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Forensic Audits and Fraud Page 1
Accounting Records: How They Are Used
To Conceal Fraud
ACFE 2012 Canadian Conference
October 29, 2012
Rosanne Terhart, CA, CFE
Forensic Audits and Fraud
Page 2
Accounting Records
Overview
Summary of Topics
Which records are used to conceal fraud
What evidence of fraud do the accounting records provide
How fraud is concealed in the accounting records
What to look for in the accounting records and financial statements
Examples of successful fraud investigations which relied on accounting records as
evidence
Questions and answers
Forensic Audits and Fraud
Page 3
Accounting Records
Other Examples of Records
•General ledger – this ledger contains all accounting entries by general ledger
account
•Sub ledgers – these ledgers are detailed ledgers that feed into the general ledger
(i.e., Accounts Receivable, Accounts Payable)
•Journal entries – these are the accounting entries to support payments and
receipts of cash
•Support documents (i.e., expense reports, invoices)
•Bank statements, wire transfers, cancelled cheese
Forensic Audits and Fraud
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Accounting Records
Fraud Investigation
Review of accounting records for:
•Evidence of who was involved
•Evidence of how fraud was concealed
•Determine when fraud started, determine extent
•Likely discover additional fraud
•Many employees can successfully conceal these transactions for up to 18 months
or longer
Forensic Audits and Fraud
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Accounting Records
Who was involved
In most accounting systems, the users of the accounting system are logged as they
make entries.
The log in and log out timing can provide evidence of who made the false entries.
Logging information has been used to connect fraud to certain people and used as
evidence in Court.
For instance, logging in information helped us determine that there were two and
not one, as suspected, employees involved in a fraud.
Forensic Audits and Fraud
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Accounting Records
Evidence of motivation/intention to defraud
•If a concealing entry is made relating to a fraudulent transactions, the accounting
entry provides important evidence of intent to conceal.
•It proves that the entry was not just an error.
•A booked transaction that is different from the actual transaction is excellent
evidence of motivation to conceal.
For instance, if a cheese is paid to an employee and booked as an employee loan
or salary, this would be considered normal and accounted for correctly. But, if this
same entry was booked in some other way, as another kind of expenses, that entry
is evidence that the fraudulent transaction is being concealed.
Forensic Audits and Fraud
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Accounting Records
Timing of fraud
•Accounting records provide good evidence of the timing of the fraud to due the
chronological format of the records.
•When the fraud started and ended, helps determine extent.
For example, a victim organization may be aware of a fraudulent disbursement
from the organization. But in reviewing the accounting records, finds similar
transactions. Therefore, increasing the quantum of the fraud and giving a sense of
timing of the fraud.
Forensic Audits and Fraud
Page 8
Accounting Records
Additional Fraud Schemes
•Often, additional fraud schemes are identified through the review of the
accounting records.
•For instance, many fraudsters conduct numerous schemes at the same time. For
example, if an employee is paying himself or herself excess payroll, he/she may
have a favorite place in the accounting records to records these transactions.
Other schemes may likely be records in the same place.
Forensic Audits and Fraud
Page 9
Accounting Records
Discovery of Repayments
•Accounting records often will show repayments to the organization of fraudulent
amounts taken.
•Most fraudsters take and return for a while until they take and don’t return.
•If only looking at the taking, the quantum of the fraud may be too high.
For instance, if an employee removed funds from an organization and then repaid
the funds, is this considered fraud? Accounting records will show both sides of the
transaction.
Forensic Audits and Fraud
Page 10
Accounting Records
How is the fraud concealed
The initial accounting entry of fraudulent transaction must be made in 30 days of
the transactions. Why? Bank Reconciliation is usually done at the end of each
months and it accounts for all transactions.
The initial accounting entry is usually put into a temporary spot, i.e., suspense
account or other generally unused account.
Subsequent accounting entries are then made to relieve the suspense account and
they are often spread out, moved around until their final resting place, resulting
financial statement misstatement.
A review of the journal entries will reveal these transactions.
Forensic Audits and Fraud
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Accounting Records
Example #1 – Concealment of Fraudulent
Disbursement
An employee writes himself a cheese of $20,000.
Funds come out of company’s bank account. Needs to be accounted for within 30
days.
Employee temporarily books to the suspense account
Dr. Consulting expense $20,000
Cr. Bank account $20,000
Employee books the transaction to an expense account, say consulting.
Dr. Consulting expense $20,000
Cr. Bank account $20,000
Now it appears that the company paid $20,000 to on outside consultant, but it
really paid it to the employee.
Forensic Audits and Fraud
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Accounting Records
Example #2 – Concealment of Misappropriated
Cash
An employee steals $2,000 cash from a bank deposit.
The bank deposit is short. Employee replaces stolen funds with a fraudulent
cheese to cover up missing funds.
Employee books the transaction to an asset account, say Accounts Receivable.
Dr. Accounts receivable $2,000
Cr. Cash (Company cheese) $2,000
Now it appears that the company has a balance owing from a customer for the
amount of $2,000. If not reconciled to customer payments, amount goes
unnoticed.
Forensic Audits and Fraud
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Accounting Records
Example #3 – Concealment of A Tampered Cheque
An employee adds $3,000 to a payroll cheese after it was signed but before being
cashed.
Employee books the additional amount of payroll cheese to an expense account,
say miscellaneous expense.
Dr. Miscellaneous expense $2,000
Cr. Bank account $2,000
Now it appears that the company paid $2,000 to purchase some miscellaneous
expenses.
Forensic Audits and Fraud
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Accounting Records
Example # 4 – Expense Account Fraud
An employee claims the same expense twice for an amount of $1,000.
The expense is claimed in two different expense reports.
Expense report conceals the fraud because it is likely not detailed enough and has
not been reviewed sufficiently.
Review of expenses with agenda would reveal the duplication.
Forensic Audits and Fraud
Page 15
Accounting Records
Example # 5 – Payroll Fraud
An employee enters into the payroll system and changes payroll deductions for
federal and provincial payroll tax to zero.
Employee received 100% of pay.
At year end the deduction due to Canada Revenue Agency are paid by cheese from
company, including fraudulent employee’s portion.
Amount is booked to employee benefits.
Unless a reconciliation of employee benefits is done, the fraud is concealed.
Forensic Audits and Fraud
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Accounting Records
What to look for in the accounting records
Lack of segregation of duties (cheese signing/cash handling and transaction
recording = opportunity, big problem for non-profit organization)
Access to systems and over-ride capabilities
Look for who performs the bank reconciliation
Manual cheese (different controls than regular cheese run)
Cheese that are out of sequence
Missing cancelled/returned cheese
Odd or missing signatures on cheese
Forensic Audits and Fraud
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Accounting Records
What to look for in the records
Continued…
Electronic transfers/online bill payments (often no controls)
Entries in suspense accounts or other non-regular accounts
Round number entries
Invoices/expense reports lacking details
Odd GST-GST entries
Year-end journal entries (write off accounts)
Income statement reality check
Forensic Audits and Fraud
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Accounting Records
What to look for in the financial statements
Continued…
Expenses that are inflated from one year to the next
New expense categories
Assets that are inflated from one year to the next
Gross margin percentages that change
Forensic Audits and Fraud
Page 19
ACCOUNTING RECORDS
Fraud Investigation Examples
Airplane Company
Accounting staff discovers $30,000 cheese payable to Bank xx Visa while preparing
a bank reconciliation.
Company discovers Bank xx Visa account is that of Controller. Controller is fired.
CFO puts together evidence, finds additional suspicious cheese made to Bank xx
Visa, quantifies at $600,000. Calls lawyer, insurance company, and police.
Lawyer and insurance company insists on forensic audit. Forensic accountant hired
by company.
Police obtained initial evidence and interviewed staff.
Forensic Audits and Fraud
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ACCOUNTING RECORDS
Fraud Investigation Examples
Airplane Company
Forensic accountant traced fraudulent cheese to accounting entry. Operator at
time of entry was controller. Traced entry to a temporary inventory account.
Review of temporary account reveals how far back fraud occurred. Reveals
subsequent entries made and accounts affected. Other fraudulent amounts
discovered.
Total misappropriation amounted to $1.4 million. Discovers that $300,000 was paid
back, net misappropriation was $1.1 million.
Accounting Records
Page 21
ACCOUNTING RECORDS
Fraud Investigation Examples
Airplane Company
Accounting records revealed:
• how fraud was concealed
• connected concealment with fraudster
• extent and timing of fraud: How often, when did it start
• quantified entire completeness of fraud
• determine quantum of financial statement mis-statement
• confirmed amount, if any, repaid
• report was used for insurance recovery, civil and criminal proceedings
Forensic Audits and Fraud
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ACCOUNTING RECORDS
Fraud Investigation Examples
Non-profit Organization
Organization Director discovers, by accident, frequent unexplained electronic
transfers from bank account.
Finance Manager quits when questioned.
Police called. Police conducted interviews, prepared spreadsheet of all
unexplained electronic transfers, totaled $500,000. Requested bank to provide
trace of transfers.
Police provided report Crown Counsel. Crown Counsel and Police jointly engaged
forensic accountant.
Forensic Audits and Fraud
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ACCOUNTING RECORDS
Fraud Investigation Examples
Non-profit Organization
Forensic accountant reviewed accounting records. Determined entries made to
consulting expenses.
Traced to invoices, discovered name of consultant. Discovered email
correspondence between finance manager and consultant regarding
misappropriated funds. Discovered that funds were split between two individuals.
Eventually traced both individual accounts. Accounting records show fuller extent
of fraud.
Forensic accountant worked with Police to obtain evidence. No need for forensic
accountant to interviews. Total $900,000 was misappropriated. Both individuals
charged. Both admitted.
Forensic Audits and Fraud
Page 24
ACCOUNTING RECORDS
Fraud Investigation Examples
Non-profit Organization
Accounting records revealed:
• how fraud was concealed
• connected concealment with fraudster
• connected fraud with another individual
• increased total fraud quantification
• resulted in a conviction
• report to be used for criminal proceedings
Forensic Audits and Fraud
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ACCOUNTING RECORDS
Fraud Investigation Examples
Insurance Company
Organizational controller discovers, by accident, short-fall in daily cash deposit.
Controller discovers that cash count done by one of cash counters. Discovers
several other short deposits. All done when a particular cash counter was working.
Controller puts together all short deposits by one cashier. Amounted to $40,000
short deposits. Organization calls lawyer, insurance company, and police.
Police conducted interviews, summarized evidence, report to Crown Counsel for
charges.
Forensic Audits and Fraud
Page 26
ACCOUNTING RECORDS
Fraud Investigation Examples
Insurance Company
Company hired forensic accountant for insurance report.
Forensic accountant discovers that one other cash counter involved, based on
accounting entry operator information.
Fraud was booked to accounts receivable. Fraud quantum increased to $140,000.
Report prepared by forensic accountant. Used by insurance company and Crown
Counsel. Second individual charged.
Crown Counsel hires forensic accountant to assist in trial.
Forensic Audits and Fraud
Page 27
ACCOUNTING RECORDS
Questions & Answers
Forensic Audits and Fraud
Page 28
ACCOUNTING RECORDS
Contact
Rosanne E. Terhart, CA, CFE
Senior Manager, BDO Canada
rterhart@bdo.ca
T: 604 646 4381
BDO Canada LLP
600 – 925 West Georgia Street
Vancouver, BC V6C 3L2
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