Internal control is a process that provides reliable financial reporting, effectiveness of operations and compliance with laws. It is a process companies develop and use internally for preventive and detective measures. There are several major components and risks are involved if the system isn't set up properly. Risk assessments are a standard procedure companies use to detect risks and avoid potential problems.
A good set of internal control procedures is vital to avoid compliance risks. Compliance risks involve the company breaking local or federal laws or policies. Compliance risks can cause misleading information within the company’s financial statements, and problems between the company and the Internal Revenue Service. To avoid this high risk, companies need to take preventative measures. Avoid compliance issues by having knowledgeable, honest employees, and keeping up with all laws and regulations.
Fraud is a common risk in an internal control system. Preventing fraud involves developing a good system that separates each employee's duties. Employees who accept payments should be separated from employees making deposits. An employee who inputs checking transactions should not also reconcile the checking accounts. A system of appropriate documentation is vital to avoid fraud; all transactions should be traceable to their origination point. These procedures are helpful in preventing fraud. You can detect fraud through unusual occurrences. Employees who appear to live beyond their means is often a symptom of fraud, as are missing or altered documents. Transactions that can't be traced are also a symptom that could be fraud-related.
A lack of employee monitoring is a risk often associated with internal controls. Even with an effective internal control system, risks can occur if employees aren't periodically monitored. Regular reviews and evaluations should be part of an internal control system. This includes spot-checking transactions to determine if they comply with regulations and company policies. Managers must also keep a close eye on financial reporting, always looking for discrepancies or irregular activity. Managers can also perform surprise cash and asset counts, holding employees responsible for any discrepancies.