The “Fraud Triangle”

The likelihood of an employee committing fraud increases greatly when three specific conditions are present in your business.

These conditions were introduced as The Fraud Triangle in the 1970s by criminologist Donald R. Cressey. Here we are, over fifty years later, and this concept has sustained the test of time and has even evolved into the “fraud diamond.”

Understanding these models is an excellent first step to safeguarding your business against fraud.

Classic Shape

The classic fraud triangle consists of the following:

1. Pressure. An individual experiences some type of pressure that motivates them to commit fraud. This pressure can come from within the organization, such as the need to meet ambitious earnings or revenue growth targets. Or, it could be personal, for example, the need to maintain a high standard of living or pay off debt from credit cards, medical bills, drug addictions or gambling.

2. Rationalization. Perpetrators must be able to mentally justify their fraudulent conduct. They might tell themselves that they’ll repay the money before anyone notices it missing, or reason that:

• • • They’re underpaid and deserve the stolen funds;
    • Their employers can afford the financial loss;
    • “Everybody” does it; or
    • No other solution or help is available for their problems.

3. Opportunity. Occupational thieves take advantage of perceived opportunities that they believe will allow them to go undetected. Weak management oversight, poor internal controls and ineffective or nonexistent audits all create opportunities for fraud. The best way to prevent fraud is by focusing on controlling the opportunities, as they are within your organization’s control. Unfortunately, most businesses have significant weaknesses in their internal controls over safeguarding assets. For instance, basic tasks like reviewing bank statements or credit card statements are typically not performed by anyone else in the company except the person responsible for reconciling them.

According to the fraud triangle theory, most employees who commit fraud are first-time offenders and do not view themselves as criminals but rather as honest individuals who have become entangled in circumstances.

New Dimensions

More recently, experts have proposed a new conceptual framework, the diamond theory, that includes a fourth factor called “capability.” A capable individual is someone who may have the necessary job position, intellectual capacity, confidence, resilience to stress and guilt, and the ability to manipulate and influence others to commit fraud more easily.

A similar model to this diamond shape is MICE (Money, Ideology, Coercion and Ego). MICE retains the original three sides of the fraud triangle but shares the opportunity leg with a second triangle that includes sides for criminal mindset and arrogance.

Supporters of this model believe that individuals who exhibit characteristics that align with the original fraud triangle are “accidental fraudsters.” This means they would not commit fraud if there was no motivation to do so. On the other hand, those on the side of the additional criminal mindset/arrogance/opportunity triangle are predators or pathological fraud perpetrators. These individuals require only an opportunity to commit fraud. That is another reason why focusing on the opportunity side is the best way to prevent fraud in your organization.

Designed to Help

It’s important to keep in mind that employees who exhibit characteristics of the fraud triangle or diamond are not necessarily going to commit any fraudulent activity. These models are designed to identify risk and eliminate opportunities for fraud. Contact us for more information about protecting your organization from fraud.

 Contributing Author: Sean T. Daughton, CPA, CFE, is an audit partner with over 27 years of experience specializing in forensic accounting and consulting services. He provides audit and advisory services to a variety of clients, including automotive dealers, manufacturers and retail corporations. For more information on this topic, you may contact Sean at sdaughton@dmcpas.com or (315) 472-9127.