In this article, Piers Elliott and Lauren Pender examine the reasons why the COVID-19 pandemic is likely to lead to an explosion of fraud cases.
The COVID-19 pandemic is without precedent in modern times. Its impact has spread across the globe infecting our lives for nearly two years. Almost every person in the world has had their life impacted in one way or another. As of January 2022 more than 5.5 million people had lost their lives and countries are continuing to scramble to limit the impact of the Omicron variant. An unfortunate consequence of the pandemic is also likely to be an explosion of fraud cases.
These fraud cases can be broadly split in two categories.
The first being career criminals who have sought to exploit the circumstances of the past few years for their own illicit benefit. PWC have been advising the Department for Business, Energy and Industrial Strategy on bounce back loan fraud and as of October 2021 estimated that out of a total of £47bn in bounce back loans provided, approximately 7.5% - or £3.5bn - may have been fraudulent. Criminals have also used the pandemic as a vehicle to scam members of the public. In particular, 2020 and 2021 saw a proliferation of text message scams linked to COVID-19 vaccinations. And, whilst demand for delivery services boomed during lockdown cyber criminals set out to trick citizens into scams via bogus 'missed parcel' text messages.
Victims of circumstance
The second category of fraudsters did not begin 2021 as criminals - many were successful business men and women but have fallen victim to the “fraud triangle” as a result of the circumstances of the pandemic and, in particular, the economic downturn it caused. It is this category of fraudsters that are examined in more detail below.
The Fraud Triangle
The fraud triangle is a framework commonly used to explain the reason behind an individual’s decision to commit fraud. The fraud triangle outlines three limbs that contribute to increasing the risk of fraud: (1) opportunity, (2) pressure, and (3) rationalization.
1. Opportunity refers to circumstances that allow fraud to occur.
2. Pressure (alternatively called incentive) refers to an individual’s mindset towards committing fraud.
3. Rationalization refers to an individual’s justification for committing fraud.
Impact of the pandemic
There are a variety of reasons why recession and economic instability lead to an increase in fraud. A key factor is the increase in pressure that companies and employees are under as a consequence of the economic downturn. For example, struggling companies may face pressure to falsify their results so as to meet financial targets or avoid breaching lending covenants.
Many businesses that were performing well prior to the pandemic have suddenly been decimated. These are not cases of floundering businesses in an inevitable slide towards insolvency following many years of poor performance. But viable and successful businesses unable to cope with the sudden and severe change in circumstances. Therefore, the temptation arises to do something desperate to counteract the issues caused by the pandemic. This also links in with the “rationalization” limb of the fraud triangle - as owners of previously successful businesses could attempt to rationalise fraudulent acts on the basis that the pandemic isn’t their fault and they don’t want to lose everything and so have done something desperate in the hope that the company will be able to earn its way out of difficulty and then try to undo any wrongdoing.
The final limb of the fraud triangle, opportunity, can also increase during economic instability. The rise in remote working may present new opportunities for employees to target their employer. In particular, employees working remotely may feel that they are under less scrutiny than when working in an office surrounded by colleagues and, through the use of digital signatures, may be permitted to push through processes without encountering physical constraints. Those same employees may also be under increased financial pressure personally and/or have increased strain on their mental health caused by the pandemic, both of which may cause them to make bad decisions. Further, when companies come under severe financial pressure the first departments to face cuts are those that are non revenue generative. That includes departments such as legal, compliance and internal audit; leaving companies more vulnerable to fraud. In particular, to fraudulent and/or duplicative invoices, which may go undiscovered as a result of weakened controls and reduced collaboration as a result of remote working. Companies make cut backs to try to reduce overheads but consequently create an environment which is ideal for encouraging fraud. The company has weakened its defences intended to guard against fraud at a time when the pressures and opportunities motivating employees to commit fraud (either for themselves or on behalf of the company) are high.
Discovery of historic fraud
Economic downturn not only leads to greater instances of fraud being committed but also leads to an increase in existing or historic fraud being discovered. As Warren Buffett famously said, “You only find out who is swimming naked when the tide goes out.” When cash flow dries up companies that have been able to hide fraud within their balance sheet may no longer be able to do so. Numerous instances of fraud were discovered following the global financial crisis in 2008 - notably the ponzi schemes of Bernie Madoff and Allen Stanford. The economic downturn is likely to lead to a proliferation of insolvencies. The tsunami of insolvencies that has been widely predicted has yet to emerge - largely as a result of the government’s various interventions - but it is inevitable. And, as insolvency practitioners are appointed they will probe insolvent companies’ affairs - no doubt shedding light on further instances of fraud.
The impact on insolvency practitioners
The pandemic has been challenging and difficult for everyone and millions have lost their lives. The fraud perpetrated during the past two years will doubtless cause further suffering. So it is without any hint of triumphalism that we acknowledge the simple fact that the pandemic will undoubtedly lead to an explosion of fraud related work for investigators, insolvency practitioners, forensic accountants and lawyers. Some of that work may continue for many years to come - matters relating to the Madoff and Stanford frauds are still being litigated today.
This article was first published in TL4 FIRE Magazine Issue 8 dated 24 February 2022.