MRSC has joined with Toni Nelson, Small Cities Specialist, State Auditor's Office, Gayla Gjertsen, Finance Director, City of Tumwater, and Mike Bailey, Finance Director, City of Redmond, to bring you the "Finance Advisor" column. The "Finance Advisor" will feature a new article each month with timely local government finance information and advice you can use.*

Internal Controls over the Preparation of the Annual Financial Report

April 2008

By Toni Nelson, Small Cities Specialist, State Auditors Office

A new auditing Statement on Auditing Standards, or SAS 112, is now effective for most fiscal year 2006 financial statement audits. This audit standard, prescribed by the American Institute of Certified Public Accountants (AICPA), one of the standard-setting bodies for auditing, provides guidance on identifying and communicating control deficiencies related to financial statement reporting. It requires auditors to report serious deficiencies in internal controls over financial reporting. The new standard sets a lower threshold for the types of deficiencies that are reported.

The new standard is an attempt to reinforce management’s responsibility for ensuring sufficient internal controls over financial reporting and the auditor’s responsibility to report deficiencies in those controls. Such deficiencies may be expressed by the auditor in terms of a lack of internal controls or inadequate internal controls over the preparation of the Annual Financial report.

For larger entities, the implementation of a review process for the annual financial report is not necessarily a problem if they have adequate staff in their finance departments. However, the smaller the entity, the greater the challenge is likely to be to implement this key internal control.

In response to this change, the State Auditor’s Office developed an “Annual Report – Internal Review Checklist” to assist smaller entities that report on a cash basis.

The checklist organizes the review process in such a manner that the reviewer not only examines the report but also verifies the statements being made. This provides the reviewer with a greater understanding of the financial condition of the entity.

The checklist items:

• Verify the bank reconciliation process.
• That entities’ financials balance to the money reflected on the bank statements.
• Identify whether or not the budget has been exceeded.
• Identify whether the entity has any funds in a negative cash position.

All of these items are key indicators of the financial condition of your entity and provides the required internal control to minimize the likelihood of a misstatement of financial information on the annual financial report.

SAS 112 requires that the audit evaluate your review process of the Annual Financial report. Using the checklist will help you meet this new audit standard.

Toni Nelson is the "Small Cities Specialist" for the Washington State Auditor's Office, providing both on and off site financial training and assistance to smaller cities and towns throughout the state. Ms. Nelson has been working with the Auditors office for 6 years and prior to that was the Clerk/Treasurer for a small town for 9 years. She has co-authored the "Small Cities Manual" a detailed reference guide for new clerk/treasurers on governmental accounting procedures and presents numerous training workshops throughout the state for AWC, WFOA, WMTA, WMCA and local/regional organizations such as EWFOA and SCWMCA. Ms. Nelson is also a member of and conference track coordinator for the WFOA Education Committee.

Mike Bailey is currently the Administrator of Finance and Information Services for the city of Renton. Previously, he worked as the Director of Finance for the city of Lynnwood for six years. Mr. Bailey also served as president of the Washington Finance Officers Association and is the Vice Chair of the GFOA Budget Committee. An experienced CPA and GFOA budget reviewer, Mr. Bailey co-founded the annual Budget and Fiscal Management Workshops held each summer. Mr. Bailey conducts numerous workshops and has authored various articles on local government finance, including Effective Budgeting in Washington State Cities published by the Association of Washington Cities.

Gayla L. Gjertsen has been the Finance Director for the City of Tumwater for over 15 years and was previously the Director of Administration for the City of Milton for 13 years. She has also served as president of the Washington Finance Officer's Association. Gayla has been a presenter at the annual Budget and Fiscal Management Workshops held each summer for many years, and periodically conducts other workshops and writes about local government finance issues.

*The Articles appearing in the "Finance Advisor" column represent the opinions of the authors and do not necessarily reflect those of the Municipal Research & Services Center.