The Fraud Triangle

Posted on March 15, 2017

Companies risk dealing with loss every day. Sometimes loss comes from a less than enthusiastic customer base, sometimes it comes from a poor economy and other times they were simply beaten by a better competitor.

These are all situations in which a company has limited control over their losses.

One instance where companies have more control however is fraud.

Fraud is, “a false representation of a matter of fact—whether by words or by conduct, by false or misleading allegations, or by concealment of what should have been disclosed—that deceives and is intended to deceive another so that the individual will act upon it to her or his legal injury.”

To understand how to best identify and combat fraud, one must understand what is the fraud triangle.

 

What is the Fraud Triangle

The fraud triangle is a basic theory behind employee related fraud. It was developed by academic Donald R. Cressey in the 1950’s. The idea behind this theory is, in order for fraud to happen, three criteria must be met. These three criteria act as steps with one leading to another until fraud happens.

These are the three basic points that make up the fraud triangle:

 

Motivation

All crimes run the risk of punishment. Fraud itself has risks. If caught, an employee can lose their job, lose the ability to continue working in that field and suffer fines as well as penalties including jail time.

These risks prevent a lot of people from committing crime. For fraud to happen, one must be motivated enough to risk those punishments in hopes of a greater reward. Here are some reasons why people are motivated to commit fraud:

  • Tunnel Vision
  • Misunderstanding the Scope of their Actions
  • Feeling Detached from the Company
  • Feeling Incapable of their Own Choices
  • Time Constraints
  • Debt
  • Obedience to Authority

There are many other reasons why people feel motivated to commit fraud, but what’s most important to understand is that whenever someone feels pressure to do something wrong, that pressure can motivate them enough to commit fraud.

 

Opportunity

Opportunity is the second step in committing fraud. One cannot lie on a report, cheat their boss or steal from their company if the opportunity is not there. In order to commit fraud, one must have access to either information or resources with which they could use to commit crime.

Even the most desperate of potential criminals will not commit a crime if they do not think there is a reasonable chance of getting away with it. No opportunity means no fraud.

 

Rationalization

The third and last step that usually occurs before fraud is attempted is rationalization.

According to QuickBooks, 87% of all employee fraud is committed by first time offenders with clean work records. Most fraud is committed on a small scale by regular employees who wouldn’t normally commit crime.

They do it to meet the pressures at work or their needs at home or the demands of their managers. This isn’t to say these employees should be given a pass. It’s just to say that there are reasons why most fraud is committed by those who haven’t done anything wrong before.

Since first time offenders commit most business fraud, they usually have to rationalize their behavior. Whether they think they’re owed something or say that everyone else does it, people always rationalize that what they’re doing isn’t really wrong.

 

What to do about it

Fraud is a serious crime with serious costs. It’s important that companies take steps to avoid fraud wherever possible.

Some possible solutions to help combat fraud include:

  • Setting Up a Reporting System
  • Segregate Duties to Specific Employees
  • Make Documents Clear and Easy to Interpret
  • Hire Fraud Experts

No matter what specific steps a business takes to combat fraud, it’s important that they know their employees. A good boss should know what pressures employees are under and how he or she can help the employee alleviate the pressure thereby reducing the motivation to commit fraud.

 

Conclusion

Every business owner should be able to answer the question, “What is the fraud triangle?” Understanding it is the first step in meaningfully combating fraud in the workplace. There’s no perfect solution for workplace fraud but there is always something that can be done to further get rid of the risk.

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