Key Takeaways
- The Fraud Triangle consists of three elements: Pressure/Incentive, Opportunity, and Rationalization—all three must be present for fraud to occur.
- Asset misappropriation is the most common type of occupational fraud but causes the smallest median losses; financial statement fraud is the least common but most costly.
- Common fraud red flags include lifestyle changes inconsistent with income, reluctance to share duties, missing documentation, and unusual transactions.
- Fraud prevention controls include strong tone at the top, background checks, segregation of duties, and mandatory vacations.
- The fraud investigation process should be handled carefully to preserve evidence and protect the rights of all parties involved.
Last updated: January 2026
Fraud Prevention and Detection
Quick Answer: The Fraud Triangle explains why fraud occurs: Pressure, Opportunity, and Rationalization must all be present. Asset misappropriation is the most common fraud type, but financial statement fraud causes the largest losses. Prevention includes strong controls, tone at the top, and hotlines. When fraud is suspected, preserve evidence and involve appropriate parties (legal, HR, auditors).
What Is Fraud?
Fraud is an intentional act involving deception to obtain an unjust or illegal advantage. In the organizational context, occupational fraud refers to fraud committed by employees, managers, or executives against their employing organization.
Fraud vs. Error
| Aspect | Fraud | Error |
|---|---|---|
| Intent | Intentional | Unintentional |
| Purpose | Personal gain or to harm | Mistake or oversight |
| Concealment | Typically hidden | Not concealed |
| Example | Falsifying expense reports | Posting to wrong account |
The Fraud Triangle
The Fraud Triangle, developed by criminologist Donald Cressey, explains the three conditions that must be present for occupational fraud to occur:
1. Pressure (Incentive/Motivation)
The perceived need or pressure that motivates the fraudulent behavior.
| Type of Pressure | Example |
|---|---|
| Financial Pressure | Debt, gambling addiction, living beyond means |
| Work Pressure | Unrealistic performance targets |
| Personal Pressure | Addiction, family problems |
| External Pressure | Wall Street expectations, loan covenants |
2. Opportunity
The ability to commit fraud due to weak controls or access.
| Opportunity Factor | Example |
|---|---|
| Weak Internal Controls | No segregation of duties |
| Poor Oversight | Inattentive management |
| Access to Assets | Handling cash, inventory |
| Knowledge of Weaknesses | Knowing how to exploit system |
| Overriding Controls | Management can bypass controls |
3. Rationalization
The justification the fraudster uses to make the act acceptable in their mind.
| Rationalization | Example Statement |
|---|---|
| Borrowing | "I'll pay it back later" |
| Deserving | "I deserve this after all I've done" |
| Victimless | "The company won't miss it" |
| Greater Good | "I'm saving the company/jobs" |
| Everyone Does It | "This is how things work here" |
Types of Occupational Fraud
According to the Association of Certified Fraud Examiners (ACFE), occupational fraud falls into three categories:
Overview by Fraud Type
| Type | Frequency | Median Loss | Description |
|---|---|---|---|
| Asset Misappropriation | ~86% of cases | ~$100,000 | Theft of company assets |
| Corruption | ~50% of cases | ~$150,000 | Bribery, conflicts of interest |
| Financial Statement Fraud | ~9% of cases | ~$954,000 | Intentional misstatement of financials |
Asset Misappropriation Schemes
| Scheme | Description | Example |
|---|---|---|
| Skimming | Stealing before recording | Taking customer payment before deposit |
| Larceny | Stealing after recording | Stealing cash from register |
| Billing Schemes | Fraudulent vendor payments | Creating fictitious vendors |
| Payroll Schemes | Fraudulent payroll payments | Ghost employees |
| Expense Reimbursement | Fraudulent expense claims | Inflated or fictitious expenses |
| Check Tampering | Fraudulent check manipulation | Forging signatures |
| Inventory Theft | Stealing physical assets | Taking inventory for personal use |
Financial Statement Fraud Schemes
| Scheme | Description | Effect |
|---|---|---|
| Fictitious Revenues | Recording sales that don't exist | Overstates revenue |
| Timing Differences | Recording revenue/expenses in wrong period | Manipulates income |
| Concealed Liabilities | Not recording expenses/liabilities | Understates liabilities |
| Improper Disclosures | Omitting required information | Misleads investors |
| Improper Valuations | Misstating asset values | Overstates assets |
Corruption Schemes
| Scheme | Description | Example |
|---|---|---|
| Bribery | Offering something of value for favorable treatment | Paying official for contract |
| Kickbacks | Receiving payment for favorable decisions | Vendor paying employee for business |
| Conflicts of Interest | Undisclosed competing interests | Steering business to relative |
| Economic Extortion | Demanding payment under threat | Demanding payment to approve invoice |
Fraud Red Flags
Employee Red Flags
| Red Flag | Why It Matters |
|---|---|
| Living beyond apparent means | May indicate ill-gotten funds |
| Financial difficulties | Creates pressure |
| Unusually close relationship with vendor | Potential kickback |
| Control issues, unwillingness to share duties | Hiding fraud |
| Never taking vacation | Can't afford to be away |
| Recent divorce or family problems | Creates pressure |
| Wheeler-dealer attitude | Risk-taking behavior |
| Past legal problems | Pattern of behavior |
Organizational Red Flags
| Red Flag | Why It Matters |
|---|---|
| Weak internal controls | Creates opportunity |
| Management override of controls | Sets bad tone |
| High employee turnover | Poor oversight, knowledge transfer |
| Unusual or complex transactions | Harder to detect issues |
| Large year-end or unusual adjustments | May hide misstatements |
| Significant related party transactions | Potential self-dealing |
| Unrealistic performance expectations | Creates pressure |
Documentary Red Flags
| Red Flag | Potential Issue |
|---|---|
| Missing or altered documents | Concealing fraud |
| Photocopies instead of originals | May be fabricated |
| Duplicate payments | Intentional or control weakness |
| Excessive voids or credits | Concealing theft |
| Round-dollar transactions | May be fabricated |
| Unusual journal entries | Manipulating records |
Fraud Prevention Controls
Preventive Controls
| Control | How It Prevents Fraud |
|---|---|
| Strong Tone at the Top | Sets ethical culture |
| Background Checks | Identifies past problems |
| Code of Conduct | Establishes expectations |
| Segregation of Duties | Requires collusion |
| Authorization Controls | Limits access |
| Physical Controls | Protects assets |
| Independent Reconciliations | Detects discrepancies |
| Mandatory Vacations | Exposes schemes requiring constant oversight |
| Job Rotation | Prevents building opportunity |
Detective Controls
| Control | How It Detects Fraud |
|---|---|
| Hotline/Tip Line | Anonymous reporting (most common detection method) |
| Internal Audit | Testing and analysis |
| Management Review | Oversight and questions |
| Surprise Audits | Unannounced reviews |
| Account Reconciliation | Identifies discrepancies |
| Data Analytics | Identifies anomalies |
| External Audit | Independent review |
Fraud Detection Methods
According to ACFE research, fraud is most commonly detected through:
| Method | Percentage of Cases |
|---|---|
| Tips | ~42% |
| Internal Audit | ~16% |
| Management Review | ~12% |
| By Accident | ~5% |
| Account Reconciliation | ~4% |
| External Audit | ~4% |
| Document Examination | ~3% |
Fraud Investigation
When Fraud Is Suspected
- Preserve evidence — Secure documents, electronic records, physical evidence
- Maintain confidentiality — Share only with those who need to know
- Consult legal counsel — Before taking action
- Involve appropriate parties — HR, internal audit, legal, management
- Document everything — Actions taken, evidence gathered, interviews
- Consider law enforcement — If criminal prosecution may be pursued
Investigation Team
| Role | Responsibility |
|---|---|
| Legal Counsel | Advise on legal implications, privilege |
| Internal Audit | Conduct investigation, gather evidence |
| Human Resources | Handle employment matters |
| IT/Forensics | Preserve and analyze digital evidence |
| External Experts | Forensic accountants, investigators |
| Management | Authorize investigation, make decisions |
Investigation Best Practices
- Maintain objectivity — Follow the evidence
- Preserve chain of custody — Document handling of evidence
- Conduct thorough interviews — Document statements
- Analyze data — Look for patterns and anomalies
- Maintain confidentiality — Protect rights of all parties
- Document findings — Prepare comprehensive report
- Recommend improvements — Address control weaknesses
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Test Your Knowledge
According to the Fraud Triangle, which three elements must be present for occupational fraud to occur?
A
B
C
D
Test Your Knowledge
According to ACFE research, which method detects the largest percentage of occupational fraud cases?
A
B
C
D
Test Your Knowledge
Which type of occupational fraud is LEAST common but causes the HIGHEST median losses?
A
B
C
D
Test Your Knowledge
Which of the following is a fraud prevention control rather than a detective control?
A
B
C
D