The Expenditure

Cycle Part II :
Payroll
Processing and
Fixed Asset
Procedures
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● This chapter focuses on understanding payroll and
fixed asset processes, identifying functional
departments, and identifying audit trails. It also
discusses exposures, controls, and operational
features of technology used in these systems. The
chapter is divided into two sections: a conceptual
overview of the payroll process, focusing on logical
tasks, key entities, information sources, and
document flow, and a discussion on fixed asset
systems, focusing on acquisition, maintenance, and
disposal processes.
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 Conceptual
Payroll System
00 & Data Flow
Diagram
(DFD)

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Conceptual Payroll System

• Payroll processing is a special-case purchases

system where labor is pursued, not raw materials or
finished goods.
• Payroll procedures differ greatly among classes of
employees, requiring special accounting procedures
for employee deductions and withholdings.
• General expenditure activities constitute a steady
stream of purchasing and disbursing transactions,
while payroll activities are discrete events.
• Preparing large numbers of payroll checks can
overload the general purchasing and cash
disbursements system.
• Writing checks to employees requires special
controls, which can encourage payroll fraud.
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Data Flow Diagram (DFD)

• Personnel Department: Prepares and submits

personnel action forms to the prepare payroll
function.
• Production Department: Prepares job tickets and
time cards to allocate direct labor charges to work-in-
process (WIP) accounts.
• Update WIP Account: Summarizes labor costs to
the WIP accounts and forwards them to the general
ledger function.
• Prepare Payroll: Receives pay rate and withholding
data from the personnel and production departments.
A clerk in payroll performs the following tasks.

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Payroll Fraud Prevention and Management

Payroll Fraud Prevention

• Paymasters distribute paychecks to prevent fraud by submitting time cards for nonexistent employees.
• If a valid employee doesn't claim a paycheck, the paymaster returns the check to payroll.

Accounts Payable Preparation

• Accounts payable clerk reviews payroll register for accuracy and prepares a cash disbursement
voucher.
• The voucher is recorded and submitted to cash disbursements.

Cash Disbursement
• Cash disbursements prepare a check for the entire payroll amount and deposits it in the payroll imprest
account.
• Funds must be transferred from general cash account to imprest account before paychecks can be
cashed.
• Check, disbursement voucher, and payroll register are filed in the AP department.

General Ledger Update

• The general ledger function receives labor distribution summary, disbursement voucher, and journal
voucher.
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General Ledger Clerk's Account Entry Process
• Makes entries from labor distribution summary, CS C, DR, CR, and other
accounts.
• Verifies debits and credits from these entries to prevent errors in labor
distribution charges or payroll calculation.
• Files voucher and labor distribution summary after verifying equality.

Payroll Controls
• Prevents transaction authorization to prevent fraud by ensuring only
current and valid employee time cards are processed.
• Separates time-keeping and personnel functions to prevent fraud.
• Provides payroll with pay rate information for authorized hourly
employees.
• Performs tasks in contradiction with basic internal control objectives,
such as asset custody and record-keeping responsibility.
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Payroll System Overview

Supervision:
• Observes time-keeping process and reconciles time cards with actual attendance.

Accounting Records:
• Includes time cards, job tickets, disbursement vouchers, journal information, subsidiary
ledger accounts, and general ledger accounts.

Access Controls:
• Controls access to all journals, ledgers, and source documents in the payroll system.

Independent Verification:
• Verifies time accuracy before sending time cards to payroll.
• Uses an independent paymaster to verify employee existence.
• Verifies payroll register accuracy before creating a disbursement voucher.
• Verifies the overall process by reconciling the labor distribution summary and payroll
disbursement voucher.
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 The Physical
00 Payroll
System

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Physical Payroll System Overview

• Review of manual procedures.

• Examination of automated and
reengineered payroll systems.
• Opens payment, false liability
creation, approval, and check writing.
• Flowchart detailing previous
procedures in a manual system.
• Key tasks include payroll
authorization and hours worked entry
from personnel and production.
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Payroll Department and Cost Accounting
• Reconciliation and calculation of payroll.
• Distribution of paychecks to employees.
• Time spent on each job for WIP account posting.
• AP authorizes cash disbursements to deposit total
payroll in bank imprest account.
• General ledger department reconciles summary
information from cost accounting and AP.
• Control accounts updated to reflect transactions.

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 Computer-
Based Payroll
00 Systems

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 Computer-Based Payroll Systems
● Automating Payroll System Using Batch Processing
• Payroll systems run periodically, making them suitable for batch processing.
• Data processing department converts hard copies of personnel action forms, job tickets, and time
cards to digital files.
• Batch computer programs perform check writing, detailed record keeping, and general ledger
functions.
• Strengths: Promotes accounting accuracy and reduces check-writing errors.
• Weaknesses: Does not significantly enhance operational efficiency.

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 Computer-Based Payroll Systems
● Reengineering the Payroll System
• Payroll processing is often integrated within the human resource management (HRM) system.
• HRM systems capture and process personnel-related data, including payroll.
• Real-time access to personnel files is necessary for direct inquiries and recording changes in
employee status.
• Key operating features include real-time changes to the employee file, cost accounting, and
time-keeping.

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 Computer-Based Payroll Systems
● Data Processing in Payroll System

• Distributing labor costs to WIP, overhead, and expense accounts.

• Creating an online labor distribution summary file.
• Creating an online payroll register from attendance and employee files.
• Updating the employee records file.
• Preparing and signing payroll checks.
• Creating a disbursement voucher file and preparing a check for funds transfer to the payroll
imprest account.
• Retrieving the labor distribution summary and disbursements voucher file and updating the
general ledger file.
• Implementing controls to protect against unauthorized access to data files and programs.

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 The Conceptual Fixed Asset System
Fixed Asset System Overview

• Processes acquisition, maintenance, and disposal of fixed

assets.
• Processes acquisition in accordance with formal management
approval.
• Maintains accurate accounting records of asset acquisition,
cost, description, and location.
• Maintains accurate depreciation records for depreciable
assets.
• Provides management with information for future fixed asset
investments.
• Properly records retirement and disposal of fixed assets.

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● Fixed Asset System vs. Expenditure Cycle

• Fixed asset system processes nonroutine transactions for a wider group of investment.
• These transactions require specific management approval and explicit authorization procedures.
• Organizations often automate authorization procedures for routine inventory acquisitions.
• Fixed asset accounting systems include cost allocation and matching procedures, not part of
routine expenditure systems.
• Fixed asset acquisition cost is apportioned over its lifetime and depreciated according to
accounting conventions and statutory requirements.

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 The Logic of a Fixed Asset System
The Logic of a Fixed Asset System

Asset Acquisition
• Identifies the need for new or replacement assets.
• Authorization and approval procedures depend on the asset's value.
• Department managers can approve purchases below a certain materiality limit.
• Capital expenditures above this limit require approval from higher management levels.
• The receiving department delivers the asset into the user's custody.
• The fixed asset department performs record-keeping, not inventory control.

Asset Maintenance
• Adjusts fixed asset subsidiary account balances as assets depreciate.
• Common depreciation methods include straight line, sum-of-the-years' digits, double-declining balance,
and units of production.
• Accounting conventions and IRS rules specify the depreciation method.
• Depreciation of fixed assets used to manufacture products is charged to manufacturing overhead and
then allocated to WIP.
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DFD of Fixed Asset System

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 Depreciation
Depreciation
Calculations in
Fixed Asset Market development Diversification
Systems strategy strategy
• Predict internal
transactions without
external triggers.
• Depreciation
schedule is crucial Market penetration Product development
for initiating task.
strategy strategy
• System prepares
depreciation
schedule for each
Current New
fixed asset in
subsidiary ledger. Products
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 Depreciation Schedule and Asset Maintenance
• Depreciation schedules indicate when and how much
depreciation should be recorded.
• It aids in planning asset retirement and replacement.
• Asset maintenance involves adjusting accounts to reflect the
cost of physical improvements.
• These improvements, considered capital investments, are
processed as new asset acquisitions.
• The fixed asset system promotes accountability by tracking
the physical location of each asset.
• Transfers of custody of an asset should be recorded in the
fixed asset subsidiary ledger.
• The audit trail's ability to locate and verify the physical
existence of fixed assets is crucial.

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02 Asset Disposal

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 Asset Disposal Process

• Assets must be removed from the fixed

asset subsidiary ledger when they reach
end of useful life or are disposed of.
• The process begins when a manager
requests disposal.
• Proper approval is required for disposal.
• Disposal options include selling,
scrapping, donating, or retiring the asset.
• A disposal report is sent to the fixed asset
accounting department for authorization.

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 The Physical Fixed
03 Asset System
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Computer-Based Fixed Asset System Overview

• Similar to the purchases system in Chapter 5, the system

uses real-time processing.
• The flowchart outlines fixed asset acquisition,
maintenance, and disposal procedures.
• Acquisition procedures begin with receiving a receiving
report and cash disbursement voucher.
• The clerk creates a record of the asset in the subsidiary
ledger, including historic cost, useful life, salvage value,
depreciation method, and location.
• The system updates the fixed asset control account and
prepares journal vouchers for the general ledger department.

• Produces accounting management reports.

• Displays fixed asset status report.
• Prepares depreciation schedule based on fixed asset
records. 28
 Asset Maintenance and Disposal Procedures in
Fixed Asset System
Asset Maintenance Disposal Procedures
• Uses depreciation schedules to automatically • The disposal report authorizes the fixed asset
record end-of-period depreciation transactions. department to remove an asset from the ledger.
• Tasks include calculating current period's • The system posts an adjusting entry to the fixed
depreciation, updating accumulated depreciation asset control account, records any loss or gain
and book value fields, posting total depreciation to associated with disposal, and prepares a journal
general ledger accounts, and recording the voucher.
depreciation transaction.
• Fixed asset depreciation reports are sent to the Controlling the Fixed Asset System
fixed asset department for review. • Authorization controls: Fixed asset acquisitions
should be formal and explicitly authorized.
• Supervision controls: Each transaction should be
initiated by a written request from the user or
department.

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Physical Security of Fixed Assets

• Management supervision is crucial for ensuring fixed

assets are used in line with organizational policies and
business practices.
• Microcomputers and company vehicles should be secured
in their proper locations and not taken home without
explicit approval.

Independent Verification Controls

• Internal auditors review asset acquisition and approval

procedures periodically to determine the reasonableness of
factors used in the analysis.
• They verify the location, condition, and fair value of the
organization's fixed assets against the subsidiary ledger.
• Automatic depreciation charges calculated by the fixed
asset system should be reviewed and verified for accuracy
and completeness.

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