Fraud

Error refers to an unintentional misstatement in financial statements, including the omission

of an amount or a disclosure,
Fraud refers to an intentional act by one or more individuals among management, those
charged with governance, employees, or third parties, involving the use of deception to
obtain an unjust or illegal advantage.

The American Institute of Certified Public Accountants (AICPA) classifies Fraud into two
broad categories:
--The AICPA develops standards for audits of private companies and other services by
CPAs; provides educational guidance materials to its members; develops and grades the
Uniform CPA Examination; and monitors and enforces compliance with the profession's
technical and ethical standards.

1. Defalcations or Misappropriations of Asset (Theft)

- Employees take assets from the organization for personal gain such as theft,
embezzlement or misuse of organization's assets.
- When "fraudsters" use their influence in a transaction to gain personal benefit such
as kickbacks, conflict of interest, bribery, economic extortion, it is known as
'Corruption".
- Defalcation may create misleading financial statements if stolen assets are reported
on the statements
Association of Certified Fraud Examiners
- 90% of defalcations involve thefts of cash;
- remaining 10% were thefts of inventory and other assets
- Cash misappropriation schemes include:
a. Larceny. stealing cash after it has been recorded on the books
b. Skimming. stealing cash before it is recorded on the books
c. Fraudulent disbursements
Most common: 70% of defalcation schemes
Billing: set up false vendors and pay for fictitious goods
Payroll: add fictitious employees to payroll
Expense reimbursement: submit overstated reimbursement requests
Check tampering: alter check, e.g. change payee or amount

Examples of Fraud to the detriment of an organization conducted generally for the direct or
indirect benefit of an employee, outside individual.or another organization (P.A. 1210.A2-1)
● Acceptance of bribes or kickbacks
● Diversion to an employee or outsider of a potentially profitable transaction that would
normally generate profit for the organization
● Embezzlement as typified by the misappropriation of money or property, and
falsification of financial records to cover up an act, thus making detection difficult.

2. Fraudulent Financial Reporting (Distortion of Financial Statements)

- Fraudulent financial reporting are intentional manipulations of financial statements.
This type of fraud is typically committed by management who has the opportunity to
override internal controls often evaluated . and compensated based on financial
results ("cooking the books"). Fraudulent Financial Reporting is accomplished
through different schemes known as Financial Shenanigans (Page 221).