Helpful Tips on the Philippines  Audit of Salaries and Wages

Perhaps, one part of the audit that needs close scrutiny is the Salaries and Wages. Why say so? As this account is material to the Income Statement, it is more than merely testing and validating the recording in the books with the payroll register when there is an accrual of wages payable or cash is paid when employee salaries are incurred. An auditor’s consideration on his audit is to look also at the tax compliance side of the payroll preparation if risks of material misstatements are present and thus, affecting the audit procedures done by the auditor.

In the Philippines, various returns /information are prepared related to Salaries and Wages to be submitted to the tax authority (BIR) monthly and annually.  Aside from that, certain components of the Salaries and Wages should be identified whether it is a part of a taxable compensation or not. Since the employer is an agent of the government to withhold taxes on the compensation of the employees, a competent HR or knowledgeable personnel in Ph’s salaries and wages system in charge of payroll preparation must be employed to have the least risk of misstatement in terms of Salaries and Wages account in the books.

Here are the usual  audit procedures done on Salaries and Wages:

1. Walkthrough Test: To gauge the reliability of the payroll accounting system, a walkthrough test is done. It involves step-by-step study from the start until the end of transaction processing. An auditor may observe and inquire without asking for specific documentation or evaluating the transaction’s paperwork or audit trail. 
2. Test of Controls: An audit procedure to provide evidence and demonstrate compliance. This test evaluates control strengths and identifies weaknesses. This is a helpful tool to assess the risk of misstatements that could go through the financial statements.
3. Substantive Testing: This test examines the financial statements and supporting documents of a transaction to identify if they contain errors or misstatements. These tests are needed as evidence to support the assertion that the financial records of a business are complete, valid, and accurate. If the findings of the risk of misstatement found in the test of control are minimal, the auditor will proceed to have a number of supporting papers prepared, and vice versa. Some common substantive procedures are analytical procedures, vouching, inspection, recalculation, observing, confirmation, and review of payroll tax compliance

A lack of payroll tax compliance is the auditor’s most frequent finding in the audit of salaries and wages, and any company should pay particular attention to this issue as it frequently arises in BIR tax audits:

• A summary of monthly returns on tax on compensation (BIR Form 1601C) do not tie up with book records and alphalist of employees. This results in a different interpretation of what gross compensation means and what part of it is taxable or non-taxable. Gross Compensation, as per tax laws means every form of remuneration payable for a given period to an individual for services provided including salaries, commissions, vacation pay, severance pay, bonuses, and any board, rent, housing, lodging, payments in kind, and any similar benefit received from the individual’s employer. 
• Treatment of taxable or non-taxable compensation of employees. If the compensation given is a de minimis specifically set out in the tax rules and other benefits within tax-exempt threshold of P 90,000, this is considered as tax-exempt. Otherwise, such part of benefits given to employees other than basic pay may be considered taxable.
• Proper base of computation of SSS Contribution Share. SSS Contribution is based on the monthly salary credit of the employees (based on SSS Table), not on basic pay. Whereas, Philhealth contributions are based on the monthly basic pay.  The only allowed deduction to arrive at taxable compensation is those only that are mandatory required by the government. In excess of such a contribution share of employees, it  will go through as deduction to arrive at the net pay of the employees.
• Final pay of employees are excluded in the monthly BIR Form 1601C during pay-out. This leaves the book records, alphalist of employees and summary of BIR Form 1601C unreconciled.
• SSS Loans and HDMF Loans – These items are not considered as deductible part of compensation to arrive at taxable compensation of employees.
• Tax refunds of employees declared in the BIR Form 1604 C do not reconcile with prepaid withholding tax on the books or remain unrecorded.

Knowing such findings or deficiencies in advance in line with the tax compliance of your payroll accounting will help expedite the audit procedures on the Salaries and Wages account. It is necessary to assess and improve the corresponding internal controls and if addressed correctly, the likelihood of a tax audit by the BIR in the future is reduced, if any.