Auditing vs. Forensic Accounting Analysis

The increasing spotlight on corporate ethics and fraud has resulted in demand for accountants who, like white-collar criminal investigators, have sufficient training and skill to investigate financial crime in the workplace. The term "forensic accounting" was coined to differentiate between accountants who specialize in investigating fraud and the more familiar work of traditional independent auditors.

Financial audits are a thorough review of a company's financial records conducted by external auditors to verify that their financial statements are accurate and reliable. Audits are also customarily conducted to assess the effectiveness of internal controls or compliance with regulations. Independent audits are conducted with the goal of providing a reasonable assurance of the accuracy of financial statements. Companies awarded government contracts are subject to government audits to verify the contractor has established a system of internal controls to deter fraud in the workplace. The procedures and policies that govern how audits are conducted are published by professional associations like the American Institute of Certified Public Accountants.

Internal auditing departments differ from external auditors in that internal auditors test the effectiveness of internal controls and audit company business records on a full-time basis. A relatively new concept called "continuous auditing" involves ongoing processes that allow internal audit personnel to either monitor or verify information on an almost real-time basis. One method of continuous auditing involves reviewing access to computer information systems. Data can also be monitored using sophisticated sampling techniques and analysis using software applications that identify suspicious patterns or possible inaccuracies in data.

Traditional audits follow the accounting principle of materiality. Inaccuracies, omissions or apparent mistakes that are not of a sufficient dollar amount to impact the overall financial picture of a company are judged immaterial by auditors and not pursued. On the other hand, forensic accountants, also known as fraud examiners, are not constrained by generally accepted accounting concepts like materiality. Regardless of dollar amount, any inconsistency can be the tip of an iceberg in fraud terms. Auditors involved in an independent audit may refer "red flag" observations for investigation by forensic specialists.

Forensic accountants do not initiate an investigation without a referral from auditors, an employee tip, or report of suspicious transactions. A typical referral for a fraud audit could be any of the innumerable red flags noticed by someone in the course of business, such as a series of high payments to unknown vendors, a high number of disputed balances on receivables, or evidence of overriding or ignoring internal control policies. Once evidence of a possible fraud is found, the forensic analysis becomes adversarial, as opposed to traditional audits, which are non-adversarial. This is an important distinction between traditional auditing and forensic accounting, or "fraud auditing." Forensic accountants must possess investigative and interview skills and knowledge of appropriate laws and the rules of evidence. They are frequently asked to testify at trial to explain fraud schemes and documentary evidence to a jury. A forensic accountant should possess experience both as an accountant and as an investigator.