QS Study

The Inherent Limitations of an Entity’s Internal Control Structure

One of the fundamental concepts identified earlier is that internal control can be provided only reasonable assurance to management and the board of the directors regarding the achievement of an entity’s objectives. Reasons for this include the following inherent limitations in an entity’s internal control structure:

(a) Mistakes in Judgment: Occasionally, management and other personnel may exercise poor judgment in making business decisions or in performing routine duties because of inadequate information, time constraints, or other pressures.

(b) Breakdowns: Breakdowns in established controls may occur because personnel may misunderstand instructions or make errors due to carelessness, destructions of a fatigue.

(c) Collusion: Individuals acting together, such as an employee who performs important control acting with another employee, customer or supplier may be able to perpetuate and conceal an irregularity.

(d) Management Override: Management can override prescribed policies or procedures for illegitimate purposes such as personal gain or enhanced presentation of an entity’s financial condition status.

(e) Costs versus Benefits: The cost of an entity’s internal control structure should not exceed the benefits that are expected to ensure.