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Checking Your Work - The Internal Audit

One of the most critical steps to ensure the competency of your work is to audit your trial balance results. Conversely a dangerous premise is to assume that “if it came out of a computer, it must be right!”

There are three different types of financial audits. There are tax audits, performed by the various taxing authorities, independent audits performed by an independent CPA or CPA firm, and then there are internal audits performed by accounting employees or the freelance accountant that performed the accounting for the company. The following material pertains to the latter, internal audits.

Internal auditing is the process of review and analysis to substantiate the balances in the general ledger. Certainly the accuracy of the numbers is important when relying upon them to make decisions. The audit then, is an opportunity for you to identify any errors or omissions prior to sharing the information with the company owner, investor, banker, or manager.

In a small business the entire process may take only a few minutes, but as the business grows or becomes more sophisticated the internal audit process likewise takes more time.

There are three primary steps to performing an internal audit. The first two steps should occur each time you, the accountant, expect to publish financial reports such as a balance sheet. The third step may only occur three or four times per year.

Compare each material asset and liability balance to an outside source.

This step simply means to relate the total of each asset or liability balance (that exceeds $300 or some other material number) to something independent of the company's books. For example, you should reconcile your bank balance to the bank statement; Mail out statements to allow your customers to compare the balance you say they owe you with their records; Compare your inventory balance with what is actually on the shelves; etc.

To perform this step you may need more detail than your general ledger provides. A subsidiary ledger may provide such information. But, in accounts where the accountant will be the only person viewing the detail such as inventory and flooring, possibly a separate fully disclosed subsidiary ledger is not required. To see a format that works well for many types of accounts see the discussion on “City Cycle Reconciliations” later in this chapter.

Identify and research anomalies in the Sales, Cost of Sales, and Expense accounts.

Probably the easiest way to perform this part of the audit is to relate this month's sales, costs and expenses with last month's, and preferably several month's balances. If you note that any balance has significantly increased or decreased then you will want to research its accuracy. Any errors or omissions you discover should be corrected in the general journal.

Review each account balance with an eye for improvement.

Accountants provide the greatest benefit to the business when they are looking for ways to improve the financial results of a company. The most effective way to do this is to study each account individually and identify steps that might improve the performance of that account.

Although it would be impossible to list all the considerations you might make during this step, here are a few to get you headed in the right direction:

  • Is there excess money in the checking account that could be transferred to an interest earning account?
  • Can the company improve its collection procedures?
  • Is there idle inventory?
  • Does the company ever run out of inventory items?
  • Are there idle fixed assets that may be sold or put to work?
  • Are there expense categories that could be shaved without impacting sales negatively?
  • Are fluctuations in advertising costs also impacting sales?

Each time you take this step you will surprise yourself how many great ideas you can arrive at. Yes, many of the improvements you identify may have a small impact individually on the profitability of the business. But, if you get enough small ones, eventually they will add up to noteworthy improvements.

Advancing Your Account-Ability, Module III of the Professional Bookkeeper™ Program, explains Internal Audits in detail.

Click HERE to see what else is taught in Module III.

Want answers? Let’s explore the perfect training solution and business plan just for you. We can keep you updated on special course offers. Also, you’ll get our free introductory video about the benefits and methods of starting your own practice.

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