Fraud -The Battle To Detect and

Prevent Fraud in the Workplace

Charles A. Albert, CPA/CFE

Curtis Blakely And Co, PC, CPAs

calbert@cbandco.com

“Fraud is the second oldest profession in the world. If there is money, there is money to steal”

Fraud (Definition)

Black’s Law Dictionary states that fraud is “a generic term, embracing all multifarious means, which human ingenuity can devise, and which are resorted to by one individual to get advantage over another by false suggestions or by suppression of truth, and includes all surprise, trickery, cunning, dissembling, and any unfair way by which another is cheated.”

The intentional (deliberate) deception resulting in injury to another person. It is a deliberate misrepresentation which causes another person to suffer damages, usually monetary damages.

Embezzlement

The fraudulent appropriation of property by one lawfully entrusted with itspossession.

To “embezzle” means willfully to take, or convert to one’s own use, another’smoney or property, of which the wrongdoer acquired possession lawfully, byreason of some office or employment or position of trust.

Skimming – Anyschemeinwhichcashisstolenfromanorganizationbeforeitisrecordedontheorganization’sbooks.

CashLarceny– Anycashwhichisstolenfromanorganizationafterithasbeenrecordedontheorganization’sbooksandrecords.

Billing – Anyschemeinwhichapersoncauseshisemployertoissueapaymentbysubmittinginvoicesforfictitiousgoodsorservices,inflatedinvoicesorinvoicesforpersonalpurchases.

ExpenseReimbursements– Anyclaiminwhichanemployeemakesaclaimforreimbursementoffictitiousbusinessexpenses.

CheckTampering– Anyschemeinwhichapersonstealshisemployer’sfundsbyintercepting,forgingoralteringacheckdrawnontheorganization’saccount.

The fraud triangle (attributed to Donald Cressey) describes three factors that are present in every situation of fraud:

Who commits fraud?

5% of the population will commit fraud regardless of the circumstances.

85% of the population will commit fraud given certain conditions (Pressure, Opportunity and Rationalization) [Cressey’s Fraud Triangle]

10% of the population will not commit fraud under any circumstances.

Oftenbookkeepingseemscompletelyautomatedtothoseunfamiliarwiththeentireprocess.

Anemployeemayonlyseeoneareaofthecompany’saccountingactivitiesandnotbeawareofwhatfunctiontheyplayintheoverallfinancialfunctionsoftheorganization.

Withoutanunderstandingofthetransactionflowandthe“bigpicture”byknowledgeablepersonnelandmanagement,afraudstermaybeabletohidehisfraudwithrelativeease.

Similarly,afraudstermaynotbeawarethattheirschemeresultsinoverstatementofanaccountthatwillbefoundduringreviewbythoseknowledgeableaboutaccounting.

Shouldyourauditorfindall

fraudoccurringduringtheir

auditprocedures?�

Auditor’sResponsibility:

Inanauditconductedinaccordancewithgenerallyacceptedauditingstandards(GAAS),theindependentauditorsobjectiveistoexpressanopiniononhowfairlythefinancialstatementspresent—inallmaterial respects—financialposition,resultsofoperationsandcashflowsinconformitywithgenerallyacceptedaccountingprinciples(GAAP)

Afinancialstatementauditisnotdesignedtodetectimmaterialfraud.However,anyfraudencounteredduringafinancialstatementauditshouldbereportedtomanagementortheboardofdirectors.

Example:AuditorrequestsinvoicesexceedingtheirplanningmaterialitythresholdforIndividuallySignificantItems(ISI)whenreviewingtheplantactivityfortheyear.Theauditplanningmaterialitycalculationdeterminedthatinvoicesover$10,000shouldbeselected.Thefraudsterwrote4checkstohimselfrangingfrom$3,000– 7,500,codingthedisbursementstoothervendorsandtoseveraldifferentplantaccounts.

Theauditormaynot uncoverthesefraudulentdisbursementsbysimplyexaminingitemsoverscope.

Fraud Detection

The majority of occupational fraud is initially detected by a tip from internal or external sources.

The majority of fraud tips come from employees and customers (74% Combined).

Lack of internal controls and override of existing controls contribute to almost half of occupational fraud.

Internal Controls vary by company based on the number of employees and types of transactions.

Recent Fraud Case:

Autilitycompany(XYZ)convertedtheirbillingsoftwareduringtheyear.

Thenewsoftwareutilized“sessions”foreachCustomerServiceRepresentative(CSR)foramountsreceivedfromcustomersforcash,checks,adjustments.Eachtypeofactivityhadaseparatesession.

DuringourauditprocedureswedeterminedthatDuefromCustomerswasOverstated.ThebillingsoftwaredidnotinterfacewiththeGLsoftware.

Eachsessionforpaymentsreceivedfromcustomersshouldtietoadepositslip,bankandGLactivity.

Wefound3depositsthatwereoutstandingatyearendandwerenotrecordedasdepositsintransit.Thedepositswereall“CASH”deposits.Thechecksweredepositedinatimelymanner.All3depositswerefromoneCSR.

Furtherinvestigationdeterminedthatthetimebetweenwhenthepaymentsweremadebycustomersandweredepositedinthebankwereexcessive.

Notmakingdepositsdaily.Somedepositscontained3-10daysworthofreceipts.

Wediscussedthematterwithmanagement,andtheyrequiredallCSRstocloseallsessionsandprepareadepositforeachsession.

Sixseparatedepositswereallegedlypreparedforthesessions.However,onlythreedepositsmadeittothebank.

ThethreemissingcashdepositswerefromoneCSR.

Basedontheinterviews,wedeterminedthatnoonehadaccesstoanotheremployee’slogin,makingitimprobablethatanemployeecouldaccesstheotheremployee’ssessionsorotherinformation.

While3depositslipsmadeittothebank,3othersdidnot.

Thecompanydidnothavesupportingevidenceofthemissingdeposits.

TheCSRwhoownedthethreemissingsessions/depositsstatedthatshehadcopiesofthemissingdepositslipsatherhome.

Shereturnedfromlunchwithacopiesofthemissingdepositslipsandcopiesoftheslipsthatwereactuallydeposited.

Wenoticedobviousdiscrepancieswhencomparingcopiesofthedepositslips.

Carbon, or second copy of deposit slip. Note the “Deposit Record Copy” and the light color of the photo.

Copy of the first page of a deposit slip provided by CSR. Note the absence of the “Deposit Record Copy” and note the darkness of the copy allegedly made at the same time.

OtherInformation:

CSRwentonvacationduringaportionoftheyearwherelappingwasoccurring.Over$11,000wouldhavebeeninhercashdrawerbasedonthebillingsystemandsessions.

ManagementrequestedthatwereviewthecontentsoftheCSR’sdeskaftertheysuspendedher.Abagcontainingcashwasfoundinthedeskthathadbeenpostedtothebillingsoftware,indicativeofadditionalfraud.

Lapping:

A lapping scheme is an accounting method that involves altering the account receivable section of the balance sheet when cash that is intended for the payment of a receivable is stolen. Lapping occurs when an employee steals cash by diverting a payment from one customer, and then hides the theft by diverting cash from another customer to offset the receivable from the first customer. This type of fraud can be conducted in perpetuity (unless controls are in place to reduce the likelihood of lapping), since newer payments are continually being used to pay for older debts, so that no receivable involved in the fraud ever appears to be that old.

Examples of Acceptable Internal Controls

Useasystemofchecksandbalancestoensurethatnoonepersonhascontroloverallpartsofafinancialtransaction.

•Requirepurchases,payroll,anddisbursementstobeauthorizedbyadesignatedperson.•Separatehandling(receiptanddeposit)functionsfromrecordkeepingfunctions(recordingtransactionsandreconcilingaccounts).•Separatepurchasingfunctionsfrompayablesfunctions.•Ensurethatthesamepersonisn’tauthorizedtowriteandsignacheck.•Whenopeningmail,endorseorstampchecks“ForDepositOnly”andlistchecksonalogbeforeturningthemovertothepersonresponsiblefordepositingreceipts.Periodicallyreconciletheincomingchecklogagainstdeposits.•Requiresupervisorstoapproveemployees’timesheetsbeforepayrollisprepared.•Requirepaycheckstobedistributedbyapersonotherthantheoneauthorizingorrecordingpayrolltransactionsorpreparingpayrollchecks.• Iftheagencyissosmallthatyoucan’tseparateduties,requireanindependentcheckofworkbeingdone,forexample,byaboardmember.•Requireaccountingdepartmentemployeestotakevacations.

Reconcile bank accounts every month

• Requirethereconciliationtobecompletedbyanindependentpersonwhodoesn’thavebookkeepingresponsibilitiesorchecksigningresponsibilitiesorrequiresupervisoryreviewofthereconciliation.

• Examinecanceledcheckstomakesurevendorsarerecognized,expendituresarerelatedtoagencybusiness,signaturesarebyauthorizedsigners,andendorsementsareappropriate.

• Examinebankstatementsandcancelledcheckstomakesurechecksarenotissuedoutofsequence.

• Initialanddatethebankstatementsorreconciliationreporttodocumentthatareviewandreconciliationwasperformedandfilethebankstatementsandreconciliations.

Restrictuseofcreditcardsandverifyallchargesmadetocreditcardstoensuretheywerebusiness-related•Limitthenumberofagencycreditcardsandusers.

•Establishapolicythatcreditcardsareforbusinessuseonly;prohibituseofcardsforpersonalpurposeswithsubsequentreimbursement.

•Setaccountlimitswithcreditcardcompaniesorvendors.

• Informemployeesofappropriateuseofthecardsandpurchasesthatarenotallowed.

•Requireemployeestosubmititemized,originalreceiptsforallpurchases.

•Examinecreditcardstatementsandcorrespondingreceiptseachmonth,independently,todeterminewhetherchargesareappropriateandrelatedtoagencybusiness.

ProvideBoardofDirectorsoversightofagencyoperationsandmanagement.

• Monitor the agency's financial activity on a regular basis, comparing actual to budgeted revenues and expenses.

• Require an explanation of any significant variations from budgeted amounts. • Periodically review the check register or general ledger.• Document approval of financial procedures and policies and major

expenditures in the board meeting minutes.• Request independent auditors to present and explain the annual financial

statements to the Board of Directors and to provide management letters to the Board.

Protect cash and check collections.

•Ensure that all cash and checks received are promptly recorded and deposited in the form originally received.• Issue receipts for cash.•Conduct unannounced cash counts.•Reconcile cash receipts daily with appropriate documentation•Centralize cash receipts whenever possible.

Fraud Schemes

• Thetypicalorganizationloses5%ofitsrevenuetofraudannually.

• Themedianlossis$140,000.•Atypicalfraudlasts18monthsbeforedetection.• Themostfrequentmethodtouncoverfraudisbyatip.•81%ofthecasesreported,thefraudsterdisplayedoneormoreBehavioralRedFlags.

Skimming Fraud Definition

Skimming fraud is the theft of cash from a business prior to its entry into the accounting system for that company. Although skimming is one of the smallest frauds that can occur, they are also the most difficult to detect.

An easy way to reduce skimming is to offer customers an incentive to report if they are not given a receipt.

While an incentive helps, it is not the going to detect all skimming schemes.

Recent Skimming and Larceny Fraud Case

1. CSR had a terminal that was not to be used and thought to be inactive.

2. She would take occasional cash payments through this terminal.3. Terminal updated the customer account balance and provided a

receipt.4. CSR would steal the funds from this terminal.

Recent Skimming and Larceny Fraud Case

1. CSR would count out the “real terminal” and give the cash to the General Manager, who would match the report for the terminal.

2. The General Manager would take the cash and place it in the safe for an armored carrier to pick up.

3. The General Manager would occasionally take the cash from the safe.

4. Total theft by CSR was approximately $30,000 and the GM was approximately $37,000, for a total loss in less than a year of $67,000.

5. CB&Co assisted in recovery of funds.

ElectronicPayments

- CreditCards- Paypal- EFTPS-Wires/Transfers