Question

If a company’s control risk is initially assessed as low, the auditor needs to gather evidence on the operating effectiveness of the controls. For each of the following control activities listed as (1)–(10), do the following two tasks:  

a. Describe the test of control that the auditor would use to determine the operating effectiveness of the control.

b. Briefly describe how substantive tests of account balances should be modified if the auditor finds that the control is not working as planned. In doing so, indicate (a) what misstatement could occur because of the control deficiency, and (b) how the auditor’s substantive tests should be expanded to test for the potential misstatement.  

6. Employees are added to the payroll master file by the payroll department only after receiving a written authorization from the personnel department.

A)

B)

Answer 1

Introduction: The employees who get added to the payroll master has got high risk attached to it because of following reasons

1. There may be fictitious employees created and added to the master to process fake salary payments

2. Employees who are incapable of the position may be recruited in the company without proper authorization

Because of the above risks the control in the question should be implemented very strictly where personnel department being an independent department should give a written authorization before adding any person to the payroll master.

A) Test of operating effectiveness:- This test is performed by obtaining the list of new additions during the year and for samples checking whether there is an written authorization from the personnel head to add the new Joiner into the payroll master. Where the control is assessed to be not performing well. Then the auditor has to amend his substantive tests to ascertain a reasonable assurance on payroll cost.

B) The substantive tests should be as follows which tries to obtain maximum comfort over the payroll cost

Analytical procedures

1. Comparing the previous year payroll cost with current year payroll cost and analyzing proper reasons for the differences

2. Comparing the recruitment agency fee if any between previous year and current year and analyze the differences

Other substantive procedures

1. Estimating the payroll cost basis the master and comparing with actual payroll cost

2. Comparing the pay details with the master as well as offer letter for sample cases of joiners. (Since there are cases of no written authorization from the personnel department there may be changes of pay sheet details)

3. Checking whether the recruited employees are actually required by checking their Job requisitions by the respective departments and obtaining evidences for interview and selection procedures.

4. Obtaining attendance register and checking that the joiners were attending office.