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The Pros & Cons on Requiring Reports on Internal Control

Creating reports on the effectiveness of your company’s internal controls is a way to promote accountability among employees and managers and encourage ethical behavior within the organization. Like all other business activities, the reviewing of and reporting on internal controls uses up valuable resources, and the benefit derived from this activity should outweigh its cost. Despite its many positive and negative aspects, reporting on internal controls can provide valuable information to any small business that is interested in protecting its assets and deterring fraudulent activity.

Segregation of Duties

One of the principal benefits of having internal controls is the separation of certain responsibilities to prevent theft and other forms of business malfeasance. For example, employees who handle cash receipts should not have access to or be involved in the reconciliation of cash records; this prevents the theft or loss of cash from going undetected when cash records are reconciled. By reviewing and reporting on internal controls, a company can identify areas where responsibilities are not adequately segregated and correct the issue. Even if a business is too small to implement segregation of duties, being aware of areas where problems could occur is useful and can lead to the implementation of other solutions, such as the use of security cameras.

Fraud Prevention

The presence of internal controls is important in the prevention of fraud. Good internal controls hold employees and managers accountable for their actions and promote adherence to policies and procedures that allow the business to operate effectively. When a report on internal controls is created, a company’s owners are able to evaluate the state of the business’s operations and identify areas where problems exist and corrections are needed. Internal control reports monitor operations and assist in detecting and preventing fraud that could put a company out of business.

Cost of Reporting

Evaluating internal controls requires time and knowledgeable personnel that incur a cost for the business. The complexity and size of the business will determine the amount of time needed to evaluate business processes and the controls that affect them. An internal control review must be performed by someone, such as an auditor, who is knowledgeable in the operations of the business and proficient in internal control practices. If the information in internal control reports is not considered valuable to the company and does not create a positive impact on operations, it’s possible the review may be considered a waste of time and money.

Inherent Limitations

Internal control systems have inherent limitations and can be circumvented by astute employees or managers who may have found a way to beat the system. A common way to override internal controls is through collusion, where two or more individuals collaborate and engage in fraudulent activity. Even though internal controls are implemented to prevent fraud, it’s possible that the system may not detect all types of fraudulent activity. Internal control reports can also contain human errors and fail to identify fraudulent activities and the loss of assets.

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