In my experiences as a Senior Accountant and as a Project Accountant I have frequently been placed in the role of Internal Auditor. This experience, coupled with the increased demand for forensic accounting skills in the wake of the financial crisis of the last decade, has directed my CPE study to enhance my understanding of the likelihood of Management and Organizational Fraud. The Institute of Internal Auditors (IIA) states in Practice Advisory Standard 1210.A2 that “The Internal Auditor should have sufficient knowledge to identify the indicators of fraud but is not expected to have the expertise of a person whose primary responsibility is detecting and investigating fraud.”
To this end it is necessary that the Internal Auditor be aware of Red Flags that could be indicative of fraud. Generally, the red flags can be categorized as employee red flags and/or management red flags. Here are some to watch for:
Employee Red Flags
- A lack of segregation of duties (the smaller an organization is, the greater this tendency).
- High employee turnover with low morale.
- Extreme or unreasonable behavior such as being easily annoyed at reasonable inquiries or demonstrating excessive control over information dissemination.
- Evidence of living beyond their means.
Management Red Flags
- Managers are argumentative or reluctant to provide information.
- A weak internal control environment as evidenced by accounting personnel which are inexperienced or lax in their duties.
- Managers are significantly disrespectful of regulatory bodies.
- Excessive changes of banks or external auditors.
- Excessive quantities of transactions, especially at year end.
- Missing key documentation or refusing to use sequentially numbered documents.
- Excessive write-offs and/or key accounts which are not reconciled on a timely basis.
These are just a few of the red flags to watch for. An interesting survey result reported by the Association of Certified Fraud Examiners (ACFE) in 2006 is that, though the majority of frauds are committed by employees, the median loss for frauds committed by managers is three times greater than the losses resulting from employee incidents.
Though the Internal Auditor is not expected to have the expertise of a person whose primary responsibility is detecting and investigating fraud, they are expected to notify the appropriate authorities within the organization if they suspect wrongdoing. Also recommendations need to be made, whenever possible, to enhance internal controls to help deter fraud.