Separation of Duties
Separation of duties (SoD), also known as segregation of duties, is a key internal control intended to minimize errors and reduce the occurrence of fraudulent activities within an organization. The main idea behind this concept is to ensure that no single individual has control over all aspects of any critical financial transaction. By dividing responsibilities among different individuals, the organization ensures that an individual cannot commit fraud without colluding with another person, making detection of fraud more likely.
Separation of duties can be viewed from three primary functions:
- Custody of Assets: Having physical possession or control over assets (like cash, inventory, or equipment).
- Authorization or Approval: Approving transactions or business activities.
- Recording or Reporting: Maintaining the official records of transactions or activities.
For effective internal control, these responsibilities should be divided among different people, so that no one individual has control over all aspects of any financial transaction.
Example of Separation of Duties
Let’s explore the separation of duties (SoD) concept using a more detailed example within a company’s cash handling process.
Scenario:
TechBrite Inc., a medium-sized tech firm, wants to ensure that its cash handling process is secure and free from potential internal fraud. To accomplish this, the company establishes a system that segregates duties related to cash receipt and depositing.
Duties and Responsibilities:
- Mailroom Clerk:
- Role: Receives and opens the company mail every morning.
- Duty: Segregates checks received from customers and prepares a list of checks with the corresponding amounts.
- Limitation: Has no access to the company’s accounting system or the ability to deposit the checks.
- Accounting Clerk:
- Role: Enters financial transactions into the company’s accounting system.
- Duty : Takes the list from the mailroom clerk and records the cash receipts in the accounting system, ensuring they’re credited to the appropriate customer accounts.
- Limitation: Does not handle the actual checks or deposit them. Also, does not reconcile the bank statements.
- Treasurer:
- Role: Responsible for the company’s banking activities.
- Duty: Collects the actual checks from the mailroom clerk, verifies them against the list, and deposits them into the company’s bank account.
- Limitation: Does not record the cash receipts in the accounting system.
- Financial Controller:
- Role: Oversees the company’s financial activities and ensures that internal controls are followed.
- Duty: On a monthly basis, reconciles the bank statements to ensure that the deposits match the cash receipts recorded in the accounting system.
- Limitation: Does not handle daily cash receipts, enter them into the accounting system, or make bank deposits.
With this setup:
- Fraud involving cash receipts would require collusion between two or more employees. For instance, the mailroom clerk cannot pocket a check without it being noticed, as the list would not match the checks given to the treasurer. Similarly, the accounting clerk can’t enter a fraudulent transaction without having an actual check to back it up.
- Errors can be detected more easily. If the financial controller finds a discrepancy during the reconciliation, it can be traced back and corrected.
This example illustrates how the principle of the separation of duties can be applied within an organization to safeguard assets and reduce the risk of fraud.
