To many young professionals, internal controls often feel like a tedious chore. Not so! Young professionals need to step beyond this view and gain a robust understanding of why internal controls, in all businesses, are crucially important.
To many young professionals, internal controls often feel like tedious chores, just more hurdles added to the day-to-day list of accounting tasks within a firm or business. However, young professionals need to step beyond viewing internal controls as a chore and gain a robust understanding of why internal controls, in all businesses, are crucially important. Maintaining a strong sense of internal control protects not just company numbers, but also company data, public reputation, assets, and overall client trust.
Internal Controls – What Are They and Why Do They Exist?
Internal control is defined by the AICPA as processes designed to provide reasonable assurance about the achievement of an entity’s objectives related to financial reporting, operational effectiveness and efficiency, and compliance with laws and regulations. Internal controls go beyond “checking a box” for compliance with company policy; they play a major role in establishing and upholding ethical behavior, organizational transparency, and smart decision-making.
A notorious example of failed internal controls is the Enron Corporation scandal of 2001. Executives manipulated the company’s financial statements to hide massive sums of debt and inflate reported revenue. The door for these executives to do this was opened by severely weak internal controls, which allowed them to bypass approval processes and accounting checks. When the fraud was exposed, the company collapsed, and thousands of employees who had nothing to do with the scandal lost their jobs and many lost their retirement savings. Additionally, Arthur Andersen, Enron’s accounting firm, also got swept up in the casualty list, going out of business due to its affiliation. This scandal led to the creation of the Sarbanes-Oxley Act, which introduced stricter guidelines for internal controls and promoted corporate transparency. When internal controls are weak or ignored, serious damage can result.
Three Pillars of Internal Controls
There are three main types of internal controls:
- Preventive controls are designed to avoid errors or irregularities from occurring. A simple example would be the segregation of duties in financial processes.
- Detective controls are designed to catch problems after they occur. Monthly reconciliations of financial statements and internal audits are examples of detective controls.
- Corrective controls are procedures implemented to fix errors or fraud after detection, preventing recurrence.
Below is how each type of internal control might be used in the payroll process:
- As a preventive control, only the human resources department has the authority to add employees to the system. Before payment is processed, all payroll entries must be approved by a manager. Access to payroll software is also restricted, so no one individual can both enter and approve employee payments.
- As a detective control, payroll reports are reviewed to identify errors. Internal audits may randomly verify payroll statements and compare payments to hours worked.
- As a corrective control, if fraud or error is discovered, funds can be recovered and responsible employees can be disciplined or retrained. The payroll system may also be updated to flag similar issues in the future.
Internal Controls in the Real World
Young accountants interact with internal controls every day. Accessing accounting systems, following approval workflows for expenses and payments, and reconciling accounts are all examples. These protocols exist to reduce risk, promote accountability, and ensure accurate and reliable financial reporting.
When all employees know that extensive checks are in place, they are more likely to follow procedures carefully. A clear and clean record of who did what and when makes identifying and fixing errors much easier. Strong internal controls also support compliance with accounting standards and regulatory requirements. Importantly, internal controls are not designed to invade privacy or signal distrust in employees. They are meant to reduce human error and protect both the employee and the company.
What Happens When Controls Are Weak (or Ignored)
Serious financial consequences can result from weak internal controls. Fraud or theft may occur when there are no checks or segregation of duties. Errors in financial reporting, such as overstated revenue or understated expenses, can lead to poor decision-making. Lack of reconciliation can result in duplicate or missed payments, directly impacting cash flow and budgeting.
A company may also suffer reputational damage. If clients or stakeholders discover that weak internal controls led to significant errors or fraud, it can destroy trust and result in lost business. Competitors may use a failure to position themselves as more reliable. Even small losses, if picked up by the media, can tarnish a company’s image.
There are also legal risks. Companies may face fines from regulators such as the Securities and Exchange Commission or the IRS. External auditors might issue adverse opinions, harming investor confidence. Leadership also could be held personally accountable. Even small infractions, such as skipping an approval or failing to review a report, can be the first step on a path to larger problems.
Maintaining Control Integrity
Given the high stakes, here’s how you can do your part:
- Follow internal procedures completely, even when they feel repetitive or unnecessary. Routine tasks such as double-checking entries, obtaining proper signoffs, and logging approvals may seem tedious, especially during busy season, but these steps exist to protect both you and the company.
- Speak up when you see something. Reporting concerns isn’t about being a whistleblower, it’s about maintaining integrity. Internal controls are everyone’s responsibility. Every employee plays a role in supporting accurate financial reporting and ethical business practices.
Consistently following procedures sets a standard among your peers and helps normalize a workplace culture built on strong internal controls. It also builds your reputation as a trustworthy and dependable professional.
Conclusion
Understanding why internal controls exist, not just how to follow them, can be what separates a good accountant from a greatly valuable one. Accountants who understand the purpose behind their procedures are better equipped to spot errors early, promote efficiency, and make ethical decisions.
Internal controls may seem like red tape, but they are the framework that ensures the integrity of financial reporting. They should be seen as protective tools that help a company avoid major financial and legal issues, not as extra work.
Gaining an understanding of internal controls isn’t about blindly following rules. It’s about building credibility in the workplace, which in turn builds trust with clients and investors. In the accounting profession, understanding and upholding internal controls can set you apart from your peers and accelerate long-term career success.
Anthony J. Borrelli is a staff accountant at Maillie LLP in West Chester, Pa. He holds a B.S. in Accounting from the University of Pittsburgh and is committed to maintaining compliance and upholding the integrity of accounting processes.
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Statements of fact and opinion are the authors’ responsibility alone and do not imply an opinion on the part of the PICPA's officers or members. The information contained herein does not constitute accounting, legal, or professional advice. For actionable advice, you must engage or consult with a qualified professional.
