Preventing and Detecting Fraud: Also know as, “Why does this
always seem to happen to us?”
Prepared and presented by Frank Crawford, CPAwww.crawfordcpas.com
The Fraud Triangle
Exacerbated ineconomic downturn
Perceived pressure
facing individual
Perceived opportunity to commit
fraud
Person’s rationalization or integrity
Victim Organizations©2008 by the Association of Certified Fraud Examiners, Inc.
©2008 by the Association of Certified Fraud Examiners, Inc
Victim OrganizationsOccupational Fraud Schemes in Government
and Public Administration (106 cases)12
12The sum of percentages in this chart exceeds 100 percent because several cases involved multiple schemes from more than one category.
Profile of Fraud Perpetrator Male or female No prior criminal history (<8%) Well liked by co-workers Likes to give gifts/compulsive shopper Gambling problems not unusual Long-term employee Rationalizes: Starts small or “borrows” Lifestyle clues
Cash Schemes Stealing cash funds
processed or on hand Not recording &
stealing the cash receipts
Under ringing & stealing the difference in cash receipts
Altering bank deposits
Accounts Receivable Schemes
Lapping Forging checks received Altering credit card
receipts Granting bogus credits Bogus bad debt write-
offs or account adjustments
Accounts Payable & Purchasing
Personal bills Fictitious suppliers Kickbacks Ordering personal
items Petty cash funds Employee
expense accounts Credit cards
Payroll Schemes Ghost employees Manipulated time
records Unclaimed payroll
checks Writing extra payroll or
bonus checks Leave time
manipulation Withholding fraud W-2 fraud
Top Ten Reasons Frauds Beat Internal Controls in
Government and What You Can Do About It…
Process mentality Just doing the steps in the process Not thinking about what one is doing
Example: Two signatures required on checks. Both check signers fail to notice the check has no payee and still sign the check.
Remedy: Reinforce the need to pay attention and the consequences for failure.
1. Goin’ Through the Motions
Blind trust Failure to acknowledge warning signals
Example: Failure to follow up on a customer complaint of an incorrect bill for service and relying on the experienced and valued billing clerk’s response that it was just an error.
Remedy: Realize that anyone can commit fraud. Assume discrepancies are fraud and prove to yourself it is only an error.
2. See No Evil, Hear No Evil
Positional immunity Rationalizing that controls don’t apply to me
because I am in upper management. Often referred to as management override.
Example: Executive director doesn’t report leave used, but still gets paid for unused leave annually.
Remedy: Identify someone within or outside the entity that you can report these circumstances to and not jeopardize your job.
3. It’s Good to be The King
Situational incompetence New employee not in a position to question why
Example: New accounts payable clerk questions why purchases from a certain vendor do not require bids, and is told that such purchases are exempt.
Remedy: If you are the supervisor, don’t assume new employee just doesn’t understand. Take their questions seriously and ask your self why. If you are the employee, ask more than one person.
4. New Kid on the Block
Workload overload Not enough time to perform control
procedures
Example: Knowing that the supervisor is too busy to reconcile accounts receivable, a billing clerk steals cash and posts unauthorized adjustments.
Remedy: Reevaluate assignment of duties, and when needed, demand more resources by focusing on the consequences of fraud.
5. Where’s All the Time Gone?
Conflict avoidance Responsible employees not comfortable in
confronting other employees
Example: A supervisor recognizes that the cash drawer is always short at the end of the day, but is uncomfortable in confronting the employee.
Remedy: Reinforce supervisory responsibilities. Provide employee management training. Don’t tolerate poor performance.
6. Can’t We All Be Happy?
Informational restraint Responsible employees lack the information
they need to identify an improper transaction
Example: An accounts payable clerk is not provided a contract that includes a not-to-exceed price limit and vendor takes advantage by over-billing.
Remedy: Reinforce with employees the openness and availability of records and information.
7. Where’s the Beef?
Behavioral ignorance Responsible employees ignore behavioral
signs or indicators of possible fraud
Example: Management and other employees fail to investigate or question an employee that is living well above their means or salary level.
Remedy: Create an environment within the government that fosters ethical and responsible behavior. Create an anonymous hotline.
8. It’s None of My Business
Informational ignorance Officials ignore fraud warning signs in
reports because they don’t understand the reports
Example: Highway patrol fine revenue was embezzled and monthly budget report shows a potential problem, but the report is too complicated for management and governing board to understand.
Remedy: When it comes to reports, use the KISS principle and train the users.
9. It’s Over My Head
Ethically challenged Employees responsible for controls are just
not ethical and morally responsible individuals
Example: Purchasing supervisor is dishonest and convinces an accounts payable employee to process fake invoices for payment and split the money between them.
Remedy: Don’t hire crooks.
10. A Bad Apple in the Bunch
Protection Mechanisms Fraud risk assessment Internal controls Proper environment External review Reporting mechanism Hire right Fidelity bonding Establish “Perception of
Detection” Forensic data mining
Protection Mechanisms Segregation of duties Effective bidding processes Vendor approval controls Policies
◦ Code conduct, fraud policies◦ Conflict of interest, gifts,
gratuities◦ Etc.
Fraud awareness training Internal audit
©2008 by the Association of Certified Fraud Examiners, Inc.
Detection of Fraud SchemesInitial Detection of Occupational Frauds4
4The sum of percentages in this chart exceeds 100 percent because in some cases respondents identified more than one detection method.
Resources Managing the Business Risk of Fraud: A
Practical Guide (AICPA & IIA) – REQUIRED READING
Management Anti-Fraud Programs & Controls (exhibit to SAS 99)
ACFE Fraud Prevention Check-Up ACFE Best Practices in Ethics Hotlines ACFE Sample Code of Conduct ACFE Sample Ethics Policy
Management Antifraud Programs and Controls
Creating a Culture of
Honesty & High Ethics
Evaluating Antifraud
Processes & Controls
Developing an Appropriate
Oversight Process
Setting the tone at the top Creating a positive workplace environment Hiring and promoting appropriate
employees Providing sufficient training Confirming accountability for code of
conduct Implementing effective discipline
Creating Culture of Honesty and High Ethics
Identifying and measuring fraud risks Mitigating fraud risks Designing and implementing appropriate
internal controls Monitoring compliance with internal
controls Don’t miss the obvious…
Evaluating Antifraud Processes and Controls
Oversight by the audit committee or equivalent
Oversight by management Use of an effective internal audit function Open and candid dialogue with
independent auditors Take advantage of the COSO internal
control element “Risk Assessment” by taking some time to “aim”…
Developing and Appropriate Oversight Process
Let’s talk a little more about Honesty and High Ethics for a bit…
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Applying Ethics is About
Ethics refer to the standards that tell us how we ought to act in situations we find ourselves in as parents, children, family members, friends, citizens, elected officials, professionals, employees, teachers, etc.
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What Ethics is Not! Ethics is not just following the law. The fact that it is
possible or legal to do something doesn’t mean it “ought to be done”.
Ethics is not just following our feelings. Our feelings can betray our ethics. Often we may feel it is uncomfortable to do the right thing.
Ethics is not just following our religion. Ethics applies to all people, whether religious or not. Some ethical dilemmas are not addressed by one’s religion.
Ethics is not just following culturally accepted norms. Some cultures may be blind to certain basic issues, such as human rights.
Ethics is not just following science. While science may provide us better information to make decisions, just because something is scientifically or technologically possible, does not mean it is ethical.
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Ethics in 21st Century As a Society are We Living a Life Worth
Living?
Corporate officers, greed, and accounting scandals
Athletes and performance-enhancing drugs Martha Stewart and broker/dealer scandals College students and increased cheating Hackers, internet viruses, and identity theft Politicians and government corruption Catholic priests and sex scandals Danny Almonte and little league baseball
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Ethics in 21st Century
Recent study found that nearly 1/3 of U.S. workers called in sick in the past year when if fact they were fine.
Most common reasons given:◦ Had plans with family and friends◦ Needed to relax or catch up on sleep◦ Just didn’t feel like going to work
Source: Harris Interactive Survey for CareerBuilder.com (Aug-Sept. 2007)
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Ethics in 21st Century
Advertising “Prepaid” Bail Bonds
Is this Really Necessary?
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Ethics in Work and Life
Hard to separate moral behavior in personal life from moral behavior in public life
Where there are ethical lapses in private life, there are often ethical lapses in public life (and vice versa)
Ethical lapses in private life can result in lack of trust in public life
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Unethical Behavior Triangle
Motive/Pressure
Opportunity Rationalization
Potential for Unethical Behavior
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Rationalizing Bad Behavior
Do we rationalize bad behavior? In what ways? The “Broken Window Rationalization
Theory” - if we allow inappropriate behavior to go unchallenged, we create the invitation for rationalizing that such behavior is considered acceptable
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An Individual’s Ethics Evolution
Stage 1 – Educational Level
Stage 2 – Societal Level
Stage 3 – Independent Level
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Educational Level
Right and wrong defined in terms of what authority figures say is right and wrong or what rewards and punishment result◦ Parents◦ Teachers◦ Ministers
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Societal Level
Right and wrong defined in terms of what society believes and law requires◦ Family◦ Friends◦ Peers◦ Community◦ Nation
Circle of Morality Theory
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The Circle of Morality©
The Circle of Morality™
CONCEPT:
For a shift to higher Ethics, there must be meaningful enough Consequences to the Actions of individuals to cause a shift in the Beliefs of a majority of society that is significant enough to change individual Values.
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Effective Consequences
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Independent Level
Right and wrong defined from an independent point of view based on our individual ideals of justice or human rights and welfare
These ideals are acquired through our knowledge, experiences, and personal feeling
These ideals may differ from the norm of society
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Ethical Orientation QuestionYou are driving on a highway (with a normal speed
limit of 70 mph) with no other vehicles around. The highway has recently been repaved. Construction is now complete and all construction barriers have been removed. However, the temporary speed limit signs of 55 mph are still posted. You are driving 70 mph.
Are you doing anything wrong?
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An Individual’s Ethics OrientationWhatever our level of moral development, we
have all developed our own individual ethical orientation or tendencies we follow when faced with making decisions that involve ethical dilemmas.
Let’s determine our own ethical orientation.
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What is my Ethical Orientation?1. Which is worse?
a. Hurting someone’s feelings by telling the truth
orb. Telling a lie and protecting their feelings
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What is my Ethical Orientation?2. Which is the worse mistake?
a. To make exceptions too freelyor
b. To apply rules too rigidly
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What is my Ethical Orientation?3. Which is it worse to be?
a. unmercifulor
b. unfair
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What is my Ethical Orientation?4. Which is worse?
a. Stealing something valuable from someone for no good reason
orb. Breaking a promise to a friend for no good
reason
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What is my Ethical Orientation?5. Which is it better to be?
a. Just and fairor
b. Sympathetic and feeling
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What is my Ethical Orientation?6. Which is worse?
a. Not helping someone in troubleor
b. Being unfair to someone by playing favorites
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What is my Ethical Orientation?7. In making a decision, on which do you rely
more?
a. Hard factsor
b. Personal feelings and intuition
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What is my Ethical Orientation?8. Your boss or superior orders you to do
something that is hurtful to someone. If you carry out the order, have you actually done anything wrong?
a. Yesor
b. No
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What is my Ethical Orientation?9. Which is more important in determining
whether an action is right or wrong?
a. Whether anyone actually gets hurtor
b. Whether a rule, law, commandment, or moral principle is broken
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What is my Ethical Orientation? Ethics of Justice (J orientation)
◦ Based on equal application of moral principles and laws or policies with little flexibility or exceptions
◦ Actions are either inherently right (truthfulness, respect, honoring promises) or inherently wrong (lying, theft, manipulation, broken promises)
◦ Generally more common of men than women Ethics of Care (C orientation)
◦ Based on sense of responsibility to reduce harm and suffering with considerable flexibility for individual cases
◦ Actions that produce more good than harm are “right”; those that don’t are “not as right”
◦ Generally more common of women than men(Based on Ethical Orientation Questionnaire developed by the Center for Ethics and Business at Loyola Marymount University)
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Contemporary Ethics Theories
Another perspective:
1. Ethics of Justice Orientation RIGHT versus WRONG
2. Ethics of Care OrientationRIGHT versus Not As RIGHT
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What is an Ethical Dilemma?
A situation where there are compelling reasons for taking an action and competing compelling reasons for not taking the action
Ethical dilemmas exist because of these conflicting or competing compelling reasons
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An Ethical Dilemma
You want to borrow another individual’s truck, without approval (compelling reason not to do it), and use it to deliver food, clothing, and sleeping bags to desperately hungry and homeless families immediately after a natural disaster strikes (compelling reason to do it).
What action should the individual take?◦ In what direction would an Ethics of Justice thinker lean?◦ In what direction would an Ethics of Care thinker lean?
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Resolving Ethical Dilemmas1. First get all the facts and consider alternative
actions.2. Analyze the actions themselves (ethics of justice
considerations) ◦ Do they comply with the law ◦ Are they honest, fair and equitable◦ Are they respectful of others rights
3. Analyze the potential results or consequences of the actions (ethics of care considerations)
◦ Do they advance the common good◦ What is the extent of good versus harm to others◦ What is the extent of good versus harm to me
4. Combine both analyses and make a decision (none of the considerations should be ignored, each acts as a check on the limitations of the other)
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Ethical Dilemma Decision Test“Ask yourself whether or not you would
feel good about your decision while appearing on prime-time television being interviewed by a highly-skilled, well-informed, and hard-hitting journalist, knowing that your family, friends and peers are watching.”
Quote from Warren Buffet
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My 10 Basic Principles of Ethics
1. Avoid conflicts of interest in fact and appearance2. Don’t misuse nonpublic information for personal gain3. Don’t accept or solicit gifts or items of value4. Put forth honest effort in duties5. Make no unauthorized or unfullfilable promises or
commitments6. Be impartial and avoid giving preferential treatment7. Don’t misuse or misappropriate company funds or
property8. Exercise civility and respect others opinions and beliefs9. Comply with laws and meet all obligations as a citizen 10. Expose corruption and report fraud, waste and abuse
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Avoid The Sergeant Shultz Approach to Responding to Immoral Behavior
“I know nothing,
I see nothing, and
I say nothing!"
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Living a Life Worth Living
QUESTIONS???