A double entry bookkeeping system should incorporate a series of accounting internal controls in order to minimize the risk of fraud, error and loss. Good internal controls in accounting allow a business to manage its resources to ensure that its operations are efficient and effective.
Types of Accounting Internal Controls
Internal controls are concerned with satisfying at least one of the following criteria within the accounting system.
- Validity – all amounts included are legitimate accounting transactions of the business.
- Accuracy – the correct amounts are posted to the correct accounts.
- Authorization – all transactions are properly authorized.
- Identify errors – errors in the bookkeeping system are identified and corrected.
- Completeness – all transactions are included.
- Segregation of duties – duties of employees are kept separate to prevent error and fraud.
- Existence – all assets and liabilities actually exist.
- Presentation – the system allows information to be made available in a timely manner, and in compliance with generally accepted accounting standards.
Examples of Internal Controls in Accounting
Internal controls can take many forms depending on the nature of the business involved and the bookkeeping system used.
For example, a cash based business will need to implement additional internal controls over the treatment of cash within the business in order to prevent fraud, whereas a non-cash based business might be more concerned with the physical security of high value inventory items.
As with any financial internal controls policies and procedures, their imposition will inevitably lead to additional time being spent in carrying out the various tasks involved, and care must be taken, particularly in a small business, not to introduce too many inefficiencies into the bookkeeping system in an attempt to reduce the risk of fraud and error to zero.
The list of internal controls in accounting shown below shows examples of some of the procedures adopted by businesses when implementing internal financial controls.
- Standardization and sequential numbering of accounting source documents such as invoices and goods received notes.
- Reconciliation of accounts to independent third party documents such as supplier statements or bank statements.
- Batch totaling of documents to provide an independent check on account posting totals.
- Accounting software controls to restrict access and to avoid incorrect inputs or to place limits on the amounts entered.
- Audit trails within the accounting software to identify the source of discrepancies and errors.
- Validity checks to ensure that documents have been approved.
- Segregation of duties such as separating the recording of cash from the actual physical banking of cash. The more duties are separated the less the chance of a single employee being able to make an unidentified error or commit fraud.
- Exception reports are run to identify and investigate anomalies and major discrepancies.
- Spot checks are carried out.
- Physical controls over cash, inventory and other assets. In addition the use of counts and random checks to ensure that assets are not lost or stolen.
- Cross training of employees in bookkeeping functions to allow duties to be rotated to allow error and fraud to be detected.
- Approval authority levels are set for employees. For example, which employees can approve large payments or the posting of adjusting journal entries.
- Responsibilities are clearly identified for each employee.
- Adequate managerial supervision is in place.
- Employees are properly trained.
By implementing and using a series of accounting internal controls a business can ensure that the risk of fraud and error is minimized, and that the financial information available to it is accurate and complete. In this way, the business can be confident in using the financial statements produced by the bookkeeping system as a basis on which to make informed decisions.
About the Author
Chartered accountant Michael Brown is the founder and CEO of Double Entry Bookkeeping. He has worked as an accountant and consultant for more than 25 years and has built financial models for all types of industries. He has been the CFO or controller of both small and medium sized companies and has run small businesses of his own. He has been a manager and an auditor with Deloitte, a big 4 accountancy firm, and holds a degree from Loughborough University.