How to Detect Fraud

Jeff Mansir, Risk and Business Advisory Senior Manager
July 2014

No word strikes more terror into the hearts of auditors and business owners alike than FRAUD. For the business owner, fraud is nothing less than a betrayal that can endanger the survival of your business. By following a few tips, however, you can create the type of environment that actively deters fraud, and that can help you to detect fraud when it is happening (or is likely to occur).

As any first-year financial auditor can tell you, frauds are best described as a three-part triangle of perpetrator Need, Opportunity, and Rationalization:

  1. Need - Perpetrator Need is subjective depending on an individual’s perceptions of their financial situation. Financial situations are fluid; some people fall into trouble due to unexpected health care expenses, divorce, or other calamity. Other people like to buy cigarette boats with other people’s money. Keep in tune with the financial situations of employees, and note any changes to spending habits or displays of wealth that don’t make sense. Not everyone has the same spending and saving habits, but be wary of employees who seem to spend well beyond their means.
  2. Opportunity - A trusted employee has access to other people’s money. Of all the aspects of fraud prevention, this is the one you can best control yourself by asking the following questions:
    1. Who has access to cash?
    2. Where employees have access to cash, have access to bank accounts and statements been adequately segregated? An employee who can divert cash AND who maintains the bank account is well-equipped to carry out a hard-to-detect fraud. If that employee also reconciles the bank statements to the cash receipt tickets that were forged, that fraud is going to be very hard to detect.
    3. If strict segregation cannot be accomplished, is there oversight over cash handling that would make a fraudster think twice before diverting funds? This “element of surprise” is an often overlooked aspect of fraud detection. Do the business owners reconcile bank statements? Do they make bank deposits? Or do they depend on a single point of contact for all matters financial? Take a tip from banks, which often enforce mandatory two-week vacations for key employees; it’s hard to maintain a check kiting or lapping scheme while out of the office. Financial frauds take hard work to carry out – make it harder for the fraudster.
  3. Rationalization - This could be described as the ability to override one’s moral code to betray his or her employer. Most fraudsters don’t start out intending to defraud. They do it because they can, and because they can rationalize a loan, advance – whatever they choose to call it. As a business owner, it is your responsibility to set the tone at the top – demonstrate good moral behavior in how you treat your clients, customers, and your employees. A little cognitive dissonance goes a long way to reinforce that fraud is not a victimless crime.

An ounce of prevention is worth a pound of cure – hire good people, manage them well, mind your cash, and listen. When customers call to complain about payments they made that weren’t applied to their accounts, make sure you hear about it, and don’t be afraid to dig into the issue. Be wary of the key employee who is indispensable, who won’t delegate responsibilities, or who gets defensive when challenged; again, it is hard work committing fraud. Be mindful of the symptoms of a person unduly stressed at work.

Don’t be afraid to seek the counsel of your accountant, lawyer, or other trusted advisor should you think that a fraud is occurring. Be alert, be proactive, and above all – protect your business.

For additional information and guidance on detecting and preventing fraud, please contact Jeff Mansir or your BNN advisor.

Disclaimer of Liability: This publication is intended to provide general information to our clients and friends. It does not constitute accounting, tax, or legal advice; nor is it intended to convey a thorough treatment of the subject matter.

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