Before you can test a client’s internal controls you first need to know which internal controls are in place. The auditor can identify the internal controls by asking the client’s employees to complete a questionnaire and by doing a walkthrough of the payroll cycle. The walkthrough would involve following a transaction from the initial hiring of an employee all the way through to the recording of a journal entry for payroll. The auditor should also perform a walkthrough of the process for removing a terminated employee from the payroll. If the auditor notices an area where a misstatement might occur during the walkthrough, the auditor should ask: has the client designed a control that, if operating effectively, would prevent or detect a material misstatement? The client should consider entity-level controls as well as controls specific to payroll. Segregation of duties is perhaps the most important internal control for the payroll …
