Accounting 133 Chapter 6 Notes 1

Accounting 133 Chapter 6 Notes 1 - Inherent limitations in...

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Inherent limitations in internal control (such as collusion and management override) prevent complete assurance that every fraud scheme will be detected before a loss is incurred. Although the AICPA auditing standards concentrate on management fraud, professional standards also require auditors to pay some attention to employee fraud perpetrated against a client organization. Attention to employee fraud is important in the context that the cover-up may create financial statement misstatements (e.g. overstating an inventory to disguise unauthorized removal of valuable products). Fraud consists of knowingly making material misrepresentations of fact with the intent to induce someone to believe the falsehood and act on it and, thus, suffer a loss or damage. Employee fraud (often referred to as misappropriation of assets or defalcation) is the use of fraudulent means to take money or other property from an employer. Embezzlement is a type of fraud involving employees or nonemployees wrongfully taking money or property entrusted to their care, custody, and control, often accompanied by false accounting entries and other forms of lying and cover-up. Larceny is a simple theft, for example, an employee taking an employer’s money or property that has not been entrusted to the custody of the employee. Employee frauds generally consist of 1. The fraud act itself 2. The conversion of assets to the fraudster’s use (very easy if cash is involved) 3. The cover-up. Employee Fraud Red Flags Observation of changes in persons’ habits and lifestyles could reveal some red flags. Fraudsters often do the following o Lose sleep o Take drugs o Are unable to relax o Are unable to look people in the eye o Go to confession (priest, psychiatrist)
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o Work standing up o Drink too much o Become irritable easily o Easily become defensive or argumentative o Sweat excessively o Find excuses and scapegoats for mistakes o Work alone and/or work late Personality red flags are difficult to recognize because (1) honest people sometimes exhibit these behaviors, (2) they often are hidden from view, and (3) auditors are not in a good position to notice these behaviors. Managers are in the best position to notice changes, especially when a person changes her or his lifestyle or spends more money than the salary justifies, for example, on homes, furniture, jewelry, etc. Auditors can notice telltale hints of the cover-up, generally in the accounting records. The key is to notice exceptions and oddities, such as transactions that occur at odd times of the day, month, season; are too many or too few; occur in the wrong branch location are in amounts that are too high, too low, too consistent, or too different.
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This note was uploaded on 04/17/2008 for the course ACCT 133 taught by Professor ? during the Fall '07 term at Hofstra University.

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Accounting 133 Chapter 6 Notes 1 - Inherent limitations in...

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