Enabling Fraud Environments
On November 3, 2008, Michelle was sentenced to 72 months in prison and ordered to pay $825,400 in restitution to the Brook and Leroy Inc. and $200,858 to the Internal Revenue Service (IRS) for federal wire fraud and tax evasion. She pleaded guilty in July 2008 admitting that, as president of Brook and Leroy, she engaged in a scheme to defraud the company by issuing duplicate paychecks to herself for more than four years and by issuing company checks to herself, family members, and others for her personal expenses. She also admitted to tax evasion based on her failure to report the embezzled money as income and to pay taxes on the money. This scheme is not unusual.
Today more than ever organizations face challenges in their dealings with their employees, their vendors, and their customers… too much at a stake to stay idly by. Forensic accountants and fraud examiners have a commitment in helping stakeholders to protect their wealth, which in turn brings more employment opportunities, more tax revenue, more sustainability in the long run. All stakeholders benefit when a sound set of internal controls is in place and applied throughout the organization.
It is imperative that the management team identifies the consistent areas of high risk across the organization, conform a fraud examination team, which should implement and monitor the actions spelled out in a sound fraud action plan that exposes indicators that could lead to fraud.
Recognizing red flags and the circumstances that can lead to a "fraud enabling" environment, detecting, preventing, and implementing mitigating cost-effective strategies to deter fraud and prevent that organizations are victims of the manipulations of trusted employees, pays off. Fraudulent schemes may go undetected until a red flag signals something out of ordinary and someone within the organization follows through.
Crooks are continually searching for weaknesses in fraud-detection fraud-and prevention practices. A board of directors properly trained and knowledgeable is a plus for any organization only if it is committed to exercise its oversight function.
“Red Flag” is a pattern, practice, or specific activity that indicates the possible risk of fraud. Other call it fraud indicators or fraud symptoms.
A collaborative environment broadly committed on prevention strategies should have and document a process that clearly describes its anti-fraud program and policies, including how the organization identifies, measures, and control operational risk. Implementing appropriate controls to respond effectively to evolving financial crime threats that every company faces is an excellent way for accountants and, more specifically, forensic accountants to add value to their organizations.
Brook and Leroy Inc. could have prevented its loss by identifying red flags of payroll fraud. Some of the most common are:
o Record keeping function not independent of the general ledger function
o Lack of formal procedures for salaries’ increases
o More than one employee with the same address, without any justification
o Duplicate of social security numbers
o Function of approval of timesheets and payroll processing without further review.
The most popular payroll fraud schemes are gosh employees, mid-month payroll draws not deducted from end-of-the month payroll, deductions abuses, employees’ expenses reimbursements, just to mention few.
The Statement of Auditing Standards (SAS) 99 guides auditors with respect to detecting material fraud. SAS 99 focuses on risk assessment and encourages auditors to exercise professional skepticism and asking themselves if someone wanted to commit fraud, how would it be accomplished?
Unannounced test along with proper segregation of duties are strong fraud deterrents. Also, periodic review of social security numbers, employees’ addresses, and a formal procedure where the human resources department approves salaries’ increases and notifies it to the payroll department. The payroll department processes the payroll, and the finance department reconciles the bank statements. In addition a monthly reconciliation of the amounts withheld to ensure that they were reported and paid is a good mechanism that could lead to uncover embezzlement of these funds.
Organizations that can’t afford this segregation of responsibilities must have mitigating factors in place such an external review and bank reconciliation. Implement measures to prevent an employee being in a position of both, steal and conceal. Michelle proved this to be true.
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