What is a Forensic Audit?
A forensic audit is a detailed examination and completes a possible evaluation of any firm's or any individual's financial records to collect or derive the evidence. The collected evidence can be used in a court of law or for legal proceedings. In the field of accounting, forensic auditing is a specialization, most of the large accounting firms maintain a dedicated and specialized forensic auditing department. It requires the expertise of legal frameworks along with accounting and auditing procedures.
Forensic audits need to cover a wide range of activities that involve accounting, auditing to the full possible extent. A forensic audit is generally conducted to prosecute fraud, financial crimes, etc. Generally in the process of the forensic audit, the auditor is the expert witness during the proceedings. It Forensic Audit is also executed to resolve related to bankruptcy filings, divorces, and business closures.
What are the different types of Audits?
- Compliance audit. This is the audit of policies and procedures of an entity or department, to check if all the compliance with internal or regulatory standards is met. A compliance audit is commonly done in regulated industries.
- Construction audit. A construction audit is a detailed analysis of all the costs incurred for a specific project. In general, the activities include an analysis of the contracts granted to contractors, prices paid to various things, reimbursement costs, change orders, and timeliness of completion. The intent is to make sure that the costs incurred were reasonable.
- Financial audit. It is an analysis of the fairness of the furnished information contained within financial statements. It is conducted by a CPA firm. This is one of the most commonly conducted types of audits.
- Information systems audit. This involves a complete review of all the controls over the software development cycle, data processing by the software, and access to computer systems. Information systems audit is intended to spot the possible issues, which can impact the ability of the program to serve the purpose.
- Investigative audit. An investigative audit or fraud audit is the audit of a specific area or individual when there is a suspicion of inappropriate or fraudulent activity. The intent is to check the control breaches, as well as to segregate the required evidence in case legal charges are to be brought against someone.
- Operational audit. This is an analysis of the goals, planning, procedures, and the final results of the business. The audit may be done internally or by an external entity. The goal of the operational audit is to evaluate the process and come up with process improvements.
- Tax audit. The tax returns submitted by an individual or business entity is analyzed to see the tax information and any resulting income tax payment is valid. These audits are targeted at Income Tax returns
What is the difference between an internal audit and a forensic audit?
Internal Audit: It is a regular exercise done by any organization to track the performance or compliance of the organization.
Forensic audit: It is a detailed examination and reconstructing past financial transactions to detect any frauds.
It is important for any organization to self check if they need to conduct a forensic audit. A forensic audit is conducted when the finance team or the concerned party identifies the valid and notable difference in the balance sheet or any suspicious sales/purchases or any activities.
Why is forensic Audit required?
As discussed earlier, Forensic audit investigations are primarily conducted to uncover or confirm, various illegal activities. Usually, when the collected evidence can be used in court, it once conducts a forensic audit instead of a regular audit.
Corruption or Fraud
Corruption or Fraud is one of the primary reasons to conduct a Forensic Audit.
While conducting a forensic audit, an auditor looks for below:
- Bribery— illegal offering of money to get the required work done or to influence a situation to get favorable results.
- Conflicts of Interest—when a person uses one’s influence for personal gains. For example, if a purchaser selects a certain buyer seeing some personal advantages and to take their personal relations to the next level.
- Extortion—the illegal use of power or money or any other means in the form of threatened force, violence to gain the desired money or property.
Asset Misappropriation is the most prevalent fraud.
Examples: misappropriating cash, making payments to non-existent suppliers or employees, submitting falsified invoices, misusing assets and stealing company inventory.
Financial Statement Fraud
In order to elevate the company’s financial performance, some companies do this type of fraud. To ensure enough liquidity and keep off the performance pressures, these financial statement frauds happen.
- The forensic audit is a close and keen examination and evaluation of the financial records of an individual or company. The outcomes are further utilized in legal proceedings.
- A forensic audit is conducted to identify fraud, criminal behavior.
- Forensic auditing is an accounting specialty; many of the large firms maintain the large forensic team.
Who appoints a forensic auditor?
When a fraud or data leakage is observed, Forensic Audits are ordered by the bankers (sometimes RBI), regulators (like SEBI), and revenue authorities. In some cases, forensic accountants are involved by the business themselves when they suspect the mismatch in data or any frauds or data leakages. The objective of the forensic audit is to find the evidence to be produced in the court of laws.
How to become a forensic Auditor?
For Certified Forensic Accountant, one needs to pursue a certificate course in Forensic Accounting Professional (CFAP) and clear CFAP examination as required with minimum criterion. The eligibility criteria to become a forensic auditor are to have a minimum bachelor’s degree with three years of work experience in a similar field.
How do you conduct a forensic Audit?
A forensic auditor is a certified professional who is trained in performing a forensic audit. They have special techniques and knowledge in the legalities of the issues related to accounting.
When compared to regular audit, the forensic audit has additional steps to be performed.
1. Investigation Plan– When a Forensic auditor is hired, the auditor needs to get a clear understanding of the objective of the audit. For instance, there might be some possible fraud related to the quality of raw materials supplied or financial statements. The job of the forensic auditor is to identify or determine below.
- Identify the fraud.
- Identify the period during which the fraud occurred
- Identify how the fraud planned
- Identify the responsible persons of the fraud
- Conclude the total loss incurred.
- Segregate all the evidence, admissible in the court
- Precautionary measures to prevent the occurrence of such incidents in the future.
2. Collecting Evidence – the forensic auditor is responsible to understand the type of fraud that happened and how it is committed. Also, he/she has to collect the evidence. That should be enough to prove the fraud in court and reveal the details of the fraud scheme.
There should be a logical flow of evidence that helps the court in understanding the fraud and check the evidence presented. Forensic auditors should take at most precautions to ensure all the documents and evidence are not altered or damaged.
Below are the common techniques for collecting evidence in the forensic audit:
- Analytical procedures – Get the data from different segments that can be used for comparison over a time period.
- Computer-assisted audit techniques – With the advancement in AI, data analytics. Computers are used to identify the frauds.
- Substantive techniques – These techniques include reviewing of documents or doing a reconciliation, etc
- Understanding various internal processes and identify the possible loopholes, to avoid any frauds.
3. Reporting – A detailed report is prepared and presented to a client about the fraud. The report should include the below details.
- All findings of the held investigation,
- A detailed summary of the gathered evidence,
- Detailed explanation on how the fraud was perpetrated, and
- Suggestions and guidelines on how internal controls can be improved
The made report should be presented to the client, which can be utilized to file a legal case if needed.
4. Court Proceedings – The forensic auditor should stay for court proceedings to explain the evidence collected in detail and how the accused was identified. The auditor should explain the complex issues and explain them in simple language.
Some of the financial investigation books
Reading about Financial investigation helps to gain valuable experience. Mainly for professionals like fraud professional or private detective these investigation books can aid in decoding the frauds. In short reading books is like gaining from others' experience. Below are some books for you.
- Financial Crime Investigation and Control.
- Money Laundering.
Every govt job aspirant has to gain some basic knowledge of the Auditing activities. This can add additional weightage to the aspirant's profile.
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