Prevent Financial or Accounting Fraud
Aug 21 2012, 13:51 | By Entrepreneur
By Mukesh Goel
There are broadly two types of fraud:
* Accounting fraud: Fraudulent financial reporting which means intentional misstatement or omission of amount or disclosure in financial statements or books of accounts to deceive users or management.
* Financial fraud: Misappropriation of assets which involve the theft of entity's assets, embezzlement of receipts and causing entity to pay for goods and services not received by entity.
Fraud prevention program can be defined as a set of proactive measures taken to avoid or reduce frauds. Developing a sound fraud prevention program requires the following steps to be followed:
Assessing current situation
Before developing effective fraud prevention measures, the management should have an accurate picture of the organization's current state of fraud risk. This can be assessed by interviewing key project heads, board members and other senior personnel as they have a good understanding of fraud and the associated risks both within the organization and the industry. This can help in identifying major risk areas.
Designing and implementing measures to mitigate fraud
The methods for concealing frauds are so numerous and ingenious that almost anyone can be easily cheated or defrauded. Measures should be designed with great care to keep a check on such practices. Some of the measures that can be adopted are illustrated below:
* Internal control: An effective internal control should be established to carry on business in an orderly manner. There could be two types of incentives for persons associated with fraudulent activity: one relates to the motives of individual employees towards personal benefit at the cost of the company (and other stakeholders) involved, which amounts to pure fraud or cheating. The other is where managers are under pressure to meet earnings estimates and take advantage of weaknesses in the internal system to meet their objectives. Hence, caution must be exercised to prevent both types of occurrences.
* Segregating duties: One of the main factors of an effective internal control system is the segregation of duties. Management helps to prevent fraud by reducing the incentives of fraud. One incentive, the opportunity to commit fraud, is reduced when accounting functions are separated. The act of segregating duties separates the record-keeping, authorization and review functions in the accounting process. To segregate duties, involve more than one person in the financial statement preparation process.
* Independent third party audit: This plays a crucial role in identifying frauds conducted at the management level. Frauds conducted at lower levels can be detected through internal checks but fraud conducted by those at senior levels is difficult to detect and this calls for independent third party audit.
* Minimize cash transactions: Policies may be set regarding who are authorized to disburse cash and prior approval of senior officials should be obtained in case of cash payment. Maximum amount that can be disbursed in cash should also be set. Insurance policy against embezzlement and theft should also be taken to minimize losses. The person involved in cash transactions should not be the one handling the accounts department.
* Periodical reconciliation with parties: Outstanding party balances and accounts receivables should be tallied at regular intervals. This will help to keep a watch on inside practice of skimming money by taking cash payments and not reporting the same.
* Protect your paperwork: Destroy unwanted bills, receipts, statements and junk mail using a shredder. If a piece of paper has your name and address or any personal data on it, then it could prove useful to a con man.
* Reconcile bank accounts and review statements: Review every statement received from the bank. Make sure all bank accounts and credit cards are reconciled. Afterwards, take time to review every reconciliation report. Notice stale checks or deposits that have not cleared the bank. Check for missing deposits. An increase in the number of reconciled items may also reveal mischief.
* Surprise checks: These incorporate a number of different accounting procedures to detect malfeasance. Confirmations should sometimes be obtained by braking isolated information flow lines established by the organization to keep a check on fraudsters. The element of surprise can go a long way in enhancing enterprise effectiveness.
* Code of conduct: This presents a set of ethical standards or policies designed to frame the behavior of individuals.
* Monitoring: As management develops and implements components of its program, the organization must monitor the program's employment and usefulness. Process checks are appropriate to monitor internal activity, controls and improving internal deficiencies. Quick action in the face of suspected fraud can dramatically cut losses. Internal forensic experts or an external team should investigate all suspected fraudulent activities.
Employees and officers are responsible for the largest instances of fraud, so management must place great stress upon internal control design that can detect employee personnel overriding or circumventing traditional control mechanisms.
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