Website - Fraud Manual - Employee Embezzlement 2009

1 Internal Controls And Fraud Fraud Manual Understanding Employee Embezzlement in the Workplace Author: Joseph R. Dervaes, CFE, ACFE Fellow, CIA (Retired Auditor and Fraud Examiner with Federal, State, and Local Government Life Experiences) 1 BIOGRAPHY JOSEPH R. DERVAES, CFE, ACFE Fellow, CIA (253) 884-9303 Joe retired after years of federal, state, and local government audit service on July 31, 2006. At his retirement, he was the Audit Manager for Special Investigations at the Washington State Auditor's Office where he was responsible for managing the agency's Fraud Program. He specialized in Employee Embezzlement Fraud within all state agencies (170) and local governments (2,400) in the state of Washington. He monitored all Fraud audits throughout the state and participated in the investigation of over 730 cases involving losses of over $13 million during his 20-year tenure in this position.

2 Joe received his Bachelor of Science Degree from the University of Tampa (Florida) in 1963 with majors in both accounting and business administration. He completed graduate studies at Air University, Maxwell Air Force Base, Alabama, in Comptrollership (1975) and Military Science (1977). He is a Certified Fraud Examiner (CFE), a Certified Internal Auditor (CIA), and a retired Air Force Lieutenant Colonel. His audit experience includes 20 years with the Air Force Audit Agency and years with the Washington State Auditor's Office. Joe was the Fraud audit training instructor for the Washington State Auditor's Office, and the author of the agency's Fraud Audit Manual , and the following agency training courses: Fraud Detection and Development , Fraud Auditing Update , Computer Fraud , Cash Count Procedures , Interviewing Techniques , and The Fraud Interview.

3 He received the agency s Outstanding Employee Award five times (1986, 1988, twice in 1999, and 2004). Joe is very active in the Association of Certified Fraud Examiners (CFE). In 2003, he received the Association s coveted Donald R. Cressey Award for his lifetime contributions to Fraud detection, deterrence, and education. This is the top Fraud award in the world and is similar to the Pulitzer Prize in the field of Journalism. Joe is one of the two rank and file members of the Association that have ever been granted this prestigious award. In 2004, the membership elected him to be the Vice-Chair of the ACFE Foundation Board of Directors, one of the highest positions any CFE may hold in the profession. Recognizing his volunteerism and community service contributions, Joe received the ACFE s 2007 award for Outstanding Achievement in Community Service and Outreach.

4 Joe is also a Life Member, Fellow, and Regent Emeritus, and was a previous adjunct faculty member and prior Member of the Board of Review. He is also the author of the Association s "Cash Receipts and Disbursements" Fraud training course, and a contributing author of the Second Edition of the " Fraud Examiners Manual ". He received the Association s Distinguished Achievement Award in 1995. As a nationally recognized author, Joe s profile and articles on Big Switch: The Check for Cash Substitution Scheme , Disbursement Frauds: Treasury Funds Are The Target , All Wired Up: Electronic Funds Transfers are Prime Fraud Targets , and a regular By-Line Column on Fraud s Finer Points have been published in Fraud Magazine, the Association s international journal. Joe was one of 62 CFEs whose Fraud case study was published in a 2007 ACFE book entitled Fraud Casebook: Lessons from the Bad Side of Business.

5 Joe was also one of 42 CFEs whose Fraud case study was published in a companion 2009 ACFE book entitled Computer Fraud Casebook: The Bytes that Bite! Joe is also the founding and current President of the Pacific Northwest Chapter of the Association of Certified Fraud Examiners (Seattle area) where he is a frequent speaker at Chapter Fraud seminars and conferences. Joe wrote " Fraud Tips" articles for the newsletter of the Association of Public Treasurers (United States and Canada), was a member of the Accounting, Automation, and Internal Controls Committee, and received the organization s Service Award in 1996 and 2005. He is the author of the 2 Association's manuals on "Techniques for Identifying and Preventing Fraudulent Schemes" and Stop that Fraud : The Public Treasurers Handbook on Fraud Deterrence and Detection , and also helped develop the organization s "Internal Controls Checklist".

6 Joe was active in providing Fraud education for the Washington Finance Officers Association. Upon his retirement in 2006 after years of government audit service, his public service and Fraud educational contributions were recognized by WFOA when it presented him with the award of an Honorary Lifetime Membership in the Association. Joe is one of only a few of the rank and file members of this Association that have ever been granted this prestigious award. Prior to his retirement, Joe presented Fraud awareness seminars to thousands of auditors and management officials from governmental entities and professional associations throughout North America each year. 3 Class Outline Page Part One - Understanding general Fraud concepts 5 Planning for success 5 General concepts 5 Fraud case reporting requirements 9 Fraud case facts and case development 10 Fraud charts 13 Fraud statistics 16 The Fraud triangle 17 The trusted Employee 18 Segregation of duties 21 Causes of Fraud 22 Brief checklist to identity at risk employees 23 The system of internal control 25 Major problems.

7 26 Lack of monitoring of Employee tasks by managers 26 Cash receipting example 27 Lack of fixed responsibility for funds and losses 28 Decentralized location cash receipting flow chart example 28 Edmonds School District (Revenue) case study 30 Four troublesome internal control areas for Fraud 32 Fraud /high risk decision process (auditor or manager mindset) 33 Index to Fraud Schemes in SAO Fraud Training Manual 34 Part Two Understanding cash receipting Fraud schemes 35 Skimming 35 King County Solid Waste Division case study 36 Money laundering activities 37 Check for cash substitution scheme 39 Affiliated Health Services (Hospital)

8 Case study 39 Training example 41 Lapping scheme 44 Training example 44 Ways perpetrators conceal the disposition of lapping scheme losses 45 Accounts receivable Fraud schemes 45 Accounts receivable - internal control structure duties of personnel 45 Chart depicting segregation of duties in accounts receivable systems 46 Types of accounts receivable Fraud schemes 46 Methods of documenting accounts receivable losses 49 Major areas of concern in accounts receivable systems 49 Steps to detect Fraud in accounts receivable Fraud 51 Typical accounts receivable Fraud scenario 52 Highline Water District (Water Utility) case study 53 City of Battleground (Water Utility) case study 54 City of Poulsbo (Municipal Court) case study 57 Other cash receipting Fraud schemes 59 Page 4 Part Three Understanding disbursement and accounts payable Fraud schemes 60 The subtle compromise of the accounts payable system 60 The U-Turn concept (accounts payable)

9 61 Analysis of five disbursement case studies 61 Discussion of the problems 62 Discussion of the solutions 62 Liquor Control Board (accounts payable/vendor overpayments) 63 Washington State Gambling Commission (Business Operations Section) 64 Governor s Industrial Safety and health Advisory Board/ Washington State Substance Abuse Coalition 65 Washington State Department of Fish and Wildlife 65 Public Utility District No. 2 of Grant County 66 Disbursement Fraud concepts 66 Checking accounts and imprest funds - the check Fraud risk - bogus checks 68 Bank account reconciliation 71 Other disbursement areas 73 Imprest fund (petty cash)

10 Reimbursements 73 Travel vouchers 73 Purchasing 75 Credit cards 75 Telephones 76 Proprietary fund operations 77 Employees issue prenumbered checks to cash, to their personal business, or to themselves 77 Internal control procedures for checking accounts 78 Town of Oakesdale (credit card and disbursements) case study 79 Additional CAATs tests for disbursements 83 Part Four Understanding payroll Fraud schemes 84 The U-Turn concept (payroll)