Able Investigations

Fraud is defined as a type of illegal act in which the perpetrator obtains something of value through willful misrepresentation. Fraud usually occurs within the context of legitimate business transactions and is carried out in such a manner that legitimate business unwittingly conceals it. Specific indicators of fraud are generally difficult to identify; however, generic indicators or “red flags” (warning signals) are almost always present, and auditors must rely on understanding of how fraud is committed to successfully recognize these indicators. Both transactions that may be fraudulent and circumstances that may appear legitimate must be viewed through a lens of auditor skepticism.

 

The potential for committing fraud is greater when one or more of the following three elements exist: perceived need, opportunity, and rationalization. The motivation for most fraud is financial in nature and is fueled by the perceived needs or desires of the individual committing the fraud. The opportunity to commit fraud must exist, and weak internal controls provide such an environment. Individuals responsible for fraud rationalize their fraud: “The government is so big that what I take will never be missed.” or “They owe me.” Therefore, when conducting audits, the auditor should be on the watch for these elements as he/she looks for indicators of fraud based on a set of signs, signals, and patterns, which may be encountered during the audit.

 

Examples of these signs, signals, and patterns include the following:

 

Weak management. Failure to enforce existing controls, inadequate oversight of the control process, and failures to act on fraud are signs of weak management.

 

Loose internal controls. Inadequate separation of duties involving cash management, inventory, purchasing/contracting, and payment systems allow the perpetrator to commit fraud.

 

History of impropriety. Past audits and investigations with findings of questionable or criminal activity are very useful as roadmaps of where to look for current activity.

 

Unethical leadership. Executives who do not follow the rules and focus on personal achievement and not organization goals may be involved in fraudulent activity.

 

Promise of gain with little likelihood of being caught. When a perpetrator works in an environment of weak management, loose internal controls, and high-volume transactions, he/she has ample opportunity to exploit the situation for personal benefit.

 

Unexplained decisions and/or transactions. Transactions that are out of the ordinary and are not satisfactorily explained, for example, unexplained adjustments in inventory and accounts receivables, are often signs of fraudulent activity.

 

Failure to follow legal or technical advice. Unexplained deviation from legal and/or technical advice, particularly when concurrence is required, may be evidence of fraud.

 

Missing or altered documents. Sometimes the perpetrator includes misinformation and false data entries in records that are obvious; however, the perpetrator makes no attempt to conceal the changes. Indicators include providing information late without explanation, concealing unfavorable information, never creating required documentation, creating documentation after the fact, and destroying documents.

 

To understand and identify information that may suggest fraud, the auditor should be aware that fraud is most likely to fall within six categories of criminal violations: theft, embezzlement, fictitious transactions, kickbacks, bribery and extortion, and conflict of interest. In any of these, fraud may occur.

 

Theft involves property, facilities, services, and time.

 

Embezzlement involves money, positions of trust, and a trusted employee. The funds embezzled can be from receipts or disbursements or from fictitious transactions involving funds over which the embezzler has custody and control. Embezzlement generally results from a breakdown of internal controls, i.e., no separation of duties.

 

Fictitious transactions usually involve a single party. False records or transactions are perhaps the most sophisticated of schemes.

 

Kickbacks may be offered by a vendor or solicited by a contractor or government buyer Moneys are paid from government funds. Inflated invoices and subsequent payments generate kickback proceeds and are used to secure government or contractor business or steer business to a particular contractor. 

 

Bribery and extortion occur when an offer is made and accepted in return for abuse of position; i.e. a government official accepts something of value in return for sensitive information or in return for a favorable decision. A government official demands money in return for a favorable and expedited decision.