Preventing and Detecting Fraud Also know as Why

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Preventing and Detecting Fraud: Also know as, “Why does this always seem to happen

Preventing and Detecting Fraud: Also know as, “Why does this always seem to happen to us? ” Prepared and presented by Frank Crawford, CPA www. crawfordcpas. com frank@crawfordcpas. com

The Fraud Triangle Perceived opportunity to commit fraud Perceived pressure facing individual Exacerbated in

The Fraud Triangle Perceived opportunity to commit fraud Perceived pressure facing individual Exacerbated in economic downturn Person’s rationalization or integrity

Victim Organizations © 2008 by the Association of Certified Fraud Examiners, Inc.

Victim Organizations © 2008 by the Association of Certified Fraud Examiners, Inc.

Victim Organizations Occupational Fraud Schemes in Government and Public Administration (106 cases)12 12 The

Victim Organizations Occupational Fraud Schemes in Government and Public Administration (106 cases)12 12 The sum of percentages in this chart exceeds 100 percent because several cases involved multiple schemes from more than one category. © 2008 by the Association of Certified Fraud Examiners, Inc

Profile of Fraud Perpetrator � Male or female � No prior criminal history (<8%)

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 &

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

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

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 �

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

�Top Ten Reasons Frauds Beat Internal Controls in Government and What You Can Do About It…

1. Goin’ Through the Motions � Process mentality � Just doing the steps in

1. Goin’ Through the Motions � 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.

2. See No Evil, Hear No Evil � Blind trust � Failure to acknowledge

2. See No Evil, Hear No Evil � 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.

3. It’s Good to be The King � Positional immunity � Rationalizing that controls

3. It’s Good to be The King � 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.

4. New Kid on the Block � Situational incompetence � New employee not in

4. New Kid on the Block � 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.

5. Where’s All the Time Gone? � Workload overload � Not enough time to

5. Where’s All the Time Gone? � 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.

6. Can’t We All Be Happy? � Conflict avoidance � Responsible employees not comfortable

6. Can’t We All Be Happy? � 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.

7. Where’s the Beef? � Informational restraint � Responsible employees lack the information they

7. Where’s the Beef? � 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-toexceed price limit and vendor takes advantage by over-billing. Remedy: Reinforce with employees the openness and availability of records and information.

8. It’s None of My Business � Behavioral ignorance � Responsible employees ignore behavioral

8. It’s None of My Business � 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.

9. It’s Over My Head � Informational ignorance � Officials ignore fraud warning signs

9. It’s Over My Head � 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.

10. A Bad Apple in the Bunch � Ethically challenged � Employees responsible for

10. A Bad Apple in the Bunch � 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.

Protection Mechanisms � Fraud risk assessment � Internal controls � Proper environment � External

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

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

Detection of Fraud Schemes Initial Detection of Occupational Frauds 4 4 The sum of

Detection of Fraud Schemes Initial Detection of Occupational Frauds 4 4 The sum of percentages in this chart exceeds 100 percent because in some cases respondents identified more than one detection method. © 2008 by the Association of Certified Fraud Examiners, Inc.

Resources � Managing the Business Risk of Fraud: A Practical Guide (AICPA & IIA)

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 Developing

Management Antifraud Programs and Controls Creating a Culture of Honesty & High Ethics Developing an Appropriate Oversight Process Evaluating Antifraud Processes & Controls

Creating Culture of Honesty and High Ethics � Setting the tone at the top

Creating Culture of Honesty and High Ethics � 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

Evaluating Antifraud Processes and Controls � Identifying and measuring fraud risks � Mitigating fraud

Evaluating Antifraud Processes and Controls � Identifying and measuring fraud risks � Mitigating fraud risks � Designing and implementing appropriate internal controls � Monitoring compliance with internal controls � Don’t miss the obvious…

Developing and Appropriate Oversight Process � Oversight by the audit committee or equivalent �

Developing and Appropriate Oversight Process � 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”…

Let’s talk a little more about Honesty and High Ethics for a bit…

Let’s talk a little more about Honesty and High Ethics for a bit…

Applying Ethics is About Ethics refer to the standards that tell us how we

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. 30

What Ethics is Not! Ethics is not just following the law. The fact that

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. � 31

Ethics in 21 st Century As a Society are We Living a Life Worth

Ethics in 21 st 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 32

Ethics in st 21 Century Recent study found that nearly 1/3 of U. S.

Ethics in st 21 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 Career. Builder. com (Aug-Sept. 2007) 33

Ethics in 21 st Century Advertising “Prepaid” Bail Bonds Is this Really Necessary? 34

Ethics in 21 st Century Advertising “Prepaid” Bail Bonds Is this Really Necessary? 34

Ethics in Work and Life � Hard to separate moral behavior in personal life

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 35

Unethical Behavior Triangle Motive/Pressure Potential for Unethical Behavior Opportunity Rationalization 36

Unethical Behavior Triangle Motive/Pressure Potential for Unethical Behavior Opportunity Rationalization 36

Rationalizing Bad Behavior � Do we rationalize bad behavior? � In what ways? �

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 37

An Individual’s Ethics Evolution Stage 1 – Educational Level Stage 2 – Societal Level

An Individual’s Ethics Evolution Stage 1 – Educational Level Stage 2 – Societal Level Stage 3 – Independent Level 38

Educational Level � Right and wrong defined in terms of what authority figures say

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 39

Societal Level � Right and wrong defined in terms of what society believes and

Societal Level � Right and wrong defined in terms of what society believes and law requires ◦ ◦ ◦ Family Friends Peers Community Nation � Circle of Morality Theory 40

The Circle of Morality© CONCEPT: Values Beliefs The Circle of Morality™ Consequences Actions Ethics

The Circle of Morality© CONCEPT: Values Beliefs The Circle of Morality™ Consequences Actions Ethics 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. 41

Effective Consequences 42

Effective Consequences 42

Independent Level � Right and wrong defined from an independent point of view based

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 43

Ethical Orientation Question You are driving on a highway (with a normal speed limit

Ethical Orientation Question You 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? 44

An Individual’s Ethics Orientation Whatever our level of moral development, we have all developed

An Individual’s Ethics Orientation Whatever 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. 45

What is my Ethical Orientation? 1. Which is worse? a. Hurting someone’s feelings by

What is my Ethical Orientation? 1. Which is worse? a. Hurting someone’s feelings by telling the truth or b. Telling a lie and protecting their feelings 46

What is my Ethical Orientation? 2. Which is the worse mistake? a. To make

What is my Ethical Orientation? 2. Which is the worse mistake? a. To make exceptions too freely or b. To apply rules too rigidly 47

What is my Ethical Orientation? 3. Which is it worse to be? a. unmerciful

What is my Ethical Orientation? 3. Which is it worse to be? a. unmerciful b. unfair or 48

What is my Ethical Orientation? 4. Which is worse? a. Stealing something valuable from

What is my Ethical Orientation? 4. Which is worse? a. Stealing something valuable from someone for no good reason or b. Breaking a promise to a friend for no good reason 49

What is my Ethical Orientation? 5. Which is it better to be? a. Just

What is my Ethical Orientation? 5. Which is it better to be? a. Just and fair or b. Sympathetic and feeling 50

What is my Ethical Orientation? 6. Which is worse? a. Not helping someone in

What is my Ethical Orientation? 6. Which is worse? a. Not helping someone in trouble or b. Being unfair to someone by playing favorites 51

What is my Ethical Orientation? 7. In making a decision, on which do you

What is my Ethical Orientation? 7. In making a decision, on which do you rely more? a. Hard facts or b. Personal feelings and intuition 52

What is my Ethical Orientation? 8. Your boss or superior orders you to do

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. Yes b. No or 53

What is my Ethical Orientation? 9. Which is more important in determining whether an

What is my Ethical Orientation? 9. Which is more important in determining whether an action is right or wrong? a. Whether anyone actually gets hurt or b. Whether a rule, law, commandment, or moral principle is broken 54

What is my Ethical Orientation? � ◦ ◦ ◦ Ethics of Justice (J orientation)

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) 55

Contemporary Ethics Theories � Another perspective: 1. Ethics of Justice Orientation RIGHT versus WRONG

Contemporary Ethics Theories � Another perspective: 1. Ethics of Justice Orientation RIGHT versus WRONG 2. Ethics of Care Orientation RIGHT versus Not As RIGHT 56

What is an Ethical Dilemma? �A situation where there are compelling reasons for taking

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 57

An Ethical Dilemma � You want to borrow another individual’s truck, without approval (compelling

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? 58

Resolving Ethical Dilemmas 1. 2. ◦ ◦ ◦ 3. ◦ ◦ ◦ 4. First

Resolving Ethical Dilemmas 1. 2. ◦ ◦ ◦ 3. ◦ ◦ ◦ 4. First get all the facts and consider alternative actions. 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 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 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) 59

Ethical Dilemma Decision Test “Ask yourself whether or not you would feel good about

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, wellinformed, and hard-hitting journalist, knowing that your family, friends and peers are watching. ” Quote from Warren Buffet 60

My 10 Basic Principles of Ethics 1. 2. 3. 4. 5. 6. 7. 8.

My 10 Basic Principles of Ethics 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. Avoid conflicts of interest in fact and appearance Don’t misuse nonpublic information for personal gain Don’t accept or solicit gifts or items of value Put forth honest effort in duties Make no unauthorized or unfullfilable promises or commitments Be impartial and avoid giving preferential treatment Don’t misuse or misappropriate company funds or property Exercise civility and respect others opinions and beliefs Comply with laws and meet all obligations as a citizen Expose corruption and report fraud, waste and abuse 61

Avoid The Sergeant Shultz Approach to Responding to Immoral Behavior “I know nothing, I

Avoid The Sergeant Shultz Approach to Responding to Immoral Behavior “I know nothing, I see nothing, and I say nothing!" 62

Living a Life Worth Living 63

Living a Life Worth Living 63

QUESTIONS? ? ?

QUESTIONS? ? ?