Forensic Accounting For Dummies Cheat Sheet

Fraud can be a huge problem for a business or a government entity, and that problem is growing. Most frauds involve financial matters, so the most logical people to investigate them are accountants. Forensic accountants are specially trained to investigate and report fraud in relation to legal cases. If you want to tap into this growing career field, here are some courses to take and certifications to consider so you can be at the top of the forensic accounting pack.

You want to first study accounting, of course. Taking a variety of courses in financial and advanced accounting, as well as one or two courses in auditing, is essential. Then, you want to supplement your accounting knowledge with other courses:

• Forensic accounting: If your school has a forensic accounting course, take it! You’ll learn about forensic techniques, internal controls, and legal issues.

• Computers: You must be proficient in such common programs as Word, Excel, Access, and PowerPoint. When you investigate fraud, you use these programs to perform your analysis, write reports, and present your findings. Also, your targets (individuals and companies that you investigate) use these programs, and you must know how to navigate through complex files and find the frauds.

  You also need to know about accounting software (such as QuickBooks, Peachtree, SAP, and Oracle) because your targets will keep their accounting records using such software.

• Law: Knowing business law is invaluable for a forensic accountant so you can know if certain transactions are legal and be familiar with the Uniform Commercial Code (a federal act that governs sales and other commercial transactions throughout the United States). Knowing the basics of civil and criminal law is useful as well.

• Statistics: Knowing statistics and the principles of chance or odds will help you determine the true rate of errors and defalcations (the amount of money that has been misappropriated) in the transactions you examine.

• Economics: Understanding incentives that lead people to commit fraud requires knowing something about economics. Behavioral economics is a growing field today. Additionally, knowing economics helps in quantifying damages in civil litigation.

• Psychology: Accounting is as much about people as it is about numbers. Clients tell accountants about their problems with employees, customers, spouses . . . You need to learn how to handle being a confidant and advisor.

• Ethics: When you encounter situations where someone’s actions are within the limits of the law but are still wrong, what do you do? A study of ethics can help.

• Languages: Never underestimate the value of speaking a second (or third or fourth) language. If a criminal speaks a language other than English, the investigator should as well.

• Criminology: Studying crime, criminals, and corrections will help you understand how the fraudsters you are up against work, why they do what they do, and how they interact with the people around them.

To become a forensic accountant, no government-issued license is required. However, certifications related to forensic accounting and fraud investigation are issued by several professional associations. Here are some of the certifications you may wish to pursue en route to becoming a forensic accountant:

• Certified Public Accountant (CPA): You don’t have to be a CPA to be a forensic accountant, but this certification is very valuable. These three letters say that you are an accountant who has had a rigorous education and passed one of the toughest licensing examinations in the United States. Also, the Association of Certified Public Accountants issues a Certified in Financial Forensics (CFF) credential for forensic accountants.

• Certified Forensic Examiner (CFE): The CFE is arguably the most recognized credential related to forensic accounting. The Association of Certified Fraud Examiners (ACFE) issues the CFE designation; visit www.acfe.com.

• Certified Forensic Financial Analyst (CFFA): The CFFA designation is sponsored by the National Association of Certified Valuation Analysts (NACVA), which is best known for its Certified Valuation Analyst (CVA) certification: a certification in the valuation of businesses. Business valuations are often performed for forensic purposes: matrimonial disputes, torts, and litigation with the IRS related to estate and gift taxes. See www.nacva.org.

Financial statement fraud, commonly referred to as “cooking the books,” involves deliberately overstating assets, revenues, and profits and/or understating liabilities, expenses, and losses. A business that engages in such a practice stands to lose a tremendous amount of money when penalties and fines, legal costs, the loss of investor confidence, and reputational damage are taken into account.

When a forensic accountant investigates business financial fraud, she looks for red flags or accounting warning signs. Red flags that indicate suspect business accounting practices include

• * Aggressive revenue recognition practices, such as recognizing revenue in earlier periods than when the product was sold or the service was delivered

• Unusually high revenues and low expenses at period end that cannot be attributed to seasonality

• Growth in inventory that does not match growth in sales

• Improper capitalization of expenses in excess of industry norms

• Reported earnings that are positive and growing but operating cash flow that is declining

• Growth in revenues that is far greater than growth in other companies in the same industry or peer group

• Gross margin or operating margins out of line with peer companies

• Extensive use of off-balance sheet entities based on relationships that are not normal in the industry

• Sudden increases in gross margin or cash flow as compared with the company’s prior performance and with industry averages

• Unusual increases in the book value of assets such as inventory and receivables

• Disclosure notes so complex that it is impossible to determine the actual nature of the transaction

• Invoices that go unrecorded in the company’s financial books

• Loans to executives or other related parties that are written off

Businesses lose huge sums of money each year to fraud committed by their employees. Small businesses and large businesses alike must establish strong internal controls to prevent employee fraud, whether it involves employees stealing company inventory, embezzling cash, or fudging expense reports. Here are some crucial steps a business can take to deter employee fraud:

• Set the right tone from the top of the company. Make sure company managers and board members act honestly and (as much as possible) transparently. If employees suspect shady dealings at the top of the company, they’re more likely to justify committing fraud themselves.

• Establish a segregation of duties policy. Keep accounting tasks and the handling of cash or business assets completely separate. Someone who works a cash register or books checks received in the mail should not also be tallying accounts receivable in the company’s financial reports.

• Establish strict policies for accessing company assets, such as business inventory. That way, if inventory starts disappearing, you have a clear list of candidates for the theft.

• Require more than one signature on transactions of a significant amount. Depending on the size and structure of your business, that may mean that checks over $100 or over $1,000 require two signatures from company managers and/or board members.

• Decrease opportunities for employee theft. If you discover a case of theft, put new controls in place to prevent it from recurring.

• Respond quickly and justly to an incidence of employee fraud. You want other employees to see that theft and other fraud will be punished.

• Try to gauge employee satisfaction regularly. Keep your eyes and ears open, and employ formal survey tools if necessary to get a sense of how your employees feel about working for the company.

• Conduct background checks on employees before they join the company. You can likely identify some bad apples even before they join your organization.

• Rotate duties of employees and make sure that they take vacations. Frauds committed by employees are usually detected when they are on vacation.