Fraud Auditing, Detection, and Prevention Blog

Five Common Fraud Schemes & How to Identify Them

Feb 16, 2018 4:56:00 PM / by Leonard W. Vona

Knowing where and how fraud occurs can be a crucial step towards improving your fraud detection and prevention policies, saving you or the company you are investigating a significant amount of money and time.

Here are five common fraud schemes and how to better identify them. Auditors and management may utilize knowledge of these schemes to help their teams better identify fraud as it happens by understanding key patterns in data.

Shell Company Schemes

Shell company schemes often use a fake entity or business created by an employee to charge their company for a service or product it never receives. The money from this payment ends up in the employee’s pocket. 

This fake entity is legally created but often has no active business. Its purpose is to conceal the real identity of the company or employee fraudulently acquiring funds. The shell company only truly exists on paper although with more sophisticated fraud concealment strategies fraudsters may create an office or hire employees to create the illusion of legitimate business.

Ghost Employees

Ghost employees are people on the payroll who don’t work for the company in question but do collect a salary or remuneration. A ghost employee may or may not know they are on the payroll – indeed they may be entirely fictitious.

This kind of fraud sees a wage paid to the ghost and collected by a dishonest employee. While this fraud does not necessarily require an accomplice, having an extra person in on the scheme makes it easier to carry out. 

Vendor Kickback Schemes

This is also commonly known as corporate bribery. Vendor kickback schemes are when the owner or employee of one company offers money or other assets to an employee of another company in order to convince them to use a service or product. Most kickback has an element of overbilling to pay for the kickback. The exact fraud scenario will depend on the nature of the goods and services and the industry. 

Not all vendor kickback schemes take the form of cash. Kickbacks can also include loans without interest, extravagant entertainment, free travel or gifts. Even the promise of future employment may be considered a kickback. In these situations, red flags can often include a lack of competitive bidding procedures within the company, poor supervision of purchasing, or management applying heavy pressure on employees to use a certain vendor.

Sales Representative Pass Through Customer Schemes

During pass through customer schemes, the sales representative at real suppler sets up a shell company and then sells to the shell company at discounted prices. The sale representative then convinces the budget owner at your company to purchase from this shell company versus the real supplier. Your company then places an order with the shell company, the shell company effectively places an order with the real supplier and the real supplier ships directly to the budget owner.  The shell company invoices the budget owner at an inflated price. In this scheme both the real supplier and your company suffers losses. The budget owner receives a kickback the sales representative receives fraudulent profits At first glance the scheme may seem complicated but once understood the scheme becomes obvious.

P-card and Travel Fraud

Purchasing card and travel cards are useful tools for paying travel expenses and automating supplier and vendor payments. These can eliminate unnecessary paperwork and cut down on administrative costs. There is, however, the temptation to take advantage of the system by using the system to purchase unnecessary items. For example, an employee might buy items for themselves on the card, pretending they are gifts for clients or research for work.

The Next Steps

With all of these schemes, it is important to ensure that the company in question has a formal and recognized process for fraud risk assessments that cover a wide range of schemes in depth.

Internal auditors are often expected to be proactive in responding to the risk of fraud in core business systems so ensuring your fraud detection methods are airtight can be paramount.

Fraud risk identification is a methodology that classifies fraud through a four-step process: primary classification, secondary classification, inherent scheme, and fraud scenario. The process is not one-dimensional – fraud is not one-dimensional – and this helps you better identify the scope of the fraud audit. 

The process of detecting fraud does vary dependent on the schemes involved, but for each fraud scheme it is a two-step process involving fraud data analytics and fraud audit procedures. Using various red flags for fraud concealment, you can better detect and prevent fraud.

Fraud risk identification is a newer methodology and may be unfamiliar to those versed in traditional auditing, but it employs the same skills and tools used in a traditional audit – simply differently and to better effect. 

The cornerstone of the fraud auditing approach is in the auditor’s ability to write fraud scenarios that can be easily integrated into the fraud audit program using fraud risk identification methodology. If your team of auditors requires training or a consultation in fraud risk identification get in contact with us today. Leonard W. Vona, CEO of Fraud Auditing, Inc. has more than 38 years of diversified fraud auditing experience, including a distinguished 18-year private industry career.

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Topics: Fraud Data Analytics, Fraud Risk Identification, Fraud Schemes

Leonard W. Vona

Written by Leonard W. Vona

Leonard W. Vona has more than 40 years of diversified fraud auditing and forensic accounting experience. His firm, Fraud Auditing, Inc., advises clients in areas of fraud risk assessment, fraud data analytics, fraud auditing, fraud prevention and litigation support.