The most basic definition of fraud is a deliberate and willful misrepresentation which causes another to suffer damages, usually in the form of monetary losses, and the intention is to deprive another of some right. There must always be the element of intent to deceive in order for fraud to occur. While there are several kinds of fraud, the most common form of fraud appears to be defrauding individuals of money. Fraud can be committed against as few as one person or a small group of persons, to as large as a company or corporations. Fraud averages approximately $260 billion dollars more a year than the street crimes in the United States alone. An average company in the United States loses approximately six percent of revenues a year to fraud; therefore, if a company grosses profits of $25,000,000, they will lose $1,500,000 to fraud. Fraud can affect more than just the company that it is committed against. Fraud can affect a broad spectrum of innocent stakeholders, to include: management, contractors, investors, competitors, partners, employees, as well as the economy as a whole. It can be committed in several different settings, which include the corporate setting, the internet, the telephone, and through traditional mail along with others. Some of the top complaint categories found during my research included Internet auction fraud, check fraud, credit card fraud, identity theft, and confidence fraud.
ELEMENTS OF FRAUD
One research source indicated that there are three unique elements of fraud that comprise the “Fraud Triangle.” This three-pronged framework has long been used as a tool for CPAs in seeking to understand and manage fraud risks, and was formally adopted by the auditing profession as part of SAS 99. The following are found within the fraud triangle: opportunity, pressure, and rationalization. Examples of fraud using this triangle could include the misappropriation of cash or other organizational assets. The fraud triangle is depicted below:
The first element of fraud is opportunity. Generally speaking, it is a combination of advantageous circumstances in a setting that would favorably allow for fraud to occur. A few examples of environment that supply opportunities are atmospheres where there is a lack of supervision, a separation of duties, or system controls.
The second element of fraud is pressure. Pressure is a compelling force or influence which would urge someone to behave in certain ways. Pressure does not always come from others, although peer pressure is a source. Pressure also comes from business financial situations, personal financial situations, fear of losing assets, or compulsions or addictions to things such as drugs and gambling.
The third element of the fraud triangle is rationalization. Rationalization is the psychological process of constructing reasonable validation to a desired course of action. This course of action is usually decided upon, or was originally arrived at, through a different mental process, stimulation, or presentation of an opportunity. Common thoughts that supply rationalization for many people are “this is temporary, I’ll put it back before anyone misses it,” “I don’t get paid what I deserve,” and “the company will never miss it.”
Another research source suggests that the fraud triangle could be further enhanced with the addition of a fourth element. In their article, the authors of this body of research ascribe to the inclusion of a fourth element, capability. Capability, as defined by the authors, included the personal traits and abilities of an individual that would play a major role, in the presence of the other three elements, in whether or not fraud might actually occur. The addition of this fourth element would change the fraud triangle, above, to the fraud diamond, below:
TYPES OF FRAUD
Generally speaking, fraud is considered a “white collar” crime, due to most acts of fraud involving complicated financial transactions. There are several different types of fraud. This research paper will address Internet auction fraud, check fraud, credit card fraud, identity theft and confidence fraud are included in most research sources.
Internet auction fraud is typically the selling of a product that is either not delivered at all or is not of the quality listed. It is often accompanied by complaints where customers are lured, by fraudulent sellers, from one legitimate site to another with seemingly better deals. Statistics indicate the total loss in 2005 was $183.12 million and increased to $198.4 million in 2006. One report indicated that internet auction fraud was the most reported offense in 2006. It comprised 44.9 percent of all referred complaints for that year. In his book, “The Art of the Steal,” Frank Abagnale addressed this topic, but used a different term; he coined the term “cyber crime.” Abagnale gave examples of fraudulent on-line activity, eBay is one such example. Cyber crime is also a term found in other research sources to refer to any fraudulent activity taking place on the Internet.
In an interview with Mr. Marvin Wade, president and CEO of Central Oklahoma Federal Credit Union, he indicated that there are three primary methods of check fraud: stolen checks, counterfeit checks, and bogus checks. Generally, checks are stolen by an acquaintance to the owning party. Mr. Wade indicated that fraudulent checks are usually cashed on weekends when banks are closed and the activity is not caught until the following week. The same is true of credit card fraud. Credit card fraud is similar to check forgery. It is a type of fraud where a merchant is “tricked” into releasing merchandise or rendering services, in the belief that a payment will be provided. Most often a credit card from another person is used in an attempt purchase goods and services.
Mr. Wade went on to address credit card fraud, defining it as theft or fraud committed by using a credit card, or a similar payment mechanism, where the source of the funds transacted are obtained in an unauthorized manner. Novices “start small” by stealing mail out of mailboxes in an attempt to gather enough personal information to open a credit card using someone else’s identity. Opening a new credit card using stolen personal information is more prevalent than the use of someone else’s credit card, although Mr. Wade has seen a rise in the activity of both. As they become increasingly successful, fraudsters get braver and commit larger fraudulent acts. Mr. Wade stated that credit card fraud is usually the result of or can lead to identity theft.
Identity theft is the illegal use of another person’s identity. It is the use of another’s personal information by another to commit fraud for personal gain and other crimes at the expense of the victim. The individual, whose personal information has been used, in addition to the financial losses resulting from identity theft, also has to contend with an erroneous credit and criminal history that often take extensive time and expense to correct. Research indicated that the occurrence of identity theft has increased significantly since the 1990’s. The greater degree of computerized records has resulted in the increased ability to anonymously use another’s personal information over the Internet.
Confidence fraud is the breach of trust in a relationship that results in financial loss. It usually is based upon an improper representation of the truth or material fact in order to influence someone to act in a way that is financially harmful. Auction fraud is one example of confidence fraud. The Nigerian Letter Scam, home improvement scams, and multi-level marketing scams are other examples. This type of fraud mostly deals with individuals who seek to prey on the greed of others.
In his book, “The Art of the Steal,” Frank Abagnale never ascribed the term “identity theft” to what he described as the activities in his misspent youth. It is possible that the term was not coined until afterward. However, the types of activities that Mr. Abagnale depicted in his book meet the definition of activities described by both Mr. Wade and other research sources. The movie, “Catch Me If You Can,” is loosely based upon Frank Abagnale’s life. It stars Leonardo DiCaprio and Tom Hanks. DiCaprio played Abagnale and Hanks played the FBI agent that tracked him down. It is a depiction of the approximately six years that Frank Abagnale spent living on forged checks and confidence scams. Eventually, he grows bolder and begins a series of impersonations, which included an airline pilot, a doctor and a lawyer. He is eventually caught by the FBI, was convicted and faced imprisonment. Abagnale served part of his sentence; however, the FBI arranged for Abagnale to serve out the remainder of his sentence working in their check fraud department. Abagnale had a long, successful career working with the FBI and is credited with creating some of the security practices still in use today.
Frank Abagnale certainly fit the characteristics used to describe the typical perpetrator involved in fraud crimes. The typical perpetrator tends to work alone, is male and resides in a densely populated area. Mr. Abagnale referred to this as “hiding in plain view.” He could come from any international area, but is predominantly from the U.S., Canada, or Europe. He is typical in his early twenties to mid-thirties; Mr. Abagnale was somewhat younger when he began his fraudulent activities. The advent of the Internet has increased the ability to remain anonymous, making it increasingly difficult to ascribe specific perpetrator characteristics to individuals currently involved in these activities.
SARBANES OXLEY ACT OF 2002
The Sarbanes Oxley Act of 2002, commonly referred to as SOX, was one of the United States government’s attempts to cut back on the amount of fraud committed in the US in response to major corporate and accounting scandals, including the Enron, Tyco International, and WorldCom scandals. Enacted on April 25, 2002, several of the provisions of the act established new or enhanced controls and standards for all U.S. company boards, management, and public accounting firms. It has played a significant role in reestablishing public confidence and trust; some of the provisions include the creation of a quasi-public agency known as the Public Company Accounting Oversight Board and a requirement that public companies evaluate and disclose the effectiveness of their internal controls and that independent auditors qualify such disclosures.
Fraud is a criminal act at every level and in addition is a violation of civil law known as a tort. The legal definition of actual fraud has been left somewhat flexible because the courts want to be able to consider individually the elements on a case-by-case basis. Committing fraud can lead to the loss of jobs and lifestyle, convictions which result in a criminal record, and incarceration. The increased incidences of fraud have opened several opportunities for accountants, business security and law enforcement personnel whose job it is to prevent and guard against fraud. Because they have become such an integral part of the business world, auditing positions are in higher demand. Auditors can be internal or external to the company. In addition to independent external auditors hired to look at potential fraud, there is often an internal auditing team that performs internal reviews. As the accounting student learns in his basic accounting classes, separation of duties and internal controls have become increasingly important to financial responsibilities. It is incumbent upon an employee, regardless of the function he performs, to be on the lookout for fraudulent practices or the appearance fraud and to report them when found.
Depending upon the circumstances, crimes of fraud can be difficult to prosecute, especially when multiple agencies and jurisdictions are involved. The anonymity of the internet adds a complicating factor, as does the resolution of what agency or agencies are involved. Successful resolution is further complicated when international borders are involved. Multiple research sources give the impression that fraud occurring over the internet has further exacerbated an already complex jurisdictional issue.
Fraud can be reported in a number of ways. It is always better to err on the side of conservativeness. In today’s technological environment, one can have “fraud alerts” and “locks” placed on credit files so that no new credit can be granted without prior approval. When fraudulent activity is discovered, reporting suspicious activities to the authorities in a timely manner helps in reducing future prevention of these crimes.
In today’s environment there are several opportunities to report fraud. One of the most common ways is through a hotline or tip line. Hotline phone numbers are often posted in a business’ public areas. In addition, the crime can be reported to the local police, the phone company, the local paper or television station, the Better Business Bureau, the state Attorney General, local and state or federal Department of Consumer Affairs, and other relevant regulatory agencies, such as the Internal Revenue Service. Reporting fraud can be done online using something as simple as an online incident report which can be sent electronically or printed out and mailed. Many businesses offer an open door policy to employees for reporting fraud to their immediate supervisors or higher. In most cases, however, fraud is found or reported to an auditor who can investigate immediately.
In the United States, fraud rates as one of the most expensive crimes. Considered a white-collar crime, it has proven to be more costly than street crimes. Agencies have created unique characteristics and traits of those who perpetrate fraud. Unfortunately, these characteristics are growing vague with the advent of the internet. Fraud reaches beyond the typical boundaries of the affected business. The collateral damage caused by fraud can be felt by numerous stakeholders, communities, and businesses beyond those initially involved. The affects can be felt often in a variety of ways, both negative and positive. With the advent of automation and computerization, fraud appears to be growing and materializing in more original settings. Fraud victims find that the means by which they were violated include a number of venues including the internet, telephone, as well as the mail. The Sarbanes-Oxley Act of 2002 is our government’s effort to implement new standards, which in turn has created unique job opportunities for auditors and increased responsibilities for employees.
Fraud is a criminal act that can lead to the loss of jobs or imprisonment. Fraud has created an increase in the demand for auditors and financial investigation. This also leads to the creation of new employment positions and job opportunities to decrease the work load of others.
Fraud is deception made for personal gain with the intent to deceive. Fraud costs the US economy and costs businesses almost $660 billion a year. The effects of fraud reach beyond the company as a whole, but also effects executives, employees, and consumers, and can be committed in a variety of settings, including the Internet and mail.
Opportunity, pressure, and rationalization are the three elements that make up fraud. The first element, opportunity, occurs in the kind of employment environment that allows fraud to happen, such as not having appropriate supervision and inadequate separation of employee duties. The second element, pressure, can arise from financial situations, in either an individual’s business or personal life. The third element, rationalization, most often occurs when an employee makes himself believe that fraud is somehow legitimate. Other research includes a fourth element, capability, as being a necessary part of the mix for fraud to occur.
There are many different categories of fraud. Among the most costly are: internet auction fraud, check fraud, credit card fraud, identity theft, and confidence fraud. There are many other kinds of fraud, some of which are enumerated and described in Frank Abagnale’s book, “The Art of the Steal: How to Protect Yourself and Your Business from Fraud, America’s # 1 Crime.”
In the aftermath of scandals such as Enron and WorldCom, the U.S. government has taken actions to decrease and prevent fraud by passing the Sarbanes Oxley Act of 2002. The act includes the creation of the Public Company Accounting Oversight Board to regulate and inspect accounting firms. It also established a requirement that public companies evaluate and disclose the effectiveness of their internal controls as they relate to financial reporting. It also requires independent auditors for such companies agree with the disclosed reports.
Today there are several methods for reporting fraud. One of the most common ways to report fraud is to report it anonymously through hotlines, tip lines and open door policies that allow employees to report fraud without fear of reprisal. Additionally, there are many local, state and federal venues available for reporting fraud. If these methods of reporting fraud proved to be successful and fraud could be prevented, billions of dollars in taxes and unnecessary expenses could be avoided each year.
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