Most businesses earn a modest income, even after-tax payments to the IRS. Still, there are many questions around businesses that conduct sales through a currency-only exchange. In fact, there’s often a heightened curiosity for cash-only type businesses across the United States. Namely, is it legal to accept only cash and what happens when they’re investigated? Is it simple for forensic accountants to discover monies that may not be disclosed in the books?

The short answer is, simply, yes.

Yes, it’s legal to operate cash-only businesses so long as appropriate taxes and laws are met. On the other hand, some owners of businesses that receive payment in cash, especially for a significant amount of their sales, will choose to hide some or all such sales by pocketing the cash and not entering the sales into their records. Not reporting cash income can be detrimental to your business.  Typically, a business will do this to

  1. To avoid paying more taxes
  2. Show a reduce cash flow

Forensic accountants are professionals that can investigate such occurrences. Curious to know how exactly forensic accountants proceed with investigating cash-only businesses? We’re disclosing some of the processes below.

not reporting cash income

Responsibilities of Forensic Accountants

Forensic accountants are often called on by individuals whose case is heard in court, or defense attorneys who are seeking discovery on behalf of their client, specific to their cash-only business. Whatever the source, a forensic accountant is tasked with analyzing books, records, and operations of said businesses to determine whether, or if at all, these stores or firms are conducting sales while failing to report each and every dollar.

Further, much of the investigative process differs from usual accounting activity and is, usually, more closely related to what the IRS may conduct during an audit. We can walk through the entire process of discovering and identifying lost accounts for businesses such as these. The resources outlined usually are enough to find the vast majority of assets and what most of our clients utilize our forensic accounting services for.

Not reporting cash income is a main source of concern for most individuals seeking a forensic accounting investigation. Here are some sample techniques used in investigating cash-only businesses:

Tax Returns & Financial Statements

Analyzing tax returns and financial statements is usually the first step in investigating a cash-only business, especially if conducted over a multi-year scope. Not reporting cash income will be clear from tax returns. This gives forensic accountants at least a basis for discovering key points of interest in how cash-only businesses operate. The technique used during this stage is finding any outliers, unusual activity, and/or unusual trends.

The objective generally is to find items of concern that would indicate something outside the norm of a particular business’ practice. For instance, a forensic accountant may look for spikes in growing sales and sudden drop-offs that seems to quickly recover within a few months or years. Similarly, they would look at how these businesses’ bank accounts reflect income. If there are additional monetary increases in the bank, but not reported on the accounting sheets, it could be an indication of discrepancies in how a cash-only business is keeping track of their books. Every last dollar should be reported.

forensic account cash only business

Industry Statistics

Another area of interest for forensic accountants is industry and market statistics. Part of the process in investigating cash-only businesses is understanding how these types of businesses compare with other industry leaders and the overall market. If businesses are operating within their means and lawfully, then they should be operational within a given range. A good example of this might be a business that, after total sales, is showing a significant reduction in gross profit compared with a similar business in the same industry.

Profit margins, typically, are well balanced within any given industry. For example, if most businesses that earn $1M in sales are operational at a gross profit in range of 60 to 70 percent, then they should all be within a similar range. A cash-only business in the same industry that reports, say, 30 percent gross profit could be indicative of unreported cash sales.

Inventory vs Sales Records

Cash-only businesses are often retail-type industries. Although there are still instances where businesses accept cash that may not have a physical product, those are few and far between.

For this reason, forensic accountants will typically investigate inventory records and compare them with overall sales records. Discrepancies in these trackable items can help investigative accountants discover what and how cash-only businesses have been operating. For instance, if inventory should show more sales than what is recorded (plus products available) then mathematically things can’t add up. At this point, it is the forensic accountant’s job to discover where the missing inventory is, or if it was sold without being properly recorded in financial sales records. This doesn’t always bode over well for cash-only businesses.

cash only type businesses

Employee or Payroll Records

If employees are being paid to work certain shifts with which no sales are recorded, it could indicate an under-the-table type of business. Comparatively, employees who are paid to work on any given day should accurately reflect general or average sales for projected days, weeks, or months.

Other techniques that forensic accountants use in investigating cash-only businesses is simply observation. Ask questions such as:

  • What is the number of customers visiting in a given day/week/month?
  • What is the number of deliveries in a given day/week/month?
  • What are the average sales?

Forensic accountants have also been known to interview current and previous employees to evaluate typical or average sales amounts. They may ask if there’s anything of suspicion to note.

In general, forensic accountants must perform procedures and analyses that can provide not only a clear picture of how cash-only firms conduct business, but if they’re operating outside of the law. This usually means correctly identifying if the business is not reporting cash income. Additionally, it’s usually the responsibility of forensic accountants to disclose specific numbers and accurate figures that coincide with ongoing research and investigation. They must always document what evidence was discovered.

CJA Forensic Accounting

CJA Forensic Accounting provides a full range of services for forensic accounting needs across the United States including investigating business that are not reporting cash income incorrectly or not at all. Contact us today to learn more about our services including fraud investigation, dispute services, litigation support, contract compliance testing, false claims, and forensic accounting.

Homeowner associations (HOA) and condominium associations (CA) are legal entities set up to manage the operations and finances on behalf of the owners. Typically, the management team (administrator) selected to run the HOA or CA is comprised of other homeowners or condo owners. If a lot of thought was put into the selection criteria, then the administrators will be knowledgeable individuals with experience in management and/or finance. If not, the administrator can end up being someone who can barely balance their own checkbook, let alone manage the books and records of a $5,000 annual budget or a $1,000,000 annual budget.

Depending on the bylaws of the HOA or CA, a forensic audit of the financial books and records may be required annually or never. However, a financial audit is not designed to detect fraud. At a minimum, homeowners should be presented with annual financial reporting, but monthly is preferred. The Educational Community for HOA Homeowners states that 18 months is the average time before a fraud scheme is detected.

Given today’s unlimited resources in accounting software, monthly reporting is not cumbersome and provides more relevant feedback on the management of HOA resources.

Forensic Audit for Homeowners Associations and Condo Associations

So, when does an HOA need a forensic audit?

1. When you suspect fraud

While a financial statement audit ensures that all the transactions are accounted for, it does not ensure that someone hasn’t stolen or misappropriated funds.  This is the number one reason for a forensic audit. If fraud is suspected, if becomes imperative to contact legal counsel and begin a fraud investigation right away. The longer the homeowners wait, the more funds that can be absconded and the more difficult it will become to recover them if fraud is found.

2. When there is no requirement for annual financial audits

The risk of fraud increases when no one is providing oversight to the administrators and their handling of the funds entrusted to them. Even simple forensic accounting such as verifying vendors could be beneficial.  Investigating whether payments are being provided to contractors and vendors that do actually exist and the payments are as agreed upon in written contracts or purchase orders, can mitigate vendor fraud. 

3. When requested reporting to the homeowners is untimely and confusing

Most small HOA’s provide annual reporting of last year’s results of operations, last year’s budget comparison, and a proposed budget for the upcoming year. If your homeowners are only seeing collections and spending once a year, a lot of fraud can be buried in those reports. At a minimum, homeowners should demand quarterly or monthly financial reporting on collections and budget versus actual spending. When the reports received by the homeowners bring up a lot of questions or just don’t make sense, it is the responsibility of the administrator to clarify.  If the reporting is not quarterly or monthly and the responses from the administrator don’t make sense, a forensic audit is a consideration.  Forensic audits for HOAs can be tailored to ensure bank reconciliations have been performed, reserve funds exist, and overbudget items are all valid and properly authorized transactions.

4. When the administrators are not maintaining the property as budgeted

Another sign of fraud is when the property appears to be deteriorating, despite low outstanding collections of homeowner dues. The funds contributed by the homeowners seem to be falling short of the funds need to maintain the property or constant increases in dues that increase at a greater rate than normal homeowner costs. This could be a sign of misappropriation of HOA funds or kickbacks from contractors, and a sign a financial audit is needed.

5. When the administrators appear to be living beyond their means

While no one wants to judge someone else’s lifestyle, homeowner associations and condo associations are often close-knit organizations.  There is often a lot of gossip and private information that gets passed about. Not all gossip is untrue. When the administrators appear to be buying a lot of big-ticket items, going on a lot of vacations, all without a change in job status or lottery winnings, it could be a sign of living beyond one’s means. This in itself does not mean they are committing fraud, but if the management of the HOA is seriously lacking, administrators are unresponsive to inquiries and dues are increasing, it does not hurt to have a financial audit.

Remember that a well-run HOA or CA also affects your property value positively and is an investment for the owners. A forensic audit of the HOA or CA finances can only serve to help preserve property values and demonstrate good stewardship of owner’s investments.

 

When a client voiced strong suspicions that her soon-to-be ex-husband was hiding assets, her attorney investigated the claim but found nothing amiss. However, he hired a forensic accounting expert to help ensure his client would receive an equitable share of the marital estate. The expert turned up a trunkload of hidden treasure — undeclared cash income and property “stashed” under the names of the husband’s mother and siblings.

Deceptive spouses — and other parties to litigation — often are experts at hiding assets. To protect your client from such scam artists, you’ll need your own expert.

Gathering data

To begin their search for hidden assets, financial experts request information and records relating to the spouse’s employment and financial holdings. Details about all sources of income (including pending litigation and insurance settlements), and all banks, brokerage firms and other financial institutions where the spouse has held accounts, are critical.

Experts also need to know about the spouse’s lifestyle and personal spending habits, as well as his or her personal and business relationships. The individual could be funneling income or assets to family members, friends and business associates.

Tax returns can be a particularly rich source of information. Itemized deductions listed on Schedule A, for example, may suggest that the spouse is living beyond his or her apparent means, in turn raising the possibility of hidden assets. It’s important to investigate whether the deductions for property taxes, mortgage interest and charitable giving are proportionate to reported income.

Methods that work

Experts use one or more of several methods to ferret out assets:

Net worth. The spouse’s net worth (assets less liabilities) at the beginning of a period is compared with the ending net worth. Information about assets might be accessed through bank and brokerage records, tax returns, and credit applications.

Expenditure. This strategy is deployed by matching the spouse’s total personal expenditures during a period of time — using evidence from bank statements and canceled checks — against the available sources of funds. These sources can include salary, loans, gifts, inheritances and cash on hand at the beginning of the period.

Bank deposits. This method assumes that money is either spent or deposited. Thus, net deposits (deposits less transfers and redeposits) are added to cash expenditures to

calculate total receipts. Funds from known sources are then deducted to calculate the total funds from unknown sources.

Business owners pose particular challenges

If the suspected scammer is a business owner, he or she may try to use the company to mask assets and income. A deceptive spouse, for example, may use business funds to purchase personal assets, such as cars and real estate, or to cover personal expenses, such as mobile phone bills, insurance premiums or club membership dues. All of these expenditures can reduce the business’s net income, thereby reducing its value as a marital asset.

The business also could have unreported income. A forensic accounting expert will scrutinize:

* Actual expenses,

* Associated expected sales,

* Accounts receivable,

* Journal entry write-offs,

* Internal controls (and the owner’s ability to override them), and

* Expected profitability.

Finally, an expert will search for related-party transactions. These are important because they can indicate the owner’s attempts to divert income from the business.

What clients deserve

No matter how well-intentioned, clients and attorneys are unlikely to be able to find all of a deceptive spouse’s hidden assets or income on their own. Forensic accountants, on the other hand, are trained to gather relevant data, scour it for anomalies and prove that the opposing party is being dishonest. This is the kind of expertise your client deserves.  CJA Forensic Accounting provides this type of expertise.

 

© 2014 TR

 

There are 3 important causes of loss profit (or loss fee) litigation in government contracts.  Loss profit calculations are based primarily on a contract and a defined period of time (i.e. contract term). Scope creep, subcontractor disputes, and delays are the most common causes of loss profits/fees when performing work on federal contracts.  All stem from a failure to clarify contract or subcontract language before work begins and/or during the contract performance (i.e. modifications and change orders).

Scope Creep

Scope creep ensues when the customer begins to request work that is not specified in the original contract, task order or subsequent modifications.  T&M contracts tend to be less affected by scope creep due in part that all work is billed by the hour and materials requested by the customer are passed through.  Albeit, they are still at risk of loss profits due to the lack of clear agreement as to the payment of the additional number of hours to be billed and/or written requests for additional materials and other direct costs.  A significant impact of scope creep falls on firm fixed price contracts and cost reimbursable contracts with caps on fee or profit.  When I say firm fixed price, we’re not talking about Fixed Price Level of Effort (FPLOE) as these contracts are issued as a roundabout way of issuing a T&M contract.  FPLOE contracts, like T&M contracts and task orders may create a loss profit scenario due to caps on the amount of hours allowed in the contract and if there are no clear definitive milestone or deliverables that must be met.

Loss profits are realized when the government requests changes to the contract scope that they feel are in line with the current contract, but do not provide any additional funding or man-hours into the contract.  In this case, your loss profits would be:

Scenario #1 

Hours for additional work not in contract scope = Scope Creep Hours

Scope creep hours X negotiated T&M billing rates for those labor categories = LOSS PROFITS

In some cases, and depending on the language in the contract clauses, you may be only able to claim the actual cost of the direct labor to perform the additional work plus applicable indirect burdens.

Scenario #2

Cost of additional work requested on a fixed price contract or additional deliverables + applicable burdens = LOSS PROFITS

Since circumstances vary, one may argue that a company is also entitled to the average realizable fee on those contract costs, as well.

Subcontractor disputes with prime contractor

Subcontractor and prime contractor disputes have probably gone on since the beginning of time.  They are no different in the world of government contracts.  Typically, the subcontractor was used in the bidding proposal for a significant portion of work, then when it is contract performance time, the subcontractor’s portion is cut back significantly.  In this situation, loss profits would be calculated as the profits on the work promised but not granted.  In addition, a claim may be made for the salaries of employees hired and being paid to sit on the bench for the promised work.  If the contract has ended, the period under review and used in the calculation would be the entire subcontract period.  Moreover, some states may take into consideration mitigating factors such as the ability to put those employees on another contract.  In this case, the loss profits from contract A would be reduced by the profit earned on those employees moved to contract B.

Delays

Delays in contract performance by the government, prime contractors or even subcontractors can be cause for loss profits.  Loss profits or loss fees are experienced in contract delays when payroll, benefits and other costs of operations must still be paid in order to stand ready to continue on a project when it “restarts”.  Also the cost of replacing people that could not be financially support during the delay can be cause for loss profit litigation.

The key to avoiding the need to engage in loss profits litigation is to make sure to carefully read your contract and have an attorney review it as well.  Also, understand, with certainty, the scope of the work to be performed.  Any changes outside of the scope should be made in writing including the exact change in work, amounts to be paid, and any limitations.  If you do wish to pursue litigation, engage a CPA certified in forensic financials to assist with calculating whether it is worth your while.

 

 

Contributed by Cheryl Jefferson Cooke, CPA / CPFF

An expert witness is someone who by virtue of training, skill, education or experience is believed to have knowledge or expertise in a certain subject beyond an average person. This knowledge makes the person eligible to be a witness in a case they otherwise may have no interest in. Expert witnesses are often brought in by legal teams to help the court understand complex matters in more detail.

Experts ranging from doctors to security officers often appear as witnesses. In most cases, they help shine a light on crucial information in a case, as well as assist in winning the influence of the judge or jury.

Similar to any other field of expertise, accounting requires expert witnesses. Accounting often involves complicated financial reporting and concepts. Therefore, it is important to bring in an expert witness who will be able to undo accounting jargon for lawyers, judges, and the jury. Accountants are often viewed as credible and ethical people and their involvement in a case might play a significant role in convincing the jury in a subconscious way.

Why Require an Accountant as an Expert Witness?

Some of the reasons we require accounting expert witnesses depend on the particular case involved. An accountant can be brought in to testify in a case for any of the following reasons:

1.Credentials and Credibility

Credentials for an accountant expert witness, just like credentials for all other expert witnesses, are essential. An expert accountant witness should at least be a certified public accountant (CPA). There may be a variety of certifications that might qualify the witness on accounting, but being a CPA is preferred because CPA is a state-licensed certification.  Another important credential for matters of forensic accounting or litigation support is Certified in Forensic Financials (CFF), and only a CPA can earn this credential.

The experience a person has in accounting is also vital as one can draw comparisons from past work. This can also be of great help if an accountant has had past experiences with government contracts, service industries, or small businesses, as these are specialized experiences.

Data presented and explained by an experienced and well-trained CPA will lend to the case.

2. Analyzing and Interpreting Data

Accounting is known for the presentation of data such as the cash flow statement and income statements. These are not terms members of the court may understand. This is where the accountant comes in. They will help in matters such as contract disputes, fraud investigations, accounting, and audits. The interpretation of the numbers on these reports will then be explained in simpler terms for the court.

3. Communicating in Non-Accounting Terms

We have already established that accounting often uses phrases and presentations that are not friendly to a non-accounting audience. However, accountants who have accumulated a lot of experience in different accounting issues are not likely to face the challenges of clarifying these ideas. A good expert witness can explain complicated financial terms and interpretations in layman’s terms, so it is most useful for decision making.  This is where experience communicating with small business owners becomes a desirable skill since most are unfamiliar with accounting terms.

4. Litigation Support

Litigation support is a service offered by CPAs. It is a specialized accounting service that helps businesses and attorneys with complex accounting problems such as legal disputes, damage calculations, and fraud. An experienced CPA with the CFF credential is in a position to analyze, report, and testify as an expert witness if needed. This specialization makes a CPA/CFF the ideal expert witness.

When it comes to bringing an expert witness to the stand to testify, it should be someone who is an authority in their field. This same concept applies to accounting – put your trust in a firm that has a proven litigation support track record and will understand your needs.

If you have a question about hiring CJA as an expert witness for your legal needs, contact us.

Over the last several years, the number of cases related to financial statement fraud has experienced a gradual increase. In fact, according to a recent Cornerstone Research report, Accounting Class Action Filings and Settlements—2014 Review and Analysis, shows the SEC has a heightened focus on accounting, with cases involving restatements reaching a 7-year high in 2014.

Corporate FraudWhen you first hear the phrase financial statement fraud, you might think of having a bank statement that does not reflect the actual transactions that took place relating to a particular account. To be precise, financial statement fraud is a calculated method to omit, include, or misrepresent information that would affect the interpretation of a statement by the reader.

Both private and public businesses commit financial statement fraud to gain financially, conceal misappropriation of funds, or satisfy stakeholders in various circumstances. Top-level management most often performs financial statement fraud but any accounting employees with the inclination, ethical ambiguity, or pressure to “cook the books” may do so.

Indicators of Financial Statement Fraud

Although businesses that commit financial statement fraud might carry out such activities for any number of reasons, they risk coming into collision with the IRS. If tax returns do not coincide with the businesses’ statements, financial statement fraud may be the underlying reason. Below are some ways financial statement fraud is manipulated in business:

1. Improper Income Recognition

When a company does not give the right figures on the revenue they are committing financial statement fraud. The reason for this can be something as simple as the business realizing that it has experienced an increase in revenue and does not want all of it taxed. To keep some of the extra revenue, they might decide to doctor their statements to reflect lower income entries so that taxes are reduced.

2. Manipulating Expenses

For companies that want to seek financial assistance from potential investors or stakeholders, altering expenses may be one way they aim to be appealing. If a company recognizes that a stakeholder will only offer financial assistance if expenses are up to a given level, increasing costs on the statement might prove to be a viable option. Inversely, a company that wants to conceal misappropriation of funds might alter the statement to display lower levels of expenses.

3. Complexities in the Statement

If an account displays some complex transactions that are not clearly reflected in the statement, it might raise a flag. Complex transactions are sometimes included in statements to deviate the attention of the reader from some irregularities that, if detected, would raise controversies. As a result, complex statements keep the observer occupied, hence, missing out on important information on the statement.

Benefits of a Forensic Accountant

The discovery of financial statement fraud can have far-reaching implications for a business that may undermine their credibility and integrity. Investors are predominantly at risk, either by being misled prior to investment being, or by invested funds being misused. Others that may be defrauded are banks considering loans, suppliers with outstanding receivables, and customers who get paid by performance or are contracted to hit certain revenue milestones.
To avoid the above issues, consulting a CPA who specializes in forensic accounting is strongly recommended—and as most will say, when fraud is suspected—the earlier, the better. A forensic accountant is experienced in tracing funds, identifying assets, recovering assets, financial intelligence gathering, performing suspect interviews, and performing due diligence. These are critical skills needed to address concerns before they become red flags for the IRS.
If fraud is possibly an issue or if you are picking up the pieces after fraud has been uncovered, hiring an outside independent CPA firm to prepare financial statements can bring an added level of reassurance that integrity and objectivity is being upheld.
If financial statement fraud activities are brought to light, a business not only threatens tarnishing its reputation but also may be at risk for costly lawsuits and encourages regulatory involvement. To avoid such a fate, it is important that the business takes every precaution to avoid being linked in any activities that might lead to financial statement fraud.
Resources:

How financial statements reveal corporate fraud

The U.S. economy is finally recovering from the effects of the recession, but at least one major financial risk remains — corporate fraud. Fortunately, a CPA certified in financial forensics (CFF) can help companies and investors minimize losses from fraudulent conduct by scrutinizing a business’s financial statements.

Fictional finances

Corporate fraud often is concealed when a company intentionally misrepresents material information in its financial reports. Such misrepresentations can result from the misapplication of accounting principles, overly aggressive estimates of figures and material omissions. For example, financial statements might report fictitious revenues or conceal expenses or liabilities to make a company appear more profitable than it truly is.

To cover fraud, perpetrators often conceal or omit information that could damage or improperly change the bottom-line results that appear in financial statements. Such omissions include:

  • Events likely to affect future statements, such as impending product obsolescence, new competition and potential lawsuits,
  • Liabilities such as loan covenants or contingency liabilities,
  • Accounting changes that materially affect financial statements — including methods of accounting for depreciation, revenue recognition or accruals — and are subject to disclosure rules, and
  • Related-party transactions, or those with a party with whom a member of management has a financial interest.

Perpetrators also might engage in fraudulent manipulation, particularly in the areas of revenues, expenses, reserves and one-time charges. Falsified financial statements can recognize sales prematurely, improperly value sales transactions (by, for example, inflating the per unit price) or report phantom sales that never occurred. Conversely, expenses can be manipulated by delaying their recognition — whether to match the expenses with their corresponding revenue or to avoid reporting a loss. Another trick is to improperly capitalize expenses so they appear on the company’s balance sheet rather than its income statement.

In some cases, fraudulent financial statements show reserves that have been calculated using bad-faith estimates. For example, fraudsters could justify a smaller amount of reserves by underestimating the percentage of uncollectible receivables. One-time charges, such as a write-off of goodwill or charge for research and development costs for a specific product, can further distort financial statement figures.

Reading between the lines

When fraud is suspected, a forensic CPA can dig into complex financial statements and uncover manipulation that might not be apparent to the untrained eye. A fraud expert begins by reviewing the suspicious statements for unusual trends and relationships. Any leads are followed by more intensive forensic accounting work, such as analysis of specific transactions, journal entries, work papers and supporting documentation. This type of examination goes far beyond a standard annual audit.

The CPA also may employ several types of analyses. Vertical analysis compares the proportion of each financial statement item — or groups of items — to a total within a single year that can be measured against industry norms. Horizontal analysis compares current data with data from previous years to detect patterns and trends. Financial ratio analysis calculates ratios from the current year’s data and compares those with previous years’ ratios for the company, comparable companies and the relevant industry. The expert, of course, must have experience in the subject industry and be able to recognize noncompliance with Generally Accepted Accounting Principles.

In fact, noncompliance is a significant red flag for financial statement fraud. The Association of Certified Fraud Examiners (ACFE) has identified several other behavioral red flags, including employees who live beyond their means and exhibit a cavalier attitude toward internal controls.

Keep a lid on fraud costs

The ACFE has estimated the median loss in financial statement fraud schemes at $1 million — to say nothing of the public relations damage that rogue executives who manipulate the numbers can cause. With their vast experience in crawling over financial statements, qualified forensic CPAs can help limit your clients’ losses.

This information is, in part, © 2014 TRTA

 

Experts look to tax returns in hidden-asset investigations

Business owners involved in divorce or engaged in fraudulent activity have plenty of motivation to manipulate their companies’ financial statements for their own ends. Fortunately, for financial experts such as forensic accountants and valuators investigating hidden assets, business tax returns aren’t so easy to misrepresent. In fact, these returns have some built-in protections that help ensure their accuracy.

Getting the real story

Taxpayers who falsify information on their returns risk being charged with tax evasion. In addition, many income and deduction items are reported directly to the IRS by third parties — such as employers, banks, lenders and brokerage firms — making it difficult to omit or alter them.

Tax returns are particularly useful if an expert can obtain them from several years early on in the investigation. Examining changes from one year to the next can provide valuable leads in the search for hidden assets or income sources.

Finding buried treasure

Many treasures to be discovered in tax returns are buried in attached schedules, including:

Form 1040, Line 7 — Income from wages, etc. This is where the taxpayer reports sources of income. If he or she receives wages from several businesses, it may be possible to discover previously undisclosed business interests. The attached W-2s also contain information about retirement plans and fringe benefits.

Form 1040, Line 8b — Tax-exempt interest income. This income may reveal other investment assets.

Form 1040, Lines 15 and 16 — Retirement plan distributions. These funds can be traced to determine whether they were rolled over into other tax-deferred plans or used for some other purpose.

Form 1040, Line 45— Alternative minimum tax (AMT). An entry on this line indicates the existence of tax preference items — deductions, credits and other tax benefits that are disallowed for AMT purposes. Obtaining more information about these items, which are listed on Form 6251, may lead to the discovery of hidden assets.

A potentially significant item is the exercise of incentive stock options, which may signal a sudden increase in the taxpayer’s net worth. Each of these items may provide clues about the taxpayer’s investments.

Form 1040, Line 73 — Refund. This line on previous years’ returns may reveal important information. Dishonest owners and unscrupulous spouses have been known to overpay taxes in previous years and then seek a refund after the dust has settled.

Schedule A — Itemized deductions. A comparison of real estate taxes (Line 6) with taxes on disclosed property may show additional income resulting from hidden real estate assets. Similarly, entries for state and local taxes (Line 5), personal property taxes (Line 7) and investment interest paid (Line 14) may reveal the existence of undisclosed assets.

Schedule B — Interest and ordinary dividends. It’s important to pay close attention to any foreign accounts or trusts reported in Part III. If the taxpayer has set up an asset protection trust in a foreign country with strict secrecy laws, this may be the only clue that such a trust exists.

Schedule C — Profit or loss from a sole proprietorship. Depreciation expenses listed in Part II may show that the owner has valuable business equipment. Entries for mortgage interest as well as pension and profit-sharing plans may reveal other undisclosed assets.

If insurance expenses are reported on Line 15, the types of insurance the business bought may be significant. Taxpayers sometimes use whole life insurance policies to hide assets.

Schedule D — Capital gains and losses. It’s important to review any capital transactions reported here and make sure the business has accounted for all sales proceeds. A large decrease in a taxpayer’s net worth from one year to another may indicate an asset sale.

Schedule E — Supplemental income and loss. Schedule E reports income from rental properties, royalties, partnerships, S corporations, estates and trusts. Entries here may reveal important information about the taxpayer’s assets and business interests. Income and expenses that seem suspicious or unreasonable may indicate that these entities are being used to conceal assets.

Leading to victory

Tax returns — again, especially several years’ worth obtained early in the process — can form part of a solid foundation to a successful legal action. Specifically, tax-related information can aid in the drafting of discovery requests that lead to victory.

© 2014 TRTA

Hiring forensic accountants for cases involving fraud investigation, litigation support, disputes and more

With the seeming rise in corruption and financial related crime in both the for- and non-profit sectors, identifying when forensic accounting is required can help to uncover evidence and limit overall risks to your company or organization. Just this month, International Relief and Development (IRD) was suspended from working with the US Forensic Accounting in word collageGovernment over alleged misuse by the organization’s senior executives of finances. Kris Manos, IRD’s interim president who was brought in, hired an outside forensic accounting firm to audit finances, including charges on the credit card of former president, Arthur Keys, who retired last July. Reported in the Washington Post on February 9, 2015, it claims that a top USAID contractor allegedly billed taxpayers for Redskins tickets, alcohol. It is in cases such as these where forensic accounting is needed to uncover the details and possible cover up or hiding of evidence. This can usually be uncovered when investigated and analyzed properly by a qualified and experienced forensic accountant. Read on for more areas of business and financial operations where forensic accounting comes into play.

Fraud

Cheryl Jefferson and Associates summarizes fraud as “…the act of one party deliberately misrepresenting the truth or fact, in order to obtain something of value from or causing damage to another party.”

According to a survey conducted by the Association of Certified Fraud Examiners and reported in their 2014 Report to The Nations on Occupational Fraud and Abuse, organizations typically lose 5% of annual revenues each year to fraud, with the median loss totaling $145,000 and 22% of those being at least $1 million. The report goes on to reveal that the 3 primary categories of fraud are asset misappropriations, corruption and financial statement fraud. These statistics along with report details make a compelling case for anti-fraud expertise to identify fraud and recover losses.

Litigation Support

Comprised of several elements including discovery, fact finding, transaction testing, trial assistance and settlement, forensic accountants apply their expert accounting skills & knowledge to ensure the necessary analysis and evidential findings are determined for success of the case.

Dispute Analysis

Handling cases of disputes properly requires forensic accounting. Some of the areas of disputes can involve calculating commercial damages, settling financial matters from contract disputes, handling a violation of the False Claims Act or infringement of patents & intellectual property. These types of cases require forensic accountants to uncover the details and allow optimal resolution.

Bankruptcy

As laws involving bankruptcy & insolvency become more stringent, forensic accounting becomes necessary to assist in preparing the case, offering the proper records and providing the proper evidence for court proceedings.

If you know or believe your company or organization is involved in internal criminal activity or you are facing litigation, forensic accounting is necessary to ensure you are uncovering accurate findings, gathering the appropriate evidence, and garnering the expert support as litigation unfolds. Make certain your accountants hold the required expertise and knowledge for forensic accounting.

In January 2014, the Financial Accounting Standards Board (FASB) issued an Accounting Standards Update (ASU) that provides private companies with an alternate method of reporting goodwill under Generally Accepted Accounting Principles (GAAP). Adopting FASB’s standard could reduce the cost and complexity of preparing financial statements for private companies following business combinations. However, this alternate method may prove troublesome if your business is subsequently acquired by a public company and the event triggers revised accounting rules.

Goodwill is a non-physical asset that represents the additional “value” the buyer receives for the acquired company’s brand, customers, reputation, employees or anything else of indeterminable value not listed as a transferring asset in the agreement.

Simpler method

When a company’s sale price exceeds the fair value of its assets and liabilities, the buyer records goodwill on its balance sheet. According to ASU 2014-02, Intangibles — Goodwill and Other (Topic 350): Accounting for Goodwill, private companies can now elect to write down goodwill over a 10-year period (amortize) — sometimes over a shorter period if circumstances warrant. This means that over the course of, say 10-years, the value of the goodwill asset could decrease to $0.

By contrast, public companies must run annual impairment tests to determine whether the carrying value of goodwill exceeds its current “fair value.” If so, the company must reduce the carrying value of goodwill on the balance sheet and report an impairment loss on the income statement.

Regardless of whether a company is public or private, all businesses must test for goodwill impairment if a triggering event — such as the loss of a key person or an unexpected increase in competition — occurs. With impairment, if nothing unexpected occurs to warrant the decrease in value, the original value of the goodwill could remain on the books until the business ceases.

Worst-case scenario

Electing this alternate reporting method may appeal to private businesses hoping to save time and money. However, if a private business is acquired by a company that’s required to include its acquisition’s historical financials in a new SEC filing, the accounting can get complicated.

Under current rules, a public buyer has to revise all of the acquired private company’s previous goodwill amortization, which could require a major accounting expenditure. So if you adopt the new accounting standard, it might make your private business less attractive to certain public company buyers.

Hard decision

FASB currently doesn’t offer a transition plan for private businesses that adopt the new accounting standard and are subsequently purchased by public companies. However, many analysts expect that FASB will extend the alternate reporting method for goodwill to public companies (as well as nonprofits) in the future.

If you’re considering selling your private business, discuss with CJA the benefits of adopting the alternate reporting method for goodwill against the potential headaches of retroactively undoing it.

This information is, in part, © 2014 TRTA