Understanding Business Fraud
Presenter Paul A. Rodrigues, CPA, MST, CFE, CFF, Principal
Presenter David G Friedman, CPA, CFF, CFE, Partner
Check Fraud Hand-Out
Despite the heavy use of credit cards and online payments, and the redoubled efforts of the FBI and
police anti-fraud units, check fraud continues to increase.
Four types of check fraud
According to the Association of Certified Fraud Examiners (ACFE), there are about two million bad
checks accepted in the United States every day. Check fraud is usually committed in one of four ways:
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Forgery: Forgeries occur when a fraudulent employee issues a check without proper
authorization, or criminals steal personal checks and use fake identification to endorse them.
Another form includes payroll check fraud in which blank checks are stolen and then replicated.
Counterfeiting and alteration: Counterfeit checks are created either by using desktop publishing
equipment (personal computer, scanner, bookkeeping software and printer) or by duplicating a
check with photocopiers. Check fraudsters will use bleaching agents to remove inked handwriting
from stolen checks. When the checks dry, the fraudsters write a new amount of greater value and
cash them.
Paperhanging: This scam involves writing and reordering checks from closed accounts.
Paperhangers pass checks at retail stores where they write the check for more than the purchase
amount. Sometimes they'll stop the payment, return the item, and ask for a full refund.
Alternately, the fraudsters might make a fake deposit at a bank and ask for cash back.
Check kiting: This fraud involves opening accounts at two or more banks and using the "float
time" it takes for checks to clear at each institution to create fraudulent balances. (Check kiting
cases have been reduced by the recent shortening of float time in U.S. banks.)
Specialized check fraud units in police departments
Some Police Departments have a separate Check Fraud Unit. Detectives in these units handle cases
dealing with check fraud, embezzlement, identity theft, and contract fraud.
If an individual comes across a fake check, the local police department should be contacted immediately
and a copy of the police report or the case number should be retained. Credit card companies, financial
institutions, and insurance companies may ask for a reference of the report to verify the crime.
Most check frauds originate from crime rings. A common check fraud scheme in which the leader of a
crime ring buys check stock and a bookkeeping program that prints checks from an office supply store.
He'll then obtain a blank check from a target company usually through an accomplice employee who has
access to the payroll. The crime ring leader scans the check and prints bogus checks with the bookkeeping
program. He gets a group of people on the fringes of society to go to check-cashing businesses and each
cashes a check and keeps a piece of the proceeds, the guy printing the checks will get most of the money.
Once the check-cashing place wises up to it, (the crime ring) will use a different check and do it all over
again.
The amount of check fraud that occurs each day is about $27 million and is increasing at the rate of 18%
each year. So what can a business or individual do to avoid being taken?
Red flags for detection:
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The printing and/or text on the check aren't uniform in color and texture, or slants up or down.
The check contains misspellings, typos, and grammatical errors, or doesn't have a watermark.
The routing transit number (RTN) or American Bankers Association (ABA) number on the
bottom of the check doesn't accurately include the two sets of numbers on the upper right corner
next to the check number. (The RTN or ABA number is the nine-digit code on the bottom of the
check) The first three numbers indicate the state and district office of the issuer. These numbers
don't coincide on altered checks.
The check number doesn't repeat in the electronically coded serial number on the bottom.
When several people ask a customer where he received a check, he can't keep his stories straight.
Here's a list the ACFE has compiled to prevent check fraud:
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Minimize employee access to checks.
Reconcile statements when they arrive.
Be aware of magnetic routing numbers.
Look for checks with a check number less than 200.
Notice the date that the account was open.
Look for perforated edges on the checks.
Know the components of acceptable identification.
Recognize forged/altered identification.
Notice potential culprits who are overly polite, nervous, or aggressive and hurried.
Talk with your Banker about tools your bank can implement such as positive pay, filters, etc.
Even with the FBI's new Operation Continued Action and proliferating specialized fraud units in police
departments, the amount of check fraud is still increasing every year.
Fraudulent Disbursements
Fraudulent disbursements are on-book fraud schemes meaning that cash (checks) leaves the entity
fraudulently, but it is recorded on the books and thus an audit trail exists. Fraudulent disbursement
schemes are broken down into the following types:
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Check tampering schemes
Register disbursement schemes
Billing schemes
Expense reimbursement schemes
Payroll schemes
Signs of Fraudulent Disbursements
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Increasing "soft" expenses (for example, consulting or advertising).
Employee home address matches a vendor's address.
Vendor address is a post office box or mail drop.
Vendor name consists of initials or vague business purpose. (Employees often use their own
initials when setting up dummy companies; for example, "JTW Enterprises").
Excessive voided, missing or destroyed checks.
FOCUS - CHECK TAMPERING SCHEMES
Check tampering is a type of fraudulent disbursement scheme whereby an employee either
(1) prepares a fraudulent check for their own benefit, or (2) intercepts a check intended for a third-party
and converts the check to their own benefit.
Other fraudulent disbursement schemes, such as false billings or payroll fraud, tend to rely on false claims
for payment. Some false document, perhaps an invoice or a timecard, is submitted to the victim
organization and generates the fraudulent payment. Such schemes are based on trickery — convincing the
victim to make a payment based on a fraudulent invoice, timecard, expense report, or other document.
Check tampering schemes are a more direct form of fraud. Instead of relying on false support to generate
a fraudulent disbursement, the perpetrator of a check tampering scheme takes physical control of a check
and places false information on that instrument. The fraudster might forge a signature, alter a payee, alter
the amount of the check, and/or forge an endorsement. The key is that the perpetrator places false
information on a company check, and that this action enables the fraudster to illegally obtain funds from
their employer.
Check tampering frauds depend upon factors such as access to the company checkbook, access to bank
statements, and the ability to forge signatures or alter other information on the face of the check. Check
tamperers commit fraud by identifying and exploiting weaknesses in an organization’s check-writing
processes. As seen in the above Fraud Tree, the major methods of check tampering are:
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Forged maker schemes – signing of another person’s name
Forged endorsement schemes – intercepted check endorsed in third-party’s name
Altered payee schemes – intercepted third-party’s check payee name is altered
Concealed check schemes – hiding the fact that a fraud has occurred
Authorized maker schemes – has signing authority & writes check for own benefit
Other “Flags” to look for:
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A shell company. The most likely scenario for this particular fraud might involve a bogus
company formed by the crooked employee. If such a shell exists, it probably won't be listed in the
phone book or have a credit rating. A quick check can answer this question.
Inadequate controls over vendors. A billing scheme depends on getting a bogus vendor
approved and on the books. In almost all of these cases, the person approving new vendors and
the person approving payments to them is one and the same. Otherwise, secondary approvals
frequently are forged.
Lack of controls over the purchasing function. Most corruption schemes are committed by one
person acting alone. That means the dishonest purchasing agent either has too much authority,
lacks proper oversight or both.
Excessive spending or indebtedness by a purchasing agent. For reasons known only to those
who commit fraud, illicit income rarely is concealed or hoarded; fraudsters generally either pay
debts or purchase luxury items such as expensive homes, cars, vacations, clothing and jewelry.
Paying higher than market prices for goods or services. When a crooked vendor pays bribes to
get business, the money actually comes out of your client's pocket, not the vendor's. The charge
is passed along to the victim with higher prices.
Favoritism toward one vendor to the exclusion of others. If a purchasing agent is getting paid
to buy something from one vendor, he or she knows where his or her bread is buttered. As a result
the fraudster has the motivation to make all purchases from the corrupt provider.
Increasing levels of purchasing and billings. Similarly, if a crooked employee is getting a piece
of the action, he or she has the motive to buy more volume and more often, which will lead to
Substantial inventories. A payoff based on volume sometimes means the dishonest employee
will buy much more than necessary. Thus, if the company has a seven-year supply of widgets,
there could be a sinister reason why.
Slow service and/or substandard products. Once a crooked vendor is paying off a dishonest
purchasing agent, there is little motivation for the vendor to remain competitive. After all, the
crooked employee isn't in much of a position to complain.
If we can provide you with any additional information or be of assistance, please do not hesitate to call.
Paul A. Rodrigues, CPA, MST, CFE, CFF
Principal
Chortek & Gottschalk, LLP
262-522-8269
David Friedman, CPA, CFE, CFF
Partner
Chortek & Gottschalk, Chicago Area
847-504-0450