Could you spot these 5 signs of financial crime?

For every type of financial crime, there are “red flags”. The role of forensic accountants involves detecting fraud, figuring out how it’s happening, and providing the evidence to confront the perpetrators.

Common financial crimes tend to leave certain red flags. Here are some of the key signs of what to look for…

1. Corporate fraud

What is it?

The company or its owners are often the perpetrators rather than the victim in cases of corporate fraud. It can embrace a multitude of sins. Payment fraud, invoice fraud, Ponzi schemes and trading frauds are all examples. Corporate fraud can mean falsifying financial statements – for instance, attracting investment through over-stating profits, or hiding debts from banks and investors. It can also mean making false claims about products or services.

How to spot it

Inevitably, there is no single telltale sign for such a wide range of criminal activities. But Ben Crowne, a senior manager in forensics and investigations at Quantuma, says: “One common danger sign is a company that stands out from its competitors as being unusually successful when it’s not obvious why it’s business model would make it so.”

Companies falsifying financial information generally tend to make themselves look more successful than they are, he says, and that can lead to reporting ever-bigger profits and bigger deals to attract more investment and keep the fraud going. Go through the records with a fine-tooth comb. “It’s very hard to create a picture of a successful, growing business, which is fraudulent and at the same time 100% watertight,” says Crowne. “Usually, somewhere, there is something in the picture that doesn’t make sense.”

2. Tax evasion

What is it?

The three taxes that companies are most likely to avoid paying are VAT, PAYE and corporation tax. VAT carousel fraud, or missing trader, is a specific crime which involves goods being imported free of VAT, then sold on to a series of companies, with each paying VAT and then reclaiming it from the Government.

The initial importer then disappears without repaying the VAT it has charged to the Government. Payroll and corporation tax frauds typically involve under-declaring the amount of tax to be paid.

How to spot it

One approach forensic accountants take, says Crowne, is to establish a benchmark of how much tax should have been paid and comparing this to actual tax paid.

Warmington says that looking at reward schemes and the behaviour they encourage can also help identify any tax holes. During the 1970s, Citibank rewarded country managers and traders on their currency dealing profits after paying local taxes. As a consequence, some of the managers came up with the bright idea of exporting their profits to zero-tax Nassau in the Bahamas, via lossmaking after-hours trades.

It later emerged that, although Citibank appeared to have a phenomenally successful trading operation in Nassau, it didn’t employ any traders there. Citibank was forced to repay millions in taxes to European governments as a result.

3. Money laundering

What is it?

Conventionally, money laundering means disposing of the proceeds of crimes ranging from extortion to drug trafficking. The archetypal money laundering business is a pizza restaurant or a nail salon or similar, where there are high volumes of cash transactions, and “dirty” money can be added in by inflating the turnover.

How to spot it

Business funding that comes from apparently unconnected sources in high-risk countries is one sign of money laundering. Loans that don’t come from regulated banks is another. Also, look for transactions that don’t appear to make sense – for example, where an asset sells for less than its market value.

Warmington, who was previously head of global investigations at Citibank, says: “Around 20 years ago, we had a tip-off from a customer about the branch at Puerto Banus, Marbella. We went and investigated – while we’d have expected the biggest loan in a retail bank in Marbella to be maybe $800,000, this bank had $40m loans on its books.” Many of the loans were guaranteed by a Finnish bank, in turn, underwritten by a Russian bank.

4. Insider trading

What is it?

Insider trading is making use of any information that is not in the public domain that could affect share or security prices, to make a profit. It’s commonly where a company receives a takeover bid at a higher valuation than its current stock market price. Anybody buying that company’s shares is likely to receive a windfall when the news goes public, and the share price soars – even though it’s illegal to do so.

How to spot it

Detection of specific instances of insider dealing is usually carried out by the relevant stock exchange, which can monitor share dealings and identify suspicious activity – such as a surge in transactions in a company’s shares just before such an announcement. The role of forensic accountants is more likely to be in providing evidence after the event, especially where somebody is trading through their company’s account. “The only thing you can do is look for lifestyle changes,” Warmington says.

5. Embezzlement

What is it?

Commonly known as employee fraud, this typically involves an individual in a position of trust, diverting company funds into their bank account. For example, by creating fake suppliers, counterfeit credit notes or even non-existent employees. One of the best ways to prevent employee fraud is to avoid putting too much responsibility and power in the hands of any individual. There should always be another pair of eyes to spot irregular activity.

How to spot it

The employee who is living a lifestyle apparently beyond their means is one giveaway sign. Another is patterns of unusual transactions that you can only pick up on by trawling through bank statements and other records. Crowne says: “We have been investigating a credit note fraud where junior employees processed refunds in conspiracy with customers. The company noticed an unusually high number of refunds on one account, so we came in to investigate.

We flagged up the transactions we thought were anomalous, then we went sideways, and we looked at the employees who had raised these refunds. A simple, but occasionally successful method of detecting employee fraud is to run the list of employees’ bank accounts on the payroll against all the other accounts to which payments have been made.

For more on ethics:

• Are you really as ethical as you think you are?
• Business ethics: Why it makes a difference
• Accounting dilemmas: 1 Vulnerable clients

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