A Cautionary Tale on Fraud

DG: Well, I have about 36 years of public accounting experience. Half of that, at the beginning of my career, I spent auditing financial statements. In the last half, I switched over to tax and became a tax professional. I have my own client base that I work with, and I also support a number of partners in our group that both you and I serve in the Private Business Services Group.
TS: Just so our listeners know, Dan and I have had some lengthy discussions about instances of employees committing fraud within their organizations. Would you mind sharing with our listeners some of those stories?
DG: Sure. I have three off the top of my head. The first story I call “she does everything.” A business owner was meeting with me, and we brought in a bookkeeper/office manager. At a very loud level the owner was saying how great this bookkeeper was and that she did everything. He had nothing to do with the finances, the accounting and bookkeeping. She did everything, and within less than a year that she was actually absconding tens of thousands of dollars. She had a gambling addiction. And at some point during the engagement he was noticing the cash flow was really poor and couldn't figure it out why? And we had people from our fraud group go in there and take a look at it. And sure enough she was creating fictional vendors, fictional employees and paying them and putting that money into her bank account. 

The second story I call “the in-house counsel.” We had a client that just by their very nature got sued. And it got to be such that they hired an in-house counsel, a lawyer rather than outsource it. This in-house counsel would go to the accounting department. He would say, well, I've just settled a case, can you give me the money so I could put it into my escrow account so that I could pay off whoever was paying off to settle these cases. Well, sure enough, a lot of these times he was putting money in his escrow account, but he was paying himself and he was putting his money in his bank accounts. He had created a bunch of accounts around town at different banks. You have this restriction where if you put in more than $10,000 it needs to be reported to the government. So he was putting in $9,900 to various bank accounts. He didn't know that if you do that sort of thing and the bank suspects that it can be deemed as structuring to avoid the $10,000 rule. And the banks reported to the IRS or the treasury department. And one day he came home and sure enough who was waiting at his front door, IRS and FBI agents. He was arrested.

The last story I call “the cash swindler.” It was a controller of a professional services company. The employees didn’t get paid often, but there were occasions where they actually got paid cash for work that they were doing. So he was taking this money, put the cash in his pocket, and through various accounting journal entries book the income to whoever had paid him. He created at least one fictional vendor that the company had had years ago, but no longer did business with them. So it was in their system and he brought it back the life and was making disbursements. Sure enough, there was an audit of the company. The auditor looked at those disbursements, questioned them and wanted support. He could never come up with the support. And one day, the owner just confronted him and he just melted. He said, “I took the money, I put it in my pocket, and you know.”
TS: Wow, that's crazy. So, Dan, do you have any parting words for our audience? Items that business owners should be really looking for?
DG:When it comes to this sort of thing, and I'm not a fraud examiner by any means, from my basic layman's observations I know there are three steps to fraud. You have a pressure, opportunity and rationalization. First, the pressure is on the person that's doing the fraud, there's some sort of outside source that’s putting pressure on. It might be gambling or drug addictions. You also have the opportunity. Now, as you and I deal with every day in the small and middle market, internal controls aren't always the best. It can be expensive: personnel, systems, not to mention the discipline. It's very difficult. It gives those people who are looking to perpetrate fraud opportunity to do it. And the last one is rationalization. That's when someone who is perpetrating the fraud has to rationalize why doing something that's criminal is okay. They've got to justify it in their minds. And a lot of people will say the biggest thing is I'm underpaid. I deserve this. I should get it. Nobody's going to know. Nobody's going to notice. You have to be able to overcome that stuff. I mean, you may not know your employees that well to know what the different pressures are in their lives. You’ve got to hire new people. You got to put systems in place. There's are things that you can do to turn rationalization on its head. You want to do things like having the mail come directly to the owners. The owner should be looking at bank accounts on a random basis, ask for documentation for canceled checks. Even if you know what's a good check, ask for it. You may want to go through and look at the cash disbursement journals and accounts payable. Question; don't be afraid to ask for documentation for these various disbursements that the company is making, and go through your payroll registry for your list of employees. If there's a name on there that you don't recognize, ask to be introduced to that person. Nothing wrong with that. The most important thing is that you’ve got to make sure that everyone knows that you're watching as an owner. That they know the owner's proactive. They're looking into things to check.
TS: That's great Dan. And seriously, thank you so much for giving us this useful information today. And before we close our podcast, I like to provide one of my famous New Jersey facts. Not that this is a particularly good one. But why not? I figured this was interesting. New Jersey is the car theft capital of the world, with more cars being stolen in Newark than any other city. Thank you for listening to “The Bottom Line” as part of the EisnerAmper podcast series. If you have any questions or there's a topic you'd like us to cover, email us at contact@eisneramper.com. Visit Eisneramper.com for more information on this and a host of other topics. And join us for our next EisnerAmper podcast when we get down to business.