Internal control in accounting includes procedures and policies that increase the reliability of your financial data and help prevent fraud. They include processes like separating duties and steps, keeping employees accountable, securing your cash and monitoring financial transactions.
However, there are still issues such as human error and misjudgment, managerial override, collusion and lack of understanding of controls that can negatively impact your company's accounting if you don't take further steps to address them.
TL;DR (Too Long; Didn't Read)
Some limitations of internal control in accounting include a lack of understanding of processes, collusion, managerial override, human error and misjudgment.
Misunderstanding Elements of Internal Control
One weakness of an internal control system is that it's only useful if your staff understands the system and actually follows the procedures. For example, you might have a policy that your accounting employees shouldn't leave the company's financial statements open on their computers while they're away from their desks. However, your employees might not understand that this still applies when taking a quick break to get some coffee because this can expose your confidential information to others who pass by.
To educate your employees, train them on exactly which processes to use and include scenarios where they'd apply them. You should also clarify individual responsibilities, emphasize the reasoning for internal controls and explain the consequences of not following them. Encourage employees to come to you with any questions to avoid further misunderstandings.
Collusion and Managerial Override
Even if you provide employees with comprehensive training so that they understand how your accounting internal controls work, this doesn't guarantee your staff will work together to follow them. In some cases, you might find that a few employees to whom you've assigned duties have worked together to commit fraud. For example, you might have one employee enter a transaction into your accounting system and another confirm the payment or receipt. These two employees could conspire together to enter and approve a fake supply expense and use the money for themselves.
In addition, managers alone might also make decisions to override your accounting internal controls, whether for fraudulent purposes or other reasons. For example, managers could let certain employees bypass steps while away on vacation, or they could override controls to manipulate financial data and steal from the business.
There are simple steps you can take to avoid such scenarios. In addition to regularly rotating employees when you segregate duties, you should also make it clear that your company will punish those who commit fraud and perform regular audits to catch suspicious transactions. Internal audits can help identify instances where managers bypass controls.
Human Error and Misjudgment
Even if you properly train employees and don't have fraudulent behaviors happening in your organization, human error and misjudgment can still happen. When business is really busy and a lot of checks are coming in, an accounting employee might not carefully evaluate each check to determine if it's fake or authentic. As a result, she might not notice that the check's bank logo looks questionable and just endorse it for deposit, which will lead to the check eventually bouncing.
Your accounting employees might also encounter unusual situations they've never seen before, and they may not know how to handle them. Perhaps an employee accidentally erases some important data from a customer's account and is unsure how to recover it, or maybe there's an unusual transaction that the accounting assistant doesn't know how to enter. These issues can especially occur if your company has high turnover and hires new employees with less experience. In either case, this lack of experience can cause your worker to make the wrong judgment call or even take no action and cause an error in your accounting system.
To help overcome these limitations of an internal control system, it helps to perform regular internal audits to check for errors and have new employees receive mentorship and thorough training. You should also avoid understaffing your accounting department during busy, stressful periods and allow your employees proper time off to avoid errors from fatigue.
- SA&I: Top Ten Things to Strengthen Internal Controls in the Office
- AccountingTools: Limitations of Internal Controls
- Intuit QuickBooks: Understanding Limitations of Internal Controls
- Kansas State University: Internal Control Limitations
- The University of Texas at Austin Office of Internal Audits: Internal Controls
- Lakelet Financial Forensics Group: Collusion: What Are The Signs - And How Can You Prevent It?
- John Foxx/Stockbyte/Getty Images