ACCOUNTING

INFORMATION
SYSTEM
1
 CHAPTER 4 

PAYROLL & FIXED ASSETS

2
A. PAYROLL
1. The Conceptual Payroll System
2. The Physical Payroll System
3. Reengineering the Payroll System

B. FIXED ASSETS
1. The Conceptual Fixed Asset System
2. The Physical Fixed Asset System
3. Controlling The Fixed Asset System
3
 A. PAYROLL

1. The Conceptual Payroll

System

4
 1. The Conceptual Payroll System

1. Personnel Department

The personnel department prepares and submits

personnel action forms to the prepare payroll function.
These documents identify employees authorized to
receive a paycheck and are used to reflect changes in
hourly pay rates, payroll deductions, and job
classification. Figure 4-2 shows a personnel action form
used to advise payroll of an increase in an employee’s
salary.

5
 1. The Conceptual Payroll System

2. Production Department
Production employees prepare two types of time
records:
1. Job tickets (Figure 4-3) capture the time that
individual workers spend on each production job.
Cost accounting uses these documents to allocate
direct labor charges to work-in-process (WIP)
accounts.
2. Time cards (Figure 4-4) capture the time the
employee is at work. These are sent to the prepare
payroll function for calculating the amount of the
employee’s paycheck. 6
 1. The Conceptual Payroll System

3. Update WIP Account

After cost accounting allocates labor costs to the WIP

accounts, the charges are summarized in a labor
distribution summary and forwarded to the general
ledger function.

7
 1. The Conceptual Payroll System

4. Payroll Department
1. Prepare the payroll register (Figure 4-5) showing gross
pay, deductions, overtime pay, and net pay.
2. Enter this information into the employee payroll
records (Figure 4-6).
3. Prepare employee paychecks (Figure 4-7).
4. Send the paychecks to the distribute paycheck
function.
5. File the time cards, personnel action form, and copy
of the payroll register.

8
 1. The Conceptual Payroll System

5. Distribute Paycheck
A form of payroll fraud involves submitting time cards for
nonexistent employees. To prevent this, many
companies use a paymaster to distribute the paychecks
to employees. This individual is independent of the
payroll process—not involved in payroll authorization or
preparation tasks. If a valid employee does not claim a
paycheck, the paymaster returns the check to payroll.
The reason the check went unclaimed can then be
investigated.

9
 1. The Conceptual Payroll System

6. Prepare Accounts Payable

The accounts payable (AP) clerk reviews the payroll
register for correctness and prepares copies of a cash
disbursement voucher for the amount of the payroll. The
clerk records the voucher in the voucher register and
submits the voucher packet (voucher and payroll
register) to cash disbursements. A copy of the
disbursement voucher is sent to the general ledger
function.

10
 1. The Conceptual Payroll System

7. Prepare Cash Disbursement

Upon receipt of the voucher packet, the cash
disbursements function prepares a single check for the
entire amount of the payroll and deposits it in the payroll
imprest account. The employee paychecks are drawn
on this account, which is used only for payroll. Funds
must be transferred from the general cash account to
this imprest account before the paychecks can be
cashed.
The clerk sends a copy of the check along with the
disbursement voucher and the payroll register to the
AP department. Finally, a journal voucher is prepared
11
and sent to the general ledger function.
 1. The Conceptual Payroll System

8. Update General Ledger

The general ledger function receives the labor distribution summary
from cost accounting, the disbursement voucher from AP, and the
journal voucher from cash disbursements. With this information, the
general ledger clerk makes the following accounting entries:
From the Labor Distribution Summary
DR CR
Work-in-Process (Direct labor) XXX.XX
Factory Overhead (Indirect labor) XXX.XX
Salaries and Wages Payable XXX.XX

From Disbursement Voucher

DR CR
Salaries and Wages Payable XXX.XX
Cash XXX.XX
Withholding Tax Payable XXX.XX
SSS Withholding Payable XXX.XX
12
Pag-ibig Withholding Payable XXX.XX
Philhealth Withholding Payable XXX.XX
 1. The Conceptual Payroll System

PAYROLL CONTROLS
1. Transaction Authorization
A form of payroll fraud involves submitting time cards
for employees who no longer work for the firm. To
prevent this, the personnel action form helps payroll
keep the employee records current.

This document describes additions, deletions, and

other changes to the employee file and acts as an
important authorization control to ensure that only the
time cards of current and valid employees are
processed. 13
 1. The Conceptual Payroll System

PAYROLL CONTROLS
2. Segregation of Duties
The time-keeping function and the personnel function
should be separated. The personnel function provides
payroll with pay rate information for authorized hourly
employees.
Typically, an organization will offer a range of valid pay
rates based on experience, job classification, seniority,
and merit. If the production (time-keeping)
department provided this information, an employee
might submit a higher rate and perpetrate a fraud.
14
 1. The Conceptual Payroll System
PAYROLL CONTROLS
2. Segregation of Duties (cont.)
For purposes of operational efficiency, the payroll function
performs several tasks. Some of these are in contradiction with
basic internal control objectives. For example, the payroll function
has both asset custody (employee paychecks) and
record-keeping responsibility (employee payroll records). This is
the equivalent in the general purchases system of assigning AP
and cash disbursement responsibility to the same person.

Segregating key aspects of the payroll transaction between AP

and cash disbursement functions returns control to the process.
AP reviews the work done by payroll (payroll register) and
approves payment. Cash disbursements then writes the check to
cover the total payroll. None of the employee paychecks is a
15
negotiable instrument until the payroll check is deposited into
the imprest account.
 1. The Conceptual Payroll System

PAYROLL CONTROLS
3. Supervision
Sometimes employees will clock in for another worker
who is late or absent. Supervisors should observe the
time-keeping process and reconcile the time cards
with actual attendance.

16
 1. The Conceptual Payroll System

PAYROLL CONTROLS
4. Accounting Records
The audit trail for payroll includes the following
documents:
1. Time cards, job tickets, and disbursement vouchers.
2. Journal information, which comes from the labor
distribution summary and the payroll register.
3. Subsidiary ledger accounts, which contain the
employee records and various expense accounts.
4. The general ledger accounts: payroll control,
cash, and the payroll clearing (imprest) account. 17
 1. The Conceptual Payroll System

PAYROLL CONTROLS
5. Access Controls
The assets associated with the payroll system are labor
and cash. Both can be misappropriated through
improper access to accounting records.
A dishonest individual can misrepresent the number of
hours worked on the time cards and thus embezzle
cash.
Similarly, control over access to all journals, ledgers,
and source documents in the payroll system is
important, as it is in all expenditure cycle systems. 18
 1. The Conceptual Payroll System
PAYROLL CONTROLS
6. Independent Verification
The following are examples of independent verification controls in
the payroll system:
1. Verification of time. Before sending time cards to payroll, the
supervisor must verify their accuracy and sign them.
2. Paymaster. The use of an independent paymaster to distribute
checks (rather than the normal supervisor) helps verify the
existence of the employees. The supervisor may be party to a
payroll fraud by pretending to distribute paychecks to nonexistent
employees.
3. Accounts payable. The AP clerk verifies the accuracy of the
payroll register before creating a disbursement voucher that
transfers funds to the imprest account.
4. General ledger. The general ledger department provides
verification of the overall process by reconciling the labor 19

distribution summary and the payroll disbursement voucher.

 A. PAYROLL

2. The Physical Payroll System

20
 2. The Physical Payroll System
MANUAL PAYROLL SYSTEM (Figure 4-8).
1. Payroll authorization and hours worked enter the payroll
department from two different sources: personnel and
production.
2. The payroll department reconciles this information, calculates
the payroll, and distributes paychecks to the employees.
3. Cost accounting receives information regarding the time
spent on each job from production. This is used for posting to
WIP account.
4. AP receives payroll summary information from the payroll
department and authorizes the cash disbursements
department to deposit a single check, in the amount of the
total payroll, in a bank imprest account on which the payroll is
drawn.
5. The general ledger department reconciles summary
information from cost accounting and AP. Control accounts 21
are updated to reflect these transactions.
 2. The Physical Payroll System
COMPUTER-BASED PAYROLL SYSTEM
AUTOMATING THE PAYROLL SYSTEM USING BATCH PROCESSING
(Figure 4-9)
Because payroll systems run periodically (weekly or monthly), they
are well suited to batch processing. The data processing
department receives hard copy of the personnel action forms, job
tickets, and time cards, which it converts to digital files. Batch
computer programs perform the check writing, detailed record
keeping, and general ledger functions.

The strengths and weaknesses of this system are similar to those in

the batch system for general expenditures discussed earlier. This
system promotes accounting accuracy and reduces check-writing
errors. Beyond this, it does not significantly enhance operational
efficiency; however, for many types of organizations, this level of
technology is adequate. 22
 A. PAYROLL

3. Reengineering the Payroll

System

23
 3. Reengineering the Payroll System
For moderate-sized and large organizations, payroll processing is
often integrated within the human resource management (HRM)
system. The HRM system captures and processes a wide range of
personnel-related data, including employee benefits, labor
resource planning, employee relations, employee skills, and
personnel actions (pay rates, deductions, and so on), as well as
payroll.

HRM systems need to provide real-time access to personnel files for

purposes of direct inquiries and recording changes in employee
status as they occur. (Figure 4-10)

This system differs from the simple automated system in three ways:
(1) the various departments transmit transactions to data
processing via terminals,
(2) direct access files are used for data storage, and
(3) many processes are now performed in real time. 24
 3. Reengineering the Payroll System

1. Personnel Department
The personnel department makes changes to the
employee file in real time via terminals. These
changes include additions of new employees,
deletions of terminated employees, changes in
dependents, changes in withholding, and changes
in job status (pay rate).

25
 3. Reengineering the Payroll System

2. Cost Accounting
The cost accounting department enters job cost
data (real time or daily) to create the labor usage
file.

26
 3. Reengineering the Payroll System

3. Time-Keeping
Upon receipt of the approved time cards from the
supervisor at the end of the week, the time-keeping
department creates the current attendance file.

27
 3. Reengineering the Payroll System
4. Data Processing
At the end of the work period, the following tasks
are performed in a batch process:

1. Labor costs are distributed to various WIP,

overhead, and expense accounts.
2. An online labor distribution summary file is
created. Copies of the file are sent to the cost
accounting and general ledger departments.
3. An online payroll register is created from the
attendance file and the employee file. Copies of
the files are sent to the AP and cash
disbursements departments.
28
4. The employee records file is updated.
 3. Reengineering the Payroll System
4. Data Processing (cont.)
5. Payroll checks are prepared and signed. They are sent
to the treasurer for review and reconciliation with the
payroll register. The paychecks are then distributed to
the employees.

6. The disbursement voucher file is updated and a check

is prepared for the funds transfer to the payroll imprest
account. The check and a hard copy of the
disbursement voucher are sent to cash disbursements.
One copy of the voucher is sent to the general ledger
department, and the final copy is sent to AP.
7. At the end of processing, the system retrieves the labor
distribution summary file and the disbursements voucher
29
file and updates the general ledger file.
 3. Reengineering the Payroll System
The real-time features of the payroll system provide
many of the operational benefits discussed earlier,
including reductions in paper, clerical labor, and
the lag time between event occurrence and
recording them.

As mentioned before, these features carry control

implications. Computer-based systems must
produce adequate records for independent
verification and audit purposes.

Also, controls must be implemented to protect

against unauthorized access to data files and
computer programs. 30
 A. FIXED ASSET

1. The Conceptual Fixed Asset

System

31
 1. The Conceptual Fixed Asset System

Fixed assets are the property, plant, and equipment

used in the operation of a business. These are
relatively permanent items that often collectively
represent the largest financial investment by the
organization.

Examples of fixed assets include land, buildings,

furniture, machinery, and motor vehicles. A firm’s fixed
asset system processes transactions pertaining to the
acquisition, maintenance, and disposal of its fixed
assets.
32
 1. The Conceptual Fixed Asset System

The specific objectives of the fixed asset system are

to:
1. Process the acquisition of fixed assets as needed and in
accordance with formal management approval and
procedures.
2. Maintain adequate accounting records of asset
acquisition, cost, description, and physical location in the
organization.
3. Maintain accurate depreciation records for depreciable
assets in accordance with acceptable methods.
4. Provide management with information to help plan for
future fixed asset investments.
5. Properly record the retirement and disposal of fixed
assets. 33
 1. The Conceptual Fixed Asset System
The fixed asset system shares some characteristics with the
expenditure cycle presented in Chapter 3, but two
important differences distinguish these systems.
First, the expenditure cycle processes routine acquisitions of
raw material and finished goods inventories. The fixed asset
system processes nonroutine transactions for a wider group
of users in the organization.
Managers in virtually all functional areas of the organization
make capital investments in fixed assets, but these
transactions occur with less regularity than inventory
acquisitions. Because fixed asset transactions are unique,
they require specific management approval and explicit
authorization procedures. In contrast, organizations often
automate the authorization procedures for routine 34
acquisitions of inventories.
 1. The Conceptual Fixed Asset System
The second difference between these systems is that
organizations usually treat inventory acquisitions as an
expense of the current period, while they capitalize fixed
assets that yield benefits for multiple periods.

Because the productive life of a fixed asset extends

beyond one year, its acquisition cost is apportioned over
its lifetime and depreciated in accordance with
accounting conventions and statutory requirements.

Therefore, fixed asset accounting systems include cost

allocation and matching procedures that are not part of
routine expenditure systems.

35
 1. The Conceptual Fixed Asset System
1. Asset Acquisition

• Asset acquisition usually begins with the departmental

manager (user) recognizing the need to obtain a new
asset or replace an existing one.
• Authorization and approval procedures over the
transaction will depend on the asset’s value.
• Department managers typically have authority to
approve purchases below a certain materiality limit.
• Capital expenditures above the limit will require
approval from the higher management levels.
• This may involve a formal cost-benefit analysis and
the formal solicitation of bids from suppliers.
36
 1. The Conceptual Fixed Asset System
1. Asset Acquisition (cont.)
• Once the request is approved and a supplier is
selected, the fixed asset acquisition task is similar to
the expenditure cycle procedures described in
Chapter 3, with two noteworthy differences.

• First, the receiving department delivers the asset into

the custody of the user/manager rather than a central
store or warehouse.

• Second, the fixed asset department, not inventory

control, performs the record-keeping function.

37
 1. The Conceptual Fixed Asset System
2. Asset Maintenance
• Asset maintenance involves adjusting the fixed asset
subsidiary account balances as the assets (excluding
land) depreciate over time or with usage.
• Common depreciation methods in use are straight
line, sum-of- the-years’ digits, double-declining
balance, and units of production. The method of
depreciation and the period used should reflect, as
closely as possible, the asset’s actual decline in utility
to the firm.
• Accounting conventions and BIR rules sometimes
specify the depreciation method to be used.
38
 1. The Conceptual Fixed Asset System
2. Asset Maintenance (cont.)
• Depreciation calculations are transactions that the
fixed asset system must be designed to anticipate
internally when no external event (source document)
triggers the action.
• An important record used to initiate this task is the
depreciation schedule. A separate depreciation
schedule, such as the one illustrated in Figure 4-12, will
be prepared by the system for each fixed asset in the
fixed asset subsidiary ledger.
• A depreciation schedule shows when and how much
depreciation to record. It also shows when to stop
taking depreciation on fully depreciated assets. This
information in a management report is also useful 39

for planning asset retirement and replacement.

 1. The Conceptual Fixed Asset System
2. Asset Maintenance (cont.)

• Asset maintenance also involves adjusting asset

accounts to reflect the cost of physical improvements
that increase the asset’s value or extend its useful life.
Such enhancements, which are themselves capital
investments, are processed as new asset acquisitions.

• Finally, the fixed asset system must promote

accountability by keeping track of the physical location
of each asset. Unlike inventories, which are usually
consolidated in secure areas, fixed assets are distributed
throughout the organization and are subject to risk from
theft and misappropriation.
40
 1. The Conceptual Fixed Asset System
2. Asset Maintenance (cont.)

• When one department transfers custody of an asset to

another department, information about the transfer should
be recorded in the fixed asset subsidiary ledger. Each
subsidiary record should indicate the current location of
the asset. The ability to locate and verify the physical
existence of fixed assets is an important component of the
audit trail.

41
 1. The Conceptual Fixed Asset System
3. Asset Disposal

• When an asset has reached the end of its useful life or

when management decides to dispose of it, the asset
must be removed from the fixed asset subsidiary ledger.
• The bottom left portion of Figure 4-13 illustrates the asset
disposal process. It begins when the responsible manager
issues a request to dispose of the asset. Like any other
transaction, the disposal of an asset requires proper
approval.
• The disposal options open to the firm are to sell, scrap,
donate, or retire the asset in place. A disposal report
describing the final disposition of the asset is sent to the
fixed asset accounting department to authorize its 42
removal from the ledger.
 A. FIXED ASSET

2. The Physical Fixed Asset

System

43
 1. The Physical Fixed Asset System
COMPUTER-BASED FIXED ASSET SYSTEM
• Because many of the tasks in the fixed asset system
are similar in concept to the purchases system in
Chapter 3, we will dispense with a review of manual
procedures.
• Figure 4-13 illustrates a computer-based fixed asset
system, which demonstrates real-time processing.
• The top portion of the flowchart presents the fixed
asset acquisition procedures, the center portion
presents fixed asset maintenance procedures, and
the bottom portion presents the asset disposal
procedures.
• Note: To simplify the flowchart and focus on the key features of the system, 44
we have omitted the processing steps for AP and cash disbursements.
 1. The Physical Fixed Asset System
1. Acquisition Procedures
• The process begins when the fixed asset accounting clerk
receives a receiving report and a cash disbursement
voucher. These documents provide evidence that the
firm has physically received the asset and show its cost.
From the computer terminal, a clerk creates a record of
the asset in the fixed asset subsidiary ledger. Figure 4-14
presents a possible record structure for this file.

• Notice that in addition to the historic cost information,

the record contains data specifying the asset’s useful life,
its salvage (residual) value, the depreciation method to
be used, and the asset’s location in the organization.
45
 1. The Physical Fixed Asset System
1. Acquisition Procedures (cont.)
• The fixed asset system automatically updates the fixed
asset control account in the general ledger and
prepares journal vouchers for the general ledger
department as evidence of the entry.
• The system also produces reports for accounting
management. Figure 4-15 illustrates the fixed asset status
report showing the cost, the accumulated depreciation
(if any), and residual value for each of the firm’s fixed
assets.
• Based on the depreciation parameters contained in the
fixed asset records, the system prepares a depreciation
schedule for each asset when its acquisition is originally
recorded. The schedule is stored on computer disk to 46
permit future depreciation calculations.
 1. The Physical Fixed Asset System
2. Asset Maintenance
The fixed asset system uses the depreciation schedules to
record end-of-period depreciation transactions automatically.
The specific tasks include:
(1) calculating the current period’s depreciation,
(2) updating the accumulated depreciation and book value
fields in the subsidiary records,
(3) posting the total amount of depreciation to the affected
general ledger accounts (depreciation expense and
accumulated depreciation), and
(4) recording the depreciation transaction by adding a record
to the journal voucher file.
Finally, a fixed asset depreciation report, shown in Figure 4-16, is
sent to the fixed asset department for review.
Note: Department managers must report any changes in the custody or status 47
of assets to the fixed asset department. From a computer terminal a clerk
records such changes in the fixed asset subsidiary ledger.
 1. The Physical Fixed Asset System
3. Disposal Procedures
• The disposal report formally authorizes the fixed asset
department to remove from the ledger an asset
disposed of by the user department.

• When the clerk deletes the record from the fixed asset
subsidiary ledger, the system automatically
(1) posts an adjusting entry to the fixed asset control
account in the general ledger,
(2) records any loss or gain associated with the disposal,
and
(3) prepares a journal voucher. A fixed asset status report
containing details of the deletion is sent to the fixed asset
department for review.
48
 A. FIXED ASSET

3. Controlling the Fixed Asset

System

49
 3. Controlling the Fixed Asset System

• Because of the similarities between the fixed asset

system and the expenditure cycle, many of the
controls are the same and have already been
discussed.

• Our discussion of fixed asset controls will thus focus

on three areas of principal difference between these
systems: authorization, supervision, and independent
verification.

50
 3. Controlling the Fixed Asset System
1. Authorization Controls
• Fixed asset acquisitions should be formal and
explicitly authorized.
• Each transaction should be initiated by a written
request from the user or department.
• In the case of high-value items, there should be an
independent approval process that evaluates the
merits of the request on a cost-benefit basis.

51
 3. Controlling the Fixed Asset System
2. Supervision Controls
• Because capital assets are widely distributed throughout
the organization, they are more susceptible to theft and
misappropriation than inventories that are secured in a
warehouse.
• Therefore, management supervision is an important
element in the physical security of fixed assets.
Supervisors must ensure that fixed assets are being used
in accordance with the organization’s policies and
business practices.
• For example, laptops purchased for individual employees
should be secured in their proper location and should not be
removed from the premises without explicit approval.
Company vehicles should be secured in the organization’s
motor pool at the end of the shift and should not be taken 52
home for personal use unless authorized by the appropriate
supervisor.
 3. Controlling the Fixed Asset System
3. Independent Verification Controls
• Periodically, the internal auditor should review the asset
acquisition and approval procedures to determine the
reasonableness of factors used in the analysis. These
include the useful life of the asset, the original financial cost,
the proposed cost savings as a result of acquiring the asset,
the discount rate used, and the capital budgeting method
used in the analysis.
• The internal auditor should verify the location, condition,
and fair value of the organization’s fixed assets against the
fixed asset records in the subsidiary ledger. In addition, the
automatic depreciation charges calculated by the fixed
asset system should be reviewed and verified for accuracy
and completeness. System errors that miscalculate
depreciation can result in the material misstatement of 53
operating expenses, reported earnings, and asset values.
 End of
Chapter 4
54