Chapter 12 – Auditing the Human Resource Management Process
12-1
CHAPTER 12
AUDITING THE HUMAN RESOURCE
MANAGEMENT PROCESS
Answers to Review Questions
12-1 In addition to policies and processes around payroll transactions, the human resource
management process requires sound policies and processes for hiring, training,
12-2 There are two major types of transactions that are processed through the human resource
management process: (1) payments to employees for services rendered and (2) accrual
and payment of payroll-related liabilities arising from employees’ services.
The financial statements accounts that are generally affected by the two types of payroll–
related transactions are:
Payroll transaction:
• Cash
12-3 The payroll register, which is also referred to as the payroll journal, is a summary of all
payroll checks issued to employees. The payroll master file is the computer file that
maintains all the entity’s records related to payroll, including information on each
12-4 The following duties are performed in the human resources, timekeeping, and payroll–
processing functions:
Human Resources: Authorization of hiring, firing, wage rates and salary
adjustments, salaries, and payroll deductions.
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12-5 The following table contains the key segregation of duties in the human resource
management process and possible errors and fraud that can occur if such segregation of duties is
not present.
Segregation of Duties
Possible Errors or Fraud as a
Result of Conflicts in Duties
The supervision function should be
segregated from the personnel records and
payroll-processing functions.
Unauthorized payments to existing
employees or payments to fictitious
employees.
The disbursement function should be
segregated from the personnel records,
supervision, and payroll-processing
functions.
Unauthorized payroll checks may be
issued.
The payroll-processing function should be
segregated from the general ledger
function.
Concealment of a defalcation that
would normally be detected by
independent review of accounting
entries made to the general ledger.
12-6 Except for executive and share-based compensation, there are generally few inherent risk
factors that affect the human resource management process and its related accounts. Some
factors the auditor might consider include the effect of economic conditions on payroll
costs, the supply of skilled workers, the frequency of employee turnover, the presence of
labor contracts, and legislation such as the Occupational Safety and Health Act.
financial disclosures.
12-7 Two control environment factors that have a pervasive effect on the human resource
management process must be considered. First, the entity’s organizational structure, its
personnel practices, and its methods used to assign authority and responsibility must be
12-8 The key authorization points within the human resource management process include
authorization procedures for hiring and terminating employees, setting pay rates, making
12-9 Control activities must exist over the classification of payroll transactions to ensure that
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12-10 Two examples of audit procedures that can be performed using CAATs are: (1) testing
12-11 Substantive analytical procedures that can be used to test payroll accounts and payroll-
related accrual accounts are:
Payroll expense accounts:
1. Use a reasonableness test to develop an expectation based on number of employees
and prior year average compensation per employee category after considering pay
5. Estimate sales commissions by application of commission formulas to recorded sales
totals.
Payroll-related accrual accounts:
1. Compare current-period balances in payroll-related accruals with the prior periods’
balances after adjusting for changes in conditions.
2. Test reasonableness on accrual balances.
12-12 For the accrued payroll tax account, the auditor obtains a detailed account analysis
schedule. The credits to the account represent the recognition of payroll tax expense at
the end of each pay period. These amounts can be traced to the various payroll tax
12-13 Disclosure items for the human resource management process and related accounts
include:
• Pension benefits
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Answers to Multiple-Choice Questions
12-14
b
c
12-15
c
b
12-16
a
c
12-17
b
b
12-18
c
c
Solutions to Problems
12-24 To best prevent errors and fraud, one person should be assigned to each of the following
functions: human resources, supervision, timekeeping, payroll processing, disbursement,
and the general ledger. However, fewer could be hired, as long as certain segregations are
in place. The supervision function should be separated from the human resources and
12-25 a. Weaknesses in the internal control system are the following:
• Lack of approval of the foreman’s clock card by an appropriate supervisor is an
unsound practice. Employees should not be permitted to maintain their own time
records and submit them without approval.
• The computation of regular and overtime hours prepared by payroll clerk no. 2
that is used in the preparation of the payroll register is not compared with the
checks should not be distributed by the foreman.
• Unclaimed payroll checks should be in the custody of an employee who is
independent of the payroll process.
• The comparison of regular and overtime hours indicated on payroll checks with
regular and overtime hours indicated on clock cards should not be performed by
the clerk who is responsible for the original computation of regular and overtime
hours indicated on clock cards.
• The clerk who is responsible for preparing the payroll register should not perform
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the comparison of gross and net payroll indicated on payroll check with gross and
net payroll indicated in the payroll register.
b. One should inquire whether:
• Payroll clerk no. 2 checks clock cards for the foreman’s written approval.
so forth) are in existence.
12-26 McCarthy should consider performing the following procedures in the audit of Kent
Company’s payroll transactions:
1. Select a sample of payments to employees from the payroll register and compare each
selected transaction to the related documents and records, and examine
• Evidence in support of authorization of pay rate.
• Evidence in support of time on which compensation was based, such as approved
• The entry to the employee’s records used to summarize employee compensation for
payroll reporting purposes.
. 2. Obtain the payroll register for a selected period and
• Test the arithmetic accuracy of the payroll register.
• Determine whether payroll was approved in accordance with management’s
6. Perform analytical procedures.
12-27 a. In order to verify the information in the input form, James should:
• Compare the names, Social Security numbers, and withholding data on the input
form with W-4 forms.
• Compare names with employment authorizations.
b. James should perform the following procedures in the examination of the November
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payroll register:
• Compare information on the input form with information in the payroll register
and information on issued payroll checks (e.g., spelling of names, correctness of
• Check footings and crossfootings in the payroll register.
• Perform other related basic auditing procedures that may be deemed necessary in
accordance with the circumstances.
Solutions to Discussion Cases
12-28 a. The following edit checks might be used to detect errors during the typing of answers
to the input cues:
• Password: Ensures that the operator is authorized to access computer programs and
files.
• Field check to ensure that
• numbers are entered into and accepted by the system where only numbers are
required to be entered (e.g., numbers 0-9 in Social Security number).
• letters are entered into and accepted by the system where only letters are required
• Validity check: Ensures that only authorized data codes will be entered into and
accepted by the system where only such authorized data codes are required (e.g.,
authorized employee account numbers).
• Limit (reasonableness) check: Ensures that only data within predetermined limits will
be entered into and accepted by the system (e.g., rate per hour cannot be lower than
the minimum set by law or higher than the maximum set by management).
• Self-checking digit: Ensures that only specific code numbers prepared by using a
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digits).
• Missing-data check: Ensures that no blanks will be entered into and accepted into the
system when data should be present (e.g., an “S” or “M” is entered in response to
• Logic check: Ensures that spurious data are rejected (e.g., no negative regular hours).
b. The assurances provided by each validation check are provided within “a.” above.
Solution to Internet Assignment
12-29 a. A rough estimate of the average employee’s salary can be computed by dividing the
estimated employee compensation expense by the estimated total number of
employees. The salaries of the executive officers can be found on a number of
websites (e.g., www.aflcio.org/corporatewatch) and are usually found in the
company’s proxy statement or annual report. The salary for one officer divided by
the average salary equals the proportion of executive salary to average employee
salary.
In 2012, for large companies, the average overall CEO Compensation was over $12
C. Douglas McMillon, CEO of Wal-Mart Stores received over $19 million in 2014.
If the average employee salary is $35,000, the ratio is about 542 to 1.
In 2009, Michael S. Jeffries, the former CEO of Abercrombie and Fitch received
$36,335,644 in total compensation. By comparison, the median worker made
$33,190 in 2010. Mr. Jeffries made 1,094 times the median worker’s pay.
If we go back a few years, you will see the ratios were smaller. For example, J. Day,
the former President and CEO of KMART CORP earned about $2.9 million in salary
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and bonus in 2004. If the average employee salary is $40,000, the ratio is 72.5 to 1.
It is argued that this proportion is high because of the value of the executive’s
employee.
b. It is argued that if executive compensation is tied to the value of the stock price then
executives will perform better, because their interests will be aligned with those of
the company’s stockholders. Also by using stock based compensation, companies
of dollars by achieving earnings targets, the executive’s self-interests provide
incentives for earnings management or fraud in order to meet or beat earnings
forecasts.
c. Potential audit procedures may include:
• Analytical procedures can be used to benchmark compensation levels to
other companies in the industry and to examine trends over time.
• Evaluate whether there is proper objectivity in establishing compensation
(i.e., is there a compensation committee independent of management).