Greed, opportunity, need and the expectation of not getting caught. Commonly known as the "GONE" theory, the presence of these factors creates the perfect storm for workplace fraud. It is not a coincidence that the acronym is symbolic of what happens to company assets when an organization becomes the victim of fraud—gone.
While organizations often focus on risks with the potential for the greatest financial losses, one area of exposure that is frequently overlooked is the expense report process. Often ignored or dismissed for appearing to be insignificant (so what if we lose $50 on that extra bottle of wine, look at our revenues!), this is an area where the risk goes far beyond solely financial considerations. An in-depth review of expense reports can tell a lot about your employees and what they are willing to try and get away with. It may be surprising to find out what some of your seemingly upstanding employees will do for an extra buck.
KPMG Forensic's 2009 Fraud Survey indicated that 71 percent of frauds involve losses of less than $100,000, the sweet spot of expense account fraud.
But what are the potential impacts of expense account fraud? The effects can be many and deep. In addition to financial losses, which can be larger than what many might expect, there can be severe and lasting impacts on an organization. Extreme examples, such as CEOs who treat the charging of expenses as just rewards, cause more harm than just overstated expenses. Employees may see this behaviour as permissible or even an expected and accepted form of compensation. Copy-cat actions are common ... what is good for the boss is good for the rest. Fundamentally, this is a failure of one of the most important control features: an acknowledged and demonstrated ethical culture and an appropriate "tone at the top."
In addition, expense account irregularities for many organizations can be more than unwelcome distractions. Negative publicity and reputation damage can be expected when media, shareholders or other interest groups learn of irregular handling of expenses. While in some jurisdictions questionable expenses may seemingly be a regular feature in commentary on politicians, crown corporations and other publicly funded institutions, the negative impact is not limited to such entities. There is a very reasonable expectation that individuals in positions of responsibility will treat funds entrusted to them with diligence and care. When this is not done either by them or those who are lower in the organizational structure, very real and important questions should and will be asked.
In order to be aware of the potential exposure of an organization to expense account fraud, it is important to understand how it may be committed. There are four common types of expense report irregularities:
Although it may seem that the result of any of the above schemes may be individually insignificant, the dollar value of losses can add up quickly. One survey estimates that a typical Canadian organization loses 5 percent of its annual revenues to fraud every year.1 Compared with corruption and financial statement fraud, asset misappropriation (which includes expense report fraud) is by far the most frequent type of fraud, as indicated by a recent survey that found that it represented 86.3 percent of occupational frauds faced by the sample population.2 In an environment of cost cutting and searching for an extra dollar for the bottom line anywhere, this should be enough to make companies consider moving the need for an internal audit of expense reimbursements or a proactive fraud risk review of the process higher up the agenda.
But perhaps more disturbing are the non-financial implications of this type of behaviour. In a period of economic recovery, not only are businesses trying to improve their financial results, but employees are also struggling to find comfort with their personal finances. A few dollars here and there may be enough to achieve this—to satisfy their need. However, an employee whose expense report padding has gone unnoticed is much more likely to do it again—the opportunity is there and there is a low expectation of getting caught. A subsequent inflated expense report may not seem like a big deal and the excitement and "cash reward" received by the employee may be enough to turn the original need into greed. By their very nature, all frauds involve a violation of trust.
Getting away with a less than honest expense reimbursement can be a slippery slope into other deceitful behaviour. Imagine the executive who inflates his expense reports by $20 and $30 here and there (and statistics and experience tell us that it is often the executives who are committing this type of fraud). What does this tell us about his or her moral compass? If he doesn't need the money, is it greed? Carelessness? What other decisions will be based on this greed or blasé attitude?
Although a knee-jerk reaction may be a zero tolerance policy, there are "grey areas" that need to be sorted through when developing a program to prevent, detect and respond to expense report fraud. Consider what your response may be to the following scenarios:
- After a 2-week business trip, an employee has lost some of the receipts for meals he was legitimately entitled to as part of the company's travel policy. To ensure he is not out of pocket, and to avoid the hassle of explaining the situation to the accounting department, the employee inflates his taxi receipts (he got blank ones, of course) to cover the cost. Although there has been no financial loss to the company, is this acceptable behaviour?
- To pass the time on a lonely and extended business trip, an employee orders pay-per-view movies from the hotel's television system each night for 2 weeks straight. To avoid the inconvenience of separating out these costs and rationalizing that the expenses are insignificant and part of the cost of travelling for business, she submits the entire hotel receipt for reimbursement under the expense code for "accommodation and lodging." Is the cost of these movie rentals considered an appropriate business expense? Would you turn a blind eye if it had just been one movie, not 14 movies? Does the type of movie ordered impact your decision?
- An employee books a flight for an upcoming business trip and promptly submits the expense for reimbursement so as not to incur late fees on her credit card. Subsequent to the reimbursement, the trip gets cancelled and the non-refundable flight gets credited to her account. Almost a year passes without any other business trips. Realizing that the credit is about to expire, the employee uses the credit to book a weekend getaway with her spouse, rationalizing that the credit was going to go to waste anyway. Again, perhaps there are no direct financial losses, but what is the implication of this? What would happen if her colleagues got wind of this transaction?
There are many other examples, which, depending on the culture of your organization, may or may not have easy answers. If you think you have the "right" answer, consider whether your decision in each of the above scenarios would be different depending on the employee who is involved or the level of seniority. Should it be?
While we haven't attempted to verify the following stories, the internet reports some outrageous (and entertaining) expense report schemes:
One of the best approaches to protect your organization from both the financial and non-financial impacts of expense report fraud is to develop a strategy to protect, detect and respond to the type of behaviour that results in those losses:
- Have appropriate policies and procedures for expense report reimbursement − Be specific in your requirements so that employees are not left guessing (or left making inappropriate interpretations in their favour). Do you require a detailed restaurant receipt or just the visa slip? Are receipts required for all expenses or just ones over a certain threshold?
- Carry out appropriate review procedures − Ensure that the review is done by someone who is familiar with the employee's activities and will be able to assess whether the expense was necessary, approved and reasonable. If the review process is seen to be too tedious, consider decentralizing the review among different individuals or applying a risk-based or sampling approach to the review. Regardless, ensure that reviewers are held accountable for their responsibility.
- Be specific about the consequences of violating company policy − Employees are less likely to offend if they can clearly predict the consequences. Keeping in mind the "grey areas," the consequences of offending can be tricky to determine. However, it is leading practice to treat all employees fairly.
- Develop a procedure for handling exceptions − Face it, even the most honest employee may lose a receipt at one point. Rather than immediately disallowing the reimbursement, develop a protocol for handling the situation. Is there other evidence available? Was appropriate approval obtained prior to incurring the expense? How often has this happened?
- Communicate your policies and procedures and provide appropriate training − Consider providing specific training for expense report reviewers to assist them in identifying unusual activity.
- Perform appropriate reviews of expense reports − Diligent review is one of the easiest ways to detect inappropriate expenses. By keeping appropriate and detailed records, you are also well prepared in the case of a tax or other regulatory audit.
- Consider the use of data analytics to detect abnormalities − This is particularly useful for larger organizations with significant volumes of data. For example, if your policy is to provide receipts for all expenses over $25, repeated submissions of expenses for $24.95 may merit further review. Other routines, such as "Benford's law",3 can identify statistically unusual patterns of activity that may be worth investigating.
- Test compliance − Despite best efforts, the expense report process can be seen as tedious and unimportant when compared to the other daily tasks of employees and management. Remind employees that their expense reports are not going unnoticed by performing an annual review of the process as part of the company's internal audit program.
- Be savvy − Reviewing means more than checking for a receipt. It involves ensuring the reasonability of the expense. Does it make sense? Is it appropriate in the circumstances? It also involves keeping up-to-date on the current schemes. Although it sounds absurd, employees are blogging about the best ways to get false expenses past their employers, including using tools and technologies to create fake receipts. For example, there are websites that allow you to order or print false receipts. Try "googling" "how to expense a steak"... (See the sidebar for additional red flags to look out for.)
- Ask questions − If something doesn't seem right, it may be worth investigating. Depending on the situation, this may involve asking the employee for more information or a better explanation as to the nature of the expense. When employees know that expenses are diligently reviewed, they will be less likely to be aggressive in their expense interpretations and more likely to be forthcoming about possible expense dilemmas.
- Investigate, where appropriate − Depending on the evidence, a more thorough investigation may be warranted. In the case of more complex schemes, it is useful to engage outside assistance (such as legal counsel and forensic accountants) to help you navigate through the investigation and prosecution, if that becomes necessary. Although investigations can be perceived to be expensive in relation to the offense, consider the indirect consequences to the organization's culture of not investigating. Do you really want your employees determining how much they can get away with before you put the effort into investigating?
- Deal appropriately with offenders − Violations of company policies should not go unnoticed. If offenders are allowed to escape without consequences, others are likely to follow their actions, as the expectation is that they will come out unscathed.
Above all, it is important to set the appropriate tone at the top. If the expense report policy is perceived to be fair (and this means fair to all employees), employees are less likely to try to take advantage of the system. Decide what the organization will tolerate, and stick to it. Enable employees to make moral decisions, and encourage it. You may just find that employees who have nothing to hide, will hide nothing at all.
Potential expense report violation red flags:
1. Detecting Occupational Fraud in Canada: A Study of its Victims and Perpetrators. Association of Certified Fraud Examiners (ACFE) and Dr. Dominic Peltier-Rivest, Ph.D., M. Acc., CFE of Concordia University, Montreal, 2007. We recognize that this broad definition of fraud may include types of employee fraud other than expense report fraud, including asset misappropriation, corruption and fraudulent financial reporting. We also recognize that fraud, by its very nature, is often underreported. The results of this survey are similar to the ACFE's 2010 Report to the Nations on Occupational Fraud and Abuse, 2010 Global Fraud Study that found that the typical organization loses 5% of its annual revenue to fraud.
2. ACFE's 2010 Report to the Nations on Occupational Fraud and Abuse, 2010 Global Fraud Study.
3. Benford's law states that if you randomly select a number from a natural data set of numbers, the value of the first digit(s) in that number will occur with a predictable frequency.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.