Forensic Accounting

Definition
Forensic accounting is the use of accounting skills to investigate fraud or embezzlement and to analyze
financial information for use in legal proceedings. Forensic accounting in its present state can be broadly
classified into two categories encompassing litigation support and investigative accounting.

1. Litigation support - is the provision of assistance of an accounting nature in a matter involving

existing or pending litigation. It is primarily focused on issues relating to the quantification of
economic damages, which means a typical litigation support assignment would involve
calculating the economic loss or damage resulting from a breach of contract. However, it also
extends to other areas involving valuations, tracing assets, revenue recovery, accounting
reconstruction and financial analysis. Litigation support also works closely with lawyers in
matters involving, but not limited to, contract disputes, insolvency litigation, insurance claims,
royalty audits, shareholders disputes and intellectual property claims
2. Investigative accounting - in contrast, investigative accounting is concerned with investigations
of a criminal nature. A typical investigative accounting assignment could be one involving
employee fraud, securities fraud, insurance fraud, kickbacks and advance fee frauds. No doubt in
many assignments, both litigation support and investigative accounting services are required.

Nature of forensic accounting

Forensic accounting is the specialty area of the accountancy profession which describes engagements
that result from actual or anticipated disputes or litigation. „Forensic” means suitable for use in a
court of law” and it is to that standard and potential outcome that forensic accountants generally have
to work. It is often said „Accountants look at the numbers but Forensic accountants look behind the
numbers. Forensic accountants are trained to look beyond the numbers and deal with the business
realities of the situation. Analysis, interpretation, summarization and presentation of complex
financial and business related issues are prominent features of the profession Bhasin 2007.

The services provided by Forensic Accountants are as follows;

• Business valuations
• Divorce proceedings and matrimonial disputes
• Personal injury and fatal accident claims
• Professional negligence
• Insurance claims evaluations
• Arbitration
• Partnership and corporation disputes
• Shareholder disputes (minority shareholders claiming
• Civil and criminal actions concerning fraud and financial irregularities - cross examination,
formulate questions
• Fraud and white-collar crime investigations

Principal Duties of a Forensic Accountant

A forensic accountant’s primary duty is to analyze, interpret, summarize and present complex
fnancial- and business-related issues in a manner that is both understandable by the layman
and properly supported by the evidence. Forensic accountants are engaged by both government
and private agencies cutting across industries ranging from insurance companies, banks,
police forces, regulatory agencies and other financial and business organizations. The services
rendered by forensic accountants cover a wide spectrum of which the following are commonly
provided:
• Investigation and analysis of financial evidence;
• Development of computerized applications to assist in the analysis and presentation of
financial evidence;
• Communication of findings in the form of reports, exhibits and collections of documents;
• Assistance in legal proceedings, including testifying in court as expert witness and preparing
visual aids to support trial evidence. To properly carry out these functions, the forensic
accountant must also be familiar with legal concepts and procedures, including the ability to
differentiate between substance and form when struggling with any issue.

Specific Assistance in Investigative Accounting and Litigation Support

The forensic accountant can provide more specific assistance in the following ways

Investigative accounting
• Reviewing the factual situation and providing suggestions on alternative course of action.
• Assisting in the preservation, protection and recovery of assets.
• Co-ordinating with other experts, including private investigators, expert document examiners,
consulting engineers and other industry specialists;
• Assisting in the tracing and recovery of assets through civil, criminal and other administrative
or statutory proceedings.

Litigation support
• Assisting in securing documentation necessary to support or rebut a claim.
• Reviewing relevant documentation to provide a preliminary assessment of the case and
identify potential areas of loss and recovery.
• Assisting in the examination and discovery process, including the formulation of relevant
questions regarding financial evidence.
• Attending to the examination and discovery process to review the testimony, assisting with
understanding the financial issues and formulating additional questions for counsel.
• Reviewing the opposing expert’s reports on damages and the strengths and weaknesses of
the positions taken.
• Assisting in settlement meetings and negotiations.
• Attending the trial to hear testimony of opposing experts and assisting in the crossexamination
process.

Why Engage a Forensic Accountant? A logical question to pose is why bring in a forensic
accountant and his team when the organisation’s internal auditor and management team can
handle the situation which can range from a simple employee fraud to a more complex situation
involving management itself? The answer would be ‘ obvious when management itself is involved
and the fallout to the discovery of the fraud leads to low employee morale, adverse public opinion and
perception of the company’s image and organisational disorganization generally. Engaging
an external party can have distinct advantages from conducting an internal investigation.

Key Benefits of Using Forensic Accountants

1. Objectivity and credibility - there is little doubt that an external party would be far more
independent and objective than an internal auditor or company accountant who ultimately reports
to management on his findings. An established from of forensic accountants and its team would
also have credibility stemming from the firm’s reputation, network and track record.
2. Accounting expertise and industry knowledge - an external forensic accountant would add
to the organisation’s investigation team with breadth and depth of experience and deep industry
expertise in handling frauds of the nature encountered by the organisation.
3. Provision of valuable manpower resources - an organization in the midst of reorganisation
and restructuring following a major fraud would hardly have the fulltime resources to handle a
broad-based exhaustive investigation. The forensic accountant and his team of assistants would
provide the much needed experienced resources, thereby freeing the organisation’s staff for
other more immediate management demands. This is all the more critical when the nature of the
fraud calls for management to move quickly to contain the problem and when resources cannot
be mobilised in time.
4. Enhanced effectiveness and efciency - this arises from the additional dimension and depth
which experienced individuals in fraud investigation bring with them to focus on the issues at
hand. Such individuals are specialists in rooting out fraud and would recognise transactions
normally passed over by the organisation’s accountants or auditors.

Different roles of a forensic accountant

• Criminal Investigations Practicing forensic accountants could be called upon by the police
to assist them in criminal investigations which could either relate to individuals or corporate
bodies. The forensic accountant would use his/her investigative accounting skills to examine the
documentary and other available evidence to give his/her expert opinion on the matter. Their
services could also be required by Government departments, the Revenue Commissioners, the
Fire Brigade, etc for investigative purposes.
• Personal Injury Claims Where losses arise as a result of personal injury, insurance companies
sometimes seek expert opinion from a forensic accountant before deciding whether the claim is
valid and how much to pay.
• Fraud Investigations Forensic accountants might be called upon to assist in business
investigations which could involve funds tracing, asset identification and recovery, forensic
intelligence gathering and due diligence review. In cases involving fraud perpetrated by an
employee, the forensic accountant will be required to give his/her expert opinion about the nature
and extent of fraud and the likely individual or group of individuals who have committed the
crime. The forensic expert undertakes a detailed review of the available documentary evidence
and forms his/her opinion based on the information gleaned during the course of that review.
• Professional Negligence The forensic accountant might be approached in a professional
negligence matter to investigate whether professional negligence has taken place and to
quantify the loss which has resulted from the negligence. A matter such as this could arise
between any professional and their client. The professional might be an accountant, a lawyer,
an engineer etc. The forensic expert uses his/her investigative skills to provide the services
required for this assignment.

Expert Witness Cases Forensic accountants often attend court to testify in eh/il and criminal
court hearings, as expert witnesses. In such Cases, they attend to present investigative evidence
to the court so as to assist the presiding judge in deciding the outcome of the case.
• Meditation and Arbitration- Some forensic accountants because of their Specialist training they
would have received in legal mediation and arbitration, have extended their forensic accounting
practices to include providing Alternative Dispute Resolution (ADR) services to clients. This
service involves the forensic accountant resolving both mediation and arbitration disputes
which otherwise would have been expensive and time consuming for individuals or businesses
involved in commercial disputes with a third party.
• Litigation Consultancy working with lawyers and their clients engaged in litigation and assisting
with evidence, strategy and case preparation

What characteristics/skills should forensic accountant possess? A forensic accountant is expected

to be a specialist in accounting and financial systems. Yet, as companies continue to grow in
size and complexity, uncovering fraud requires a forensic accountant to become proficient in an
ever-increasing number of professional skills and competencies. The major skills can be divided
in to two:
i. Core skills (specialized skills and knowledge).
ii. Non-core skills (personal skills).

I. Core skills:
• Ability to critically analyze financial statements. These skills help Forensic Accountants to
uncover abnormal patterns in accounting information and recognize their source.
• Ability to grasp internal control systems of the client and to set up a system that achieves
management objectives informs employees of their control responsibility and monitors the
quality of program and changes made to them.
• Proficiency in Information technology and computer network systems. These skills assist
accountants to conduct investigations in the “E-Areas” (E-banking, Ecommerce etc) and
computerized accounting systems.
• Knowledge of psychology in order to understand the thinking and motive behind criminal
behavior and to set up prevention programmes that motivate and encourage employees.
• An in-depth understating of the fraud schemes such as misappropriations, money laundering,
bribery and corruption.
• Thorough insight and knowledge into company’s governance policies and laws that regulate
these policies.
• Interpersonal and communication skills, which aid in acquiring information about the companies
ethical policies and assist forensic accountants to conduct interviews and obtain crucially,
needed information,
• Command of criminal and civil laws, legal system and court procedures.

II. Non-core skills:

Includes, but are not limited to:
• Sound professional judgment.
• Look beyond numbers and grasp substance of situation.
• A “sixth” sense that can be used to reconstruct details of past accounting transactions is also
beneficial.

• A photographic memory that helps when trying to visualize and reconstruct these past events.
• Curiosity, persistence and creativity.
• Pay attention to smallest of detail, observe and listen carefully
• Ability to maintain his composure when detailing these events on the witness stand.

Who retains a forensic accountant:

Forensic Accountants are often retained by the following groups
• Insurance Companies;
• Lawyers
• Police Forces;
• Government Regulatory Bodies and Agencies;
• Banks;
• Courts; and
• Business

Emergence of computer forensics

Computer forensics is simply the application of computer science to the investigative process.
As investigative accounting is an important aspect of forensic accounting, computer forensics
and its sub-disciplines are important tools for the forensic accountant in his task of retrieving
and analysing evidence for the purposes of uncovering a fraud or challenging any financial
information critical to the outcome of any dispute. Sub-disciplines of computer forensics, like
computer media analyses, imagery enhancement, video and audio enhancements and database
visualisation, are tools, techniques and skills are becoming more critical in the field of forensic
accounting in general and investigative accounting in particular. Fraud detection services and
the techniques of data matching and data mining would be impossible without the application of
computer forensics.
Advantages of Forensic Accounting
• Fraud Identification and Prevention: Fraud is quite common in big organizations where the
number of daily financial transactions is huge. In such an environment, an employee can easily
undertake fraudulent activities without being caught. Forensic accounting helps in analyzing
whether the company’s accounting policies are followed or not, and whether all the transactions
are clearly stated in the books of accounts. Any deviation observed in the books of accounts
can help in identifying fraud, and necessary measures can be taken to prevent it in the future.
• Making Sound Investment Decisions:- As forensic accounting helps in analysing the financial
standing and weaknesses of a business, it provides a path for investors to make thoughtful
investment decisions. A Company dealing with fraud is definitely not a good option for
investment. Therefore, the reports of forensic accountants act as a guide for potential investors
of a company. Many organizations also apply for loans from various financial institutions. By
performing an analysis, such institutions can come to a decision on whether they would like to
fund a company or not.
• Formulation of Economic Policies:- Various cases of fraud that becomes evident after forensic
analysis act as a reference for the government to formulate improved economic policies that
would be able to curb such fraudulent activities in the future. By doing so, the government can
strengthen the economy and prevent such illegal activities in the country

•Rewarding Career Opportunity As a career, forensic accounting is extremely rewarding, as

it not only involves regular accounting activities, but also involves identification, analysis, and
reporting of the findings during an audit. The acceptance of reports generated by a forensic
accountant by the court of law, gives them an upper hand as compared to other accountants.

Disadvantages of Forensic Accounting

• Confidentiality Issue Since the scrutiny of a company’s financial records is done by an external
forensic accountant, the chances of leakage of confidential matter are always there. It is true
that their code of ethics clearly mentions that forensic accountants and other members involved
in the scrutiny must not engage in disclosing confidential data to outsiders, but the possibility of
disclosure cannot be nullified.
• Increased Chances of Threats and Negative Publicity If the analysis of a company’s financial
statements points out the involvement of a particular person in fraudulent activities, there is a
significant chance that the person will try to threaten the company to safeguard himself from
the trial, Also, any trial that confirms a fraud happening in the company comes under public
eye and gains negative publicity, which directly affects the reputation and investor relations of
the company,
• Costs a Lot of Money Forensic accounting can be an expensive affair because the procedures
which accountants use involve high-end accounting software. If study results have to be
presented in a trial, the overall expenditure goes up even further, because the fees of forensic
accountants are quite high. This can be a matter of concern for the organization .
• Losing Employee Trust It is quite obvious for employees to feel offended when they come to
know that their job is under scrutiny by a third person. If no fraud is identified, employees are
left with the feeling that the employer does not have faith in them. Lost trust can be difficult to
regain in such cases.
• Limited Use of Services Federal regulations limit the use of services from a single accounting
firm. Suppose a company has tied up with one firm for auditing, it cannot ask the firm to provide
other services to it. Therefore, a company has to reach out to several firms for carrying out its
accounting tasks.
• Despite the disadvantages associated with forensic accounting, it is, and will continue to be an
important part in the world of business. This is because it helps organizations and individuals
to figure out whether their financial accounts are accurate or fabricated to hide illegal activities
going on within the organization.

TYPES OF FORENSIC INVESTIGATIONS

The forensic accountant could be asked to investigate many different types of fraud. It is useful to
categorize these types into three groups to provide an overview of the wide range of investigations
that could be carried out. The three categories of frauds are corruption, asset misappropriation
and financial statement fraud
Corruption
There are three types of corruption fraud: conflicts of interest, bribery, and extortion. Research
shows that corruption is involved in around one third of all frauds.
• In a conflict of interest fraud, the fraudster exerts their influence to achieve a personal gain
which detrimentally affects the company. The fraudster may not benefit financially, but rather
receives an undisclosed personal benefit as a result of the situation. For example, a manager may
approve the expenses of an employee who is also a personal friend in order to maintain
that friendship, even if the expenses are inaccurate.
• Bribery is when money (or something else of value) is offered in order to influence a situation.
• Extortion is the opposite of bribery and happens when money is demanded (rather than
offered) in order to secure a particular outcome.

Asset misappropriation
By far the most common frauds are those involving asset misappropriation, and there are many
different types of fraud which fall into this category: The common feature is the theft of cash or
other assets from the company, for example:

• Cash theft - the stealing of physical cash, for example petty cash, from the premises of a
company.
• Fraudulent disbursements - company funds being used to make fraudulent payments.
Common examples include billing schemes, where payments are made to a fictitious supplier,
and payroll schemes, where payments are made to fictitious employees (often known as
‘ghost employees’).
• Inventory frauds - the theft of inventory from the company,
• Misuse of assets - employees using company assets for their own personal interest.

Financial statement fraud

This is also known as fraudulent financial reporting, and is a type of fraud that causes a material
misstatement in the financial statements. It can include deliberate falsification of accounting
records; omission of transactions, balances or disclosures from the financial statements; or the
misapplication of financial reporting standards. This is often carried out with the intention of
presenting the financial statements with a particular bias, for example concealing liabilities in
order to improve any analysis of liquidity and gearing.

CONDUCTING AN INVESTIGATION
The process of conducting a forensic investigation is, in many ways, similar to the process of
conducting an audit, but with some additional considerations. The various stages are briefly
described below.
Accepting the investigation
The forensic accountant must initially consider whether their firm has the necessary skills
and experience to accept the work. Forensic investigations are specialist in nature, and the
work requires detailed knowledge of fraud investigation techniques and the legal framework.
Investigators must also have received training in interview and interrogation techniques, and
in how to maintain the safe custody of evidence gathered. Additional considerations include
whether or not the investigation is being requested by an audit client.
If it is, this poses extra ethical questions, as the investigating firm would be potentially exposed
to self-review, advocacy and management threats to objectivity. Unless robust safeguards are
put in place, the firm should not provide audit and forensic investigation services to the same
client. Commercial considerations are also important, and a high fee level should be negotiated
to compensate for the specialist nature of the work, and the likely involvement of senior and
experienced members of the firm in the investigation.

Planning the investigation

The investigating team must carefully consider what they have been asked to achieve and plan
their work accordingly. The objectives of the investigation will include:
• identifying the type of fraud that has been operating, how long it has been operating for, and
how the fraud has been concealed
• identifying the fraudster(s) involved
• quantifying the financial loss suffered by the client
• gathering evidence to be used in court proceedings
• Providing advice to prevent the reoccurrence of the fraud. The investigators should also
consider the best way to gather evidence - the use of computer assisted audit techniques, for
example, is very common in fraud investigations.

Gathering evidence
In order to gather detailed evidence, the investigator must understand the specific type of fraud
that has been carried out, and how the fraud has been committed. The evidence should be
sufficient to ultimately prove the identity of the fraudster(s), the mechanics of the fraud scheme,
and the amount of financial loss suffered.
It is important that the investigating team is skilled in collecting evidence that can be used in a
court case, and in keeping a clear chain of custody until the evidence is presented in court. If
any evidence is inconclusive or there are gaps in the chain of custody, then the evidence may
be challenged in court, or even become inadmissible. Investigators must be alert to documents
being falsified, damaged or destroyed by the suspect(s). Evidence can be gathered using various
techniques, such as:
• testing controls to gather evidence which identifies the weaknesses, which allowed the fraud
to be perpetrated
• using analytical procedures to compare trends over time or to provide comparatives between
different segments of the business
• applying computer assisted audit techniques, for example to identify the timing and location of
relevant details being altered in the computer system
• discussions and interviews with employees
• Substantive techniques such as reconciliations, cash counts and reviews of documentation.
The ultimate goal of the forensic investigation team is to obtain a confession by the fraudster,
if a fraud did actually occur. For this reason, the investigators are likely to avoid deliberately
confronting the alleged fraudster(s) until they have gathered sufficient evidence to extract a
confession. The interview with the suspect is a crucial part of evidence gathered during the
investigation.
Reporting
The client will expect a report containing the findings of the investigation, including a summary
of evidence and a conclusion as to the amount of loss suffered as a result of the fraud. The
report will also discuss how the fraudster set up the fraud scheme, and which controls, if any,
were circumvented. It is also likely that the investigative team will recommend improvements to
controls within the organisation to prevent any similar frauds occurring in the future.

Opportunities to Commit Financial Reporting Fraud

• The absence of a segregation of duties Or unclear job descriptions resulting in a lack of clarity
of ownership allowing an individual to manipulate data to achieve a desired result.
• The absence of effective supervision allowing an individual (s) to manipulate data to present a
desired result or avoid detection of an improper activity (e.g. remote locations; specialized or
complex businesses; recently acquired entities or outsourced activities).
• The ability to create transactions to achieve a desired result (e.g. inter-company transactions;
fictitious receivables; improper reserves; or manipulation of cut-off procedures).
• Existence of manual processes that are susceptible to manipulation.
• The absence of sufficient resources allowing one or more individuals to circumvent established
processes.
• Failure to perform sufficient background checks resulting in an individual(s) with the propensity
or motivation to commit fraud assuming positions within the Company that allow them to
manipulate data for their personal benefit.

FRAUD PREVENTION AND DETERRENCE

• Implement internal controls to reduce fraud risk: Many businesses depend on one person to
process payments and invoices, make bank deposits, handle petty cash, and reconcile bank
statements. This is asking for trouble. Your business should implement a system that spreads
and, if possible, rotates the financial duties of the business among two or more employees. Insist
that all employees, especially those with financial responsibilities, take a mandatory vacation of
at least one week of consecutive days.
• Tone at the Top: An effective way to prevent fraud in your business is to create a positive work
culture. It is important that the business owner and senior management serve as role models of
honesty and integrity. Set clear standards example zero tolerance policy for fraud.
• The directors should lead by Example by behaving ethically and openly communicate
expectations to employees and treating all employees equally
• Management should create a positive workplace environment by:

• Focusing on employee morale

Empowering employees
• Communicating to employees Management should hire and promote appropriate
employees
• Conduct background investigations before hiring or promoting
• Cheek candidate’s education, employment history, references
• Continuous and objective evaluation of compliance with entity values
• Violations addressed immediately

• The Code of Conduct should;

• Be formalized and founded on integrity

• Define acceptable employee behavior
• Be communicated to all employees
• All employees are held accountable for compliance

• Discipline in the organization should;

• Send a strong message throughout the entity

• should be appropriate and consistent
• Consequences of committing fraud clearly communicated throughout the entity

• Whistle blower:
Every company should establish a system that makes it easy for employees, vendors and
customers to anonymously report suspected fraud activities.
• Work with Professionals: Consider hiring a professional to conduct both regularly scheduled
and surprise audits. Audits can serve as a deterrent because when employees are aware that
there will be checks of their areas, they are more likely to stay honest.

Common Accounting Fraud Areas

Usually in any typical fraud investigation, the forensic accountant and his team would encounter
similar factual scenarios or frauds, which are not peculiar to any organisation. The more common
types are illustrated below:
Accounting item: Revenue Recognition
Possible fraud scenarios
• Premature recognition of sales
• Phantom sales- ghost sales
• Improperly valued transactions
Accounting item: Reserves
Possible Fraud Scenarios
• Bad faith estimates
• One-time charges
Accounting item: Inventory
Possible fraud scenarios
• Over-valuation
• Non-existent inventory
Accounting item: Expenses
Possible fraud scenarios
• Delayed expense recognition
• Improper capitalisation of expenses
Accounting item: Others
Possible fraud scenarios
• Related party transactions
• Acquisition accounting