Fraud in Government Mike Nolan, CPA, CFE, CGMA CCACC & CCA&RMC Conference Monterey, CA September 2014
Headlines Former New Orleans Mayor Ray Nagin convicted of corruption City of Bell California Public Corruption Scandal City Comptroller Embezzles $53 million from Dixon Illinois
ACFE 2014 Executive Summary Association of Certified Fraud Examiners-2014 Report to the Nations on Occupational Fraud and Abuse Covered 1,488 cases of fraud reported by the Certified Fraud Examiners who investigated them Estimated that the typical organization loses 5% of its revenues to fraud each year. The median loss caused by the fraud cases in their study was $145,000. 3
ACFE 2014 Executive Summary The frauds reported lasted a median of 18 months before being detected Asset misappropriation schemes were by far the most common type of fraud, comprising 85% of the cases reported The remaining cases were composed of financial statement fraud and corruption cases. 4
ACFE 2014 Executive Summary The longer a perpetrator has worked for an organization, the higher fraud losses tend to be. The vast majority (77%) of all frauds in the study were committed by individuals working in one of seven departments: accounting, operations, executive/upper management, sales, customer service and purchasing. Collusion
ACFE 2014 Executive Summary Most fraudsters are first-time offenders with clean employment histories. In 81% of cases, the fraudster displayed one or more behavioral red flags that are often associated with fraudulent conduct. Nearly half of victim organizations do not recover any losses that they suffer due to fraud. Fraud is a significant threat to small organizations
Fraud Triangle 7
Frequency of Fraud by Industry Private Companies-37.9% median loss $160k Public Companies-28.5% median loss $200k Government-15.1% median loss $90k Not-for-Profit-10.8% median loss $108k Other-7.7% median loss $127k
Current Economic Environment for State & Local Governments Declining tax revenues and collections Increased demand for government services Cuts in programs and services (including staff) Significant fluctuations in investment portfolios Unfunded pension obligations Downgrades of municipal credit ratings Difficulty refinancing or extending debt maturities Difficulty cutting personnel costs due to contractual salary increases and collective bargaining agreements
Frequency of Govt Fraud Schemes Corruption 36.2% Billing 19.1% Non-Cash 17.7% Payroll 15.6% Expense Reimbursement 12.8% Cash on Hand 12.1% Skimming 11.3% Cash Larceny 10.6% Check Tamper 5.7% Fin Stmt Fraud 5%
Significant Current Financial Statement Fraud Risks for Governments Report agency collections as entity revenue Delay recognition of doubtful accounts Falsify records underlying tax assessments Use legally restricted resources for other than their intended purpose Manipulate debt covenant compliance calculations and inputs Engage in window dressing of financial and nonfinancial information in advance of new bond offering or refinancing Inter-fund transfers
Risks for Govts (Cont.) Overstate the fair value of investments/fail to report losses Use of income from restricted investments for other purposes Fail to disclose investments in non-permitted assets Under report pension liabilities Use of unrealistic estimates and assumptions Fail to disclose the nature and impact of certain intergovernmental transactions and other relatedparty transactions
Rita Crundwell
Rita Crundwell Starts working for City of Dixon in high school Appointed treasurer/comptroller of Dixon in 1983 Embezzles $53 million from the city over 20 years. 1991 $181,000 2008 $5.8 million Arrested April 2012 Pleads guilty in November 2012 Sentenced to 19 years & 7 months in prison 14
Behavioral Red Flags of Perpetrators Living Beyond Means (44%) Financial Difficulties (33%) Close Relationship with Customer/Vendor (22%) Control Issues, Unwilling to Share Duties (21%) Wheeler/Dealer Attitude (18%) Divorce/Family Problems (17%) Suspicious/Defensive (15%) Addiction Problems (12%) Complained About Inadequate Pay (9%) 15
Detection of Fraud Schemes Tip (42%) Management Review (16%) Internal Audit (14%) Accident (7%) Account Reconciliation (6.6%) Document Exam (4%) External Auditor (3%) IT Controls (1%) 16
Elements of Antifraud Programs and Controls An effective and comprehensive system of antifraud programs and controls should encompass the following basic elements: Prevention. Deterrence. Detection. 17
Creating a System of Antifraud Programs and Controls Antifraud programs and controls established by a organization should focus on the following three fundamental activities: Creating an ethical organizational culture Implementing antifraud processes and controls Developing an effective oversight process
Creating an Ethical Culture Setting the tone at the top Establishing a code of conduct Creating a positive workplace environment Hiring and promoting ethical employees Providing ethics training Disciplining and prosecuting violators
Implementing Antifraud Processes and Controls Management should focus on decreasing fraud opportunities by: Identifying and assessing fraud risks Implementing programs and controls to mitigate fraud risks
Steps to Designing Effective Antifraud Programs and Controls Review organization level internal controls Identify Assets susceptible to fraud Review systems and procedures Develop Controls to reduce risks identified Cost/Benefit relationship of controls implemented
General Controls Periodic job rotation and mandatory vacations Instituting surveillance techniques Preparing and reviewing monthly financial statements in a timely manner Implementing an tips hotline Hiring Policies (Background checks)
Specific Controls Financial and operating performance reviews. Independent checks Segregation of Duties Physical Safeguards Access & Authorization Controls
Developing an Oversight Process Management Audit Committee/Board of Trustees Internal Auditors External Auditors
Recommended Reading to Auditors & Accounting Managers Report to the Nations on Occupational Fraud and Abuse, 2014 Global Fraud Study, Association of Certified Fraud Examiners (ACFE) Deterring and Detecting Financial Reporting Fraud: A Platform for Action, October 2010, Center for Audit Quality (CAQ) Managing the Business Risk of Fraud: A Practical Guide, Institute of Internal Auditors (IIA), AICPA, and ACFE The Global Economic Crime Survey 2014: Economic Crime- A Threat to Business Globally, PricewaterhouseCoopers