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Journal of Criminal and Criminology

Volume 49 | Issue 1 Article 11

1958 Some Aspects of Fraud, Control and Investigation J. G. E. Murray

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Recommended Citation J. G. E. Murray, Some Aspects of Fraud, Control and Investigation, 49 J. Crim. L. Criminology & Sci. 78 (1958-1959)

This Criminology is brought to you for free and open access by Northwestern University School of Law Scholarly Commons. It has been accepted for inclusion in Journal of Criminal Law and Criminology by an authorized editor of Northwestern University School of Law Scholarly Commons. SOME ASPECTS OF FRAUD, CONTROL AND INVESTIGATION

J. G. E. MURRAY

Inspector J. G. E. Murray is an and Finance Officer, Headquarters, Royal Canadian Mounted Police, Ottawa. Murray was commissioned in 1955 having served since 1951 as a finance investigator in his present division. Inspector Murray first joined the Royal Canadian Mounted Police in 1931, but left the service in 1934 to continue his education. He received his Bache- lor of Commerce degree from the University of Alberta in 1939 and that year was recalled by the R. C. M. P. He has pursued post-graduate work in commerce and law at the University of British Columbia and is a graduate of the Canadian Police College.-EDrrOR. And the serpent said unto the woman, Ye shall not surely die: For God doth know that in the day ye eat thereof, then your eyes shall be opened, and ye shall be as gods, knowing good and evil. Genesis 3:6

Fraud is as old as the world. And so we find in DEFINITION our Biblical writings of the misrepresentation in The word fraud is derived from the Latinfraus, the Garden of Eden, and the later of meaning deceit. It is a term for which Isaac by Jacob with the connivance of his mother there is no comprehensive definition. The New Rebekah in obtaining his father's blessing and the Century Dictionary (1953) provides the most en- birthright of his brother Esau. The builder of the lightening description as "deceit or trickery delib- treasury of Rameses III is said by Herodotus to erately practised in order to gain some advantage have provided a secret passage by which he might or end unfairly, dishonestly, or to the prejudice of drain the treasure of his royal master. The Jews another's right or interest (as, to obtain a prize or in bondage in Egypt devised means to defraud carry an election by fraud; to allege fraud in a their captors of their jewels. Loaded dice have been case or in the administration of an found in ancient Herculaneum. Individuals prac- ... frauds in business operations; ... a tised fraud as a profession in ancient and medieval deception, artifice, or trick;.., anything contrived times. Throughout the ages men of glib tongue and or intended to deceive)". Black's Law Dictionary lacking in moral sense have practised deception states that fraud in general consists of some deceit- upon their fellows for their own personal advantage ful practice or wilful device resorted to with intent and gain, or being of otherwise good morals en- to deprive another of his right, or in some manner gaged in deceit to perpetrate a mischief or thinking to do him an injury. Buckley, J. in Re: London and to extricate themselves from financial stress. Globe Finance 1903, 1. ch 723 (as All through history we find the evil of fraud and approved by Darling, J. of Criminal Appeal man trying to protect himself against the swindler, -Rex v Bennett 23, C.C.C. 609) states: "To de- the liar, and the cheat with negligible success. In ceive is, I apprehend, to induce a man to believe ancient times frauds were the concern of the indi- that thing is true which is false, and which the vidual, to be settled as best they could, sometimes person practising the deceit knows to be false. To by counter-fraud or even force of arms. Frauds defraud is to deprive by deceit; it is by deceit to therefore generally were considered personal or induce a man to act to his injury." civil wrongs. However, it is interesting to note The essence of the matter is deceit-some that , which is actually a particular type of statement or suppression of fact in word or fraud, was considered a against the king and with intent to deceive. Fraud is a general term the state as this offence might affect anyone in the applicable to many and to matters which realm, and consequently, it carried the death are not criminal at all, ranging from good natured penalty. boasting by the individual to gain personal esteem With the passage of time the law has come to or others' respect, through the field of practical make greater provision for frauds both as to crim- joking and mischief, the literary, artistic, anthro- inal and civil recourse. Provisions for the crime pological, and archeological , the mas- now appear on the books with a more querade in order to travel incognito, to cover up adequate and equitable basis of punishment. past deficiencies or to attain denied aspirations, 1958] FRAUD CONTROL AND INVESTIGATION

through the "con" man, the high pressure real is not obliged to reveal facts to the buyer which if estate promoter, the "long distance telephone stock disclosed would be to the seller's disadvantage. broker", the gold mine swindler, to the outright It is appreciated that this provides embezzler. All figure in the intriguing story of the leeway for particularly in the fields of com- ingenuity and ingenuousness of mankind. modity advertising, the financing prospectus, and The lower scale, so called harmless frauds, securities promotion, which prompted the noted are not actionable unless unforeseen injury ac- criminologist Edwin H. Sutherland to comment: crues. In the higher scale some frauds are criminal "These cases of misrepresentotion and fraud have and others civil, but a to defraud is not been subject to prosecution in most cases, for always criminal. Our interest as policemen in the have operated on the principle caveat the field of fraud as a crime, however, as a basis of enplor, which has meant that the purchaser must comparison and appreciation it is well to consider protect himself against ordinary and something of the basis of "civil" frauds-particu- could appeal to the courts for protection only larly as the delineation is sometimes as deceptive against extraordinary dishonesty. President Roose- as the definition of fraud itself. velt in 1933 insisted that the principle be reversed and caveat vendor be substituted, especially with Civm FRAUD regard to securities."' It should be observed here that this principle The requires that certain special ele- caveat vendor forms some considerable basis of our ments be proved before the defrauded person can provincial and commissions pertaining to recover and in which very stringent rem- securities and also to- the federal Pure Food and edies can be imposed. In the circumstances of an Drug Act. All such and organizations alleged fraudulent sale, which is a common ex- are designed idealistically at least to control what ample of civil fraud, the buyer must show: was a fertile field for the unscrupulous vendor and a. that there was a false representation or state- to protect the innocent purchaser or consumer. ment in regard to the commodity or property; There is an exception to the rule of . b. that the vendor knew it was false or lacked When a party, lacking knowledge of the subject sufficient basis for making the statement; matter of the , enters into an agreement c. that in making the statement the defendant under a as to what the other party's inten- vendor intended to induce the plaintiff pur- tions are and the other party is aware of such chaser to act or refrain from acting, in reliance mistake, the contract is void. However, if a party on the misrepresentation; is simply mistaken as to the and the d. that there was a reasonable reliance by the other party has done nothing to convey such false purchaser on the statement; impression, the contract will not be affected. A e. that damages resulted to the purchaser as a contract which enables one party to profit know- result of the reliance. ingly from another's clerical mistake, which is So to sustain fraud there must be a material mis- embodied in the contract, will not be enforceable. representation which induced the contract, inten- truth, tional or made with reckless disregard of the MISREPRESENTATION COMPARED VITH FRAUD as a result of which loss was suffered. Let us briefly consider some of the basic prin- In the matter of legal remedies one must con- ciples of the civil law that form the foundation of sider the difference between innocent misrepre- the action for fraud. As a rule, the contract is not sentation and false representation or fraud. Inno- invalidated when a person makes a bad bargain cent misrepresentation is "a misstatement of by his own poor , ignorance of the law, or material facts either not known to be untrue or a mistake in interpretation of the conditions of an made without intention to deceive. The misrepre- agreement. However, on the other hand a contract sentation must relate to material facts-facts is not enforceable where the mistake has been which have induced or brought about the contract brought about by either a mutual mistake between -and not just passing statements which would not the parties as to the essential facts of the contract ordinarily influence decision such as extravagant or by fraud or of the other party. In "sales talk" or "salesman's puffing" of which the general the rule caveat emplor (let the buyer beware) 1EDWIN H. SUTHERLAND, PRINcIPLEs OF CRIAm- applies to , which implies that the seller I.Lo0c", New York, J. B. Lippincott Co., 1955. J. G. E. MURRA Y [Vol. 49 public is aware, comes to expect, and consequently and with intent that they should be so deceived, discounts. The essential difference between innocent e.g., fraud in the celebration of feigned marriage; misrepresentation and fraud therefore is the fraud in obtaining of indecent of a intention with which the is made. female; frauds upon the government; false entries Consequently, immaterial misrepresentation is not in books to defraud creditors; frauds by company sufficient grounds on which to repudiate the con- directors; fraud by a public officer. tract; innocent material misrepresentation when "False pretences" is used in a statutory enact- proved is grounds for repudiation of contract; and ment of a penal nature and therefore has to do finally fraud is a basis of repudiation of contract with a certain type of crime and no other. False and also a claim for damages. Both actions for pretences is properly applicable to obtaining some- repudiation and for claim for damages must be thing tangible or capable of being stolen. Obviously undertaken without undue delay on discovery of false pretences can be defined more exactly than the misrepresentation. Further, in event of a resale fraud. It is also noted that false pretences has a of fraudulently obtained property a person cannot relationship to the crime of . recover his property against some innocent pur- As a further differentiation it might be said that chaser who has bought it without notice of fraud. "fraud" is a statement which the person has no intention of fulfilling. On the other hand "false STATUTE or FRAUDS pretences" is a representation of existing fact, past A consideration of the law relating to fraud or present, which is untrue. would be incomplete without mention of the It should be stressed that the purpose of crim- . This was an important English inal proceedings is to punish a wrongdoer for a law passed in 1673 (29 Charles II ch.3) which with crime against the state not just against the indi- modifications has exerted a notable influence on vidual victim; while the object of civil action is to the of the English speaking world. Its inten- obtain compensation for the individual who has tion was to require written for verbal in been wronged. Hence criminal proceedings for many classes of transactions with the object of pre- fraudulent acts are not for the purpose of securing vention of fraud and . Its effect is to make nor can the individual victim properly writing essential to the validity of many contracts condone or pardon such an offence. or transactions. Consequently, conveyances, wills, FALSE PRETENCES and -leases were required to be in writing and signed, and no action could be brought on certain There are four ingredients to an offence of false agreements unless the plaintiff could prove the pretences, without which a charge cannot succeed: agreement by writing duly signed. Representation, Property, Intent, and Reliance. Therefore, in particular the Statute of Frauds These should be considered with related and basic required the following to be in writing: (1) Admin- legal principles. istration of estates; (2) Promise in answer to a Representation.A representation must have been debt, default, or miscarriage of another person; made by the accused to the complainant, which (3) Agreement in consideration of marriage; (4) representation (verbal, by acts, or otherwise-such Contracts on sale of lands, tenements, or interest as by circumstances, created by the accused, his thereof; (5) Any agreement that is not to be per- conduct and natural and reasonable inference con- formed within one year; and (6) Sales of goods veyed) was untrue and known to be untrue by the over a certain value (X10), otherwise the buyer to accused when he made the representation. This receive some of the goods sold or something be representation must refer to an untrue existing given in earnest to bind the bargain or in part fact, i.e. past or present and not something to payment. transpire in the future. A check provides a general example. The pres- CRIMINAL FRAUD AND FALSE PRETENCES entation of a currently dated check implies that At the outset in considering the criminal aspect the person has and presumably knows he has an of fraudulent acts we must differentiate between existing account in the bank in question and funds the words "fraud" and "false pretences". "Fraud" to meet the demand, unless inadvertently and is a general term and lends itself to many varied without fraudulent intention overdrawn. On the and independent offences in which the individual other hand a post dated check, unless dated to or the public injured have been misled deliberately mislead or presented with other implications of an FRAUD CONTROL AND INVESTIGATION existing account, does not stand the test of "a rep- not stand if the victim was not misled by or as a resentation of facts, past or present". It is merely result of faith in the material misrepresentation a promise to pay in the future, thus assuming the of the accused and acted finally on his own judg- nature of a promissory note as opposed to a readily ment. However, a charge of attempted false pre- negotiable instrument, and a matter for civil action tence may succeed, as is complete when rather than criminal prosecution for false pretences. the false pretence has been made with intention False pretences cannot normally succeed on a to defraud. Reliance is the link between the false representation of something to be done in the fu- representation and the ultimate passing of prop- ture even though the promise was made fraudu- erty which is essential to the charge of obtaining lently. by false pretences. Further, the false pretence It should be noted here that persuading a person continues to the time of obtaining as long as there to make a promissory note by means of a false is a direct connection between the initial pretence pretence is not an offence under Section 304 (1) (a) and the ultimate obtaining. Criminal Code of Canada as "credit" is not some- thing of which the offence of theft may be com- ExTErN or FRADD mitted, such as is the case of obtaining goods by is the life-blood -of business, and at the means of a worthless check. Obtaining credit by same time is said to be the root of all evil. It is false pretences is provided for in Section 304 (1) natural that frauds largely devolve around busi- (b), and it must be shown that trust not money ness, in fact or fancy. In fancy the bigger swindles was so obtained. present the imposing business front all 'the 'better Properly. It is essential that something "in to beguile while behind the facade exists an empty respect of which the offence of theft may be com- shell of business organization. It is not the purpose mitted" (capable of being stolen) be obtained by of this essay to explore the more fanciful manifes- the accused from the complainant or delivered to tations of business fraud but to confine ourselves another person either directly from the misrepre- to the factual or fraud in genuine business opera- sentation or indirectly as a result. The relationship tions. with theft is again evident, but a clear distinction There are two broad classes of fraud to be found should be drawn between "false pretences" and in business: those committed usually by employees "theft by trick" even though both are based on in order to conceal actual theft, and those perpe- fraudulent circumstances. The test is whether the trated usually by management. The latter frauds complainant parted with both physical possession do not normally involve theft, at least not directly, and title or ownership (false pretences) or pos- and take the form of manipulations to present a session only (theft). false financial condition by overstatement or There are three separate offences under Section understatement depending on the purpose: to the 304 (1)(a) C.C.: (1) Obtaining property directly detriment of investors, for creation of secret re- by false pretences; (2) Obtaining property in- serves, the defrauding of taxation, credit frauds directly through the medium of a contract ob- as disclosed by , stock frauds as ex- tained by a false pretence; and (3) Obtaining by posed by enquiries. What has been called false pretences the delivery of property to another "White Collar Crime" falls into this class. This person. type of "crime" involves , manipuiation Intent. There must be intention to defraud, of contracts, graft, patronage, and the like as which can be drawn by inference from the repre- manifested in the "mink coat and deep freeze" era sentation made and the property received as es- in the U.S.A. Combines, price-fixing, restraint of tablished in evidence. Buckley, J.in Re: London trade, "loan sharks" operations, and fraudulent and Globe and Finance Corporation states ".... to advertising could also be included in this category deceive is by falsehood to induce a state of mind; of "crime". The type of crime is borderline and to defraud is by deceit to induce a course of ac- usually involves those with position to take ad- tion." vantage and the power to evade. Reliaice. The complainant must have rdlied In this paper we shall confine our interest to upon the untrue representation as genuine, and fraud committed by employees in order to conceal the misrepresentation must have been material in theft, called , and taking the form that it provided the inducement upon which the of defalcation and forgery. Losses from embezzle- property passed. A charge of false pretences will ment in the U.S.A. and Canada attain the stagger- J. G. E. MURRAY [Vol. 49

Table 1 their part to the fraud, the defrauder in his cun- Number of Convictions in Canada ning preys upon the cupidity of the defrauded in their mutual human desire for easy gain. There 1953 1954 1951 1952 are two elements also at work in the crime of em- Embezzlement ...... 131 141 140 181 bezzlement, one being "management's sin" and False Pretences ...... 3747 4175 4570 4903 the other the embezzler's offence. Management is Fraud & Corruption ... 147 58 139 184 responsible for placing temptation in the way of Forgery & .... 1950 2224 2128 2905 his employee, providing the opportunity to de- Perjury ...... 49 45 35 53 fraud through inadequate accounting procedures & . 25 11 30 25 and lack of proper internal control systems. This joined with the sudden overwhelming need or desire for more money provides the com- ing figure of over $500,000,000 for a year, and yet bination for embezzlement. embezzlement losses are less than half that in- As for the embezzler, statistics establish the fol- volved in credit and stock frauds. Embezzlement lowing general factors as the main causes of em- however is of more direct police interest. It at- bezzlement in the order of relative importance: tracts greater attention because of its spectacular (1) nature and the human factor-in that it concerns (2) Extravagant living standards an individual in whom trust has reposed-and (3) Unusual family expenses this crime is more readily exposed, traced, appre- (4) Undesirable associates hended, and prosecuted. (5) Inadequate income The table 1 of statistics as to the incidence and (6) Resentment or revenge. trend of embezzlement and other crime involving fraud elements provides figures of some signifi- METHODS OF EMBEZZLING cance. Available statistics reflect Ontario as having Embezzling takes many devious forms depend- approximately 3Y2 times the recorded defalcations ing on the ingenuity of the individual and the sys- of Quebec, 23Y2 more than B.C. and Alberta, 31 tems with which he must cope in accomplishing times Saskatchewan, and 47 times that of Mani- his misappropriation. The following have been toba and Nova Scotia. noted as the more common methods of embezzling Needless to say fraud is of such a nature that money: the full extent is never known. Considerable fraud 1. Defalcation by receiving cashiers in charge goes undetected, and not all that is discovered is of cash books (a) by making correct entries and made public. Other vital considerations, apart deposits but pocketing the proceeds of a cash from the colossal monetary loss, are the threat to sale in outright theft; (b) withholding receipts the health and existence of business organization and failing to enter them in the cash book or involved in the constant nefarious drain of the deposit slip; and (c) taking money to cover up monetary life-blood and the loss of human re- a shortage of a prior date and deferring entries sources represented in both culprits and victims. in cash book accordingly, thus working on the "lag" (called "lapping"). CAUSES OF EMBEZZLEMENT 2. Defalcation by a receiving-paying cashier Considerable research has been done on the in charge of cash book and with access to other makeup of the embezzler and much has been records. Such a cashier-bookkeeper has a lim- written on the subject. By and large there is itless opportunity for peculation through nothing about the portrait of the average embez- manipulations of records to cover his misap- zler to set him or her apart from the average man propriation both in posting actual accounts or or woman. In a great many cases, it is sad to say creating fictitious ones, such as misappropriat- but for a moment of weakness or the stress of ing cash and charging the amount to fictitious financial worry, the embezzler might have con- customers' accounts. tinued as a normal, useful citizen. 3. Using cheques in payment of accounts of Generally speaking fraud is a bilateral crime, fictitious suppliers and cashing them through a there is both the subjective and objective forces dummy (requiring collusion), or by forged or at play. Both the culprit and the victim contribute faked endorsements. This type of fraud is com- 19581 FRAUD CONTROL AND INVESTIGATION

mon where the cashier has check signing au- THE ACCOUNTANT AND T1fE POLICEMAN thority or the proprietor in signing fails to The detection of business frauds and defalca- scrutinize the invoice. tions was once considered to be almost the sole 4. Raising amounts of checks and supporting function of the public accountant. In the account- invoices and vouchers after they have been ing profession there has been a tendency to rele- officially approved. gate this function to the background because of 5. Issuing and cashing checks for returned the widening scope of the accountants' activities, purchases that have not actually been returned. particularly in the field of constructive needs of 6. Forging checks and destroying them when business as business adviser, financial expert, and returned by the bank and then concealing the the like. As a result too little attention has been transactions by juggling the totals ("forcing devoted to commercial irregularities, business footings") in the cash books or by raising the frauds, and financial defalcations. True the func- amounts of legitimate checks. tion has been-passed to some degree to the exter- 7. Double payment by issuing duplicate checks nal and internal auditor, but this does not fully for the same creditor's invoice and retaining the compensate for observance in the normal account- second check. ing procedures. 8. Appropriating checks made payable to On the other hand there has been a tendency "cash" or "bank" supposedly for creditors' ac- for the police function to enter in only in the more counts, payment of notes, or other expenses. spectacular and obvious aspects of fraud-law en- 9. "Kiting" checks by issuing a false check forcement. As a result, it seems an ever widening on a distant bank and using the time lag and gulf exists between the business audit function another check to make good the first, and re- and the law. enforcement function, where many peating the process. offences of public interest and liability go unde- 10. Pocketing part of customers' payments and tected or, if detected, are covered up only to go offsetting them on the books by improper on spreading their vicious culture. credits for returned goods, allowances, and dis- The dosing of this gulf is in the public interest counts. as well as to the mutual benefit of the accounting 11. Invoicing goods below listed prices and tak- and professions. There should be ing a "kickback" from the purchaser. a drawing closer together in the common interest 12. Pocketing collections made on presumably and reciprocal exchange and utilization of tech- uncollectible accounts, aged accounts receiva- niques and information-a developing of a com- ble, or accounts already written off as bad mon meeting ground and a greater spirit of debts. co-operation and understanding. In the field of 13. Charging customers more than the dupli- fraud the accountant is an investigator, and per- cate sales slips show and appropriating the force the investigator must needs become an ac- difference. countant. Their interest and functions are inex- 14. "Dipping" the cash register and tampering tricably interlocked in this vital phase of crime. with the tape to cover the misappropriation, such as by ringing up $5.00 on a $10.00 cash COUNTERACTING FRAUD sale and pocketing the $5.00 difference. This in itself is a broad subject which does not 15. Increasing the amounts of suppliers' in- permit of full treatment in this paper. However, voices and pocketing the excess or splitting with certain of the more salient nieasures and devices the creditors. for the prevention and detection of fraud should 16. Failing to enter records of returned pur- be considered in rounding out our theme: chases, allowances and discounts and retaining (1) Interval Control. This is a scientific distribu- equivalent amounts of cash. tion of duties and responsibilities within a busi- 17. Padding payrolls in the matter of rates of ness organization (division of labour) in order pay, working time, production, numbers of em- to establish a system of checks and balances so ployees, fictitious or dummy employees and the designed that the activity of one officer or em- like. ployee will automatically, continuously and 18. Pocketing unclaimed wages, dividends, and with minimum of duplication check the work refundables. of others and thus safeguard the assets and con- J. G. E. MURRAY [Vol. 49 firm the accounting records. It is supplemented and remains to be done in the field of govern- by the internal and external audit. mental control of fraud by agressive legislation, (2) Personnel Management. Close attention securities controls, commissions, combines in- should be given to screening of personnel to vestigation, labour legislation, and improved weed out unfavourable applicants and there- social and working conditions. after by personnel problem supervision and AUDIT-INVESTIGATION satisfactory working conditions forestall the human situations leading to fraud. Having stressed the relationship that exists (3) Business Machines. Numerous devices are between the auditor and the policeman in the .vailable as fraud deterrents including improved common objective of fraud detection let us con- cash registers; protectographs; check writers; sider some audit techniques which can be of value business forms systems; special cameras to in police investigation: simultaneously photograph the check casher, 1 Accounting Records. For our purposes these his check, and identification; safety paper for include: (a) Books of account, comprising journal, checks and negotiable instruments; perforating ledgers, or a corresponding ledger card system- typewriters. cash book, check records, minute book, stock (4) Bonding, Guaranty, and Surely Companies. records, inventory records, financial statements, Insurance provides both financial protection, and the like. In this category we should not control guidance, and even detection service. overlook "the little black book" as it is a human (5) Commercial Sources of Information. There foible for individuals, particularly bookkeepers, are a number of reliable and efficient organiza- to keep some record of their misappropriations; tions providing a service to business and the (b) Commerical instruments, including all docu- public and a valuable source of information to ments pertaining to a transaction from begin- the investigator. Some of the more noteworthy ning to end such as purchase orders, inspection are: sheets, packing slips, weight slips, way bills, Better Business Bureau bills of lading, manifests, invoices, statements Dun and Bradstreet of account, debit and credit memos, deposit Canadian Credit Mens' Trust slips, drafts or checks, bank statements, and re- Credit Bureau of Canada (and America) ceipts; (c) Files containing the correspondence Retail Credit Association in negotiating the transactions; and (d) Bank Mortgage Companies records and safety deposit box contents. Guaranty Trust Companies (2) Searches and Seizures. In searches and sei- Insurance Companies zures involving records the question invariably Banks arises in a policeman's mind what to take and Canadian Fire Underwriters how much. Taking records may unnecessarily Boards of Trade disrupt a business, but by the same token this Chambers of Commerce concern encourages co-operation. Much depends Canadian Automobile Theft Recovery Bureau on the nature of the fraud, the identity of the Retail Merchants' Association suspect, existing conditions, and overhanging Canadian Manufacturers' Association circumstances. If the scene of the crime is a Finance Companies. business and the suspect an employee and the (6) Public Education. This medium is of the offence embezzlement, then management will greatest value in controlling fraud. Public willingly place all records and facilities at your awareness through every medium of publicity disposal including the accountant. On the other helps to forewarn, forearm, and forestall. The hand if a well established business itself is sus- repetitious nature of swindles with similar modus pect, as in a tax fraud, although too much co- operandi-or just the same old pill with a sugar operation cannot be expected from manage- coating-is remarkable. Constant education as ment, it is possible to conduct the examination demonstrated in the RCMP Crime in Your of records on the scene with relative security of Community publications tnd a well advised records and often with the benefit of explana- public are sometimes the only means to combat tions from the accountant as the investigation the "artful dodger". proceeds. In a case of a more flagrant crime in- (7) Governmental Provisions.Much is being done volving a dubious business organization such as FRAUD CONTROL AND INVESTIGATION

, , a swindle, or some down in committing the offence itself. This is gross criminal racket the records should be one field of investigation where the old maxim seized outright and secured. As to quantity and of "be sure your sins will find you out" is most when in doubt as to selection take the lot, appropriate. Even when the audit is non-pro- better to have too much than too little. Quan- ductive in a material sense the very process, tity not only increases the probability of dis- inevitable queries and disturbing effects prove covering deliberate manipulations but also un- of great psychological value in later interroga- conscious oversights on the part of the culprit. tion of the suspect. The principles of security, continuity of posses- 6. Working Papers. As the examination of rec- sion, and marking for identification without ords progresses according to the audit program, defacing or adding prejudicial notations are of notes, listings, breakdowns, and running rec- particular importance in audit investigations. ords should be kept in organized fashion of the 3. Organization of Records. Following even the material studied for later reference in compiling best organized search and seizure the account- reports and referring back to the original docu- ing records are usually in a state of confusion. ments and accounting entries. A system of They should be re-arranged in orderly fashion cross-reference numbering is followed through- at the outset-bringing order out of chaos-in out. These records are commonly called work- preparation for a systematic approach to the ing papers and again are an essential to an audit-examination. orderly attack on the mass of material involved. 4. The Audit Program.A plan of attack should 7. Schedules of Analysis. An analysis of special be drawn up outlining the progressive steps to features of the investigation can be better pre- be taken in attaining intermediate and final ob- sented in schedule fashion rather than by the jectives and check-back verifications. This is composition method. This lends itself to colum- set up in logical form and followed closely. The nar treatment and aids both the investigator audit program is an essential part of the exami- and the reader in wading through the intricacies nation, acting as a guide in the welter of material of an analytical study or comparison without and confusion which characterizes the begin- losing himself. ning of an audit-investigation. It is of little avail 8. Charts. A compilation of detailed information in the long run to be haphazard in the advance, or explanation of a complex transaction or as not only can you get utterly lost in the maze inter-related transactions can best be presented but salient objectives can be by-passed and re- in charts, providing a clear, organized, and con- capitulation is impossible. densed presentation of involved details. Chart 5. Examination of Records. This phase in the presentation takes two main forms: (a) Verbal, light of the audit program takes two broad either in columnar or flow chart fashion, as forms: (a) The bringing together or "marrying commonly used in complicated conspiracy up" of related documents from both the files cases; and (b) Graphical, by use of line, , or and commercial instruments; and (b) Examina- other forms of graphs which not only provide tion of records proper which entails following a pictorial presentation of information but also up the questioned transactions, from previous a means of analyzing the information. information or leads obtained from "marrying 9. Photographic Aids. Photographing or photo- up" pertinent documents, into the postings in stating pertinent documents and manipulation the books of account and tracing the ramifica- or alteration of records provides a permanent tions through the accounting records to ulti- record and also simpler and dearer means of mate disposition and noting discrepancies. presentation than trying to describe the details The process can be reversed, i.e. from records to in words. documents. The sins of omission as well as 10. The Audit-Investigation Report. The cover- commission, important in all criminal investiga- ing report should take the form of an overall tions, are of particular moment in the a,,dit- coordinating brief or summary, referring for de- investigation as very often an effort to cover up tails to accompanying schedules of analysis, the offence-by manipulation, alteration, ad- charts, and photostats of evidential documents justment, and human frailty of overlooking and records and merely pointing-up significant minute details in "framing" a situation-usually conclusions. Where a great mass of material is results in more damning evidence than laid involved it should be organized, indexed, and J. G. E. MURRA Y (Vol. ,49

bound in book style for ready reference and easy 15. Check for duplicate checks made out to study. same account payable.

DETECTION OF FRAUD Deposits 1. Examine the duplicate deposit slips. The auditor's methods of examination can be of 2. Cross check check listings to the cash book, considerable assistance to the police investigator. including name of payee, if possible. The following outline provides some common ap- 3. Cross check cash deposits to the cash book. proaches to the detection of fraud in accounting 4. Determine whether cash deposited is in line which may be use- records by audit-investigation with size and type of business. the policeman: ful as a guide to 5. Investigate any checks or cash deposits not posted to the cash book. Irregularitiesre cancelled checks. 6. Scrutinize bank statements. Investigate any erasures or alterations. 1. Examine endorsements and compare with 7. Test check additions. name of payee. 8. Examine any large deposits. 2. Investigate checks made out to shareholders 9. Test check deposit slips to the bank state- and employees or endorsed by an officer or share- ment or pass book. holder. 3. Watch for variations in endorsements-sec- Drafts ond or even third endorsements. 1. Examine draft register. 4. Watch for initials on face of check-this 2. Determine method of recording receipts. might indicate that a person other than the payee 3. Test check draft register to accounts receiva- cashed the check and the second endorsement was ble. waived. 5. Examine face and reverse side of checks for Signing Authorities erasures and alterations. 6. It is not uncommon for the teller to note on 1. Peruse copy of company's contract with bank. 2. Get copy of bank authorizations re signing the back of a check the denomination of the bills handed out. If a number of one hundred dollar authorizations as shown by the Minute Book. bills ($100.) have been listed the payee's records Loans should be examined to see if the income has been recorded. 1. Investigate any loans to a company made 7. Absence of clearing stamp indicates that by a shareholder. check was negotiated at the branch on which the 2. Investigate subscriptions to stock of com- check was drawn. pany by a shareholder. 8. Note the place where check was negotiated. 3. Investigate the amounts credited by com- 9. Where it is normal for checks to be typed or pany to a shareholder or proprietor. written by a check writer, handwritten checks 4. Check authenticity of all loans. should be investigated. 5. Enquire into collateral put up for loans made 10. Investigate checks made out either to cash by banks to company. or a bank, particularly large payments. 11. When checks are held for a considerable Sales time before being cashed or deposited, investigate 1. Check bills of lading to Sales and/or Accounts if the income has been reported. Receivable to see that shipments are accounted 12. Investigate any variation from the normal for. routine. 2. Check delivery slips to Sales and/or Accounts 13. Keep in mind, when examining checks, that Receivable to see that deliveries are accounted for. your examination may lead to the discovery of 3. Is Gross Profit percentage in line for the type income suppression of the payee as well as the of business? payer. 4. If sales are to non-residents, test check with 14. Checks made out to cash for wages, etc., Customs Export Entry (B13), or Trade and Com- should be test-checked to the payroll records. merce Export Permit. FRAUD CONTROL AND INVESTIGATION

5. Test check sales slips, tapes, invoices, etc., to Payroll receipts. 1. Checks made out to cash for wages, etc., 6. If there is a numerical sequence in sales in- should be checked to subsidiary payroll record to voices, test check sequence. see that all monies were paid out to employees. 7. If suspicious, test check additions-sales may be understated. Inventory 8. Check authenticity of credit notes, if neces- 1. Inventory understatement is not necessarily sary verifying with debtor. fraud but is indicative. 9. Are lines of merchandise handled in short 2. Where a cashier pockets proceeds of cash supply and therefore commanding a premium? sales and there are no sales slips used, the misap- 10. Review sales account in the last month of propriation can usually only be disclosed by a the fiscal year. careful inventory check or stock-taking because I1. Test check factory work orders to sales. an inventory adjustment would have to be made 12. Test check credit notes entered in last for the goods sold and not accounted for. month of year. Check to third party records if necessary. General Journal Entries Accounts Receivable 1. Scrutinize all general entries.

1. Check authenticity of all write offs. General 2. Check authenticity of all accounts and bal- ances by means of a mailed statement. 1. Peruse minute book, looking for unusual au- thority to officers. Suldry Revenue 2. Examine insurance policies. 3. Pay particular heed to businesses where chief Check to see that receipts other than from the shareholder(s) has proprietorship or partnership main source are accounted for: as well, one operating complementary to the and rebates 1. Special discounts other. 2. Volume bonuses (car dealers, soft drinks, 4. One cannot divorce fraud on a large scale tire dealers, etc.) from income . 3. Freight rebates 4. Customs Drawbacks CONCLUDING OBSERVATIONS 5. Sales tax refunds 6. Scrap sales Canada is progressing economically from the 7. Sales of by-products primary to the secondary stage of production. 8. Proceeds from fire or damage claims. From a country of basic or extractive operations we are becoming a major industrial and commer- Purchases cial nation. This century is for Canada what the last century was for the U.S.A. From the law- 1. Check authenticity of purchase invoices, in- enforcement point of view such a change naturally cluding major purchases of capital assets, if neces- increases offences of a commercial nature, with sary verifying with creditor. Verify with covering crime in business and business in crime. These check. conditions are accentuated and aggravated by the 2. Watch for duplicate copy of purchase invoices rapid transition and unprecedented expansion put through later and payment applied against which have characterized our economic evolution, personal account of shareholder. stimulated by the impetus of the Second World 3. If suspicious, test check additions-purchases War and the momentum of post-war development. ma- be over-stated. We can anticipate a greater demand for investi- 4. Examine purchases for the last month of the gations of a complex nature concerning business fiscal year. organization and financial matters. It is reiterated that not only can we expect a growing incidence Accounts Payable of crime involving ordinary businesses but also 1. Check for fictitious liabilities, creditors, to crime itself being organized and functioning on which checks may be drawn. syndicate or big business lines. Law enforcement J. G. E. MURRA Y [Vol. 49 is also becoming more closely integrated with BIBLIOGRAPHY governmental institutions responsible for the regu- AUDITING PROCEDURE, Chicago, La Salle Extension lation of commercial activities. Finally, we may University, 1950. BRASOL, BORIS, THE ELEMENTs OF CRIME, New York, become increasingly concerned with borderline Oxford University Press, 1927. crime or irregularities in both government and FINNEY, H. A., PRINCIPLES OF ACCOUNTING, New York, Prentice-Hall, Inc., 1950. business-so called white collar crime-presenting HANSON, A. W., AUDITING THEORY AND ITS APPLICA- something of a new field of investigation. TION, New York and London, McGraw-Hill Book All these facets of an expanding law-enforce- Co. Inc., 1942. Hor as, ARTHUR W., AUDITING PRINCIcPLEs AND ment function reflect significant fraud ramifica- PROCEDURE, Chicago, Richard D. Irwin Inc., tions which render themselves to special treatment 1950. and the techniques of audit-investigation. In keep- JENNINGS, W. H., CANADIAN LAW, Toronto, Ryerson Press, 1954. ing pace with the economic growth of our country MoORE, MAURICE C., FRAUDS AND SwnmEs, London, the Canadian policeman should be prepared and Gee & Co., 1947. equipped to cope with the trend MoRRIs H, REGINALD, THE POLCE AND CRIME DE- of the times and TECTION TO-DAY, London, Oxford University to better perform his function in the field of com- Press, 1940. mercial investigation. For the policeman the ac- PRATT, LESTER A., BANic FRAUDS THEm DETECTION AND PREVENTION, New York, The Ronald Press counting book is taking the place of the brand Co., 1947. book. SmAI.S, R. G. H., AuDrTNO, Toronto, Pitman and Sons Ltd., 1950. SODERMAN, H. & O'CoNNELL, J. J., MODERN CRIMINAL ACKNOWLEDGEMENTS INVESTIGATION, New York & London, Funk & Wagnalls Co., 1936 and 1952. Association of Better Business Bureaus, Toronto & SUTHERLAND, EDWIN H., WHITE COLLAR Crm, New Ottawa, Canada. York, The Dryden Press, 1949. Mr. V. W. Peterson, Chicago Crime Commission, SUTHERIAND, Ewn H., & CREssEY, DONALD, R., Chicago, Ill. PRINcIPLEs OF CRnNOLOGY, Chicago, Philadel- Mr. Dana Porter, Surety Association of America, New phia & London, J. B. Lippincott Co., 1955. York City. THURSTON, JOHN B., BASIC INTERNAL AUDITING Mr. Lester A. Pratt, C. P. A., Washington, D.C. PRiNcIPLEs & TECHNIQUES, Scranton, Interna- United States Fidelity & Guaranty Co., Baltimore, Md. tional Textbook Co., 1949.