Fraud – who pays? It doesn’t have to be you

Fraud iStock 000006893225XSmall 146x219Adam Finch sets out two case studies where public sector clients hit by frauds were helped to develop their response. He also puts together ten tips on reducing the risk of being a victim.

When the Communities and Local Government Secretary Eric Pickles and the National Fraud Authority published their tips to combat fraud, it was suggested that these measures could help local authorities save tax payers £2.1bn a year from fraud in housing tenancy, procurement, pay, pensions and recruitment, council tax, grant and blue badge schemes. Mr Pickles said that “better prevention, detection and recovery of fraud will help reduce the financial pressure on councils and help protect future services”.

The following case studies explain how we helped our clients when they discovered fraud:

  • committed internally by an employee; and
  • externally by contractors colluding to increase prices and under perform.

There are certain steps the organisation can take to maximise the chance of recovery against the fraudster. However, it is often the position that the fraudster has spent the monies that have been stolen, so we also consider whether there is anyone else you can pursue in order to minimise your losses.

Case study 1: Theft by an employee

What can you do if you discover an employee of yours has stolen money from your organisation? Here we discuss a typical case that we have been involved in.

It is important to stress that the vast majority of staff with access to an organisation’s finances are honest and diligent. However, we are now starting to see a rise of a significant number of internal and external frauds perpetrated by those with direct access to the organisation’s finances. Quite often whilst there are systems of checks and controls in place, there is little enforcement.

One of our public sector clients was a victim of fraud committed by its Finance Director who had control of the finances. As is often the case, the fraud was very simple: the Finance Director knew that cheques under a certain amount would not be scrutinised by the bank. She forged a counter-signature and wrote cheques to herself or to third parties whom she owed money to, such as her mortgage provider.

Over the course of two years, the Finance Director stole over £150,000. The client in question sought to recover the amount from the Finance Director directly, but found that she had spent the money on general living expenses and was unable to repay the debt.

We were contacted to explore the various avenues for recovery. We supported the client’s criminal prosecution of the former Finance Director. However, in the absence of any likely recovery from her, we considered with our client what other options were available. These included bringing claims against the client’s bank for its negligence in failing to pick up the forged payments and the recipients of the payments, such as her mortgage company.

The facts in this case are stark. The account had very little activity other than numerous payments to the Finance Director. The forged signature bore little resemblance to the required counter signature. We argued that there was very little purpose in requiring two signatures for security, if the bank would then not actually ascertain whether the signatures were accurate. Given the unusual activity by the Finance Director, the bank was placed on ‘notice of inquiry’ and should have taken extra steps to investigate the payment requests. The claim is still ongoing but we are confident of making a substantial recovery for our client.

We also explored claims against the third parties who have received payments from the fraudster. We are confident of showing that the third parties have breached their regulations and should have realised that they were not entitled to our client’s money. In the circumstances, we are demanding a full refund by the third parties.

Case study 2: collusion by external contractors

What happens if you discover your organisation has been the victim of more complicated fraud caused by external contractors?

This is another area of fraud that is on the increase. Coupled with persistent budget cuts, these frauds place further pressure on our clients’ already strained resources. They can be substantial in size and difficult to prove.

We recently advised a client in respect of a claim against a senior employee, who was found responsible for significant failings in his management of the procurement processes. That individual carried out systematic abuse of our client’s processes and controls to award contracts to companies in which he had a personal interest, for his own financial gain. Those companies, which provided maintenance and repair work to our client’s properties, colluded, amongst other things, to:

  • submit inflated quotes;
  • submit fictional cover quotes;
  • submit duplicate invoices;
  • charge for additional work and/or materials already included in the contract price; and
  • charge for work not carried out.

Immediately upon discovery of the fraud, our client sought our legal advice. Within a very short period of time, we helped the client to notify its senior management, insurers, the police and its regulating body before commencing a full investigation.

Our client instructed independent surveyors to investigate the extent of the fraud, which included a number of on-site inspections and a detailed analysis of paid invoices. Interviews were also carried out with the employee and the contractors. The employee concerned was ultimately dismissed from his position on the basis of numerous breaches of the code of conduct.  

As well as advising on the civil recovery, we also supported our client throughout the criminal investigation and have now been successful in securing a payout for our client in excess of £1m, which included recovery of our legal fees.

In this case (and others), we are seeing a pattern of serious management and control failings around relationships with contractors and in particular poor procurement practices around tenders, lack of controls over variations to contractual arrangements and inadequate inspection arrangements for works carried out. It is increasingly important for local government clients to be aware of these issues to avoid being targeted in this way.

Tackling fraud

Many local authorities are already tackling fraud and error in housing tenancy claims. In particular, Birmingham City Council has identified £6.8m worth of fraudulent and incorrect claims for single person council tax discounts. Other councils are seeing the benefits of using credit rating agencies to identify those wrongly claiming for services. Results to date have shown that the benefits of being able to recover that additional income far outweigh the start up costs.

The costs to investigate fraud can spiral quickly and demand a large proportion of management time. However, by giving some thought to the guidance set out in this note, you will see that there are a number of clear and proactive steps that can be taken by your internal teams to help prevent and detect fraud at the earliest opportunity.

What can you do?

Our top tips:

  1. Do not dismiss ‘rumours’: often our clients’ suspicions are initially aroused because of ‘gossip’ regarding the lifestyle lead by the fraudster, which was entirely inconsistent with his salary.
  2. Foster an open environment: encourage people to voice their concerns, regardless of how trivial - each of the fragments on its own may be nothing, but altogether it may lead to a full picture.
  3. Separation of duties and test your controls: consider separation between instructions, checking of quotes, checking of works and signing off of invoices. Are standardised reporting processes in place? Remember - trust is not a control. Have regular and continuous testing.
  4. Encourage whistle blowing: do your employees know what to look for and who to report to if they have concerns? A number of our clients discovered the fraud thanks to tip-offs from employees and third parties.
  5. Interests register: identify close relationships between individual employees and with contractors, ensure you have a register of interests and that employees are reminded to update it regularly.
  6. Complaints register: monitor your complaints regarding quality of work, check to see if there is a pattern. Are there complaints about quality of work? If so, it could be a sign of inferior products or being under resourced.
  7. Centrally store your supplier contracts: identify and collate in one place a robust database contractual arrangements, capture any amendments, start with the top 25 contracts by value.
  8. Check the level of fidelity insurance cover: find out what level of cover you have, ensure that it is sufficient and that it also covers third parties as well as employee fraud and theft.
  9. Remind your employees of the repercussions of fraud and theft: criminal prosecutions will be brought upon the discovery of fraud and theft.
  10. Avoid tipping off the fraudster: until you have collated the evidence and there is little risk of the fraudster destroying evidence or removing assets beyond your control.

Conclusion

If you haven’t already done so, it might be wise to reconsider your systems in light of this guidance, especially if your organisation has made significant changes since you last carried out a review.

Remember, even if your organisation is a victim and the fraudster has no assets to repay your losses, there are still a number of avenues that can be pursued to help recover your money. 

Adam Finch is a Senior Associate in the Commercial Dispute Resolution team at Bevan Brittan. He can be contacted on 0870 194 8986 or by email at This email address is being protected from spambots. You need JavaScript enabled to view it.