How to Spot Financial Fraud

November 5, 2019

Both Businesses & Individuals Benefit From Prevention & Early Detection 

Businesses suffer huge expenses from fraud, with almost 25% of the 2,410 cases examined by the Association of Certified Fraud Examiners in 2016 exceeding $1 million. These large costs motivate businesses to hire CPAs to catch those responsible and bring an end to fraudulent activities. 

The Journal of Accountancy shared information from the AICPA’s Forensic and Valuation Services Conference, including guidance from presenter, Bradley Preber, CPA/CFF, CGMA, who stated that the goal of fraud investigation should be “to determine what the facts are and see if those facts bear out any sort of criminal activity.”

Three Characteristics Are Associated With the Fraudster’s Mindset: 

  • Opportunity, described as “I can do it;” 
  • Pressure, seen as “I need to do it;” and 
  • Rationalization, depicted as “whom am I harming?” 

Opportunity often occurs when controls are insufficient, so assessing control practices can lead to spotting fraud. When evidence exists to indicate possible criminal activity, CPAs and management must take quick actions, like confiscating computers or documents, to protect evidence from either disappearing or being compromised.

Digital Fingerprints

Tech & Tactics: Nefarious 3rd Parties Leverage New Digital Technology to Target Vulnerable Parties 

New methods of committing fraud have increased in connection with improved technology, requiring CPAs to stay current with news and technological advances in order to identify modern fraudulent activities. 

Most Popular Types of Cyberattacks:

  • Email scams that look for bank accounts, personal info and passwords;
  • Identity theft in which a scammer poses as a friend or coworker asking for money; or 
  • Selling bargain-priced assets that either do not exist or that the scammer does not own.

Governmental agencies also have problems with fraud, and six types of red flags indicating fraud are explained in CPA Hall Talk:

  1. External: Warning signs include large income increases; major personal problems, like a lawsuit or divorce; or purchases far beyond the employee’s earnings.
  2. Cash Receipts & Billing: Red flags include taxpayers or customers stating that non-payment notices were received after payments were made; instances of missing receipts; or write-offs without documentation.
  3. Disbursements & Purchasing: Indications of problems include sketchy or missing documentation for disbursements or expenses; actual expenses being considerably higher than budgeted expenses; and vendors with no addresses.
  4. Payroll: Red flags include large, unexplained increases in payroll, including large amounts of overtime pay.
  5. Capital Assets: Indications of fraud include a lack of bids from qualified contractors while all bids received are higher than budgeted.
  6. General: Other red flags include employee defensiveness or lack of transparency; complaints of being underpaid; financial responsibilities not well segregated; and poor documentation practices.

The existence of these problems does not mean that fraud has definitely occurred, but learning to recognize these warning signs could prevent fraud.

Common Cybersecurity Risks

Plenty of Phish: How Everyday People Get Scammed & Fall Victim 

Individuals also fall prey to fraud scams every year, resulting in losses of a few thousand dollars per person for thousands of Americans. According to the Journal of Accountancy, many of these scams are connected to “telephone impersonation scams, malware computer hijacking, email scams, identity theft, and lonely-hearts cons” in which criminals “steal a little bit from a lot of people.” 

How Accountants Detect Fraud

How Can Accountants Spot a Potential Fraud Victim? 

Accountants can help protect their clients from becoming victims of fraud scams by learning to recognize the following indications of victimization:

  1. Sudden secrecy: Because victims often feel embarrassed about falling for a scam, many will hide the information or have secret phone calls with the scammers.
  2. Abrupt changes in financial behavior: Sudden, unexplained financial neediness or shortness of funds can indicate victimization.
  3. Isolation: The more isolated a person’s lifestyle is, the easier prey that person is for scammers.

Few, But Mighty: The Catastrophic Impact of Financial Fraud 

Although the occurrence of fraud, especially large-scale fraud, is relatively small, losses from fraud can be devastating. CPAs, Forensic Accountants and auditors have a responsibility to follow up on indications of fraud and to report it appropriately. Therefore, being aware of the signs of fraud is an important part of every audit engagement. 

How Good Are You at Detecting the First Signs of Fraud?

The Journal of Accountancy has developed challenging, informative Fraud IQ quizzes. The first is on this link, and there are three more at the bottom of the same web page. Check them out and test your Fraud IQ!

Are you interested in pursuing a career in accounting or auditing? MDS CPA Review can help you pass the CPA exam and assist you toward becoming a licensed CPA.