Financial Services Fraud

1
Financial Services Fraud

• Jonathan B. Wolfe, CPA Director, Accume Partners

2
Agenda

• Overview
• Definition of Operational Fraud
• Fraud Statistics
• Fraud within Financial Services
• Banking, Insurance, Investment Advisors/Broker
  Dealers
• Risk Factors
• What can an internal auditor do?
• Fraud Risk Assessment
• Employ Best Practices
• Fraud Resources

3
Financial Services Fraud

• Overview

4
Definition of Occupational Fraud

• The term Occupational Fraud may be defined as
• The use of ones occupation for personal
  enrichment through the deliberate misuse or
  misapplication of the employing organizations
  resources or assets.

5
Definition of Occupational Fraud

• All occupational fraud schemes have four key
  elements in common. The activity
• is clandestine
• violates the perpetrators fiduciary duties to
  the victim organization
• is committed for the purpose of direct or
  indirect financial benefit to the perpetrator
  and
• costs the employing organization assets, revenue,
  or reserves.

6
Occupational Fraud

• All occupational frauds fall into one of three
  major categories
• Asset Misappropriations, which involve the theft
  or misuse of an organizations assets.
• Corruption, in which fraudsters wrongfully use
  their influence in a business transaction in
  order to procure some benefit for themselves or
  another person, contrary to their duty to their
  employer or the rights of another.
• Fraudulent Statements, which generally involve
  falsification of an organizations financial
  statements.

7
Fraud Statistics Source 2006 Association of
Certified Fraud Examiners (ACFE) Report to
the Nation
10- The Sum of Percentage in this chart exceeds
100 because in some cases respondents identified
more than one detection method.
8
Fraud Statistics Source 2006 ACFE Report to the
Nation
9
Fraud Statistics Source 2006 ACFE Report to
the Nation

• Banking and Financial Services Industry has the
  highest number of cases
• Insurance was ranked 5th.

10
Fraud Statistics Source 2006 ACFE Report to the
Nation
Where is it happening?

• Accounting, Finance and Executives represents 55
  of the cases.
• While frauds committed by those in the highest
  age groups were the most costly on average, over
  two-thirds of the frauds reported were committed
  by employees in the 31-50 age group. The median
  age among perpetrators was 42.
• Most of the perpetrators were either employees
  (41.2) or managers (39.5). Owner/executives
  (19.3).

11
Fraud Statistics Median Loss Source 2006
ACFE Report to the Nation
12
Financial Services Fraud

• Fraud Within Financial Services

13
Fraud Within Financial ServicesSource 2006
ACFE Report to the Nation
Banking and Financial Services Fraud

• Not surprisingly, two of the three most common
  schemes in the banking and financial services
  industry were cash larceny and skimming. These
  schemes generally involve the physical theft of
  incoming cash and cash on hand (for example, in a
  vault).
• Among the 23 non-cash cases in this industry, the
  most common type of scheme involved the theft of
  proprietary information about bank customers.
• Of the 148 cases, 80 were prosecuted.

14
Fraud Within Financial ServicesSource 2006
ACFE Report to the Nation
Insurance Fraud

• Fraudulent billings represented nearly 30 of the
  insurance industry cases. These cases were nearly
  twice as common as the next-most-frequently
  reported scheme, which was check tampering.
• Conversely, nearly 70 of the organizations in
  the insurance industry conducted fraud training
  for their employees and managers a higher rate
  than for any other industry
• Of the 78 cases, 74 were prosecuted.

15
Risk Factors

1. Incentives or pressures
2. Opportunities
3. Attitudes or rationalizations

16
Industry Fraud Banking Mortgage Banking

• Notary
• Volume pressures Loans, Deposits
• Appraisers
• Artificially inflating home values
• Check Fraud
• Participating financial institutions can report
  all checking accounts "closed for cause" to a
  central database, called ChexSystems. This
  program prevents people, who have outstanding
  checks due to retailers, from opening new
  accounts.
• Black Market Peso
• Peso brokers laundering monies through the
  purchase of foreign goods.

17
Industry Fraud - Insurance

• Premium Fraud
• Premium fraud occurs when employers fraudulently
  misstate the number of employees or the nature of
  their work, such as reporting a roofer as an
  office worker.
• Billing Fraud
• Ohio pain management specialist threatened to
  deny desperate patients painkillers unless they
  let him use their names to bill insurance
  companies more than 60 million in narcotic drugs
  and expensive diagnostic tests he never gave.
  Some patients grew addicted, and two died of
  overdoses. He also fraudulently billed insurers
  for more than 100 patients a day for years. He
  received life in federal prison.
• Employer or Insurance Carrier Fraud
• In this type of fraud, employers or employees of
  an insurance carrier will make a false statement
  regarding a workers entitlement to benefits. The
  statement is designed to discourage the worker
  from pursuing a legitimate claim

18
Industry Fraud Investment Advisors and Broker
Dealers

• Churning Excessive Commission Scams
• Discretionary Accounts
• 3 or more commissions
• Breakpoint Sales Fee Scales
• Over Concentration - brokers are obligated to
  advise their clients to diversify in order to
  decrease risk.
• House Stocks - A "house stock" is essentially a
  stock that the firm wants people to buy in order
  to artificially increase its value.
• Failure to Place an Order - broker is trying to
  inflate the value of a stock as part of an
  unethical investment scheme, it may be against
  his interests to sell the stock.
• Unauthorized Trades - brokers who have had
  discretionary trading contracts with their
  clients may take advantage of their freedom and
  purchase "house stocks", or engage in other
  illicit trading practices designed to increase
  their earnings at the expense of their client.

19
Financial Services Fraud

• What can an Internal Auditor do?

20
What can an Internal Auditor do?
Fraud Risk Assessment

• Systematic Rather Than Haphazard or Informal
• Address
• Financial reporting
• Misappropriation of assets
• Expenditures and liabilities for improper
  purposes
• Fraudulently obtained revenues and assets, and
  costs and expenses avoided by fraud
• Fraud by senior management
• Extend to Business Unit and Significant Account
  Levels
• Likelihood Identify Fraud Risks That Are More
  Than Remote
• Significance Identify Fraud Risks That Are More
  Than Inconsequential in Amount
• Consider Risks of Management Override

21
What can an Internal Auditor do?
Employ Best Practices

• Develop a Fraud Policy
• Enhance Audit Programs
• Leverage your Sarbanes Oxley work
• Educate Audit Committee and Boards
• Evaluate Code of Ethics
• Provide annual training programs
• Integrate fraud monitoring into your enterprise
  risk management program
• Implement a whistle blower policy
• Discuss SAS 99 with your external auditors
• Outside resources CFEs, consultants
• Technology ACL, data mining

22
Does Internal Audit Make a Difference? YES!
Source 2006 ACFE Report to the Nation

• Internal audits had a positive correlation with
  both time to detection and median loss.
  Fifty-nine percent of victim organizations had an
  internal audit or fraud examination department at
  the time of the fraud.
• Similarly, organizations with internal audit
  departments detected their frauds in 18 months,
  as opposed to 24 months for those without
  internal audit departments.

23
Fraud Resources

• The Institute of Internal Auditors
• www.theiia.com
• Association of Certified Fraud Examiners
• www.cfenet.com
• Securities and Exchange Commission
• www.sec.gov
• The Treasury Department
• www.treas.gov
• National White Collar Crime Center
• www.nw3c.org

24
Financial Services Fraud

• Questions?