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CHAPTER 7: EXPENSE REIMBURSEMENT SCHEMES

EXHIBIT 7-1: Expense Reimbursement Schemes

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LEARNING OBJECTIVES

After studying this chapter, you should be able to:

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7-1 Explain what constitutes expense reimbursement fraud

7-2 Discuss the data on expense reimbursement fraud from the 2009 Global Fraud Survey

7-3 Understand how mischaracterized expense reimbursement schemes are committed

7-4 Be familiar with the controls identified in this chapter for preventing and detecting

mischaracterized expense schemes

7-5 Identify the methods employees use to overstate otherwise legitimate expenses on

their expense reports

7-6 Understand controls that can be used to prevent and detect overstated expense

schemes

7-7 Explain what a fictitious expense reimbursement scheme is and differentiate it from

other forms of expense reimbursement fraud

7-8 Identify red flags that are commonly associated with fictitious expense schemes

7-9 Discuss what a multiple reimbursement scheme is and how this kind of fraud is

committed

7-10 Discuss the controls identified in this chapter for preventing and detecting multiple

reimbursement schemes

7-11 Be familiar with proactive audit tests that can be used to detect various forms of

expense reimbursement fraud

CASE STUDY: FREQUENT FLIER’S FRAUD CRASHES

In his ten years at a regional office of Tyler & Hartford, Marcus Lane had spent more time

on the road than at home—which means he often whispered a long-distance goodnight to

his kids over his cell phone. The 35-year-old Ph.D. traveled all over North and South

America for his job as a geologist for the privately held firm specializing in environmental

management and engineering services. Its extensive client list represented all types of

industries and included municipalities, construction firms, petroleum companies, and

manufacturers with multimillion-dollar projects. As part of a team assembled by a project

manager from Tyler & Hartford, Lane was regularly called on to oversee drilling

operations, conduct sampling tests, or assist with a formal site analysis.

Going from site to site, the road warrior adhered to the basic rules of business travel: Try to

get a room on the top floor, away from the elevators and the ice machine. Request a seat in

an emergency exit row on the airplane, where there is more leg room. Always get

documentation for any travel

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expense—and so on. But Lane broke a basic rule of ethics: never cheat on your expense

report.

His transgression was discovered by Heidi McCullough, an accountant who worked out of

Tyler & Hartford’s East Coast headquarters. As she was processing Lane’s most recent

expense report, she noticed a discrepancy between the departure times listed on the flight

receipt and boarding pass for Flight 4578 from Minneapolis to San Antonio. Whereas the

receipt indicated that the flight had been scheduled to depart at 6:15 p.m., the boarding

pass indicated a departure time of 6:15 a.m. McCullough figured that the discrepancy was

most likely due to an error on the part of the airline. After all, Lane was a highly trusted

and well respected employee who traveled regularly on company business. But, being the

prudent employee she was, she decided she’d better bring the discrepancy to the attention

of Tina Marie Williams, manager of the internal audit department.

“I was immediately suspicious,” recalled Williams, who was newly accredited as a CFE at

the time. “Although it was possible that the airline had made an error, it seemed much

more likely that either the flight receipt, the boarding pass, or both had been doctored. This

was a situation that needed to be looked into.” The first thing Williams did was contact the

airline to verify whether the flight number in question was even a legitimate flight, and, if

so, what the correct scheduled departure time was. She learned that flight 4578 was, in fact,

an actual flight and that it had been scheduled to depart—and did depart—at 6:15 p.m. But

because Lane had booked the flight using his own credit card, she was unable to confirm

with the airline whether he actually took the flight.

Next Williams proceeded to carefully review the rest of the Lane’s travel receipts for his

trip to San Antonio. Two of the receipts stood out. One was for a car rental, which indicated

that the car was picked up by Lane at noon on the day of his flight to San Antonio. The

second was a receipt for lunch at a restaurant located near the San Antonio International

Airport, also on the day of the flight.

Williams suspected that Lane had not actually boarded flight 4578, but had created a phony

boarding pass to make it appear as though he had. As an experienced auditor, Williams was

familiar with a common expense reimbursement scheme in which an employee books two

separate flights to the same location, but with a huge cost difference; he uses the cheaper

ticket for the actual flight and returns the more expensive ticket for credit. And, of course,

he submits the more expensive ticket for reimbursement.

“Company policy is that employees must book all travel through the company travel agent.

But Lane has been booking his own travel since long before I started working here. When I

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mentioned my concerns over this to senior management I was told to let it be—that Lane

was a loyal and trustworthy employee, and that I had nothing to worry about.”

Playing by the book, Williams called the legal department at Tyler & Hartford to apprise it

of the situation and ask for any advice on procedure. Williams said that the legal

department put the case under protective privilege.

She then overnighted her collection of evidence along with her detailed analysis of the

airfare scheme to Lane’s immediate supervisor at the regional office, who in turn showed it

to his boss at his earliest availability. Right on time, the two managers scheduled a private

meeting with Lane, bright and early on the following Monday morning.

Without mincing words, one of the managers asked Lane, “How is it that you were able to

pick up a rental car at noon and have lunch in San Antonio when your flight from

Minneapolis didn’t depart until 6 p.m.?” Lane, knowing that he had been caught,

immediately confessed to double-booking flights and creating fictitious boarding passes

using his home computer, in order to make it appear as though he took a more expensive

flight than he had actually taken. He explained that he was experiencing temporary

financial problems as the result of his recent divorce, that he just needed some money to

tide him over. He said that he intended to pay the money back as soon as possible.

According to Williams, who heard the account second-hand, Lane vowed, “I only did it for

four months.” He swore that he padded his expense account for just a brief period; he

urged the managers to check out all the other expense reports he had submitted in his ten

years at Tyler & Hartford and voluntarily agreed to surrender his personal credit card and

bank records. He also agreed to provide his own accounting of the crime.

All in all, Lane had swindled the company out of $4,100. He agreed to pay back the stolen

money. “He paid us $2,000 in one lump sum initially, then $150 every two months after

that,” Williams recalled.

Lane was promptly terminated, but Tyler & Hartford decided not to prosecute the geologist.

They kept their month-long investigation quiet as well. “No one found out about it except

through the grapevine.” Even then, others only knew that somebody got in trouble for

fudging an expense report, said Williams.

True to the company’s culture of taking decisive action, Williams and her team resolved

this case in just under one month from the time of its detection. “This is the smoothest case

we’ve ever had,” she admitted.

“We discovered that it was a very easy fraud to perpetrate, especially since it is so simple to

create phony airline tickets and boarding passes. On behalf of Tyler & Hartford, Williams

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later launched a target audit to uncover other travel scams, and found some. Lane’s scam,

unfortunately, was not an isolated incident.

After Lane’s fraud was exposed, Williams received full support from senior management

for clarification and

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better enforcement of the policy that all travel for the entire company, including all fifty

regional offices, must be booked through the company travel agent using a designated

company credit card. “That makes our auditing lives so much easier. It gives us better

control, as well as better cost data,” said Williams.

Williams also recommended that employees only use a company credit card to charge all

other business expenditures. Top management accepted the recommendation and issued a

mandate. Williams was pleased, as the billing statement for a company credit card provides

a strong audit tool and an easy-access audit trail.

Several names and details have been changed to preserve anonymity.

OVERVIEW

Expense reimbursement schemes, as the name implies, occur when employees make false

claims for reimbursement of fictitious or inflated business expenses. This is a very common

form of occupational fraud and one that, by its nature, can be extremely difficult to detect.

Employees who engage in this type of fraud generally seek to have the company pay for

their personal expenses, or they pad the amount of business expenses they have incurred in

order to generate excess reimbursements. In most cases, the travel and entertainment

expenses at issue were incurred away from the office where there was no direct supervision

and no company representative (other than the fraudster) present to verify that the

expenses were, indeed, incurred. Thus, these frauds generally are detected through indirect

means—trend analysis, comparisons of expenses to work schedules, and so forth. If a

fraudster is smart and does not get too greedy, it can be virtually impossible to catch an

expense reimbursement scheme. But then, most fraudsters eventually get greedy.

Expense Reimbursement Data from the ACFE 2009 Global Fraud Survey

EXHIBIT 7-2: 2009 Global Fraud Survey: Frequency of Fraudulent Disbursements

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The sum of these percentages exceeds 100 percent because some cases involved multiple fraud schemes that fell into more than one category

In the ACFE’s study, expense reimbursement fraud was cited in 30 percent of fraudulent

disbursement cases, ranking second in terms of frequency (see Exhibit 7-2). In contrast,

a

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expense reimbursement fraud schemes were the second least costly form of fraudulent

disbursement in the study, resulting in a median loss of $33,000 (see Exhibit 7-3).

EXHIBIT 7-3: 2009 Global Fraud Survey: Median Loss of Fraudulent Disbursements

EXPENSE REIMBURSEMENT SCHEMES

Expense reimbursements are usually paid by organizations in the following manner. An

employee submits a report detailing an expense incurred for a business purpose, such as a

business lunch with a client, airfare, hotel bills associated with business travel, and so on. In

preparing an expense report, an employee usually must explain the business purpose for

the expense, as well as the time, date, and location in which it was incurred. Attached to the

report should be support documentation for the expense—typically, a receipt. In some cases,

canceled checks written by the employee, or copies of a personal credit card statement

showing the expense, are allowed. The report usually must be authorized by a supervisor in

order for the expense to be reimbursed.

There are four methods by which employees typically abuse this process to generate

fraudulent reimbursements:

• Mischaracterized expense reimbursements

• Overstated expense reimbursements

• Fictitious expense reimbursements

• Multiple reimbursements

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Mischaracterized Expense Reimbursements

Most companies reimburse only certain expenses of their employees. Which expenses a

company will pay depends to an extent on policy, but in general, business-related travel,

lodging, and meals are reimbursed. One of the most basic expense schemes is perpetrated

by simply requesting reimbursement for a personal expense, claiming that it is business-

related (see Exhibit 7-4). Examples of mischaracterized expenses include claiming personal

travel as a business trip, listing dinner with a friend as “business development,” and so on.

Fraudsters may submit the receipts from their personal expenses along with their reports

and provide business reasons for the incurred costs.

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EXHIBIT 7-4: Mischaracterized Expenses

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The false expense report induces the victim company to issue a check, reimbursing the

perpetrator for his personal expenses. A mischaracterization is a simple scheme. In cases

involving airfare and overnight travel, a mischaracterization can sometimes be detected by

simply comparing the employee’s expense reports to his work schedule. Often, the dates of

the so-called “business trip” coincide with a vacation or day off. Detailed expense reports

allow a company to make this kind of comparison and are therefore very helpful in

preventing expenses schemes.

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Requiring detailed information means more than just supporting documents; it should

mean precise statements of what was purchased, as well as when and where. In Case 479, a

fraudster submitted credit card statements as support for expenses, but he submitted only

the top portion of the statements, not the portion that describes what was purchased. Over

95 percent of his expenses that were reimbursed were of a personal rather than a business

nature. Of course, in this particular example the scheme was made easier because the

perpetrator was the CEO of the company, making it unlikely that anyone would challenge

the validity of his expense reports.

Interestingly, many mischaracterized expense schemes are undertaken by high-level

employees, owners, or officers. Many times, such a perpetrator actually has authority over

the account from which expenses were reimbursed. In other cases, the perpetrators simply

fail to submit detailed expense reports, or even any expense reports at all. Obviously, when

a company is willing to reimburse employee expenses without any verifying

documentation, it is easy for an employee to take advantage of the system. Nevertheless,

there does not seem to be anything inherent in the nature of a mischaracterization scheme

that would preclude its use in a system in which detailed reports are required. As an

example, suppose a traveling salesman goes on a trip and runs up a large bar bill one night

in his hotel, saves his receipt, and lists this expense as “business entertainment” on an

expense report. Nothing about the time, date, or nature of the expense would readily point

to fraud, and the receipt would appear to substantiate the expense. Short of contacting the

client who was allegedly entertained, there is little hope of identifying the expense as

fraudulent.

One final note is that mischaracterization schemes can be extremely costly. They do not

always deal with a free lunch here or there, but instead may involve very large sums of

money. In Case 2249, for example, two mid-level managers ran up $1 million in

inappropriate expenses over a two-year period. Their travel was not properly overseen, and

their expense requests were not closely reviewed, allowing them to spend large amounts of

company money on international travel, lavish entertainment of friends, and the purchase

of expensive gifts. They simply claimed that they incurred these expenses entertaining

corporate clients. Though this was more costly than the average mischaracterization

scheme, it should underscore the potential harm that can occur if the reimbursement

process is not carefully attended to.

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Preventing and Detecting Mischaracterized Expense Reimbursements

Expense reimbursement fraud is very common and can be difficult to detect. It is important

for organizations to focus on preventing these crimes by establishing and adhering to a

system of controls that makes fraud more difficult to commit. As a starting point, every

organization should require detailed expense reports that include original support

documents, dates and times of business expenses, method of payment, and descriptions of

the purpose for the expenses. All travel and entertainment expenses should be reviewed by

a direct supervisor of the requestor. In no circumstance should expenses be reimbursed

without an independent review.

Organizations should establish a policy that clearly states what types of expenses will and

will not be reimbursed, that explains what are considered invalid reasons for incurring

business expenses, and that sets reasonable limits for expense reimbursements. This policy

must be publicized to all employees, particularly those who are likely to incur travel and

entertainment expenses, and employees should sign a statement acknowledging that they

understand the policy and will abide by it. This serves two purposes: first, it educates

employees about what are considered acceptable reimbursable

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expenses; second, in the event that an employee tries to claim reimbursement for personal

or nonreimbursable expenses, the signed statement will provide evidence that the employee

knew the company’s rules, which will help establish that the expense report in question was

intentionally fraudulent, not the result of an honest mistake.

In some cases, fraud perpetrators try to get personal expenses approved by having their

expense reports reviewed by a supervisor outside their department. The idea is that these

supervisors will not be as familiar with the employee’s work schedule, duties, and so on, so,

for instance, if the perpetrator is claiming expenses for dates when she was on vacation, a

direct supervisor might spot this anomaly, but a supervisor from another department might

not. Therefore, organizations should scrutinize any expense report that was approved by a

supervisor outside the requestor’s department.

Because so many mischaracterized expense schemes involve personal expenses incurred

during nonwork hours, one way to catch these crimes is to compare dates of claimed

expenses to work schedules. For example, an organization could set up its accounting

system so that any payment coded as an expense reimbursement is automatically compared

to vacation or leave time requested by the employee in question. Expenses incurred on

weekends or at unusual times could also be flagged for follow-up.

Organizations can also use trend analysis to detect these frauds. Current expense

reimbursement levels should be compared to prior years and to budgeted amounts. If travel

and entertainment expenses seem to be excessive, attempt to identify any legitimate

business reasons for the increase. Also compare expense reimbursements per employee

looking for a particular individual whose expense reimbursements seem excessive.

Overstated Expense Reimbursements

Instead of seeking reimbursement for personal expenses, some employees overstate the cost

of actual business expenses (see Exhibit 7-5). This can be accomplished in a number of

ways.

Altered Receipts

The most fundamental example of overstated expense schemes occurs when an employee

doctors a receipt or other supporting documentation to reflect a higher cost than what he

actually paid. The employee may use correction fluid, a ball-point pen, or some other

method to change the price reflected on the receipt before submitting his expense report. If

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the company does not require original documents as support, the perpetrator generally

attaches a copy of the receipt to his expense report. (Alterations are usually less noticeable

on a photocopy than on an original document.) For precisely this reason, many businesses

require original receipts and ink signatures on expense reports.

As with other expense frauds, overstated expense schemes often succeed because of poor

controls. In companies in which supporting documents are not required, for example,

fraudsters simply lie about how much they paid for a business expense. With no support

available, it may be very difficult to disprove an employee’s false expense claims.

Overpurchasing

The case of Marcus Lane at the beginning of this chapter illustrated another way to

overstate a reimbursement form: the “overpurchasing” of business expenses. As we saw,

Lane purchased two tickets for his business travel, one expensive and one cheap. He

returned the expensive ticket, but used the receipt for it, along with a phony boarding pass,

to overstate his expense report. Meanwhile, he used the cheaper

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ticket for his trip. In this manner, he was able to be reimbursed for an expense that was

larger than what he had actually paid.

EXHIBIT 7-5: Overstated Expenses

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Overstating Another Employee’s Expenses

Overstated expense schemes are not only committed by the person who incurs the expense.

In addition, they may be committed by someone else who handles or processes expense

reports. Such an example occurred in Case 2389, where a petty cashier whited-out other

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employees’ requests for travel advances and inserted larger amounts. The cashier then

passed on the legitimate travel advances and pocketed the excess.

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This kind of scheme is most likely to occur in a system in which expenses are reimbursed in

currency rather than by a check, since the perpetrator would be unable to extract her “cut”

from a single check made out to another employee.

Orders to Overstate Expenses

Finally, AFCE researchers have seen a few cases in which employees knowingly falsified

their own reports, but did so at the direction of their supervisors. In Case 1971, for instance,

a department head forced his subordinates to inflate their expenses and return the

proceeds to him. The employees went along with this scheme, presumably for fear of losing

their jobs. The fraud lasted for 10 years and cost the victim company approximately $6

million. Similarly, in Case 1974, a sales executive instructed his salesmen to inflate their

expenses in order to generate cash for a slush fund that was then used to pay bribes and to

provide improper forms of entertainment for clients and customers.

Preventing and Detecting Overstated Expense Reimbursement Schemes

In addition to the prevention and detection methods that have already been discussed, it is

particularly important, for dealing with overstated expense reimbursement schemes, that

an organization require original receipts for all expense reimbursements. Alterations to

original receipts should be very obvious, whereas it can be difficult to detect alterations to

photocopies. Any policy addressing expense reimbursements should clearly state that

expenses will be reimbursed only when supported by original receipts.

Comparison reports that show reimbursed expenses can be useful in detecting overstated

expense reimbursement schemes. If one employee’s travel and entertainment expenses are

consistently higher than those of coworkers who have similar travel schedules, this is a red

flag. Also, a comparison of similar expenses incurred by different individuals may highlight

fraud. For example, if two salespeople regularly fly to the same city, does one tend to seek

higher levels of reimbursement?

If an organization has had problems with expense reimbursement fraud, it may be helpful

to spot-check expense reports with customers, confirming business dinners, meetings, and

so forth.

Fictitious Expense Reimbursement Schemes

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Expense reimbursements are sometimes sought by employees for wholly fictitious items.

Instead of overstating a real business expense or seeking reimbursement for a personal

expense, an employee simply invents a purchase to be reimbursed (see Exhibit 7-6).

Producing Fictitious Receipts

One way to generate a reimbursement for a fictitious expense is to create bogus support

documents, such as false receipts. Personal computers enable employees to create realistic-

looking counterfeit receipts at home. Such was the scheme in Case 1275, in which an

employee manufactured fake receipts using his computer and laser printer. The

counterfeits were very sophisticated, even including the logos of the stores where he had

allegedly made business-related purchases.

Computers are not the only means for creating support for a fictitious expense. The

fraudster in Case 1275 used several methods for justifying fictitious expenses as his scheme

progressed. He began by using calculator printouts to simulate receipts, then advanced to

cutting and pasting receipts from suppliers before finally progressing to using computer

software to generate fictitious receipts.

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EXHIBIT 7-6: Fictitious Expenses

Obtaining Blank Receipts from Vendors

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If receipts are not created by the fraudster, they can be obtained from legitimate suppliers

in a number of ways. A manager in Case 2830 simply requested blank receipts from waiters,

bartenders, and so on. He then filled in these receipts to “create” business expenses,

including the names of clients

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