Internal Check: Meaning, Objectives & Principles

1. Meaning and Definition of Internal Check

Internal Check is a specialized, vital component of the broader internal control system. It refers to the continuous arrangement of bookkeeping and clerical workflows such that no single individual is permitted to initiate, execute, approve, and record a financial transaction from start to finish.

According to Spicer and Pegler:

“An internal check is an arrangement of staff duties in such a way that no one person can carry through a transaction and record every aspect thereof, so that without collusion between two or more persons, fraud is practically impossible and at the same time errors are in the ordinary course of events immediately detected.”

According to F.R.M. de Paula:

“Internal check means practically a continuous internal audit which is carried on by the staff itself, by means of which the work of each individual is independently checked by other members of the staff.”

2. Core Objectives of Internal Check

1. Prevention of Errors: Continuous mutual checking minimizes clerical, posting, and casting mistakes before final accounts are compiled.
2. Deterrence of Fraud: Because fraud requires the active conspiracy of multiple staff members, opportunistic theft is effectively discouraged.
3. Fixation of Responsibility: Clear division of labour ensures that if an error occurs, management can trace the responsible clerk immediately.
4. Facilitating Independent Audit: When internal check is reliable, the statutory auditor can rely on sample testing and expedite final certification.
5. Operational Speed & Accuracy: Routine transactions flow smoothly through predetermined channels without administrative confusion.

3. Essential Principles of an Effective Internal Check System

For an internal check mechanism to function reliably, management must enforce several operational principles:

1. Clear Division of Labour: Work must be partitioned into sequential operational stages matching employee skills.
2. No Single Monopoly: No single clerk should handle all steps of a transaction (e.g., cashier should not maintain the debtor’s ledger).
3. Mandatory Job Rotation: Clerks must be rotated periodically between different departments or ledgers to disrupt undetected manipulation.
4. Compulsory Leave: Employees in sensitive cash or store custody roles must take mandatory annual leave, allowing substitutes to uncover concealed discrepancies.
5. Physical Custody Segregation: Custody of cash, chequebooks, and stock must be kept separate from the bookkeeping accounting staff.
6. Pre-numbered Printed Forms: Invoices, receipts, gate passes, and credit notes must carry sequential serial numbers; spoiled forms must be retained for audit.

4. Internal Check for Specific Operational Areas

A. Internal Check for Cash Sales (Retail Counter Sales)

Retail cash sales present acute fraud risks. A well-designed check operates as follows:

• Salesman: Greets the customer, prepares a 4-part sales slip (customer name, items, price, total). Hands 3 copies to the customer; keeps 1 in his bound book.
• Cashier: Customer presents the 3 slips at the cash counter. Cashier receives money, enters it into the electronic cash register, stamps “PAID” on all copies, retains 1 copy, and gives 2 stamped copies back to the customer.
• Delivery Clerk: Customer presents paid slips at the dispatch counter. Delivery clerk compares items with the slip, stamps “DELIVERED”, delivers the merchandise, hands 1 copy to the customer as an exit gate pass, and retains the other.
• Accounting & Banking: At the end of the day, total cash collected is independently reconciled against the salesman’s book, cashier’s total, and delivery counter records, and deposited into the bank account the following morning.

B. Internal Check for Wages Payment System

In manufacturing enterprises, payroll fraud often involves “dummy” or “ghost” workers, inflated working hours, or misappropriated unclaimed wages:

C. Internal Check for Purchases

1. Purchase Requisition: Initiated and signed by the departmental storekeeper when stock reaches reorder level.
2. Purchase Order (PO): Issued by the independent Purchasing Department after inviting and comparing supplier quotations.
3. Goods Receiving: Store receiving clerk inspects incoming goods for quality and quantity, prepares Goods Received Note (GRN).
4. Invoice Verification: Accounts clerk compares supplier invoice with the Purchase Order and Goods Received Note before approving payment.
5. Payment Authorization: Cheque signed by authorized signatories only upon reviewing PO, GRN, and verified invoice.

5. Comparative Analysis: Internal Check vs. Internal Audit vs. Internal Control

6. Auditor’s Duty Regarding Internal Check

An external statutory auditor cannot assume that internal check is flawless without thorough validation:

1. Preliminary Testing: Auditor must test the system using walkthrough tests and test checking across sample transactions.
2. Evaluating Strength: If internal check is sound and verified in practice, the auditor may reduce the volume of detailed testing.
3. Legal Responsibility Unaltered: In In re Kingston Cotton Mills Co., the court held that reliance on client staff does not relieve the auditor of their fundamental duty to exercise reasonable care and skill. The auditor remains liable for professional negligence if they blindly trust an untested internal check system.

7. Key Exam Review Questions

1. Define Internal Check. How does it differ from Internal Audit and Internal Control?
2. Outline a sound system of internal check for cash sales in a large retail department store.
3. Describe the stages of an effective internal check system for the payment of factory wages to prevent ghost workers.