Internal audit is an evaluation and analysis of the business operation conducted by the internal audit staff. (who are employee of the business). It is the part of over all system of internal control established in an organization.
Internal audit is the independent appraisal of activity with in an organization for the review of accounting, financial and other business practices as protective and constructive arms of management. It is a type of control which functions by measuring and evaluating the effectiveness of other type of controls.
Professor Walter B. Meigs define internal audit
Internal auditing consist of a continuous, critical review of financial and operating activities by a staff of auditors functioning as full time salaried employees.
Objectives of Internal Control
1. Proper Control
The purpose of internal control is to keep proper control over business activities. When there is proper control there is maximum efficiency. The internal control can determine the degree of control over work.
2. Accounting System
The purpose of internal audit is to evaluate the accounting system. It is concerned with checking proper authority for transactions like purchase, retirement and disposal of fixed assets. The voucher can be compared with entries on order to determine that figures are facts.
3. Help Management
The purpose of internal audit is to help the management. Internal auditor can point out the weaknesses. The internal audit can be used as a tool to correct the situation. The management functions can be performed properly.
4. Working Review
The purpose of internal audit is to review the working of business. The working of current year can be reviewed in detail just the successful area of working. There is a need to locate the weak points. The corrective measures can be taken for proper working.
5. Asset Protection
The purpose of internal audit is to protect the assets. The proper record of assets must be there. Internal auditor can examine the valuation, verification and possession. The purchase and sale of assets must be made under properly authority.
6. Internal Check
The purpose of internal audit is to evaluate the internal check system. There is division of duties among the emp is to loyees. When all staff member are working properly it means there is effective internal check system. The work of an auditor is reduced. He can apply test checks to complete audit duty.
7. Fair Statements
The purpose of internal audit is to detect the error in the accounting records. The work of internal audit can help the management to see that accounting record is in order.
8. Check Error
The purpose of internal audit is to detect the errors in the accounting records. The work of internal auditor goes side by side there fore there are minimum chances of errors. The accounting staff can rectify mistake to prepare accounts at the end of year in order to help the external auditor.
9. Detect Fraud
The purpose of internal audit is to detect frauds in the books of accounting. As the work of accounting staff is over the internal audit is started. Accounting staff remains alert because there is no time gap between recording and checking. Thus detection of fraud is possible with it.
10. Determine Liability
The purpose of internal audit is to determine liabilities of employees. The duties are divided among the staff. It is easy to note the negligence on the part of employees. The internal audit can pin point the person responsible for carelessness.
11. Help in Independent Audit
The purpose of internal audit is to help an independent audit. The external auditor can rely on internal auditor and there is no need of cent percent checking. In this way there is saving of time and money due to internal audit.
12. Performance Appraisal
The purpose of internal audit is to check the performance appraisal. The management must achieve the targets fixed in budgets and plans. The internal audit is a tool to evaluate the working of each management function.
13. Provide Suggestions
The purpose of internal audit is to provide suggestions for improvement of business activities. The internal audit staff can suggest the ways and means to remove the difficulties. Anyhow the audit cannot compel the management to implement suggestions.
14. New Ideas
The purpose of internal audit is to seek new ideas relating to procedures, marketing, financing and other business matters. The internal audit staff can provide new ideas about various business matters. The viable ideas can be put in to practice for the benefit of business.
15. Use of Resources
The purpose of internal audit is to determine the proper use of resources. The misuse of resources can increase the cost of doing the business. The proper use of resources means there is efficiency on the part of management.
16. Accounting Policies
The purpose of internal audit is to examine the accounting policies. The understanding of accounting system and procedure is helpful to device the effective audit plans procedures. The internal auditor may find any weakness in the internal control. He can comment on the accounting policies.
17. Special Investigation
The purpose of internal audit may be to conduct special investigation about any business matter. Internal audit can be used as a tool to note the effectiveness of management function.
Essentials of Internal Audit
Planning is an essential feature of internal audit. The auditor can plan to check the accounts system. The plan may relate to accounting functions like purchase, sales, income, expenses and shares. The planning includes degree of risk and extent of audit. It also states the nature of audit work.
Controlling is an essential feature of internal audit. The auditor examine the operation of accounting system. He can control audit work through audit programme. The whole work is distributed among audit staff.
Recording is an essential feature of internal audit. The auditor can record the facts and figures in order to express his views in the business activities. The auditor notebook and audit working papers are used to record the information.
Independence is essential element of internal audit. An employee of the company does the work of internal audit. Management must not influence him. He must be free in developing audit programme, audit investigation and audit reporting.
Staffing is an essential part of internal audit. The trained staff is needed to conduct internal audit. The reasonable number of persons can perform the work of examination. The inadequate and untrained staff cannot serve the purpose of checking efficiency of managers.
The internal audit staff must be trained. In order to achieve better results there is a need of training in audit work. Proper arrangements should be made to provide training to internal audit staff.
The internal audit staff must have friendly relations with management, external audit staff and consultants. There is a need of complete harmony among various groups of people.
Evidence is essential part of internal audit. The evidence must be reliable, relevant and sufficient. The business documents are sources of entries in accounting books and records. The reliable can be seen through signature of manager. The relevant documents show the name of concern.
9. Due Care
Due care is an essential part of internal audit. The auditor must use skill, care and judgment. He should have technical knowledge, honesty and integrity.
Reporting is an essential part of internal audit. The auditor can inform the management through audit report. It may be long or short report. The finding of the auditor is put before the management. There is a need to act upon the advice of the internal auditor for better result.
Functions of Internal Audit
The function of internal audit is concerned with analysis of internal check. The internal auditor can look in to the duties of each employee. All employees are provided jobs on the basis of their abilities.
2. Application of legal Requirements
The function of internal audit is the examining of the application of legal requirements. The accounts are prepared under certain legal framework. The Company’s Ordinance 1984, the Stock Exchange and Security Rules 1971, the Banking Companies Ordinance 1962, The Insurance Act 1938. The Modaraba Ordinance 1980 and similar other laws are followed for preparing finance statement.
3. Verification of Accuracy
Verification of accuracy is a function of internal audit. The accuracy of accounting books and records can be verified with the help of auditing techniques. The audit techniques include inspection, observation, inquiry, confirmation, computation and review. An auditor can check the accuracy through these techniques.
4. Confirmation of Liability
Confirmation of liability is a function of internal audit. The internal auditor can determine the work done by every person. The careless or negligence on the part of worker is noted. The concerned person is given a chance to explain his position. If the reason is not justified, the liability is confirmed.
5. Examination of Assets Protection
The function of internal audit is to examine the assets protection. The proper record is to be maintained. The possession must be in the hands of senior officer. The assets are used for business only. There is proper purchase and disposal of these assets. The internal auditor can check that assets are protected.
6. Detection of Fraud
Detection of fraud is a function of internal audit. The work of accounting and auditing go side by side. When accounting work is over it is checking by audit staff. There is not time gap so fraud is detection at an early date. The plan of fraud requires time to think. When time is not allowed it is detected on the spot.
7. Ascertain Proper Authority
The function of internal audit is to ascertain the proper authority. The shareholders, partners and single owners have full authority. They can delegate such authority to managers. The signature of owners or managers must be noted on every voucher in order to ascertain that transaction is proper.
8. Detection of Errors
The function of internal audit is to detect errors in the accounting records. The audit staff can check the records in detail. There is not time limit. There is possibility of disclosed of error due to cent percent checking. The corrections can be made as early as possible to reflect the true and fair view.
9. Make Investigation
The function of internal audit is to make investigation. It is an inquiry in to business activities by specially assigned staff. The facts and figures are collected; analyzed and true position is put before the management. The grey area can be spot lighted by an auditor in the interest of business.
10. Performance Appraisal
The function of internal audit is to note the performance of business employees and management. The standard are fixed and performance is compared with standards. The management can feel satisfaction if the performance is at standard.
11. Give Suggestion
The function of internal audit is to give suggestion for business problems. These suggestions are not costly. In the long run there may be large number of benefits from such ideas. The management has the right to accept or reject the ideas.
Reporting is a function of internal audit. The auditor can find out the weaknesses of various functions. The report is submitted to the management. There is a need to go through the report. The weakness and proposal can be examined in detail.
Advantages of Internal Audit
1. Proper Accounting System
The benefit of internal audit is that proper accounting system is introduced. Accounting system is a chain of activities in an entity by which transactions are processed for maintaining financial record. There is a need of orderly devices to achieve desirable results.
2. Better Management
The benefit of internal audit is that there is better management of business concern. The auditor can point out the weak areas of management. The goals of business can be achieved if there is proper internal control, internal check and internal audit. It should be noted that management could rely on internal audit for best results.
3. Progressive Review
The internal audit is beneficial to review progress of a business concern. The figures of previous years are compared with this year. Moreover the performance result of similar companies can be compared to determine the progress made by the entity. The management can review progress through internal audit.
4. Effective Control
The internal audit is helpful to have effective control over business activities. Control is a management function, which related to supervision and direction of on going activities. The manager concerned can remove the difficulties for smooth working internal audit alerts the management for effective control.
5. Assets Protection
The assets protection is possible through internal audit. The management can use the assets for the benefit of business only. The assets cannot be used for private purposes. The embezzlement of cash, misappropriation of stock and misuse of other assets is not possible as the internal auditor keeps close watch over assets.
6. Division of Work
The internal audit is helpful to apply division of labor. The division of labor is necessary to watch the activities of all employees including management. The auditor can suggest the way and means improve the performance of business.
7. No Error
The internal audit is used to protect accounting records from errors. The accounting and auditing go side by side when accounting work is over there is start of audit. There is not time gap. In such situation the accounting staff is not in a position to commit any error.
8. Fixing Responsibility
Internal audit is used to fix the responsibility of people having poor performance. The management establishes the performance standards. The internal auditor can evaluate the result of all persons. The people can be help responsible for below standard work and action can be taken against them.
9. Helps External Auditing
The work performed by internal auditor can be helped for external auditor. The auditor procedure of internal and external audit is almost the same. The auditor can go through the internal audit report at the time of starting audit work. Anyhow external auditor is responsible for external audit.
10. No Fraud
The internal audit is beneficial to detect frauds in the books of accounts and other records. The auditor provides no time tag lag to continue any fraud. The work of accounting staff is examined on daily basis. The accounting staff has no time to plan any type of fraud.
11. Performance Improves
Internal auditor is helpful to improve the performance of the organization. The achievements of previous year are the basis of preparing budget for the next years. The projected income statement and balance are drawn up. An attempt is made to get the positive result. Thus internal audit improves performance of business and employees.
12. Proper Use of Resources
Internal audit is used to check the proper use of resources. The misuse of resources can increase the cost of organization. The optimum use of resources can be determined to control the cost of output. In this way internal audit is a tool to use the resources in the best internal of the business.
Internal audit is help to investigate in to the business matters. In case of doubt internal auditor can be asked to examine the facts and figures to confirm or clear any doubt. The internal auditor can investigate the matter in any manner. Such investigation can be made at the request of management or owners.
Internal auditor is used to suggest the ways and means for improving the business performance. The management can rely on the internal auditor. The workable ideas of the internal auditor can be put into practice.
Limitations of Internal Audit
1. Incompetent Staff
The limitation of internal audit is that audit staff may be incompetent. The purposes of internal audit fails to help the management. There may be lack of experience and training on the part of internal audit staff.
2. Staff Shortage
The limitation of internal audit is staff shortage. There may be need of reasonable audit staff to examine the record. The shortage of staff is a hurdle to get benefit of internal audit.
3. Time Lag
The limitations of internal audit starts when true is time lag between recording and checking of entries. The accounting and internal audit must go side by side with minimum time gap.
4. Executive Function
The limitation of internal audit is that the internal audit may be linked with executive function. In this case he cannot examine the accounting books and other records. He cannot find out his own weakness. It will be wastage of time and money to conduct internal audit.
The limitation of internal audit is that there may be error in the books of accounts. It depends upon the expertise of internal audit staff. If audit staff is competent there is less chance of error. In case of poor audit staff there is no guarantee that audited accounts are free from errors.
The limitation of internal audit is that management may not feel their responsibility in completing the audit formalities. The audit staff may responsibility in completing the audit formalities. The audit staff may give suggestion for proper working of business. The top-level management may not pay attention to suggestions. In this way the audit work cannot help the business.
The limitation of audit is that there may not proper division of duties. In this case the internal auditor is unable to fix the responsibility for negligence of duties. The management must be aware about division of duties. The audit work can point out the weakness of business employee, otherwise whole arrangement goes wasted.