimes commit fraud because of too much debt. This is considered an opportunity to commit fraud.

31. The most important element of the fraud triangle is rationalization.

32. A debit card gives customers access to money made available by a bank or other financial institution and is essentially the same as a short-term loan.

33. Cash lacks owner identification.

34. The increased use of debit and credit cards improve a company’s internal control.

35. The person who handles the cash and makes the bank deposit should NOT be able to make changes to the sales record in the point-of-sale system.

36. Sales using debit cards are considered “cash” transactions.

37. One advantage of a debit card is that the retailer knows immediately whether the customer has enough money in their account to pay for the transaction.

38. One advantage of a cheque is that the retailer knows immediately whether the customer has enough money in their account to pay for the transaction.

39. Sales using a bank credit card are considered cash sales by the retailer.

40. Sales using a non bank credit card are considered cash sales by the retailer.

41. The fees for credit cards are higher than the fees for debit cards.

42. An electronic funds transfer will result in less internal control because no cash or cheques are handled by company employees.

43. Purchase orders are required for all cheques to be issued.

44. EFT Payments increase the risk of lost, stolen or forged cheques.

45. Having different people approve and make payments is an example of an independent check of performance control activity over cash payments.

46. For efficiency of operations and better control over cash, a company should maintain only one bank account.

47. Using a bank increases the internal control over cash.

48. If a company deposits all its receipts in the bank and pays all its bills by cheque, then the monthly bank statement balance will always agree with the company's record of its chequing account balance.

49. A company’s cash deposit, while appearing as a debit on the company’s books, would be shown as a credit on company’s bank statement.

50. A NSF cheque would always result in a journal entry by the company.

51. A debit memo by a bank would mean that a journal entry by the bank would be necessary.

52. Bank service charges are normally debited to Bank Charges Expense.

53. Staledated cheques would NOT be reported as cash on the Balance Sheet.

54. Most Canadian companies list cash first on the balance sheet because it is the most liquid of assets.

55. Cash is listed in the current asset section of the Balance Sheet.

56. International companies frequently list current assets in increasing order of liquidity.

ANSWERS TO TRUE-FALSE STATEMENTS

MULTIPLE CHOICE QUESTIONS

57. Which of the following is NOT a control activity?

a. financial reporting

b. independent checks of performance

c. documentation procedures

d. physical and IT controls

58. An effective control framework will NOT contain which of the following components?

a. risk assessment

b. monitoring

c. fraud committee

d. information and communication

59. Internal control has received increased attention in recent years. Which is NOT one of the drivers for the changes in the focus on internal control?

a. new regulations by Canada Revenue Agency

b. Sarbanes Oxley legislation in the United States

c. transition to the International Financial Reporting Standards

d. Canadian legislation for controls

60. The internal audit function is only effective when

a. control tasks are properly performed.

b. the results of an internal audit are reported to senior management and/or the company’s owners.

c. independent checks of performance are carried out on a regular basis.

d. reports are filed with the CICA.

61. Internal control helps an organization achieve all of the following EXCEPT

a. reliable financial reporting.

b. compliance with relevant laws and regulations.

c. absolute assurance that fraud will not occur.

d. effective and efficient operations.

62. Documentation procedures do NOT include which of the following?

a. prenumbered documents

b. source documents sent promptly to the accounting department

c. all controls written down and kept updated

d. alarms set at the close of the business day

63. An example of physical and IT controls would NOT include which of the following?

a. source documents sent promptly to the accounting department

b. alarms set at the close of the business day

c. computer facilities requiring a password or fingerprint

d. time clocks used to record time worked

64. Having one person responsible for the related activities of ordering merchandise, receiving goods, and paying for them

a. increases the potential for errors and fraud.

b. decreases the potential for errors and fraud.

c. is an example of good internal control.

d. is a good example of safeguarding the company's assets.

65. Internal auditors

a. are hired by CA firms to audit business firms.

b. are employees of the Canada Revenue Agency who evaluate the internal controls of companies filing tax returns.

c. evaluate the system of internal controls for the companies that employ them.

d. cannot evaluate the system of internal controls of the company that employs them because they are not independent.

66. When two or more people get together for the purpose of circumventing prescribed controls, it is called

a. a fraud committee.

b. collusion.

c. a division of duties.

d. bonding of employees.

67. The control activity related to NOT having the same person authorize and pay for goods is known as

a. establishment of responsibility.

b. independent check of performance.

c. segregation of duties.

d. rotation of duties.

68. Independent internal and/or external checks of performance would NOT include the following.

a. The checking should be done periodically or by surprise.

b. The checking should be done by someone who is independent of the employee who is responsible for the information.

c. Locked warehouses are used for storage of inventory.

d. Discrepancies should be reported to a management level that can do whatever is necessary to correct the situation.

69. Two individuals at a retail store work the same cash register. You evaluate this situation as

a. a violation of establishment of responsibility.

b. a violation of segregation of duties.

c. supporting the establishment of responsibility.

d. supporting independent checks of performance.

70. An accounts payable clerk also has access to the approved supplier master file for purchases. The control activity

a. establishment of responsibility is violated.

b. independent check of performance is violated.

c. documentation procedures is violated.

d. segregation of duties is violated.

71. In terms of segregation of duties, which one of the following is NOT related to the other three?

a. ordering the merchandise

b. making a sale

c. shipping the goods

d. billing the customer

72. In terms of segregation of duties, related buying activities include

a. ordering, receiving, paying.

b. ordering, selling, paying.

c. ordering, shipping, billing.

d. selling, shipping, paying.

73. Joe is a warehouse custodian and also maintains the accounting record of the inventory held at the warehouse. An assessment of this situation indicates

a. documentation procedures are violated.

b. internal independent check of performance is violated.

c. segregation of duties is violated.

d. establishment of responsibility is violated.

74. Sam Samson has worked for Tantramar Development for 20 years without taking a vacation. An internal control that would address this situation would be

a. human resource control.

b. physical and IT controls.

c. establishment of responsibility.

d. documentation procedures.

75. A system of internal control

a. can never fail.

b. can be ineffective if employees collude.

c. will have costs exceeding benefits.

d. is based on the concept of absolute assurance.

76. Which of the following factors does NOT contribute to fraudulent activities?

a. opportunity

b. promotion

c. financial pressure

d. rationalization

77. Which of the following is NOT an example of financial pressure to commit fraud?

a. gambling

b. too much debt

c. drug addiction

d. inexpensive lifestyle

78. Having one person receive all cash and a different person post to the Accounts Receivable account in the general ledger is an example of

a. inadequate internal control.

b. duplication of effort.

c. independent check of performance.

d. segregation of duties.

79. Stamping paid invoices “PAID” is an example of which of the following controls?

a. independent checks of performance

b. segregation of duties

c. documentation procedures

d. human resource controls

80. Documentation procedures over cash payments include all of the following EXCEPT

a. using prenumbered cheques.

b. ensuring each cheque has an approved invoice.

c. accounting for the numerical sequence of all cheques.

d. reconciling bank statements monthly.

81. From an internal control standpoint, the asset most susceptible to improper diversion and use is

a. inventory.

b. cash.

c. short-term investments.

d. accounts receivable.

82. Brown’s Convenience is open 7 days a week. The cash receipts from Saturday and Sunday are kept in an envelope in a back storage room and are deposited each Monday morning. This process violates which internal control activity?

a. establishment of responsibility

b. safeguarding of assets and records

c. segregation of duties

d. independent checks of performance

83. All of the following parties are involved when bank credit cards are used to make a retail sale EXCEPT

a. the bank credit card company.

b. the retailer.

c. the customer’s bank.

d. the customer.

84. Internal control over cash receipts will include all of the following EXCEPT

a. only designated personnel are authorized to handle cash receipts.

b. only one authorized person will receive the cash and record the cash receipts.

c. use of cash registers.

d. employees are required to take vacation.

85. Which of the following transactions are NOT covered by the term “Electronic Funds Transfer”?

a. prepaid smart cards

b. debit and credit card transactions

c. mail-in cheques

d. electronic bill payments using on-line banking

86. Joe Sanji purchases books from Canada Books Co. for $1,000, using his Royal Bank Financial Group VISA card. The service fee the bank charges Canada Books is 3%. The entry made to record the transaction by Canada Books is

a. Cash 1,000

Sales 1,000

b. Cash 970

Credit Card Expense 30

Sales 1,000

c. Cash 970

Sales 970

d. Accounts Receivable—VISA 970

Credit Card Expense 30

Sales 1,000

87. Jian Hua Dong filled up her vehicle using her debit card. The cost of the fill up was $50. Each time a customer uses a debit card Petro Canada is charged a transaction fee of $0.50. The entry to record the transaction by Petro Canada is

a. Accounts Receivable 50

Sales 50

b. Cash 49.50

Credit Card Expense 0.50

Sales 50

c. Cash 50

Sales 50

d. Accounts Receivable 49.50

Credit Card Expense 0.50

Sales 50

88. Sales using a retailer’s own credit card are considered to be

a. cash.

b. prepaid expenses.

c. accounts receivable.

d. bank loans.

89. Choose the statement which is MOST INCORRECT. Cheques received through the mail should

a. immediately be endorsed "For Deposit Only."

b. be verified against the customer’s bank balance. A clerk should call the customer’s bank to ensure that the customer has sufficient funds to cover the cheque.

c. be deposited at the bank as soon as possible.

d. be "rung up" on a cash register immediately.

90. Proper control for over-the-counter cash receipts includes

a. a cash register with totals visible to the customer.

b. using electronic cash registers with no tapes.

c. placing each customer deposit in a separate envelope.

d. placing each customer deposit in a safety deposit box.

91. The daily cash count of cash register receipts made by department supervisors is an example of

a. documentation procedures.

b. internal independent check of performance.

c. establishment of responsibility.

d. segregation of duties.

92. When customers make purchases with a bank credit card, the retailer

a. is responsible for maintaining customer accounts.

b. is not involved in the collection process.

c. absorbs any losses from uncollectible accounts.

d. receives cash equal to the full price of the merchandise sold from the credit card company.

93. The retailer considers VISA and MasterCard sales as

a. cash sales.

b. promissory sales.

c. credit sales.

d. contingent sales.

94. Which of the following has the greatest internal control?

a. payments made by credit card

b. payments made by cheque

c. payments made by Electronic Funds Transfer

d. payments made by cash

95. Electronic Funds Transfers are used to

a. reduce the risk of lost or stolen cheques.

b. reduce the cost of making payments by cheque.

c. used to make payroll payments to employees.

d. all of the above.

96. Control over cash payments is generally more effective when

a. all bills are paid when due.

b. payments are made by the accounts payable subsidiary clerk.

c. payments are made by cheque.

d. all purchases are made by one individual.

97. The use of automatic pre-authorized monthly bill payment

a. has declined significantly in Canada over the past several years.

b. reduces the effectiveness of an organization’s internal control system.

c. is a form of electronic funds transfer.

d. substantially increases the amount of paperwork required by the accounting department.

98. An employee authorized to sign cheques should NOT record

a. owner cash contributions.

b. mail receipts.

c. cash payment transactions.

d. sales transactions.

99. A debit balance in Cash Over and Short is reported as a

a. contra asset.

b. miscellaneous asset.

c. miscellaneous expense.

d. miscellaneous revenue.

100. Clearing is the process whereby

a. the bank account balance agrees with the company’s accounting records.

b. the signature on the cheque is compared to the signature card.

c. a cheque or deposit is accepted by the makers bank.

d. a deposit agrees with the daily cash receipts.

101. A bank statement

a. lets a depositor know the financial position of the bank as of a certain date.

b. is a credit reference letter written by the depositor's bank.

c. is a bill from the bank for services rendered.

d. shows the activity which increased or decreased the depositor's account balance.

102. Which one of the following would NOT cause a bank to debit a depositor's account?

a. bank service charge

b. an electronic funds transfer from a customer’s account

c. wiring of funds to other locations

d. returned cheques marked NSF

103. A company maintains the asset account, Cash in Bank, on its books, while the bank maintains a reciprocal account which is

a. a contra-asset account.

b. a liability account.

c. also an asset account.

d. an owner's equity account.

104. Which of the following is NOT a party to a cheque?

a. maker

b. buyer

c. payee

d. bank

105. A deposit made by a company will appear on the bank statement as a

a. debit.

b. credit.

c. debit memorandum.

d. credit memorandum.

106. A cheque marked "NSF" means

a. no service fee.

b. no signature found.

c. not satisfactorily filled out.

d. not sufficient funds.

107. A debit memorandum would NOT be issued by the bank for

a. certifying cheques.

b. the issuance of traveller's cheques.

c. transferring funds to other locations.

d. an electronic funds transfer received from a customer’s account.

108. Electronic funds transfer

a. occurs when a company has a computerized cash register.

b. occurs when a company downloads bank details to a company computer.

c. occurs when a certified cheque is requested.

d. is a system that electronically transfers funds between parties without the use of paper.

109. Notification by the bank that a deposited customer cheque was returned NSF requires that the company make the following adjusting entry:

a. Accounts Receivable

Cash

b. Cash

Accounts Receivable

c. Miscellaneous Expense

Accounts Receivable

d. No adjusting entry is necessary.

110. Bank errors

a. occur because of time lags.

b. must be corrected by debits.

c. must be corrected by the bank.

d. are corrected by making an adjusting entry on the depositor's books.

111. An adjusting entry is NOT required for

a. outstanding cheques.

b. EFT collections.

c. NSF cheques.

d. bank service charges.

112. All of the following are considered to be cash EXCEPT

a. cheques.

b. debit card receipts.

c. nonbank credit card slips.

d. money orders.

113. Which one of the following items would NOT be considered cash?

a. coins

b. money orders

c. currency

d. postdated cheques

114. Which of the following would NOT be reported on the balance sheet as a cash equivalent?

a. money market fund

b. sixty-day guaranteed investment certificate

c. restricted funds for plant expansion in two years

d. three-month treasury bill

115. A bank overdraft would be reported as

a. a current liability.

b. part of the current asset cash account.

c. restricted funds.

d. accounts receivable.

116. A bank overdraft occurs

a. after a bank reconciliation.

b. when a cheque is written for more than the amount in the bank account.

c. when a previously deposited customer cheque bounces.

d. when an error is discovered.

117. When reporting cash, many companies combine cash with

a. cash equivalents.

b. bank overdrafts.

c. short-term investments.

d. accounts receivable.

118. Restricted Cash is defined as

a. a temporary investment which is due in 90 days.

b. cash which is to be used for a special purpose.

c. cash which is held in a US bank.

d. a cash overdraft.

ANSWERS TO MULTIPLE CHOICE QUESTIONS

MATCHING QUESTION

119. Match the items below by entering the appropriate code letter in the space provided.

A. Prenumbered documents

B. Custody of an asset should be kept separate from the record-keeping for that asset

C. Cash registers, garment sensors and burglar alarms are examples

D. Bonding employees

E. Collusion

F. Payee

G. Maker

H. NSF cheques

I. Cash equivalents

J. Bank service charge

1. Segregation of duties

2. One to whom a cheque is payable

3. Two or more employees circumventing prescribed procedures

4. Prevent a transaction from being recorded more than once

5. Cheques which have been returned by the maker's bank for lack of funds

6. Physical control device

7. One who issues a cheque

8. Insurance protection against misappropriation of assets

9. Bank charge for the use of its services

10. Highly liquid investments

ANSWERS TO MATCHING QUESTION

1. B

2. F

3. E

4. A

5. H

6. C

7. G

8. D

9. L

10. K

Legal Notice

Copyright © 2014 by John Wiley & Sons Canada, Ltd. or related companies. All rights reserved.

The data contained in these files are protected by copyright. This manual is furnished under licence and may be used only in accordance with the terms of such licence.

The material provided herein may not be downloaded, reproduced, stored in a retrieval system, modified, made available on a network, used to create derivative works, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning, or otherwise without the prior written permission of John Wiley & Sons Canada, Ltd.