Forensic Accounting is an integration of accounting, auditing and investigative skills. The term 'forensic accounting' was coined by Maurice E.Peloubet, in whose words "financial statements have some but not all the characteristics of forensic Accounting." According to oxford dictionary, the term forensic mean of or used in 'law court'. Thus, Forensic accounting as a special practice area provides accounting analysis that is suitable to the court and which form the basis for discussion, debate and ultimately dispute resolution. Forensic accounting looks beyond numbers and the focus is on looking at the business reality of the situation.
Companies (Auditor report) order, 2003 requires auditors to report, amongst others, "whether any fraud on or by the company has been noticed or reported during the year. If yes, the nature and amount are required to be indicated." Thus, in the Indian context, forensic accounting has gained importance in this background.
Areas covered by forensic Accounting:
1. Certain engagement related to civil disputes viz. disagreements related to company acquisitions like business valuation, calculating and quantifying losses and economic damages through breach contracts etc.
2. Shareholders and partnership disputes involving detailed analysis of numerous years accounting records to quantify the issues in dispute.
3.Cyber crimes like credit card frauds, ATM card frauds, cyber extortion, cyber stalking, phishing i.e. sending unsolicited e-mails & collection of sensitive information by simple techniques.
4.Forensic accounting also deals with areas of professional negligence claims, involving assessment and reporting on work of other professionals. This involves investigating whether breach of 'generally agreed accounting and/or auditing principles' has occurred.
5. Engagement involving criminal matters, involving assessment of accounting systems and accounts presentation, where forensic accountants are hired by the law enforcement agencies.
6. Business investigations involving fund tracing, asset identifications and recovery, forensic intelligence gathering and due diligence reviews.
7. Employee fraud investigations involving procedures to determine existence, nature and extent of fraud and may involve identification of the clauses etc
8. Business Economic losses viz. contract disputes trademark and patent infringements, losses arising from breach of non-compete clauses etc.
9. Cases involving medical insurance claims, medical malpractices resulting in economic losses.
10. Mediation arbitration in alternative dispute resolution mechanisms due to familiarity of forensic accountants with legal issues and procedures, helping individuals and businesses resolve disputes with minimum disruption and loss of time.
Terminologies used pertaining to forensic accounting:
1. Forensic investigation:
This refers to using specialized investigative skills to undertake inquiry in such a manner that outcome shall have application in court of law. Forensic investigation may be grounded in areas like accounting, medicine or engineering.
2. Forensic Audit:
This refers to investigation of a fraud or presumptive fraud with a view to gathering evidence that could be presented in courts of law. It is essentially a blend of propriety, investigative, regularity and financial audits. The Objective is to ascertain whether true business value has been reflected in the financial statement and during the course of examination to find whether any fraud has taken place.
Approach to a forensic accounting assignment:
Since each forensic accounting assignment is unique, actual approach and procedures adopted may vary depending on the circumstances of the case. The general step to be adopted may be followed for the forensic accounting assignment as under.
1. Meeting with the client, to obtain an understanding of important fact and issues, so as to develop an overview of the investigative situation.
2. Performing a conflict check as soon as the relevant parties are identified.
3. Carry out preliminary investigative before developing a detailed a plan of action.
4. Developing detailed action plan based on knowledge gained from step above, clearly setting out the objectives and methodology to be adopted to accomplish the same.
5. Obtaining relevant evidence through documents. Economic information personnel the company, Expert or proof of occurrence of event.
6. Perform analysis which may involve calculating economic damages, tracing of assets, summarizing large number of transaction, present value calculations applying appropriate discount rates, repression & sensitivity analysis, using computerized applications like spreadsheet, database, charts and graphics.
7. Prepare reports which may include section like nature of assignment, scope of investigation, approach utilized, limitation of scope and finding of investigation. Report may be appropriately supported by schedules,
8. Chart and graphics to support the assertions made.
Detection techniques used in forensic accounting:
A. Critical point auditing(CPA)
In CPA, symptoms of fraud are filtered out from regular transactions where they may be concealed.
Scrutiny for CPA purpose may involve: use of
1. Trend analysis
2. Checking unusual debits/credits in the accounts
3. Discrepancies in receivable /payable /inventory balances evidenced from financial records corresponding subsidiary records.
4. False credits to boost sales with corresponding debits to non-existent/dummy personal accounts.
Critical aspects to be followed while conducting forensic accounting:
1. The objective of forensic accounting is to determine correctness of accounts and whether any fraud has taken place.
2. Some of the techniques used could be analysis of past trends or 'substantive' or in depth checking of selected transactions.
3. There is no limitation of time period unlike statutory audits and thus accounts may be examined in details from very beginning.
4. In case of, verification of stock, realizable value of current assets and provisions or liability estimation etc. Independent verification of selected / suspected items may be carried out.
5. In case of off-balance –sheet items like contracts, regularity and propriety of these transactions are examined.
6. In case of adverse findings, legal determination of fraud and naming persons behind the fraud is contemplated.
Forensic accountant's role:
Forensic accountants utilize an understanding of business information, financial reporting systems, accounting and auditing standards, evidence gathering and investigate techniques, Litigation procedures and processes to perform their work. They also play a pro-active role in risk reduction by designing and performing extended procedures as part of statutory audit, acting advisor to audit committee, fraud deterrence engagements and assisting in investment analysis research.
They may play a coherent role against money laundering activities which may involve recovering proceeds of crime. In UK, the relevant legislation for the same is contained in proceeds of crime act, 2002.
B. Propriety audit(PA)
1. PA is conducting by supreme audit government accounts prepared are in order , in terms of approvals and sanctions of expenditures incurred, whether the expenditure incurred was need-based and that the revenues have been realized in time and properly credited to government accounts.
2. The analogy of "value for money audit" is applied to forensic audits whereby financials frauds are unearthed saving wasteful and unwarranted expenditures.
Characteristics a forensic accountant should possess:
1. Forensic accounting requires specialized knowledge about techniques of finding out the frauds: the forensic accountants must have patience and an analytical mindset.
2. Ability to think where he questions seemingly benign documents, looks for inconsistencies, searches for evidence of criminal conduct, looks beyond the number and grasps the substance of the situation.
3. Some other characteristics which could aid a forensic accountant could be:
a) Curiosity
b) Persistence
c) Creativity
d) Confidence
e) Sound Professional judgement.
4. Good Communication skills including effective listening, considering various alternatives open, and ability to see the large picture are other attributes that could be useful the forensic accountant.
Assistance of forensic accountants during fraud investigation:
1. Review of factual situation and providing suggestion on possible courses of action.
2. Assistance with recovery of assets by way of civil action or criminal prosecution.
3. Investigating and analyzing financial evidence.
4. Assisting in legal proceedings including testifying in court as expert witness and preparing visual aids to support trial evidence.
5. Helps in analysis, interpretation, summarizing and presenting complex financial and business related issues.
6. Developing computerized applications in analysis and presentation of financial evidence.
7. Providing litigation support viz. assistance in obtaining documents necessary to support or refute a claim, assistance with settlement discussions and negotiations, attendance at trial to hear the testimony of opposing expert and to provide assistance with cross- examination.
Forensic accounting opportunities:
Forensic accounting as such is centuries old since KAUTILYA the famous economist, recognized the need for forensic accountants, when he mentioned forty different ways of embezzlement. SHERLOCK HOLMES was perhaps the most famous practicing forensic chemist.
Growing Cyber Crimes, Failure of Regulatory agencies to track security scams, busting of many co-operative banks and collapse of Giant Corporation like Enron emphasize the need of using forensic accounting, for chartered Accountants in India, forensic accounting provides an exciting opportunity to foray into this field. Growing regulatory and compliance procedures shall demand greater services in the nature of forensic accounting practice. According to 'Accounting Today' nearly 40% of top 100 American accounting firm's are expanding their forensic and fraud service. With Indian corporate now turning global, with higher volume of cross-border transactions, use of hi-tech technology leaving little audit trail, use of forensic accounting in India is likely to catch pace.
Conclusion:
Forensic accounting through a new field in Indian accounting world has tremendous potential as a new practice area for Indian CAs given the increasing use of e-commerce application, cyber frauds and increasingly complex transaction in both domestic as well as cross-border businesses. Indian CAs with their extensive theoretical education and practical experience can create forensic accounting and auditing as their niche area.
AJAY KAMAL
CAclubindia
