The Fraud Triangle
This model illustrates the three key factors that contribute to the likelihood of fraudulent behavior: opportunity, pressure/incentive, and rationalization.
What is the fraud triangle?
This practice involves inflating or deferring sales figures to present a more favorable financial position or performance.
What is manipulating revenue?
IRS' estimation of the percent of income that goes unreported each year
Enron’s accounting scandal led to this firm being found guilty of destroying documents and subsequently losing its license to practice accounting.
Who is Arthur Andersen?
This element of the fraud triangle represents situations or conditions that allow an individual to commit fraud, often due to weaknesses in internal controls or oversight.
What is opportunity?
This technique involves deliberately understating or deferring certain accounts to different periods in order to improve the appearance of profitability in financial statements.
What is manipulating expenses?
This type of income is less likely to be underreported by taxpayers because the government can easily verify it through documentation, unlike cash payments, which are more prone to underreporting due to perceived lower risk of detection.
What are wages, interest, dividends, and stock-related income?
Enron’s business model included creating these separate legal entities, which allowed the company to keep certain assets and liabilities off its financial statements.
What are special-purpose entities (SPEs)?
An employee who needs money to cover unexpected medical bills decides to manipulate financial records to receive an unearned bonus. This situation illustrates which element of the fraud triangle?
What is pressure or incentive?
A company decides to set aside a large reserve for potential future expenses during a highly profitable year. Later, in a less profitable year, the company releases some of these reserves to boost reported earnings. This practice is an example of which accounting technique?
What is cookie jar accounting?
This approach to tax cheating involves weighing the benefits of evading taxes against the risk of getting caught and is sometimes challenged by evidence suggesting the overestimation of penalties and detection likelihood.
What is the cost-benefit model of tax evasion?
This Act, enacted in 2002, was designed to toughen auditing standards for public companies and establish the PCAOB.
What is the Sarbanes-Oxley Act?
A senior accountant, who feels underpaid and undervalued despite a high workload, decides to manipulate the company’s financial records to secure a substantial bonus. They justify their actions by thinking they are owed this extra compensation and exploit the lack of regular oversight due to their position. This situation primarily highlights which single element of the fraud triangle?
What is rationalization?
A company experiencing a challenging fiscal year decides to take a significant write-off for underperforming assets and restructuring costs, aiming to clear the books of all problematic items in one go. This approach is intended to make the company’s financial performance appear much stronger in the following years. This scenario is an example of which accounting technique?
What is big bath accounting?
Studies have found that after experiencing an audit, some taxpayers might cheat more due to a feeling of reduced risk or decreased severity of future audits. This phenomenon is called this.
What is the "bomb crater effect"?
The culture at Enron included a rigorous performance evaluation system known as this, which ranked employees and often led to firings for those at the bottom.
What is "rank and yank"?