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2014 By the Association of Certified Fraud Examiners, Inc.

Revised: 12/30/13

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What Is Fraud? .............................................................................................................................1
Three Types of Fraud ...................................................................................................................2
Fraud by Employees ....................................................................................................................3
Fraud by Vendors .........................................................................................................................6
What Causes People to Commit Fraud ........................................................................................7
How Fraud Affects You and Your Organization .........................................................................9
Red Flags of Fraud .......................................................................................................................10
What to Do if You Suspect Fraud ................................................................................................12
Conclusion ...................................................................................................................................14

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What Is Fraud? NOTES

Fraud is a silent crime. There are no exciting chase scenes,
no smoking guns, and no bleeding victims. But fraud is a
crime nonetheless. And worldwide, fraudin all its
formscosts billions of dollars in damage.

Fraud at its core involves taking something from someone

else through deception or concealment.

Although there are many forms of fraud, this training

program addresses those committed by people who work
for your organization or do business with it. These schemes
are known as occupational frauds because they occur in
connection with the fraudsters occupation.

According to studies by the Association of Certified Fraud

Examiners, occupational fraud costs hundreds of billions of
dollars each year. The following are some of the ways that
employees at all levels cheat their companies:
Stealing money or inventory
Taking kickbacks or bribes from vendors or customers
Falsifying internal reports
Claiming overtime for hours not worked
Stealing or misusing confidential customer financial
Filing fraudulent expense reports
Stealing and selling company trade secrets
Giving friends or relatives unauthorized discounts on
company merchandise or services
Using company assets, such as computers or vehicles,
without permission
Claiming workers compensation for an injury that did
not occur
Adding ghost employees to the payroll

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Withholding information from auditors, investors, and NOTES

creditors about major events that could impact the
company, such as obsolete products or pending lawsuits

In addition to these examples, consider the cost to

companies from employees who abuse sick time; pilfer
such items as stationery, postage, and computer supplies;
falsify time and attendance information; or work under the
influence of alcohol and drugs. Although these activities
can constitute fraud, they are more commonly called

Three Types of Fraud

Based on previous research, the Association of Certified
Fraud Examiners (ACFE) has classified occupational fraud
into three main categories: asset misappropriation,
corruption, and financial statement fraud. Asset
misappropriations are those schemes in which the
employee steals or misuses an organizations assets.
Common schemes include skimming cash from registers,
falsifying voids and refunds, tampering with company
checks, and overstating expenses.

Corruption schemes involve a fraudster wrongfully using

his influence in a business transaction for the purpose of
obtaining a benefit for himself or another person. Examples
of corruption schemes include engaging in conflicts of
interest, accepting illegal gratuities, and bribery.

Fraudulent statement schemes involve the intentional

misreporting of an organizations financial information
with the intent to mislead others. Common examples
include creating fictitious revenues and concealing
liabilities or expenses.

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By comparing the three main schemes, the ACFE has NOTES

identified common methods used by fraudsters and
vulnerabilities within organizations that provide an
opportunity for these frauds to occur. This information
helps organizations develop more efficient and effective
prevention and detection tools.

Common Frauds by Employees

Some of the more common frauds by employees include
both the theft of company assets, such as cash or inventory,
and the misuse of company assets, such as using a company
car for a personal trip.

Stealing Cash
Not surprisingly, most people prefer to steal cash.
Skimming is the process by which cash is removed
from the entity before it enters the accounting system.

This commonly includes such schemes as not recording

a sale or recording a sale for a lower amount. For
example, a customer wants to purchase a $500 item.
The cashier rings up the item, but he enters a $100
discount. He charges the customer the full $500. He
puts $400 in the register and pockets the remaining

Fraudulent Disbursements
Fraudulent disbursements leave an audit trail because
the funds are recorded on the companys books before
the cash or checks leave the entity fraudulently.

Disbursement schemes can occur in many different


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Check tampering is a type of fraudulent
disbursement scheme whereby an employee either:
(1) prepares a fraudulent check for his own benefit,
or (2) intercepts a check intended for a third party
and converts the check to his own benefit.


Refunds and voided sales are transactions processed
at the register when a customer returns an item of
merchandise purchased from that store. The
transaction entered on the register indicates the
merchandise is being replaced in the stores
inventory and the purchase price is being returned
to the customer. In other words, a refund or void
shows a disbursement of money from the register as
the customer gets his or her money back.

The most common and costly example of a
fraudulent disbursement is the billing scheme.
Billing schemes attack the purchasing function of
an organization. They cause the victim organization
to buy goods or services that are nonexistent,
overpriced, or not needed by the organization.

A billing scheme can result in an illicit gain of cash,

goods, or services for the fraudster. The purpose of
most billing schemes is to generate cash. In a
typical scheme, the perpetrator creates false support
for a fraudulent purchase. The fraudulent support
documents, which can include invoices, purchase
orders, purchase requisitions, receiving reports, and
so on, cause the victim organization to issue a

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check. The fraudster collects the check and cashes NOTES

it, thereby reaping an illegal gain.


Travel and expense budgets are a common target for
occupational fraud. Employees may falsify
information about their business expenses and cause
their employers to overcompensate them in the form
of inflated expense reimbursements. This type of
scheme is most commonly perpetrated by sales
personnel who overstate or create fictitious
expenses in areas such as client entertainment and
business travel. Outside sales personnel are not the
only employees who commit this type of fraud,
however. Any person who is in a position to incur
travel or business entertainment expenses is
potentially capable of committing expense
reimbursement fraud.

Payroll schemes occur when an employee
fraudulently generates overcompensation on his or
her behalf. These schemes are similar to billing
schemes, in that the perpetrator generally produces
some false document or otherwise makes a false
claim for a distribution of funds by his or her

Inventory Fraud Schemes

Most inventory and warehousing frauds involve
misappropriating inventory for personal use, stealing
inventory and scrap, or charging embezzlements to

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Personal use of assets, such as personal use of NOTES

computers or making long distance calls on company
phones, can develop into a fraud or an abuse situation if
the subject is not addressed. In addition, the loss of
productive time might be more costly than the improper
usage of the asset itself.

Common Frauds by Vendors

Organizations must also be on the alert for fraud by
vendors. These dangers include the following:

Bid Rigging
Bid rigging occurs when two or more vendors, or in
some cases, employees, conspire to influence the
purchase of goods or services by a company or to avoid
competitive bidding controls.

Price-fixing is a conspiracy between two or more
competitors to set, control, raise, lower, or maintain the
prices charged for products or services. It does not
matter whether the prices agreed upon are ultimately
reasonable or unreasonable; price-fixing is illegal
because the aim of every price-fixing agreement is the
elimination of competition.

Overbilling Schemes
Overbilling occurs when a vendor submits inflated
invoices charging in excess for goods or services. The
vendor may simply raise the price of goods or services
above the contractual level, hoping the customer will
not catch the overcharge. It is also common for corrupt
vendors to bill for more merchandise than is actually
delivered or to change the date on a legitimate invoice

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and re-bill it, thus collecting two or more times for the NOTES
same goods or services.

Overbilling schemes may or may not involve collusion
with someone within the victim company. When an
employee of the victim is involved in the scheme, he
usually receives kickbacks in return for participating.

Proper authorization on purchases and review of

support documentation before issuing payment will
defeat most stand-alone overbilling schemes.

Shell Companies
Shell companies are vendors who dont exist except on
paper; their only purpose is to bill businesses for
services not rendered or products not delivered.
Typically, unless a company insider is involved, the
fraudster simply sends a bogus invoice to the victim
organizations accounting department in hopes that it
will be paid. Although these schemes take a variety of
forms, the most common one involves office supplies
or toner. The fraudster counts on businesses to send a
check without actually confirming whether the product
was received.

What Causes People to Commit Fraud

Dr. Donald Cressey was one of the first individuals to study
how white-collar criminals differ from other types of more
violent perpetrators. Dr. Cresseys work has since been
summarized in what is known as the as The Fraud
Triangle. According to this theory, occupational fraudsters
rely on pressure, opportunity, and rationalization to explain
why they violated the trust of their employers.

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Pressure NOTES
Employees often commit fraud because they feel they
need money. Dr. Cressey refers to this need for money
as an unsharable financial need because it is difficult
to share the burden with others. Examples of these
types of pressures include:
A gambling or drug habit
Personal debt or poor credit
A significant financial loss
Peer or family pressure to succeed

Most of the time people can resolve this problem

through legitimate means. If you need to make
unexpected repairs on your home, you can get a second
job. If you have to support a child through college, you
can apply for financial aid, scholarships, or grants.

Convicted fraudster Randy Pierce was under financial

pressure in his personal life from the IRS. Upper
management showed no signs of helping out financially
with a pay raise. Unfortunately, Randy felt he had
nowhere else to turn but his crooked friend Larry. He
decided to steal company parts from his employer for
Larry to sell as a way to make extra money. Eventually
his employers caught on to his game. Randy was
convicted of theft and given a long prison sentence.

The second leg of the fraud triangle is opportunity.
Barry Webne had the opportunity to take advantage of
his position as head of the accounting department.
Barry started his deception small by giving himself a
$2,000 bonus. These bonuses rapidly increased,
reaching as much as $20,000. For Barry and other
fraudsters like him, embezzling money without getting

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caught becomes an addiction. Being in a position with NOTES

no supervision creates the optimal opportunity to
commit fraud.

Rationalization is the final element in the fraud triangle.
Rationalizations are justifications used to explain a
persons dishonesty. The guilty person attempts to
make himself look like the victim in his own crime. The
following are some excuses people use to commit
occupational fraud:
Im only borrowing the money and plan to repay
The company wont even realize this amount is
gone; its not that much.
My boss does it all the time.
Ive been working with the company for 15 years.
They owe it to me.
Ill stop once I pay off my debts.
I deserve this after the way the company has
treated me.

Convicted felon Walt Pavlo tried to justify his

deception of creating fake performance numbers. Walt
convinced himself that he was underpaid and felt his
bosses were paid undeserved higher salaries. He also
felt the company did not appreciate his hard work. The
rationalizations fraudsters use may not make sense to
us, just to them.

How Fraud Affects You and Your Organization

The Association of Certified Fraud Examiners estimates
that a typical organization loses 5% to 7% of their gross
revenues each year due to occupational fraud and abuse.

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Think about your organization. The loss of those funds in NOTES

your company means:
Fewer pay increases
Increased layoffs
Greater pressure to increase sales and revenue
Decreases in employee benefits

If a co-worker or vendor is cheating your company, youre

paying for it. Honest employees are penalized because
dishonest ones are stealing from the company.

Furthermore, occupational fraud also affects your

companys reputation. Consider this example: When you
look for a bank, you want to choose one that can protect
your money. Would you feel comfortable in opening an
account with a bank that was constantly being ripped off by
its employees?

Do you think investors want to put their money into

companies that cant prevent their employees and vendors
from stealing their assets? Not likely. Public losses due to
fraud hurt not only the bottom line, but the reputation and
goodwill of an organization. It can cost the company
customers and investors as well as dollars.

Red Flags of Fraud

Fraud can be committed by anyone, including the person
working next to you. Be aware and observant of certain
behavioral red flags that might indicate a potential
fraudster. However, keep in mind that sometimes these
indicators also apply to honest people. Walt, Barry, and
Randy all displayed red flags while they were involved in
cheating their companies.

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Living Beyond Means NOTES

Big spending has often been an indicator of fraudulent
behavior. Barry Webne did not hesitate to spend his
extra money. He updated his wardrobe, ate at fancy
restaurants, and took every opportunity to live it up. He
admitted he was living a flashy lifestyle.

Financial Difficulties
People facing financial problems are often more
motivated to commit occupational fraud. Examples
include paying off huge student loans, car payments,
mortgage payments, taxes, or high credit card debt. In
the case of Randy Pierce, he was under pressure from
the IRS and desperate to make some cash.

Serious Addiction to Drugs, Alcohol, or Gambling

Fraudsters can sometimes try to escape their guilt
through drugs, alcohol, or gambling. Walt Pavlos
guilty conscience led to excessive drinking every night.
It was his relief to escape his deceptions at work. Barry
Webne found himself visiting Las Vegas frequently to
gamble away his undeserved money.

Other signs to be vigilant of include:

Rule breakersPeople who are constantly looking
for ways to bend or avoid the rules
An unwillingness to share dutiesThey may be
stealing and cant take a chance on someone
catching them in the act
A refusal to take vacationsIf they leave, anyone
who takes over their duties may discover the fraud
A close personal relationship with vendors or
customersMay indicate more than a professional
Complaints about low payMay be a
rationalization to commit fraud

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Family problemsMay create a financial need for NOTES

Excessive pressure within the companyThe need
to reach goals or targets can lead to thoughts of
the end justifies the means

What to Do if You Suspect Fraud

Every employee, regardless of rank or position, can help
reduce the extreme costs of fraud. Indeed, unless a majority
of employees is in favor of deterring fraud and actively
participate in the effort, success is highly unlikely. Here are
some of the things you can do.

Be Aware of Warning Signs

As discussed earlier, there were warning signs of
possible fraud in the cases of Walt, Barry, and Randy.
That is not unusual. But the people around them may
not have recognized the clues. Now that you have
learned some of the red flags, you must be aware of
them. That certainly does not mean being suspicious of
the people you work withfar from it; the majority of
your co-workers are honest.

By the same token, you shouldnt look at everything

through rose-colored glasses. If you observe something
that does not seem right, stop long enough to consider
the situation. Then if you still have doubts or
suspicions, it is time to do something.

Report Irregularities
Admittedly, it is hard to report on someone, especially
if that person is your colleague. Moreover, if you have
no hard evidence, there is the matter of a wrongful
accusation. But who said that doing the right thing is
always easy?

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Even though reporting irregularities is sometimes NOTES

difficult, the alternatives are even more unattractive.
We know now that in the cases of Walt, Barry, and
Randy, others around them either knew of or suspected
illegal activities. The failure of other employees to
actin all three caseshad even worse consequences.

You need to report at least two specific instances: (1) if

someone you work with asks you to do something that
you think is illegal or unethical, and (2) if you suspect
that someone in the companyregardless of rank or
positionis committing fraud or abuse.

Most companies have a hotline or other reporting

mechanism where you can furnish information without
identifying yourself. Understand, though, that if you
have personally witnessed an illegal act (for example, if
your supervisor instructed you to make false entries in
the companys books), it may not be possible to prove
the allegation without you being a key witness.

If your company does not have a hotlineor if you

prefer not to use ityou have other choices. You could
write an anonymous letter to the proper official in your
company. (In the case of an employee, the matter would
normally be reported to that persons immediate
supervisor. Should the allegation involve the
companys top management, it can be reported to the
board of directors, the boards audit committee, or to
the companys independent auditors.)

In still other situations, it might be advisable to share

your concerns with the companys internal auditors or
anti-fraud specialists. But the important thing is for you

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to report your suspicions to someone in authority if you NOTES

truly believe something is amiss.

Preventing fraud is not just the responsibility of
management, the board of directors, the inspector general,
or the audit team. Everyone in an organization is
responsible for preventing fraud. Often, it is so much easier
to increase the bottom line by eliminating fraud than it is to
cut expenses, generate new customers, or create new

Help your organization keep the revenue you have already

helped it earn. Be alert to potential fraud and report it to
your organization.

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About the ACFE

The Association of Certified Fraud Examiners (ACFE) is the worlds largest anti-fraud
organization and premier provider of anti-fraud training and education. Together with nearly
70,000 members, the ACFE is reducing business fraud worldwide and inspiring public confidence
in the integrity and objectivity within the profession.

Founded in 1988 by Dr. Joseph T. Wells, CFE, CPA, and former Federal Bureau of Investigation
(FBI) Special Agent, the ACFE has become the largest anti-fraud organization in the world. ACFE
members in more than 150 countries have investigated more than two million cases of suspected
criminal and civil fraud.

Members of the ACFE include CPAs; auditors; lawyers; investigators; law enforcement officers;
security professionals; executives; managers; and anyone whose job involves preventing,
detecting, or deterring fraud. The ACFE supports members and the anti-fraud profession by
providing conferences, seminars, and other training events year-round, while also offering self-
study and online learning opportunities, manuals, software, and other resources for fighting fraud.

By becoming an ACFE member, you will receive many valuable benefits that help to promote your
professional and career development. These benefits include access to members-only services and
resources, as well as discounts on many of the ACFEs valuable products. To learn more about
becoming a member of the ACFE, visit our website at www.ACFE.com/Membership or call
(800) 245-3321 (USA & Canada only) or +1 (512) 478-9000.

A Leader in Research
The ACFE supports the future of fraud examination by providing funding and resources through
its Anti-Fraud Education Partnership and Law Enforcement Partnership. ACFE research, including
the Report to the Nations on Occupational Fraud & Abuse, provides benchmarking statistics on
fraud, and the ACFE is one of the founding members of the nonprofit Institute for Fraud
Prevention (IFP). The IFP is a consortium of domestic and international universities dedicated to
cutting-edge research into the causational factors of a wide variety of white-collar crimes.

Certified Fraud Examiners (CFEs)

The ACFE established and administers the Certified Fraud Examiner (CFE) credential. Globally
preferred by employers, the Certified Fraud Examiner credential denotes proven expertise in fraud
prevention, detection, deterrence, and investigation. Members with the CFE credential gain a


professional advantage and quickly position themselves as leaders in the global anti-fraud
community. CFEs are knowledgeable in four major areas critical to the fight against fraud:
Fraudulent Financial Transactions
Fraud Prevention and Deterrence
Legal Elements of Fraud
Fraud Investigation

To become a CFE, one must:

Pass a rigorous examination administered by the Association of Certified Fraud Examiners
Meet specific education and professional requirements.
Be approved by the ACFE certification committee.
Exemplify the highest moral and ethical standards and agree to abide by the bylaws of the
ACFE and the CFE Code of Professional Ethics.
Maintain annual CPE requirements and remain an ACFE member in good standing.

To learn more about becoming a Certified Fraud Examiner, visit our website at:

As experts in the four major areas of fraud, CFEs are trained to see the warning signs and red flags
that indicate not just actual fraud, but fraud riskpotentially saving organizations thousands of
dollars in losses through prevention and detection before its too late.

CFEs have the ability to:

Identify an organizations vulnerability to fraud.
Examine data and records to detect and trace fraudulent transactions.
Interview personnel to obtain information.
Write fraud examination reports, advise clients about findings, and testify at trial.
Advise on improving fraud prevention and deterrence measures.

Learn more
For more information about the ACFE, visit our website at: www.ACFE.com.