One of the last places you’d expect to find fraud is in a law practice. Like accounting, the practice of law is a profession in which ethics are of utmost importance. Accountants and lawyers are often too trusting of their fellow professionals, and therefore leave themselves open to the risks of fraud.
The issue of fraud isn’t limited to a law practice of a particular size. Larger firms experience fraud because there are so many people generating so many documents, that it’s easy for a fraud to get lost in the shuffle. Small firms become victims of fraud primarily because management puts too much trust in one or two employees and fails to properly supervise them.
According to the Association of Certified Fraud Examiners, the average workplace fraud costs $175,000. What would a theft of that size mean for your practice? Could your law office sustain such a fraud? The average workplace fraud goes on for two years before it is discovered. Could that be happening in your law firm?
The most common fraud risks in a legal practice include theft or misuse of money and other assets, diversion of client payments, false billings, and use of company resources without authorization. Theft of client payments and other firm funds can be accomplished with simple schemes to forge endorsements, divert funds, and manipulate accounting records to cover the fraud.
Lawyer billing schemes could include inflating hours, falsifying expenses, and doing legal work without billing it through the firm. In many law firms, it would be very easy for an attorney to work on cases that are then secretly billed using a side arrangement, rather than through the law firm.
It is not unheard of for an attorney to improperly use deposits, retainers, and client trust funds in violation of the agreements with the clients. A lawyer might also use her or his position to gain improper access to a client’s assets. One common example of this is theft of estate or trust funds while overseeing them.
A law practice is also at risk of having improper payments made to vendors or employees.
It’s possible for extra paychecks or bonuses issued to an employee to go unnoticed. If payments to vendors and credit card companies aren’t monitored, what’s to stop an employee from paying personal bills with the firm’s funds?
Fraud in a law firm is often so easy because of the trust factor. Attorneys tend to trust their employees, associates and partners. After all, who hires or partners with someone she or he doesn’t trust? Employers trust employees to do their jobs honestly, and give them tasks (such as writing checks) because it’s expected that they’ll do the right thing.
The trusted employee is given access to assets and data that makes fraud possible.
A second factor that contributes to an environment in which fraud can occur is a lack of supervision or oversight. Many times lawyers fail to supervise employees because they deem them competent. If the staff is able to get the job done, there’s no need to check up on them, right? Wrong. Management still needs to be actively involved in the business so that employees know their work is being supervised.
The third big mistake made by lawyers in their law practices is having little proficiency or interest in accounting and financial matters. Yes, lawyers are often very concerned about how much is being billed. Beyond that, there is sometimes little interest in managing the finances.
So what’s a law firm to do if management wants to reduce the fraud risks? The good news is that fraud prevention doesn’t have to be expensive or burdensome. A handful of simple and inexpensive procedures can dramatically reduce a firm’s exposure to fraud.
Dividing duties between two or three employees so that no single employee has too much control over one function is an example of a simple, but effective control. One employee might be in charge of receiving client payments, while a second employee makes the bank deposit, and a third employee (or member of management) reconciles the bank account. By dividing duties this way, the employees are checking one another’s work, and therefore the risk of fraud is reduced.
It is never a good idea to sign blank checks, even if staff has used such checks properly in the past. This could be too tempting for an employee with a financial need. Instead, management should be examining invoices and other documentation related to disbursements prior to signing the checks.
Management should also be periodically checking financial records. Examining documentation on a surprise basis helps keep employees honest, and also helps ensure accuracy of the records. Key financial documents that should be regularly examined include bank statements and reconciliations, accounts receivable records, vendor payments, and financial statements.
Fraud prevention isn’t just for support staff. There should also be procedures in place to examine lawyers’ billing records, write-offs or adjustments to bills, and unusual changes in time and billing patterns.
Although the issue of fraud in a law practice may not be discussed much, it’s important to take at least some basic steps toward preventing fraud. Even simple and inexpensive procedures can make a big difference in a firm’s fraud risk, and might ultimately mean that a large devastating fraud won’t destroy the firm.