Ch 6 Flashcards
0
Q
Employee fraud AKA misappropriation of assets
A
Use of fraudulent means to take money or other property from
An employer
Usually involves falsification of some kind
Ex. False documents, lying, exceeding authority or violating
Employers policies
1
Q
Fraud
A
Knowingly making material misrepresentations of fact with
Intent of inducing someone to believe falsehood
Act upon it and suffer a loss
2
Q
3 steps employee frauds generally consist of
A
1 fraudulent act itself
2 conversion of assets to fraudster’s use
3 cover up
3
Q
Management fraud
A
Intentional deception orchestrated by management
And designed to injure investors and creditors by providing
Materially misleading information
4
Q
Errors
A
Unintentional misstatements or omissions of amounts or
disclosures in financial statements
5
Q
Direct effect illegal acts
A
Violations of laws or government regulations by the company
Or its management/employees
Produce direct and material effects on dollar amounts in
Financial statements
6
Q
Embezzlement
A
Fraud that involves an employee stealing assets entrusted to
His care, custody or control
Often accompanied by false accounting entries and lies to cover
Up
7
Q
10 personality red flags fraudsters often exhibit
A
1 sleeplessness 2 excessive drinking 3 take drugs 4 easily irritable 5 can't relax 6 antisocial 7 sweat excessively 8 work standing up 9 work late 10 make excuses
8
Q
3 reasons personality red flags are hard to detect
A
1 honest people show them as well
2 often hidden from view
3 auditors not in good position to notice these characteristics
9
Q
Who is in the best position to notice employee personality red flags?
A
Managers
10
Q
8 Traits of typical white collar criminal
A
1 education beyond high school 2 likely married 3 member of church, mosque or temple 4 ranges in age from teens to over 60 5 socially conforming 6 employment tenure 1-20 years (longer tenure = more trusted and more fraud at larger amounts) 7 no arrest record 8 usually acts alone (70% of time)
11
Q
When managers minimize the significance of a weak or missing control by rationalizing that the employee involved is a “long time trusted employee,” most experienced auditors will…
A
Escalate their level of fraud risk awareness
12
Q
Fraud triangle, 3 conditions likely to be present when fraud occurs
A
1 motivations
2 opportunity
3 rationalization
13
Q
Fraud triangle: motivation
A
Recognizes that an employee/manager has incentives (bonus
Compensation) or pressure to meet specific estimates
14
Q
Fraud triangle: opportunity
A
Recognizes in order for fraud to be perpetrated, must be
Weakness in system of internal control
15
Q
Fraud triangle: rationalization
A
For employee or manager to commit fraud, individual must
Posses attitude that allows him to rationalize why he is knowingly
Committing crime
16
Q
Motive (in fraud context)
A
Some type of pressure experienced by person that is believed
To be unshareable with friends and confidants
17
Q
Psychotic motivation
A
Characterized by habitual criminal who steals simply for sake of
Stealing
18
Q
Egocentric motivations
A
Drive people to steal to achieve more personal prestige
19
Q
Ideological motivations
A
Held by people who think their cause is morally superior
And they are justified in making someone else a victim
20
Q
What is the most common motivation in business fraud?
A
Economic benefits
21
Q
Fraud may be used to pay for 7 typical needs
A
1 college tuition 2 uninsured medical bills 3 gambling debts 4 drugs/alcohol 5 alimony/child support 6 high lifestyle 7 finance business or stock speculation losses
22
Q
The higher the position in the organization…
A
The higher degree of trust
Therefore it’s more likely controls can be overridden and larger
Frauds can be committed
23
Q
Opportunity for fraud with inventory
A
Inventory not counted regularly
So inventory shortages and losses aren’t known
24
Opportunity: separation of duties example
Proper separation of duties related to cash receipts or payments
Is compromised because termination or retirement
25
Opportunity: review
Vice President of finance has investment authority without
| Any review
26
Opportunity: frequent emergency jobs ex.
Frequent emergency jobs leave lots of excess material lying
| around manufacturing plant
27
Unimpeachable integrity
Ability to act in accordance with highest moral and ethical
| Values all the time
28
7 common rationalizations that fraudsters use to make their stealing acceptable
1 I need it more than other people
2 I'm borrowing the money and will pay it back
3 nobody will get hurt
4 company is big enough to afford it
5 successful image is the name of the game
6 everybody us doing it
7 I'm underpaid so this is due compensation
29
A CEO who always acts with ethics and integrity sends a strong message to all employees that management is serious about...
Internal controls and fraud prevention
30
Control systems limit...
Trust
31
Management must be sensitive to the needs of the business by...
Instituting controls that will prevent/detect fraud without
| Impeding business activity
32
Best anonymous employee hotline arrangement
Best responding party be 3rd party agency outside organization
33
2 Methods for Longterm fraud prevention
1 anonymous hotlines (required by SOX)
2 employee assistance programs (EAP)
34
Employee assistance program (EAP)
Mental health and financial planning referral services for people
Who work in the company
35
An entity who's only control is "trustworthy employees" has...
No control
36
Important feature of effect internal control system
Separation of duties and responsibilities
37
What 4 duties and responsibilities should be separated?
1 transaction authorization
2 record keeping
3 custody/access of assets
4 reconciliation of assets/records
38
Auditing with fraud awareness often involves the combination of...
Observing client control activities and thinking about how a
| Criminal would commit theft
39
3 symptoms of financial statement fraud
1 discrepancies in accounting records
2 conflicting evidence
3 missing documentation
40
Managements response when investigating fraud
Key source of evidence: especially when vague, implausible
| Or inconsistent responses are given
41
Chain of custody (called the relevance of evidence by attorney's and judges)
Crucial link of evidence to suspect
42
What should auditors do as soon as signal of fraud appears?
Mark evidence, writing location, condition, date, time,
| circumstances
43
Marking fraud evidence 3 things
Should be done on separate tag/page
Original document should be put in protective plastic envelope
And locked away
Then copies should be made
44
When can a code of conduct only be effective?
If control environment and tone at top support it
45
Why should fraudsters be prosecuted?
Fraudsters have low probability of repeat offenses if they are
Prosecuted
But high probability if they aren't
46
3 reasons cash is the favorite target of company employees?
1 highly liquid
2 not easily identifiable as company property
3 highly portable
47
After cash, what is the 2nd favorite target for employee thieves to steal?
Inventory
48
Controls over cash must be...
Unusually strong
49
What 2 controls must be implemented for cash?
Controls for cash receipts and cash disbursements must be
| Fraud proof
50
Lockbox
Arrangement where fiduciary (bank) receives the payments,
Lists the receipts deposits and sends remittance advices
To company
51
Remittance advices
Stubs showing amount received from each customer
52
4 controls for individual employees who receive checks an cash
1 have 2 people open mail containing customer receipts
(Resulting in joint account)
2 restrictively endorse checks immediately after removing
From envelope
3 separate list of cash receipts as early as possible
4 separate actual cash from record keeping documents
53
Lapping
The theft of a payment and application of subsequent payments
To cover the theft
54
Employees in normal cash operations
Recording and custody
55
Fidelity bond
Insurance policy that covers most kinds of cash embezzlement
Losses
Require persons who handle cash to be insured
56
Why should an entity establish input, processing and output control activities for cash receipts?
To prevent, detect and correct accounting errors
57
For cash disbursements, where does effective internal control begin?
With appropriate separation of duties
58
Proper separation of duties for cash disbursements involves different people/departments handling what 4 things?
1 custody of blank documents (checks)
2 cash disbursement authorization
3 record keeping for payments
4 bank reconciliation
59
What is the management Assertion Supported?
Internal control: cash receipts are deposited intact and daily
Test of Comtrol- observe the opening of mail and ensure that:
2 employees are opening mail, remittance advice is received, check is restrictively endorsed
Occurrence
60
What is the management Assertion Supported?
Internal control: cash receipts are deposited intact and daily
Test of Comtrol- observe the opening of mail and ensure that:
Listing of all checks is being prepared and compared to total of deposit ticket for total of checks
Accuracy
61
What is the management Assertion Supported?
Internal control: cash receipts are deposited intact and daily
Test of Comtrol- observe the opening of mail and ensure that:
Trace deposit ticket to bank statement to ensure that deposit was recorded in proper period
Cutoff
62
What management assertion is supported?
Internal control: deposits are reconciled with totals posted to A/R subsidiary ledger
Test control: for sample of daily posting to A/R subsidiary ledger, trace the amount to amount of cash deposited in bank on that day as per the bank statement
Completeness
63
Cash disbursements are typically authorized by...
Accounts payable department's assembly of purchase orders,
Vendor invoices and internal receiving reports
To demonstrate valid obligation to pay
64
What is the assembly of supporting documents for cash disbursement authorization called?
2) How should they be marked when processed?
Voucher
Voucher's could be marked "PAID"
65
Cash disbursements: recording
When checks are prepared, entries are made to debit accounts
Payable and credit cash
Someone without access to check writing function should perform
Recording function
66
Cash disbursements: reconciliation
Monitoring if internal control over cash can be provided by
Timely bank reconciliations
Made by individuals outside normal cash operations
67
How are separation of duties usually performed while using a computerized information processing system?
By assigning proper functional "permissions" to appropriate employees through password access credentials
68
In an audit plan, Cash is always...
A relevant assertion
69
What management assertion is tested?
Internal control: checks aren't printed until voucher packets are prepared
Test of Control: for a sample of cash disbursements from the cash disbursements journal, vouch to supporting documentation for evidence of mathematical accuracy, correct classification, proper approval and proper date of entry.
Occurrence
70
What management assertion is tested?
Internal control: an employee compares amounts on printed checks with voucher packets prior to submission for signature
Test of Control: for a sample of cash disbursements from the cash disbursements journal, vouch to supporting documentation for evidence of mathematical accuracy, correct classification, proper approval and proper date of entry.
Accuracy
71
What management assertion is tested?
Internal control: only authorized signers are permitted to sign checks
Test of Control: for a sample of cash disbursements from the cash disbursements journal, vouch to supporting documentation for evidence of mathematical accuracy, correct classification, proper approval and proper date of entry.
Occurrence
72
What management assertion is tested?
Internal control: checks are prenumbered and accounted for
Test of Control: scan checks for sequence. Look for gaps in sequence and duplicate numbers
Completeness
73
What management assertion is tested?
Internal control: bank reconciliations are prepared on a timely basis
Test of Control: review bank reconciliations to ensure that they were prepared on a timely basis
Cutoff
74
Once relevant assertions have been identified for cash (existence) and the tests of control activities are complete the auditor must...
Evaluate the evidence obtained from risk assessment activities
And control tests
To determine risk of material misstatement for each relevant
assertion
75
All payments from cash disbursements journal should be made from either...
Check or electronic transfer
76
Missing cancelled checks
Red flag for fraudulent checking
As fraudsters try to hide documentation of cancelled checks
77
First procedure in audit of cash
Obtain entity prepared bank reconciliations and audit them
78
When auditing the bank reconciliation the auditor should begin by...
Confirming the account balance listed as "balance per bank"
79
To improve control of both delivery and receipt of confirmation request to authenticate the identity of person completing request, many public accounting firms now use...
Electronic audit confirmations when confirming cash
80
Once the balance in the bank has been confirmed and cross referenced to the balance in the bank reconciliation, what following 3 procedures are used in auditing the bank reconciliation?
1 verify mathematical accuracy of reconciliation
2 examine reconciling items to ensure appropriately classified
3 agree book balance to trial balance
81
Auditing the bank reconciliation: verify the mathematical accuracy of the reconciliation
What does this include?
Listing of outstanding checks and deposits in transit
82
Auditing the bank reconciliation: examine reconciling items to ensure they are appropriately classified, example
Ex: that they were legitimate outstanding checks that were written,
But not paid by bank at statement date
83
Auditing the bank reconciliation: agree the book balance to trial balance
Where has it been traced?
Has been traced to general ledger
84
Auditor's information source for validating the bank reconciliation items is typically...
A cutoff bank statement
85
Cutoff bank statement
Client bank statement (usually sent directly to auditor)
Includes all paid checks and deposits slips through certain
date (usually the middle of the month
86
Why is the cutoff bank statement important? 2
1 sent directly to auditors which qualifies as external evidence
2 documents important bank transactions occurring early in subsequent period, so audit team doesn't need to wait for
Normal bank statement to be sent to client
87
When a normal bank statement is sent to the client, what kind of evidence is it classified as?
External-internal evidence
88
Deposits in transit, testing existence
Should be vouched from bank reconciliation to bank cutoff
| statement
89
Deposits In Transit should be recorded by bank in...
First business days in cutoff period
90
Negative reconciling items listed on bank reconciliation
Outstanding checks
91
Existence of cash
Overstatement
92
Completeness of cash
Understatement
93
Canceled checks should be traced to...
Cash disbursements listing journal
94
Schedule of interbank transfers
Prepared by auditors to determine whether transfers of cash from
1 bank to another were recorded properly
(Correct amount, correct date)
95
Check kiting
Deliberate floating of funds between 2 or more bank accounts
In order to make it appear that more cash is present than is
Really the case
96
Check Clearing for the 21st Century Act AKA Check 21
System where Checks converted into digital images,
allowing for dramatic increase in speed in check clearing
97
How does Check 21 help prevent check kiting?
"Float" on the check is virtually eliminated, so kiting becomes
Difficult to perform and conceal
98
Proof of cash
Used to discover unrecorded cash transaction
Reconciliation where bank balance, bank report of cash paid
Are reconciled with entity's general ledger, cash receipts journal
And cash disbursements journal
99
When is proof of cash usually used?
When controls over cash are weak
100
Extended procedures
Specific responses to fraud risk factors
101
Extended procedures to detect fraud examples
```
1 count and recount petty cash on same day
2 examine endorsements on canceled checks
3 retrieve customers' checks
4 used marked currency
5 analyze mix of cash and checks in deposits
6 measure deposit lag
7 document examination
8 inquiry (never question fraud suspect)
9 covert surveillance
10 horizontal and vertical analysis
11 net worth analysis
12 expenditure analysis
13 reasonableness tests
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