Employee Fraud: Perpetrators and their Motivations

By Thomas A. Buckhoff, PhD, CFE, CPA

The Association of Certified Fraud Examiners (ACFE) estimates that employee fraud costs $400 billion annually—or about 6% of an organization’s total revenues. A 1998 KPMG LLP survey of 5,000 leading U.S. publicly held companies, not-for-profit organizations, and governments indicated that the average fraud loss per incident was $116,000. Furthermore, 62% of respondents reported losses due to employee fraud in the past year.

By any measure, employee fraud is an enormous and intolerable financial drain on business. The following were the costlier fraud schemes reported in the survey, and the annual loss attributable to them:

The Fraud Triangle (See Sidebar)

To effectively detect and prevent fraud, one must first understand what motivates people to commit fraud. Three essential elements are common to all types of fraud schemes: opportunity, pressure, and rationalization. These three elements comprise the fraud triangle.

The first and most critical element of the fraud triangle is opportunity. Many organizations unwittingly and unwisely provide their employees with a variety of opportunities to commit fraud. The most common factor is the lack of adequate controls for monitoring employee behavior. For example, a bookkeeper in a clinic was given the responsibility to prepare checks, sign checks, and record the payments in the cash disbursements journal. The bookkeeper discovered the opportunity for fraud and embezzled almost $1 million in cash. Adequate internal controls require—at the very least—that these three responsibilities be segregated among at least two or more employees. Employees possessing such “incompatible responsibilities” have an easy opportunity to commit fraud. They can simply make out the checks (to themselves or to pay their own bills), sign the checks, and then hide the fraud by charging it to a variety of expense accounts.

Not all employees will exploit the opportunity to commit fraud. What is it that induces one employee to commit fraud and another to remain honest? The answer is pressure, the second element of the fraud triangle. Financial pressure can come from a variety of sources, including:

Employees burdened with financial pressure may search for ways to relieve that pressure. Consequently, they should not be put in a position that would provide them with the opportunity to commit fraud. Doing so would be an unwise decision with predictable results.

The third and final element of the fraud triangle is rationalization, the means by which the fraudster psychologically justifies the fraud. Common rationalizations include the following:

Those with low integrity generally have little trouble coming up with rationalizations for defrauding their employers.
An analysis of personal bankruptcy filings from 1970 to 2000 reveals much about financial pressure and personal integrity. Consider the trends in the number of personal bankruptcy filings during that period:

Year	Filings	Increase over past decade
1970	178,202	182%
1980	287,469	161%
1990	718,107	250%
2000	1,217,972	170%

The trends above are striking. The number of personal bankruptcy filings has increased 1,246% since 1960. The number of personal bankruptcy filings impacts the fraud triangle in two ways. First, individuals filing for personal bankruptcy do so because of the enormous financial pressure they have placed on themselves. Second, it is less than honest to purchase things with other people’s money and then not pay it back. Many people have placed themselves under enormous financial pressure and demonstrated low personal integrity—the only thing missing is opportunity. In the author’s experience as a fraud investigator, where there is opportunity we usually find fraud.

People rarely commit fraud thinking they will be caught. The purpose of internal controls is to safeguard assets and records, minimize the opportunity to commit fraud, and monitor employee behavior. Properly designed internal controls effectively instill in the minds of employees the perception that fraudulent activity will be detected. This “perception of detection” can be a very effective deterrent. Without adequate fraud prevention programs, many companies will continue to suffer substantial fraud losses and most will not even realize it.

Editor:
Robert H. Colson, PhD, CPA
The CPA Journal